The European Union plans to relax carbon market reduction rules to alleviate corporate costs and enhance industrial competitiveness

The European Union is working to readjust its strictest carbon market rules globally, intending to relax emission reduction requirements for thousands of companies. This move marks the region's search for a new balance between climate ambitions and economic realities.

Ahead of next week's EU leaders' summit focusing on economic competitiveness, discussions about reforming the Emissions Trading System (ETS) are heating up. According to media reports citing EU policymakers and diplomats familiar with the situation, less than three years after tightening the market to accelerate the green transition, governments are now prepared to slow down emission reduction efforts and consider a series of measures to alleviate industrial cost pressures.

Details of the planned reforms are expected to be announced by the European Commission in the third quarter of this year, which will directly impact the supply and demand for carbon allowances and may trigger intense negotiations among member states. Slovak Prime Minister Robert Fico has publicly called for a suspension of the ETS, while Czech Prime Minister Andrej Babiš has urged measures to curb carbon price volatility. The market has already reacted, with EU carbon futures prices dropping 4.6% on Thursday, reaching the lowest level since November 10 of last year.

This adjustment reflects the EU's attempt to create a more resilient competitive environment for domestic industries while maintaining its climate leadership. Ingo Laming, head of the carbon market at Banco Santander in Madrid, commented:

“The EU's narrative has shifted from setting ambitious targets to focusing on implementation and enforcement, from idealism to pragmatism.”

Shift in Policy Priorities

As the EU reassesses its long-term partnership with the United States, its ambitious green transition has seen a decline in priority on the political agenda. The broad consensus that dominated climate action five years ago has fractured, giving way to trade protectionism and policies prioritizing lower energy costs.

Although EU negotiators agreed last December to a new mid-term target of reducing emissions by 90% from 1990 levels by 2040, they also indicated that the 10,000 facilities in the ETS should have more time to decarbonize. This will avoid a scenario where the emissions cap drops to zero by 2039 under the current cap-and-trade design, which is one of the key guiding principles of the upcoming market reforms.

Peter Liese, a member of the European People's Party (the largest political group in the European Parliament), stated in an interview:

"All attempts to destroy or suspend the ETS are completely irresponsible. But changes are indeed needed, and we can alleviate pressure on businesses without jeopardizing climate goals."

Growing Concerns Over Price Surge

The political sensitivity surrounding rising carbon prices was fully evident during last December's EU negotiations on the 2040 climate targets. Countries agreed to delay the launch of a new carbon market for road transport and building heating fuels. Current policy focus is shifting towards preventing severe price fluctuations within the existing cap-and-trade program. Analysts predict that the benchmark carbon contract price could rise to €400 per ton by 2040, while the current price is around €82.

As one of the designers of the EU Emissions Trading System and a former senior climate official at the European Commission, Jos Delbeke pointed out that this market should be an organic part of the EU's overall industrial policy, avoiding "off-putting" emission costs Delbecq, a professor at the European University Institute in Florence, stated in an interview:

"As the total emissions cap continues to decline and market liquidity shrinks accordingly, the risk of a sharp price increase may also rise."

His reform suggestions include: managing quota supply to stabilize carbon prices, and at least considering the establishment of a hidden price fluctuation range within the analytical framework; simultaneously fine-tuning the regulatory mechanism used to automatically balance market permit supply, and recalibrating the annual reduction pace.

Linear Reduction Factor Faces Adjustment

In the coming years, the speed of the EU carbon emissions cap reduction will be determined by the "linear reduction factor." This key indicator, as part of the European Green Deal, will increase from the previous level to 4.3% starting in 2024, and will further rise to 4.4% from 2028. Although policymakers do not rule out the possibility of lowering this factor before 2030, given that reforming the entire system requires at least a two-year legislative cycle, the available policy tools in the short term remain limited.

To address potential carbon price shocks, Delbecq suggested that the EU could utilize approximately 370 million free allowances stored in special buffer zones, directing them to companies to support their low-carbon transition investments.

Currently, most allowances in the market are allocated through auctions, but to prevent the risk of carbon leakage, industries facing production relocation to regions with more lenient climate policies can still receive a certain amount of free allowances. Their allocation is based on a set of emission efficiency benchmarks designed to reward the most energy-efficient producers. The European Commission is scheduled to publish the revised industry benchmarks in April this year, and it is currently facing pressure from industries such as chemicals to freeze existing standards to avoid increasing their compliance costs.

Multiple Countries Express Competitiveness Concerns

The number of free emission allowances available to companies in the coming years has become one of the most controversial topics in current policy debates. This issue is closely related to the advancement of the carbon border adjustment mechanism. The EU plans to gradually phase out the free allowances enjoyed by relevant industries. In the climate law agreement reached last December for 2040, policymakers hinted at a desire to slow down this phasing-out process.

EU energy and climate policy will be one of the core topics at the informal meeting of EU leaders on February 12. According to media reports citing informed sources, during ambassador-level consultations among member states before the summit, countries such as the Czech Republic, Hungary, Slovakia, Bulgaria, Romania, and Poland expressed concerns that the continuous rise in carbon prices could weaken the competitiveness of EU industries.

Poland's Deputy Minister of Climate Krzysztof Błaszczak told Bloomberg News:

"If we do not make any adjustments before 2030, some industries covered by the emissions trading system may struggle to remain operational until that deadline."