Brussels redesigns 'business friendly' ETS with slower emissions cuts

The European Commission proposed a substantial redesign of the EU Emissions Trading System on July 17, slowing the pace of emissions reductions beyond 2030, delivering Eur6 billion ($6.9 billion) in additional free permits to manufacturers, and introducing controlled access to carbon removals and international credits while deploying more than Eur100 billion toward industrial decarbonization through a new financing instrument.

"Today's proposal on the ETS brings together three key goals: sustained truly ambitious climate action, much more competitiveness and a huge boost for our independence," Climate Commissioner Wopke Hoekstra said in a press briefing calling the approach more "business-friendly."

"It advances climate action, but at the same time, it transforms the ETS into a genuine engine for innovation and investments and reindustrializing Europe for the clean economy of the future."

The overhaul adjusts the Linear Reduction Factor to 3.7% for 2031-2035 and 1.7% for 2036-2040, down from the current 4.3% rate, providing what the commission called "breathing space" for industry as Europe pursues its legally binding target to cut emissions by 90% by 2040.

The LRF is the annual fixed percentage by which the total number of emission allowances is reduced in the EU ETS. The revised trajectory means emission allowances will continue to be issued into the 2040s, addressing concerns that the current pace would eliminate the cap around 2040 and leave hard-to-abate sectors without viable compliance options.

The commission also proposed what it described as a "carefully designed and limited integration" of 250 million metric tons of high-quality permanent domestic carbon removals into the ETS. Only domestic permanent removals certified under the Carbon Removal Certification Framework will be eligible for ETS compliance, with storage subject to monitoring and verification rules.

From 2036, companies will be able to use international credits to meet up to 2% of compliance obligations, creating additional emissions space as Europe pursues its binding emissions target.

Investment focus

The proposal establishes the Industrial Decarbonization Bank with Eur100 billion in funding for decarbonization projects across ETS sectors, with an initial Eur30 billion Investment Booster phase available before 2030.

Member states will be required to spend 50% of national ETS revenues on investments in ETS sectors, adding more than Eur100 billion in investments before the end of the decade, according to the commission. The move addresses what Hoekstra called insufficient reinvestment in industrial decarbonization, noting that of the roughly 80% of ETS revenues flowing to member states, "less than 10% has been spent on industrial decarbonization."

"Industry, in our view, rightly demands that significantly more should flow back to decarbonize these sectors," Hoekstra said.

Free allocation to industry will continue beyond 2030 but become conditional on operators developing "Invest in EU Decarbonisation Plans" and investing an amount equivalent to 100% of the value of their free allocation into decarbonization projects in Europe. The requirement addresses concerns about companies "pocketing the free allocations and then selling them on the market and using the money elsewhere," according to Hoekstra.

"Free allocation does not mean free cash," he said. "100% of the free allowances will need to be invested in Europe in decarbonization."

A separate proposal aims to increase free allocation by Eur6 billion for 2026-2030, while for sectors covered by the Carbon Border Adjustment Mechanism, the phaseout of free allocation will be extended until 2038.

The Market Stability Reserve will be adjusted for a shrinking market, with the absorption rate dropping to 12% from 24%, allowing more permits to remain in circulation longer and supporting market liquidity as the cap tightens.

Member state reactions

EU carbon prices were initially up over 2% after the proposal was announced, but prices stabilized by the afternoon of July 17. EU Allowances for December 2026 were trading at Eur79.11/metric ton of CO2 equivalent at 1435 GMT, according to Intercontinental Exchange data.

Polish Prime Minister Donald Tusk said the reforms delivered a "positive response to Polish expectations," signaling that Warsaw had secured more favorable terms within the overhaul.

"We've been saying this from the very beginning: Poland will not respect the original version of the ETS," Tusk told journalists in the Polish parliament, Sejm.

Tusk said Poland has a "very large deficit of allowances" and highlighted that the country would be among the beneficiaries of European funds under the reforms. "Poland has to buy more of them. The Commission understands this, and from today on, Poland has an even more privileged position compared to other countries," he said.

The reforms provide enhanced access to the Investment Booster for lower-income member states, with guaranteed allocations designed to address disparities in allowance holdings and compliance costs among EU economies.

The reforms come amid mounting political pressure from European industry groups, and member states concerned about competitiveness as carbon prices have traded above Eur60/mt for much of 2026, adding to production costs for energy-intensive manufacturers.

EUAs surged to 30-month highs near Eur93/mtCO2e in mid-January before plunging nearly Eur30/mtCO2e by March, as leaders from major EU economies called for major changes to the ETS, arguing that stringent climate rules were undermining industrial competitiveness.

Hoekstra acknowledged that "the world has changed considerably with key European industries facing an unlevel playing field," citing "heavy state subsidies, dumping, dubious labor conditions abroad" affecting European sectors.

Transport, waste expansion

The commission also proposed to extend ETS coverage to all flights departing from European Economic Area airports to destinations within 5,000 km of the EU's geographic center, and to all business jet flights (incoming and departing), while maintaining alignment with the International Civil Aviation Organization's Carbon Offsetting and Reduction Scheme for International Aviation (CORSIA) scheme.

A mechanism to avoid double carbon pricing where both systems apply will be introduced, with a 2032 review to assess CORSIA's effectiveness.

"Currently, the ETS only covers the EEA, and quite a few countries subsidize their airlines in ways we do not," Hoekstra said, explaining the rationale for the geographic expansion. The changes mean "a flight from Brussels to one of the Greek Islands will be treated in the same way as a flight arriving in the neighborhood but then outside of the EU."

The EC also said that CORSIA "has not been sufficiently strengthened yet" and plans to conduct a new assessment on its implementation in 2032.

"By then, results of the functioning of the scheme in terms of offsetting will be apparent," the EC said. "On [the] contrary, if CORSIA still does not deliver by then, the commission may consider extending the scope to full departing flights."

For maritime transport, the ETS scope will be extended to vessels between 400 and 5,000 gross tonnage, down from the current 5,000 gross threshold, improving effectiveness and leveling the playing field among ship categories. The proposal includes provisions to avoid double payment if the International Maritime Organization implements a global pricing measure.

Meanwhile, municipal waste incineration will be gradually integrated from 2031 to 2034, with installations required to surrender allowances for 25% of verified emissions in 2031, rising to 100% by 2034. National opt-outs are possible until 2035 if countries meet two of three conditions: equivalent national carbon tax, progress on recycling targets, or progress on landfill reduction. The inclusion aims to "encourage waste prevention and recycling, making it more cost effective than incineration and giving a real boost to the circular economy," Hoekstra said.