Linking UK ETS and EU ETS?

CBAM Weekly - Issue 32 - Feb 1, 2025

Helge Wieggrefe

CBAM Weekly

by Helge Wieggrefe

Next week, UK Prime Minister Keir Starmer will become the first British head of government since Brexit to attend the European Council meeting in Brussels. At his request, discussions will also include linking the UK and European emissions trading systems to prevent mutual border charges.

Historical Development

Until Brexit in 2021, the UK was subject to the European Union Emissions Trading System as a member state. After leaving the EU, the UK government introduced its own emissions trading system, known as the UK ETS. Like the EU ETS, its goal is to reduce emissions in energy-intensive industries, electricity generation, and domestic aviation.

Differences Between UK ETS and EU ETS

Given this background, it is unsurprising that both emissions trading systems cover the same sectors. However, the European Emissions Trading System is expanding its scope with the planned EU ETS 2 to include buildings and transportation. Additionally, the EU ETS operates with the Market Stability Reserve, ensuring a stable CO₂ price level through long-term management and preventing market flooding with allowances. In contrast, the UK ETS relies on the Cost Containment Mechanism, which can be used in the short term to stabilize prices when they rise too quickly and could cause economic problems.

Linking Emissions Trading Systems

Linking emissions trading systems means connecting two or more separate emissions markets so that emissions allowances can be traded across systems. This can lead to a more efficient market, better price stability, and a global reduction in emissions costs. An example of such a linkage is the EU ETS and the Swiss Emissions Trading System, where both systems mutually accept each other's allowances.

Linking ETS in the Context of CBAM

When two emissions trading systems are linked—such as the EU and Switzerland—both markets must pay the same price for an emissions allowance. This creates a level playing field in CO₂ pricing for trade between these economies, making a Carbon Border Adjustment Mechanism unnecessary. As a result, goods originating in Switzerland are excluded from CBAM. A similar linkage between the UK and the EU would have significant positive effects on trade.

Challenges in Linking UK ETS and EU ETS

Before any linkage can occur, several challenges must be addressed at the government summit. The EU is likely to demand full compliance with EU regulations as a condition for linking the UK ETS. Switzerland had to align its system with EU standards before a linkage was approved. The UK ETS carbon price is, on average, about 25% lower than that of the EU ETS. If the UK adopts the higher EU price, it would increase costs for British industries and potentially harm economic growth.

The Special Case of Northern Ireland

A unique issue arises with Northern Ireland. Since Brexit, Northern Ireland has a special trade and customs status, as it remains part of the EU's single market. This means that it should logically fall under CBAM. However, this would mean that goods traded between Great Britain and Northern Ireland could also be affected by CBAM. Given this complexity, the UK Prime Minister’s push to link the emissions trading systems is understandable, as it could provide a solution to this issue.

Support for Analyzing CO₂ Pricing Impacts on Your Business

If you need assistance in analyzing how increasing CO₂ pricing affects your business model, feel free to contact us at helge@kolum.earth. Your strategic decisions today should be aligned with tomorrow’s regulations. Best regards, Helge Wieggrefe

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