Will carbon costs go up? Will free allowances stay? Could your sector face new obligations? These are just some of the questions businesses raised ahead of the European Commission’s proposal to revise the EU Emissions Trading System (ETS), which sets the direction of Europe’s carbon market for the next decade.
Carbon pricing in Europe is entering a new phase, and for businesses this is more than just another climate policy update. At a time of geopolitical uncertainty, the ETS review shapes where investments go, how European industries can remain competitive, and how the EU cuts emissions after 2030. Whether you work in energy-intensive manufacturing, for an airline or for a shipping company, the new rules could affect your costs, your market, and your long-term strategy.
Curious about what’s coming next and how will it affect your sector? Discover the key changes and explore them in more depth below.
Frequently asked questions:
What is the EU Emissions Trading System?
Why is the EU Emissions Trading System being revised?
Why is the revision of the EU Emissions Trading System attracting so much attention?
What are the main changes proposed to the EU Emissions Trading System?
Who is now covered by the EU Emissions Trading System?
How will EU Emissions Trading System revenues be spent?
What is the link between the EU Emissions Trading System and the Industrial Decarbonisation Bank?
How will carbon removals be included in the EU Emissions Trading System?
Are international carbon credits allowed within the EU Emissions Trading System?
What would the proposed changes to the EU Emissions Trading System mean for your business?
What can your organisation do now to prepare for the ETS revisions?
What is the EU Emissions Trading System?
In short, the EU Emissions Trading System is the EU’s way of putting a price on pollution. It follows what is known as a cap-and-trade system: think of it as a ticket system where every ton of CO2 your company emits uses up one ticket, the so-called ‘carbon allowance’. Every company covered by the system either buys or receives a limited number of tickets to start with. If you need more, you have to buy them from another company. If you emit less, you can sell the tickets you do not use to another company (the ‘trade’ part).
Every year, the EU reduces the total number of tickets available (the ‘cap’ part). As they become harder to get, the tickets get more valuable and thus emitting CO2 becomes more expensive. This gives companies a strong incentive to cut their emissions and invest in cleaner technologies.
Up until now, the ETS has covered around 40% of the EU’s greenhouse gas emissions, including electricity generation, energy-intensive industries, intra-European aviation and part of the maritime sector. Since its launch in 2005, it has decreased emissions from the sectors it covers by about 50%.
The ETS works alongside the Carbon Border Adjustment Mechanism (CBAM). While the former puts a price on carbon emissions produced in the EU, the latter applies a similar carbon cost to certain imported goods. This helps ensure that European companies are not put at a disadvantage compared with competitors producing outside the EU, reducing the risk that businesses move production abroad.
Why is the EU Emissions Trading System being revised?
The EU Emissions Trading System reform seeks to stabilise the carbon market and reinforce its role as the EU’s central climate policy instrument. It aims to reduce carbon price volatility and its impact on electricity prices and industrial activity, while preserving a strong, market-based price signal that drives investment and innovation.
The current ETS framework was designed to deliver the EU’s climate objectives up to 2030. Since then, the European Union has adopted a new target of reducing greenhouse gas emissions by 90% by 2040. In addition, geopolitical tensions have led to volatile energy prices, disrupted global supply chains and less predictable trading partners.
The Commission therefore wants to ensure that the ETS remains fit for purpose while keeping the European industry competitive and resilient.
Why is the revision of the EU Emissions Trading System attracting so much attention?
The ETS is attracting significant attention because it sits at the crossroads of climate action, energy prices, industrial competitiveness and geopolitics, making every change to the system politically sensitive and economically consequential.
For many businesses, the concern is a double penalty: the rising cost of carbon emissions under the EU Emissions Trading System and persistently high energy prices from instability in the Middle East.
Adding to these pressures, the system has important international implications: it affects EU trade relations with partners such as the USA, while the ETS must respect global schemes, such as CORSIA for aviation.
These considerations keep EU institutions, Member States and other stakeholders divided on how the ETS should evolve, making upcoming negotiations particularly delicate. The challenge is to strike the right balance: keep the carbon price high enough to drive decarbonisation, while avoiding excessive costs, keeping European industry competitive, and not antagonising international partners.
What are the main changes proposed to the EU Emissions Trading System?
The Linear Reduction Factor (LFR) will fall slower
Let’s go back to our ticket system. The Commission proposes to make the supply of tickets – the so-called Linear Reduction Factor (LFR) – fall slower, reducing it by 3.7% per year for 2031-2035 and by 1.7% for 2036-2040, compared to 4.3% for every year from 2024 to 2027 and then by 4.4% as of 2028 under the current regime.
This means that your industry would not need to eliminate all its emissions by 2040 anymore as there will still be tickets available and tradable after that year.
In this ticket system, new tickets are regularly made available through auctions, where businesses can buy the amounts they need. There is also a manager that keeps a stockroom of tickets, known as the ‘Market Stability Reserve’. If there are too few tickets available, they can release some from the stockroom into future auctions to keep the pace and cost of cutting emissions manageable for businesses. If there are too many unused tickets in circulation, they will withhold an amount equal to 24% of the surplus tickets in circulation from upcoming auctions and place it in the stockroom to ensure the system continues to encourage pollution reduction. Now, the Commission aims to change the withholding rate to 12%, leaving more tickets in circulation and slowing the push on organisations under the ETS to decarbonise.
Free CO2 allowances will continue to be allocated to CBAM sectors until 2038
CBAM sectors receive free CO2 allowances to help them remain competitive in the EU as they compete with companies whose production is located in non-EU countries with less stringent climate rules. Under the current ETS framework, these free allowances would no longer be available by 2034.
However, the Commission now proposes to continue the allocation of free CO2 allowances for CBAM sectors (for example cement, steel, fertilisers) up to around 2038, with a slower and extended phase‑out compared to the rules agreed in the previous reform. This includes reintroducing a share of previously removed free allowances (around 15%).
Non‑CBAM sectors were not subject to a hard end-date for free allocation. Instead, their free CO2 allowances would gradually decline through tighter benchmarks and the shrinking ETS cap, but there was (and still is not in this proposal) no legal provision that fully phased out free allocation by a certain year, unlike for CBAM sectors.
Whether you are covered by CBAM or not, free CO2 allowances would become conditional from 2031 onwards. Installations would need to submit an “Invest in EU Decarbonisation Plan” and invest an amount equivalent to 100% of the value of their free allowances in EU‑based decarbonisation measures. Once your plan is approved, you would receive most of your free allowances, and the remaining part would be linked to verified implementation of the plan. (The proposal describes this as a phased release of allowances; the exact split is not explicitly “80% + 20%” in the legal text, so that percentage should be treated as illustrative rather than precise).
For companies facing higher electricity prices because power producers pass on the CO2 price from the EU Emissions Trading System, Member States could provide financial compensation. This is the “indirect carbon cost compensation” mechanism. If your company is already eligible for such compensation, this type of support could also continue beyond 2030, but under stricter decarbonisation conditions, alongside free allocation.
Who is now covered by the EU Emissions Trading System?
More businesses/sectors will need tickets under the EU ETS proposals. They include:
- Aviation: business jets and airlines with flights departing and landing within 5,000 kilometres from Frankfurt Airport.
- Maritime transport: small vessels weighing 400 to 5,000 tonnes.
- Municipal waste incineration plants.
These new sectors are added to the list of activities that were already covered by the EU Emissions Trading System:
- Electricity and heat generation, including large installations that burn fuels above the ETS capacity threshold.
- Energy-intensive industries: iron and steel, cement, non-ferrous metals, oil refineries, chemicals, aluminium and glass, among others.
- Aviation: commercial flights within the European Economic Area.
- Maritime transport: large ships to and from EU ports.
How will EU Emissions Trading System revenues be spent?
The Commission demands stricter use of revenues from auctioning ETS allowances to support climate and industrial transition, both at EU and national level, tightening the link between ETS revenues, carbon pricing and industrial decarbonisation. This is where the money side of the debate becomes central.
Currently, Member States must spend all their ETS revenues on climate and energy objectives, yet these categories are broad and only 5% clearly support industrial decarbonisation. It is now proposed that Member States will have to spend at least 50% of their ETS revenues specifically on:
- Clean tech, decarbonising industry and energy-intensive sectors;
- Supporting clean technologies, energy efficiency and circularity;
- Financing social measures related to the transition (e.g. support for vulnerable households, skills and reskilling);
- and other climate- and energy-related purposes listed in the Directive (such as renewable energy, buildings renovation, low-carbon transport, particularly maritime and aviation).
This limits the possibility of using ETS income as general budget revenue without a clear climate or industrial purpose. This means more money will be reinvested in the abovementioned sectors, helping companies reduce their emissions and in turn their need for ETS allowances.
What is the link between the EU Emissions Trading System and the Industrial Decarbonisation Bank?
The Commission seeks to introduce the Industrial Decarbonisation Bank (IDB) as the new central EU financing platform to turn EU ETS revenues and related funds into large-scale, targeted finance to decarbonise European industries.
The IDB will be introduced in two stages:
- Before 2030: the Commission will launch the ETS Investment Booster to support decarbonisation investments in energy-intensive industries. It will be financed by selling around 400 million ETS allowances, worth an estimated €30 billion.
- From 2031 onwards: the IDB will use competitive funding instruments such as Contracts for Difference (CfDs) to support industrial decarbonisation.
Sitting under the broader governance of the future Competitiveness Fund and Competitiveness Compass, and as a central pillar of the Clean Industrial Deal, the IDB is expected to mobilise around €100 billion for industrial decarbonisation projects, drawing on resources including the Innovation Fund and the Modernisation Fund.
How will carbon removals be included in the EU Emissions Trading System?
The Commission seeks to integrate permanent European carbon removals (CDR) from Bioenergy with Carbon Capture and Storage (BioCCS) and Direct Air Carbon Capture and Storage (DACCS) into the EU ETS.
The ETS cap will be increased by 250 million allowances between 2031 and 2040. These allowances are exclusively intended for auctioning, with the revenues used to purchase an equivalent amount of CRCF-certified permanent carbon removals from BioCCS and DACCS.
To ensure sufficient funding, an additional 10 million ETS allowance will be set aside as a financial buffer for 2031-2040 and auctioned only if needed to cover the gap between ETS revenues from the 250 million extra allowances and the cost of purchasing all planned removals. Any unused allowances (the 250 + 10 million) will be returned to the ETS cap after 2040.
Industry, maritime and aviation operators would also be allowed to use BioCCS carbon removals they generate themselves to balance out their own fossil emissions. However, this will neither create additional ETS allowances nor allow operators to generate “negative emissions”. In other words, their ETS obligations cannot go below net zero emissions.
A balancing mechanism will ensure that the same tonne of BioCCS removal is not counted twice. If a company uses it to reduce its emissions, the Commission will not buy it. If the Commission purchases it, the company can no longer use it itself.
The Commission will define the detailed design of the purchasing programme, including auction timing, support forms, eligibility and technology criteria, payment terms and transparency rules, and will review its operation in 2034.
Are international carbon credits allowed within the EU Emissions Trading System?
Yes. From 2036, companies could use a limited number of extra tickets from trusted international projects (‘high-integrity international carbon credits’). This will create up to 2% additional space in the system for emissions while keeping the goal of reducing emissions by 90% by 2040.
This proposal has sparked debate. Critics argue that companies should reduce emissions within Europe rather than relying on projects abroad. Supporters see it as a way to give the industry more flexibility and to lower their compliance costs while maintaining the EU climate target.
What would the proposed changes to the EU Emissions Trading System mean for your business?
The latest revisions to the ETS will have varying impacts on different sectors. Here’s what matters most for your business:
- Additional pathways for compliance: demand for carbon management services will rise across supply chains as covered businesses will have more options to decarbonise using carbon removals and high‑integrity international credits.
- Expanded coverage: business jets, flights to neighbouring countries, small tonnage vessels and municipal waste incineration plants will need to reduce their emissions at the same pace as sectors already covered.
- New investment obligations: you will need to submit and implement credible plans to invest in EU-based decarbonisation to retain protection from third-country competitors via free allowances.
- Greater access to funding: the hundred-million euros Industrial Decarbonisation Bank and mandatory national spending into your decarbonisation projects mean more of the money that you invest would come back to you.
- A more stable and moderate ETS price signal: you will face less short-term cost shocks thanks to a mitigated Market Stability Reserve with less drastic interventions in case of surplus and reduced risks of shortages thanks to a more gradual reduction in allowances available over an extended period of time.
What can your organisation do now to prepare for the ETS revisions?
Prepare internally: assess how the proposed ETS revisions could affect your business, identify potential risks and opportunities, and ensure your internal decarbonisation strategy is aligned with the direction of travel.
Stay engaged throughout the negotiations: lawmakers have committed to approving the revisions by Q1 2027. It’s an optimistic timeline considering that the EU Emissions Trading System revision is expected to be one of the most politically contested files of this mandate, with significant differences between the Commission, Member States and political groups in the European Parliament. As the proposal evolves through the next negotiation rounds, early and continued engagement at both EU and representational level will be essential to help shape the final outcome before positions become fixed.
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About the author
Manon Pituello is a Junior Consultant at Publyon, specialised in EU energy, industrial and climate policy. She advises companies and industries on legislative developments affecting industrial decarbonisation, carbon pricing, and sustainable transport, helping clients understand the business implications of complex files. Through regulatory impact analysis and strategic monitoring she helps companies anticipate regulatory change, make informed strategic decisions, and engage in the policymaking process.
