NEW CAKE REPORT on potential options of EU ETS linking

NEW CAKE REPORT on potential options of EU ETS linking

NEW CAKE REPORT on potential options of EU ETS linking

We are pleased to present the latest report prepared by CAKE/KOBiZE titled “VIIEW on EU ETS 2050: Linking EU ETS with other carbon pricing mechanisms”. The publication was developed as part of the LIFE VIIEW 2050 project and is available in English. The document thoroughly discusses the possibilities and implications of linking the European Union Emissions Trading System (EU ETS) with other global carbon pricing mechanisms, as well as the role of offset mechanisms in achieving international climate goals.

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The EU ETS plays a key role in achieving the European Union’s climate goals, such as reducing greenhouse gas emissions by 55% by 2030 and achieving climate neutrality by 2050. One of the challenges associated with further development of this system is minimizing the risk of carbon leakage and improving the cost-efficiency of emissions reductions.

In response to these challenges we are pleased to present our latest report prepared by CAKE/KOBiZE titled “VIIEW on EU ETS 2050: Linking EU ETS with other carbon pricing mechanisms”. The publication was developed as part of the LIFE VIIEW 2050 project and is available in English.

Our report examines:

• Implications of EU ETS linking with other ETS frameworks (e.g., UK ETS, systems in Canada, South Korea, China, Mexico, and the USA),
• Introduction of the Carbon Border Adjustment Mechanism (CBAM),
• Role of offsets in reducing compliance costs,
• Potential establishment of a European Central Carbon Bank (ECCB).

Through macroeconomic analysis, the report assesses how this integration could affect carbon pricing, emissions reductions and economic indicators in different regions. Presented measures aim to improve market stability, mitigate carbon leakage, foster international cooperation, and ensure a cost-effective path toward achieving climate neutrality by 2050.

In the current analysis, we present and analyse baseline scenario and two analytical scenarios reflecting different levels of ETS integration and policy mechanisms. We consider linking the EU ETS with other international ETSs and limited use of offsets in the EU ETS. First scenario explores how linking the EU ETS with systems in other regions could lower emissions reduction costs, stabilize allowance prices, and reduce economic disruptions. The second scenario analyzes the use of offsets sourced from Global South countries within the EU ETS. Such a mechanism could lower compliance costs and support low-carbon development in developing nations.

Key Findings:

• CBAM and ETS linking can help mitigate competitive disadvantages faced by EU industry and reduce incentives for companies to relocate to regions with lower climate standards. These mechanisms can help countries meet their climate goals more efficiently while minimising cross-border competitive disadvantages. CBAM can incentivise EU trading partners to invest in low-emission technologies. The third country producers exporting to EU can reduce CBAM charges by reducing their emission intensity of production.

• Linking ETSs across regions increases market liquidity, leading to more competitive carbon pricing, technology transfer and lower overall compliance costs.
  • ETS linking lowers carbon prices in high price regions and is expected to reduce EU carbon prices by approximately 40-60 EUR/t. EU would likely purchase a notable amount of allowances from other regions, particularly China.
  • The global welfare gain from ETS linking, approximated by increase in real household consumption, is estimated to range from around 25 billion EUR in 2035 to 40 billion EUR in 2050.
  • In the EU, GDP consistently increases, compared to baseline, throughout the simulation period by approximately 0.2-0.3% (50 billion EUR). In contrast, in most non-EU countries GDP decreases compared to baseline.
  • The impact on production of selected individual sectors is much stronger than the aggregate GDP outcome, e.g. in the EU, output of ferrous metals, air transport and water transport sectors increase from 2% to nearly 4% in some periods. Changes in sectoral output are mostly driven by adjustments of exports.

• The use of offsets in the EU ETS could reduce compliance costs and address emissions from sectors with limited decarbonisation options. Using offsets in the EU ETS the consumption gain in the EU is accompanied by GDP increase of 0.15-0.20% (30-45 billion EUR per year). Whereas in Global South countries the GDP decreases by around 0.05% (10 billion EUR per year), driven primarily by exports contraction. Both parties of the offset mechanism experience slight increases in household consumption, by a little more than 0.1% (between 10 and 20 billion EUR per year) in the EU in the years 2040-50, and around 0.05% in Global South countries (around 6-7 billion EUR per year) in the same period.

• European Central Carbon Bank (ECCB) could manage supply in the carbon market, acting as a stabilising force to ensure the system’s effectiveness. By centralising control over allowances, removals and offsets, the ECCB would promote a stable and reliable carbon market environment that supports the EU’s climate goals and contributes to global emissions reduction efforts. This institution could also purchase carbon offsets and support integration with global emissions trading systems.

• EU ETS need to be reformed. As the EU ETS evolves to meet more ambitious climate policy targets, the market faces challenges such as price volatility and concerns about industrial competitiveness, limited social acceptance and the intricacy of extending ETS coverage to new sectors (such as transport and buildings). These issues could destabilise the market, hinder emission reduction efforts, and increase the risk of carbon leakage, where companies relocate to regions with less stringent regulations. Linking ETS systems, the use of offsets and establishing the European Central Carbon Bank could mitigate these risks by managing supply in the carbon market and serving as a stabilising force to ensure the effectiveness and longevity of the system.

The analysis was performed using advanced modelling tools developed by CAKE experts. Such an extensive and comprehensive analysis was possible thanks to the implementation of the LIFE VIIEW 2050 project – The impact assessment of the EU Emission Trading System with the long-term vision for a climate neutral economy by 2050 implemented at KOBiZE with the financial support of the LIFE Program and the National Fund for Environmental Protection and Water Management.

This is another in a series of analyses on various aspects of the development of the EU ETS. Other analyses, which cover ETS2, removals, hydrogen or transport policies, among others, can be found here.