The European Union's Emissions Trading System (ETS) is under fire, and it's not just from energy-intensive industries. Recent weeks have seen a surge in attacks on this key climate policy instrument, with some European governments, including Italy, even calling for its suspension. But is this a smart move for Europe's economic competitiveness? I say no, and here's why.
First, let's clear up a common misconception. The ETS is not the cause of high electricity prices in Europe. In fact, prices have largely stabilized at pre-crisis levels, even accounting for the jump in electricity prices following the US-Israel action against Iran. The dominant factor in setting marginal electricity prices is natural gas, not the carbon price. So, the idea that the ETS drives higher electricity costs is simply wrong. The only sustainable way to lower electricity costs is to reduce the number of hours during which gas sets the marginal price, which means accelerating the deployment of renewables. Watering down the ETS would disrupt confidence in the system, deter private investment, and prolong dependence on expensive and geopolitically risky imported gas.
Second, policy reversals on the ETS would create a 'laggard's dividend' at the expense of innovators. Europe's industrial competitiveness problem is not a result of carbon pricing, but rather of a broader failure to manage technological transformation. If policymakers reverse course on the ETS, they will effectively penalize the frontrunners who invested early in decarbonization while rewarding the laggards who resisted change. This would condemn EU industrial competitiveness to prolonged 'slow agony'.
Third, weakening the ETS would bring two fiscal penalties that its proponents appear to overlook. First, it would directly reduce the auction revenues that EU countries can and should use to fund industrial transition and social support. Since inception, ETS auctions have raised over €258 billion in revenues, an amount that will keep growing as the carbon price increases. Second, because many renewable energy projects are supported through instruments called contracts for difference, a lower carbon price often forces electricity prices down in the short term, which paradoxically increases the subsidy gap governments must fill. For Germany alone, a 10% reduction in wholesale electricity prices would increase the cost of renewables support by some €3 billion to €4 billion per year.
Fourth, attacking the ETS would prevent a rent shift to fossil-fuel exporters. The carbon price plays a crucial role in aggregating EU demand for fossil-fuel imports. By making carbon-intensive energy more expensive, the ETS reduces gas consumption across a massive market. Because the EU imports huge volumes of gas, primarily as liquified natural gas (LNG), this reduced demand puts downward pressure on global LNG prices, meaning that part of the carbon 'tax' is effectively paid by the exporters. Dropping the ETS would signal to consumers that they do not need to reduce consumption, and to other importers that they should also subsidize their gas consumers, putting upward pressure on global gas prices. The carbon market revenues that previously went to European budgets would then be sent abroad as pure profit for LNG exporters.
Finally, undermining the ETS would have long-term costs. The ETS is a mature, unified, market-based framework that ensures a level playing field across the EU's single market. Undermining this would trigger dangerous fragmentation, forcing EU countries to revert to a patchwork of national subsidies and contradictory regulations, causing major market distortion. The ETS is an ally, not an enemy, of Europe's competitiveness. Rather than dismantling it, EU leaders should strengthen the system as the central pillar of clean industrial policy. While adjustments are possible, the system's long-term credibility must be protected. Any watering down of the carbon price signal would destroy the investment certainty that frontrunners and innovators rely on. Strengthening the ETS first and foremost requires making strategic use of the scheme's multi-billion euro revenues to secure Europe's future prosperity.
In conclusion, attacking the ETS is economic self-sabotage. It would disrupt confidence in the system, deter private investment, and prolong dependence on expensive and geopolitically risky imported gas. It would also create a 'laggard's dividend' at the expense of innovators and bring fiscal penalties. Instead, EU leaders should strengthen the ETS as the central pillar of clean industrial policy. This is the only way to ensure Europe's long-term economic resilience and competitiveness.
