Criteria for an effective and socially just EU ETS 2

OVERVIEW OF THE ASSESSMENT:

In early 2021, the European Union set the objectives of reducing net emissions by at least 55% by 2030 compared to 1990 and thus of achieving climate neutrality by the year 2050. On July 14th 2021, the European Commission (2021) presented a series of legislative proposals in line with the “Fit for 55” package, which include raising the targets of the two main EU instruments: the EU Emissions Trading System and the Effort Sharing Regulation (ESR).

The Commission proposed to increase the target from 43% to 61% (compared to 2005) for sectors covered under the existing EU Emissions Trading System (henceforth: EU ETS 1). With regard to sectors covered by the ESR, the former target of cutting emissions by 29% is supposed to increase to 40%, compared to the levels in 2005. For the buildings and road transport sectors within the ESR, the Commission has put forward a reduction target of 43% by 2030 relative to 2005. In line with stronger climate action, the Commission’s proposal includes introducing a separate emission trading system for buildings and road transport (henceforth: EU ETS 2).

Implementing an emission trading system for buildings and road transport in the EU could be a useful complementary instrument for several reasons:

• Putting a price on carbon introduces the polluter pays principle – hence, those who produce pollution bear the costs of paying for the damages done to the climate and environment

• A cap on carbon can establish a transparent trajectory that reaches the 2030 reduction target cost-efficiently via clear quantity control and limited release of predefined auction volumes to the market

• Pricing carbon can open investment channels for low-carbon alternatives in the buildings and road transport sectors (i.e., reduced risks and costs for investors)

• Revenues from auctioning allowances can be used to compensate low-income groups and businesses within Member States and reward those who emit less

• Unlike national instruments, the equitable distribution of auctioning revenues among Member States has the potential to mitigate economic and social inequalities and rewards those Member States that are climate leaders in the EU (given that the necessary mechanisms are implemented accordingly)

The Commission’s initiative promises improved climate action in the European Union. Nevertheless, it is essential to consider multiple sector-specific characteristics for pricing emissions in the buildings and road transport sectors successfully. Despite similarities with the EU ETS 1, marginal abatement costs and distributional burdens differ substantially between covered sectors. In light of this background, this paper investigates central aspects of the Commission’s proposal for the EU ETS 2. It discusses criteria which should be applied in the event of the introduction of an EU ETS 2 to obtain effective and socially just carbon pricing during the ETS initial phase and the later stages.