What is the EU ETS?

The European Emissions Trading System (EU ETS), as explained in (European Commission, 2024), was  established in 2005 based on a “cap and trade” principle.  This system and regulation are based on the premise that reducing greenhouse gas (GHG) emissions is essential to mitigating climate change, placing a financial responsibility on polluters to cover the costs of their emissions.  As the EU’s main tool for driving the reduction of emissions, the EU ETS plays a central role in achieving the EU’s goal of climate neutrality by 2050, as outlined in the EU Green Deal.  

Furthermore, since 2013, the EU ETS has generated over EUR 175 billion in revenue, which primarily contribute to national budgets, and Member States must use these funds to support investments in renewable energy, improve energy efficiency and low-carbon technologies that help to reduce emissions and companies’ carbon costs. 

The EU ETS was launched as the world’s first carbon market and remains among the largest ones globally.  It supports the EU by: 

• Reducing overall emissions while generating revenue to fund the green transition, 

• Regulating emissions from the electricity and heat generation, industrial manufacturing and aviation sectors which collectively produces about 40% of the EU’s total GHG emission, 

• Regulating emissions from maritime transport (started in 2024), and 

• Operating in all EU countries plus Iceland, Liechtenstein and Norway. 

The Cap refers to the limit set on the total amount of GHG that can be emitted by installations and operators covered under the scope of the regulation. The Cap is reduced annually to meet the EU’s climate target. The cap is expressed in emissions allowances and one emission allowance give the right to emit one tonne of CO₂e. Companies receive some allowances for free, but most allowances are sold in auctions and can be traded on the carbon market. Because the cap is reduced each year, the available allowances decrease in the carbon market as well. 

Under the current regulation, companies in the high-emission sectors (e.g., electricity and heat production, industrial manufacturing, aviation, and maritime transport) must monitor and report their emissions annually. They also must submit enough allowances to fully offset their emissions for the year. Failing to comply with these requirements results in heavy fines. 

Companies can trade allowances among themselves. For example, if an installation or an operator reduces its emissions, they can sell their surplus allowances or keep them for future use. The ownership of allowances is recorded in a centralised online database known as the “Union Registry.”   This registry control transactions such as allowances transfers by account holders, records the annual verified CO₂ emissions, and manage the annual reconciliation of allowance and verified emissions, where each company must hold enough allowances to cover its verified emissions which have to be submitted by 30 April every year.