Explaining the EU Emissions Trading System: How Carbon Markets Impact Europe
Understanding the EU Emissions Trading System and Its Impact
By Kate Abnett
BRUSSELS, July 17 (Reuters) - The European Commission will propose on Friday an overhaul of the EU's emissions trading system, Europe's biggest climate change policy, which affects power plants, industry, airlines and shipping firms across the continent.
Here's what you need to know.
What is the EU ETS?
Overview of the Emissions Trading System
The Emissions Trading System is the EU's flagship policy for reducing greenhouse gas emissions.
Since 2005, it has required Europe's industries and power plants to buy a permit for every metric ton of CO2 they emit, creating a financial incentive to invest in cleaner technologies.
The same applies to emissions from flights and ships' voyages within Europe, plus 50% of the emissions from international shipping voyages to or from an EU port.
Where Does It Apply?
Geographic Scope of the EU ETS
The EU ETS applies in all 27 EU countries, as well as non-EU members Iceland, Liechtenstein and Norway. The system is also linked with Switzerland's ETS.
Britain exited the EU ETS when it left the EU, but the two sides are now negotiating to link their respective ETSs.
Countries including China and South Korea also have a carbon price, but the EU's is the strictest and most expensive.
How Does It Work?
Mechanics of the Emissions Trading System
Each year, companies must surrender to the EU enough CO2 permits to cover their emissions. The ETS caps the amount of permits released into the market each year to ensure emissions gradually decrease.
Permits are traded on energy exchanges, where low-emitting companies can sell their spare permits to make money, and large polluters can buy extras if they need.
Each year, around 57% of ETS permits are sold into the market, while the rest are given to industries for free to curb their CO2 bill, helping them compete with foreign firms that don't pay CO2 costs.
The EU does not control the price of CO2 permits, which is around €80 per ton today, having increased substantially from below €10 in the 2010s.
However, the ETS does have a "market stability reserve" which adds or removes permits from the market if supply fluctuates dramatically, which can help indirectly to control price swings.
Does It Work?
Effectiveness of the EU ETS
In short, yes. CO2 emissions from sectors in the EU ETS have halved since 2005.
Most of those emissions reductions were from the power sector, where the CO2 price has helped make renewable energy and gas plants more profitable to run than more-polluting coal.
However, heavy industries' emissions barely decreased until the 2020s. Some firms complain that reductions since then were because of plant closures and deindustrialisation driven by Europe's high energy prices and weak demand, rather than the ETS supporting decarbonisation.
Why Is the ETS Being Revised?
Reasons for Updating the System
The ETS is currently designed to deliver the EU's 2030 climate target. If left untouched, the scheme would run out of CO2 permits in 2039 — a trajectory which needs changing, since many industries will not have reached zero emissions by then.
The revision aims to extend the system into the 2030s and align it with the EU's 2040 goal to cut net emissions by 90%, which the bloc agreed last year.
However, it is taking place during a political backlash against Europe's green agenda, which countries including Italy and Poland argue is eroding industrial competitiveness.
A key question is whether the upcoming revision will weaken the ETS in response to some governments' and companies' complaints that it puts Europe at a disadvantage in global markets.
What's at Stake?
Financial and Environmental Implications
Hundreds of billions of euros, and the EU's climate change targets. The ETS covers around 40% of all EU emissions. Without it, the bloc will miss its emissions-cutting goals.
The ETS has generated €260 billion in revenues since 2013. Around 75-80% of that money goes to EU countries' national budgets, while the rest goes into EU funds that finance clean energy investments.
Brussels is planning stricter rules on how countries spend their ETS revenues, a move likely to be resisted by national governments.
The EU has also given industries free CO2 permits worth €250 billion since its launch. The revision will decide for how long this continues.
Who Wants What?
Stakeholder Positions on the ETS
Companies including German chemicals giant BASF have demanded the EU halt rising ETS costs and preserve industries' free permits.
Others, like Swedish steel producer SSAB, have invested heavily in CO2-cutting technologies and want a strong ETS price to give those investments a competitive edge.
Governments are similarly split. Italy and Poland want the ETS weakened, while Sweden and Denmark are pushing to uphold it.
What Happens Next?
Next Steps in the ETS Revision Process
Following the Commission proposal on Friday, EU countries and the European Parliament will propose their own amendments, and negotiate the final rules. That process can take a year.
The Commission is expected to fast-track parts of its proposal to be approved this year, including rules to increase how many free allowances industries receive this year onwards.
(Reporting by Kate Abnett; Editing by Jan Harvey)