EU Plans Softer Carbon Curbs, Longer Free Permits Phaseout

The European Union is setting a slower pace for the reduction of its carbon market’s emissions cap over the next decade, as the bloc seeks to ease the impact of its climate goals on struggling industries.

(Bloomberg) — The European Union is setting a slower pace for the reduction of its carbon market’s emissions cap over the next decade, as the bloc seeks to ease the impact of its climate goals on struggling industries. In an overhaul of the Emissions Trading System due to be published Friday, the European Commission is set to propose a 3.7% rate of annual cuts in the cap in 2031-2035, and 1.7% from 2036, according to people familiar with the matter.

It also plans a longer phaseout of free permits for companies in the cap-and-trade program that are covered by a carbon-border levy. The commission has faced mounting pressure from governments and industry groups over carbon costs after the Middle East conflict raised energy prices, exacerbating concerns over Europe’s declining competitiveness. The ETS reform seeks to lower the burden of the energy transition, while encouraging those who decarbonize faster to keep investing in Europe.

The pace of the emissions cap reduction has become a polarizing issue, with more climate-conscious member states calling for the annual rate, known as Linear Reduction Factor, to be kept at the current 4.4%. Others want it below 3%. The slower emissions-reduction trajectory will allow the issuance of some permits after 2039, when the cap is set to drop to zero under current rules.

Started in 2005, the ETS imposes gradually shrinking emissions limits on around 10,000 facilities in sectors from steel and cement to fertilizers. The system is part of an effort to cut carbon emissions 90% from 1990 levels by 2040. The commission declined to comment on the planned cap reduction rate, in line with its long-standing policy of not commenting on ongoing work.

The reform proposal is due to be adopted on Friday, when EU commissioners will meet to approve its final design. To address the industry’s concerns over an uneven playing field against countries with laxer climate policies such as China and the US, the commission also plans to change the schedule for phasing out free allowances and phasing in the EU Carbon Border Adjustment Mechanism, a tool that puts a carbon price on emissions embedded in certain imported products. The CBAM phase-in started this year, with free allowances in covered sectors due to be phased out by 2034.

Under the planned reform, the commission wants to extend the phase-out of free permits to 2037. In another tweak to offer companies in the system more flexibility, the commission is set to propose allowing international credits accounting for up to 2% of the ETS cap, according to the people. Another 3% will be allowed in sectors outside the main carbon market, known as ETS1 in areas such as transport and buildings covered by ETS2 as well as agriculture and forestry.

The EU’s regulatory arm has repeatedly said that if such credits are authorized, their purchase should be centralized and companies covered by the system won’t be able to use them directly for compliance. Separately, the EU is planning to float on Friday the idea of setting an indicative electrification goal for the next decade as part of a plan to strengthen the local market for clean technologies and help shift the bloc away from fossil fuels. The target, to become part of a planned proposal for a post-2030 energy framework in the fourth quarter of this year, is poised to be 46% of energy consumption by 2040, according to the people.