Emissions trading 20 years – what’s next?

First, let's take a look at some impressive key figures. ETS is currently a mature and liquid market, with:

• An annual trading volume of €800 billion
• Nearly 1 billion tons of CO₂ reduced annually.
• Coverage of about 40% of the EU’s total emissions and around 11,000 installations.

ETS has undoubtedly been a success story, having driven substantial decarbonisation, particularly in the energy sector. The performance figures speak for themselves: emissions from ETS sectors halved between 2005 and 2024, whereas non-ETS sectors saw only a one-fifth reduction. By pricing carbon and allowing trading of allowances, the ETS has ensured that emissions are reduced where it's cheapest to do so.

The system has evolved through four phases (trading periods), each improving its design and scope. However, the development has not been only positive. As new sectors have been added and overlapping policies have emerged, the system’s complexity has increased, raising concerns about price signals and governance. The phase-out of free allowances by 2034 and the ability of the carbon border adjustment mechanism to replace them has raised concerns about the impact of the ETS on the competitiveness of EU industry.

ETS is by far the largest emissions trading scheme globally and has served as a benchmark for other carbon markets, such as those in China and California.

ETS at a crossroads

As the ETS cap approaches zero by 2040, its future role and architecture after 2030 are under discussion. The focus of decarbonisation is shifting from the energy sector to industries and other sectors. The EU is currently setting its 2040 climate target and beginning to revise related legislation, including the ETS Directive.

ETS is entering a new phase with an expanded scope, including new sectors like buildings and transport under the new ETS2 from 2027. Through this, the carbon cost will affect the daily lives of many citizens, which will likely provoke a significant backlash in some countries.

How should the future ETS look? Several questions are on the table: Should carbon removals be integrated? Should ETS be linked with other systems? What about the use of international emission credits? Could a European Carbon Central Bank, as has been proposed by someone, play a role? Should ETS1 and ETS2 be merged? These questions must be resolved well before 2040. I’ll be happily retired by then, but many of you readers will be involved in those discussions.

My take: Integrating carbon removals into the ETS could be a win-win – keeping ETS liquid and robust while incentivising innovation in removals. Linking ETS with other trading systems would also make sense.

Money talks - carbon pricing is effective

Although I’m an engineer, I like simple solutions. When it comes to the EU climate policy, carbon pricing and ETS should remain THE instrument – even for long-term climate neutrality.

Economic theory supports this: price steering delivers the most cost-effective emission reductions. And in the case of a European instrument, its effects are consistent across member states. So, as many EU member states (including Finland and Sweden) are struggling with emissions and sinks in their land use and forestry sectors, why not extend carbon pricing, to those sectors, in one form or another?

And yes, ETS alone is not enough. We need other policies as well, for example, to respond to competitiveness concerns. Here, the role of a proper carbon border adjustment mechanism (CBAM) is important. Furthermore, coherence of various policies should be improved and there is definitely room for Omnibus approach – simplification also regarding ETS.