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Emissions costs: simple in theory, complex in practice

Carbon pricing has become one of the EU’s key climate policy tools. The idea sounds simple: polluters pay. In practice, it’s a complex regulatory and market-based system with economic and social effects reaching far beyond the energy sector. The EU ETS is now the world’s largest carbon market, covering energy, industry, shipping, and parts of aviation. From 2027, it will also include road transport and buildings, opening a new chapter in Europe’s green transition. But the question remains: is the system effective and fair enough?

Emission cuts vs economic costs

Introduced two decades ago, the ETS has significantly reduced emissions in covered sectors. EU data show that emissions within the system dropped 5% in 2024 compared to the previous year, and over the long term, reductions have reached roughly 50%. Impressive, but it raises questions about balancing climate protection with industrial costs.

Companies buying emission allowances gain predictability – yearly reductions in available permits send a clear investment signal. This encourages low-carbon technologies and increases their long-term feasibility. Yet, energy-intensive businesses worry about losing competitiveness to producers outside the EU, where regulations are laxer. The EU responded with the Carbon Border Adjustment Mechanism (CBAM), but critics argue it may spark trade conflicts and diplomatic tensions.

The EU points to positive outcomes: growth in wind energy, electrolyzer production, heat pumps, and €90 billion in green tech exports in 2024. Still, it’s unclear whether this growth is driven primarily by the ETS or by a broader industrial and climate strategy, with carbon pricing playing just one role.

Innovation that needs scale

ETS-linked funds, like the Innovation Fund and Modernisation Fund, finance projects worth tens of billions of euros, including low-carbon steel and floating wind farms. Since 2021, the Innovation Fund alone invested €12 billion in nearly 200 initiatives. This shows the system can catalyze technological breakthroughs.

The challenge remains scaling these innovations – lab or pilot projects must reach industrial levels to truly reshape the economy. Many companies say transformation costs are too high and available support insufficient. ETS provides flexibility in emission reduction strategies but doesn’t clarify who bears the greatest financial burden.

Energy and geopolitics

Energy independence gained a new dimension after the 2021–2022 energy crisis. In 2024, the EU’s energy import bill nearly hit €400 billion. Carbon pricing naturally favors local renewable investments, reducing reliance on imported fossil fuels.

In 2023, nearly half of EU electricity came from renewable sources, and including nuclear energy, almost 70% was carbon-free. ETS has acted as a catalyst, steering investments toward green energy. Yet doubts remain whether the price mechanism alone can maintain energy system stability amid growing demand and storage challenges.

The social cost of transition

Emission fees partly pass costs onto consumers. Electricity and heating prices have risen, fueling populist criticism of EU climate policy. The EU argues that ETS revenues return to citizens and regions.

So far, ETS has generated over €200 billion for Member States, funding public transport, energy-efficient buildings, and green infrastructure. The Social Climate Fund will gather at least €86.7 billion between 2026–2032 to support the most vulnerable, including energy subsidies, home insulation programs, and low-carbon mobility.

The Modernisation Fund supports 13 Central, Eastern, and Southern European countries, with over €19 billion already invested in grid upgrades, renewables, and energy access projects. While intended to reduce regional disparities, critics argue the pace and scale are insufficient to cushion social impacts in fossil fuel-dependent areas.

Fairness and global reach

The “polluter pays” principle underpins the ETS: costs fall on emitters, not society. This seems fair but doesn’t eliminate the regressive impact of carbon prices on lower-income households. Redistribution mechanisms, like the Modernisation and Social Climate Funds, aim to offset this, though effectiveness depends on national implementation.

ETS also has a global dimension. It operates in Norway, Iceland, and Liechtenstein and is linked to Switzerland’s system, with integration efforts ongoing with the UK. Similar mechanisms exist in China, South Korea, Canada, and New Zealand. The World Bank notes that over 80 jurisdictions have emission pricing covering half of global energy emissions.

This represents a clear success for EU climate diplomacy, encouraging other nations to act. Yet differences in climate ambition between regions could create trade tensions and challenge global solidarity.

Beyond Euros: health and environmental benefits

Economists like to calculate billions in funds and savings from reduced energy imports. But the value of health and environmental benefits is harder to measure. Cutting SOx, NOx, and PM2.5 emissions reduces asthma, respiratory, and cardiovascular diseases, as well as premature deaths. This translates to lower healthcare costs and, crucially, a higher quality of life, especially in densely populated cities.

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