Carbon emission trading

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Carbon emission trade allowance prices in all major emission trading schemes in Euro per ton of CO2 emitted (from 2008 until 5/2023)

Carbon emission trading (also called carbon market, emission trading scheme (ETS) or cap and trade) is a type of emission trading scheme designed for carbon dioxide (CO2) and other greenhouse gases (GHG). It is a form of carbon pricing. Its purpose is to limit climate change by creating a market with limited allowances for emissions. This can reduce the competitiveness of fossil fuels, and instead accelerate investments into renewable energy, such as wind power and solar power. Fossil fuels are the main driver for climate change. They account for 89% of all CO2 emissions and 68% of all GHG emissions.[1]: 12 

Emissions trading sets a quantitative total limit on the emissions produced by all participating emitters. As a result, the price automatically adjusts to this target. This is the main advantage compared to a fixed carbon tax. Under emission trading, a polluter having more emissions than their quota has to purchase the right to emit more. The entity having fewer emissions sells the right to emit carbon to other entities. As a result, the most cost-effective carbon reduction methods would be exploited first. Carbon emissions trading and carbon taxes are a common method for countries in their attempts to meet their pledges under the Paris Agreement.

Carbon emissions trading schemes are in operation in China, the European Union, and other countries.[2] However, they are usually not harmonized with any defined carbon budgets, which are required to maintain global warming below the critical thresholds of 1.5 °C or "well below" 2 °C. The existing schemes only cover a limited scope of emissions. The EU-ETS focuses on industry and large power generation, leaving the introduction of additional schemes for transport and private consumption to the member states. Though units are counted in tonnes of carbon dioxide equivalent, other potent GHGs such as methane (CH4) or nitrous oxide (N2O) from agriculture are usually not part these schemes yet. Apart from that, an oversupply leads to low prices of allowances with almost no effect on fossil fuel combustion.[3] In September 2021, emission trade allowances (ETAs) covered a wide price range from €7/tCO2 in China's new national carbon market[4] to €63/tCO2 in the EU-ETS.[5] Latest models of the social cost of carbon calculate a damage of more than $3000 per ton CO2 as a result of economy feedbacks and falling global GDP growth rates, while policy recommendations range from about $50 to $200.[6][failed verification]

Market mechanisms overview[edit]

    National emissions trading schemes in implementation. The map does not show the EU ETS (a supranational scheme) and various subnational schemes.[7]

The economic problem with climate change is that the emitters of greenhouse gases (GHGs) do not face the full cost implications of their actions.[8] These other costs are called external costs.[9] External costs may affect the welfare of others. In the case of climate change, GHG emissions affect the welfare of people now and in the future, as well as affecting the natural environment.[10] The social cost of carbon depends on the future development of emissions. This can be addressed with the dynamic price model of emissions trading.

An emissions trading scheme for greenhouse gas emissions (GHGs) works by establishing property rights for the atmosphere.[11] The atmosphere is a global public good, and GHG emissions are an international externality. The emissions from all sources of GHGs contribute to the overall stock of GHGs in the atmosphere. In the cap-and-trade variant of emissions trading, a limit on access to a resource (the cap) is defined and then allocated among users in the form of permits. Compliance is established by comparing actual emissions with permits surrendered including any permits traded within the cap.[12] The environmental integrity of emissions trading depends on the setting of the cap, not the decision to allow trading.[13]

For emissions trading where greenhouse gases are regulated, one emissions permit is considered equivalent to one tonne of carbon dioxide (CO2) emissions. Other emissions permits are carbon credits, Kyoto units, assigned amount units, and Certified Emission Reduction units (CER). These permits can be sold privately or in the international market at the prevailing market price. These trade and settle internationally, and hence allow permits to be transferred between countries. Each international transfer is validated by the United Nations Framework Convention on Climate Change (UNFCCC). Each transfer of ownership within the European Union is additionally validated by the European Commission.

Emissions trading programmes such as the European Union Emissions Trading System (EU-ETS) complement the country-to-country trading stipulated in the Kyoto Protocol by allowing private trading of permits. Under such programmes – which are generally co-ordinated with the national emissions targets provided within the framework of the Kyoto Protocol – a national or international authority allocates permits to individual companies based on established criteria, with a view to meeting national and/or regional Kyoto targets at the lowest overall economic cost.[14]

Other greenhouse gases can also be traded, but are quoted as standard multiples of carbon dioxide with respect to their global warming potential. These features reduce the quota's financial impact on business, while ensuring that the quotas are met at a national and international level.

Exchanges trading in UNFCCC related carbon credits include the European Climate Exchange, NASDAQ OMX Commodities Europe, PowerNext, Commodity Exchange Bratislava and the European Energy Exchange. The Chicago Climate Exchange participated until 2010.[15] NASDAQ OMX Commodities Europe listed a contract to trade offsets generated by a CDM carbon project called Certified Emission Reductions. Many companies now engage in emissions abatement, offsetting, and sequestration programs to generate credits that can be sold on one of the exchanges. At least one private electronic market has been established in 2008: CantorCO2e.[16] Carbon credits at Commodity Exchange Bratislava are traded at special platform called Carbon place.[17] Various proposals for linking international systems across markets are being investigated. This is being coordinated by the International Carbon Action Partnership (ICAP).[18]


Efficiency and equity[edit]

For the purposes of analysis, it is possible to separate efficiency (achieving a given objective at lowest cost) and equity (fairness).[19] Economists generally agree that to regulate emissions efficiently, all polluters need to face the full costs of their actions (that is, the full marginal social costs of their actions).[20] Regulation of emissions that is applied only to one economic sector or region drastically reduces the efficiency of efforts to reduce global emissions.[21] There is, however, no scientific consensus over how to share the costs and benefits of reducing future climate change (mitigation of climate change), or the costs and benefits of adapting to any future climate change (see also economics of global warming).

Carbon leakage[edit]

A domestic carbon emissions trading scheme can only regulate the emissions of the country having the trading scheme. In this case, GHG emissions can "leak" (carbon leakage) to another region or sector with less regulation (p. 21). Leakages may be positive, where they reduce the effectiveness of domestic emission abatement efforts. Leakages may also be negative, and increase the effectiveness of domestic abatement efforts (negative leakages are sometimes called spillover) (IPCC, 2007).[22] For example, a carbon tax applied only to developed countries might lead to a positive leakage to developing countries (Goldemberg et al., 1996, pp. 27–28). However, a negative leakage might also occur due to technological developments driven by domestic regulation of GHGs.[23] This can help to reduce emissions even in less regulated regions.

Competitiveness risks[edit]

One way of addressing carbon leakage is to give sectors vulnerable to international competition free emission permits (Carbon Trust, 2009).[24] This acts as a subsidy for the sector in question. Free allocation of permits was opposed by the Garnaut Climate Change Review as it considered there were no circumstances that justify it and that governments could deal with market failure or claims for compensation more transparently with the revenue from full auctioning of permits.[25] The economically efficient option would, however, be border adjustments (Neuhoff, 2009;[26] Newbery, 2009).[27] Border adjustments work by setting a tariff on imported goods from less regulated countries. A problem with border adjustments is that they might be used as a disguise for trade protectionism.[28] Some types of border adjustment may also not prevent emissions leakage.

Issuing the permits: 'grandfathering' versus auctions[edit]

Tradable emissions permits can be issued to firms within an ETS by two main ways: by free allocation of permits to existing emitters or by auction.[29] Allocating permits based on past emissions is called "grandfathering" (Goldemberg et al., 1996, p. 38). Grandfathering permits, just like the other option of selling (auctioning) permits, sets a price on emissions. This gives permit-liable polluters an incentive to reduce their emissions. However, grandfathering permits can lead to perverse incentives, e.g., a firm that aimed to cut emissions drastically would then be given fewer permits in the future. Allocation may also slow down technological development towards less polluting technologies.[30] The Garnaut Climate Change Review noted that 'grandfathered' permits are not 'free'. As the permits are scarce they have value and the benefit of that value is acquired in full by the emitter. The cost is imposed elsewhere in the economy, typically on consumers who cannot pass on the costs.[25] However, profit-maximising firms receiving free permits will raise prices to customers because of the new, non-zero cost of emissions.[31]

A second method of "grandfathering" is to base allocations on current production of economic goods, rather than historical emissions. Under this method of allocation, government will set a benchmark level of emissions for each good deemed to be sufficiently trade exposed and allocate firms units based on their production of this good. However, allocating permits in proportion to output implicitly subsidises production.[32] The Garnaut Report noted that any method for free permit allocation will have the disadvantages of high complexity, high transaction costs, value-based judgements, and the use of arbitrary emissions baselines.[25]

On the other hand, auctioning permits provides the government with revenues. These revenues could be used to fund low-carbon investment, and also fund cuts in distortionary taxes. Auctioning permits can therefore be more efficient and equitable than allocating permits (Hepburn, 2006, pp. 236–237).[33] Ross Garnaut stated that full auctioning will provide greater transparency and accountability and lower implementation and transaction costs as governments retain control over the permit revenue.[25]

Recycling of revenue from permit auctions could offset a significant proportion of the economy-wide social costs of a cap and trade scheme.[34] As well as reducing tax distortions, Kerr and Cramton (1998) note that auctions of units are more flexible in distributing costs, they provide more incentives for innovation, and they lessen the political arguments over the allocation of economic rents.[35]

Lobbying for free allocation[edit]

According to Hepburn,[33]: 238–239  "it should be expected that industry will lobby furiously against any auctioning". Hepburn et al. (2006) state that it is an empirical fact that while businesses tend to oppose auctioning of emissions permits, economists almost uniformly recommend auctioning permits.[36] Garnaut notes that the complexity of free allocation, and the large amounts of money involved, encourage non-productive rent-seeking behaviour and lobbying of governments, activities that dissipate economic value.[25]

Distribution of allowances[edit]

Emission allowances may be given away for free or auctioned. In the first case, the government receives no carbon revenue and in the second it receives (on average) the full value of the permits. In either case, permits will be equally scarce and just as valuable to market participants. Since the private market (for trading permits) determines the final price of permits (at the time they must be used to cover emissions), the price will be the same in either case (free or auctioned). This is generally understood.

A second point about free permits (usually "grandfathered", i.e. given out in proportion to past emissions) has often been misunderstood. Companies that receive free permits, treat them as if they had paid full price for them. This is because using carbon in production has the same cost under both arrangements. With auctioned permits, the cost is obvious. With free permits, the cost is the cost of not selling the permit at full value—this is termed an "opportunity cost". Since the cost of emissions is generally a marginal cost (increasing with output), the cost is passed on by raising the cost of output (e.g. raising the cost of gasoline or electricity).

Windfall profits[edit]

A company that receives permits for free will pass on its opportunity cost in the form of higher product prices. Hence, if it sells the same amount of output as before that cap, with no change in production technology, the full value (at the market price) of permits received for free becomes windfall profits. However, since the cap reduces output and often causes the company to incur costs to increase efficiency, windfall profits will be less than the full value of its free permits.[37]

Generally speaking, if permits are allocated to emitters for free, they will profit from them. But if they must pay full price, or if carbon is taxed, their profits will be reduced. If the carbon price exactly equals the true social cost of carbon, then long-run profit reduction will simply reflect the consequences of paying this new cost. If having to pay this cost is unexpected, then there will likely be a one-time loss that is due to the change in regulations and not simply due to paying the real cost of carbon. However, if there is advanced notice of this change, or if the carbon price is introduced gradually, this one-time regulatory cost will be minimized. There has now been enough advance notice of carbon pricing that this effect should be negligible on average.

Market trends[edit]

Carbon taxes and emission trading worldwide
Emissions trading and carbon taxes around the world (2021)[38]
  Carbon tax implemented or scheduled
  Carbon emission trading implemented or scheduled
  Carbon emission trading or carbon tax under consideration

Carbon emissions trading increased rapidly in 2021 with the start of the Chinese national carbon trading scheme.[39] The increasing costs of permits on the EU ETS have had the effect of increasing costs of coal power.[40]

A 2019 study by the American Council for an Energy Efficient Economy (ACEEE) finds that efforts to put a price on greenhouse gas emissions are growing in North America. "In addition to carbon taxes in effect in Alberta, British Columbia and Boulder, Colorado, cap and trade programs are in effect in California, Quebec, Nova Scotia and the nine northeastern states that form the Regional Greenhouse gas Initiative (RGGI). Several other states and provinces are currently considering putting a price on emissions."[41]

Business reaction[edit]

The International Air Transport Association, whose 230 member airlines comprise 93% of all international traffic, position is that trading should be based on "benchmarking", setting emissions levels based on industry averages, rather than "grandfathering", which would use individual companies' previous emissions levels to set their future permit allowances. They argue grandfathering "would penalise airlines that took early action to modernise their fleets, while a benchmarking approach, if designed properly, would reward more efficient operations".[42]

In 2021 shipowners said they are against being included in the EU ETS.[43]


Chicago Climate Justice activists protesting cap and trade legislation in front of Chicago Climate Exchange building in Chicago Loop

Emissions trading has been criticized for a variety of reasons. For example, in the popular science magazine New Scientist, Lohmann (2006) argued that trading pollution allowances should be avoided as a climate stabilization policy for several reasons. First, climate change requires more radical changes than previous pollution trading schemes such as the US SO2 market. It requires reorganizing society and technology to "leave most remaining fossil fuels safely underground". Carbon trading schemes have tended to reward the heaviest polluters with 'windfall profits' when they are granted enough carbon credits to match historic production. Expensive long-term structural changes will not be made if there are cheaper sources of carbon credits which are often available from less developed countries, where they may be generated by local polluters at the expense of local communities.[44]

Critics of carbon trading, such as Carbon Trade Watch, argue that it places disproportionate emphasis on individual lifestyles and carbon footprints, distracting attention from the wider, systemic changes and collective political action that needs to be taken to tackle climate change.[45][full citation needed] Groups such as the Corner House have argued that the market will choose the easiest means to save a given quantity of carbon in the short term, which may be different from the pathway required to obtain sustained and sizable reductions over a longer period, and so a market-led approach is likely to reinforce technological lock-in. For instance, small cuts may often be achieved cheaply through investment in making a technology more efficient, where larger cuts would require scrapping the technology and using a different one. They also argue that emissions trading is undermining alternative approaches to pollution control[clarification needed] with which it does not combine well, and so the overall effect it is having is to actually stall significant change to less polluting technologies. In September 2010, campaigning group FERN released "Trading Carbon: How it works and why it is controversial"[46][full citation needed]which compiles many of the arguments against carbon trading.

The Financial Times published an article about cap-and-trade systems which argued that "Carbon markets create a muddle" and "...leave much room for unverifiable manipulation".[47] Lohmann (2009) pointed out that emissions trading schemes create new uncertainties and risks,[vague] which can be commodified by means of derivatives, thereby creating a new speculative market.[48][clarification needed]

In China some companies started artificial production of greenhouse gases with sole purpose of their recycling and gaining carbon credits. Similar practices happened in India. Earned credit were then sold to companies in US and Europe.[49][50]

Proposals for alternative schemes to avoid the problems of cap-and-trade schemes include Cap and Share,[clarification needed] which was considered by the Irish Parliament in 2008, and the Sky Trust schemes.[51] These schemes stated that cap-and-trade schemes inherently impact the poor and those in rural areas, who have less choice in energy consumption options.

Carbon trading has been criticised as a form of colonialism, in which rich countries maintain their levels of consumption while getting credit for carbon savings in inefficient industrial projects.[52] Nations that have fewer financial resources may find that they cannot afford the permits necessary for developing an industrial infrastructure, thus inhibiting these countries economic development.

The Kyoto Protocol's Clean Development Mechanism has been criticised for not promoting enough sustainable development.

Another criticism is the claimed possibility of non-existent emission reductions being recorded under the Kyoto Protocol due to the surplus of allowances that some countries possess. For example, Russia had a surplus of allowances due to its economic collapse following the end of the Soviet Union.[52] Other countries could have bought these allowances from Russia, but this would not have reduced emissions. Rather, it would have been simply be a redistribution of emissions allowances. In practice, Kyoto Parties have as yet chosen not to buy these surplus allowances.[53]

Flexibility, and thus complexity, inherent in cap and trade schemes has resulted in a great deal of policy uncertainty surrounding these schemes. Such uncertainty has beset such schemes in Australia, Canada, China, the EU, India, Japan, New Zealand, and the US. As a result of this uncertainty, organizations have little incentive to innovate and comply, resulting in an ongoing battle of stakeholder contestation for the past two decades.[54]

Lohmann (2006b) supported conventional regulation, green taxes, and energy policies that are "justice-based" and "community-driven".[55] According to Carbon Trade Watch (2009), carbon trading has had a "disastrous track record". The effectiveness of the EU ETS was criticized, and it was argued that the CDM had routinely favoured "environmentally ineffective and socially unjust projects".[56]

Annie Leonard's 2009 documentary The Story of Cap and Trade criticized carbon emissions trading for the free permits to major polluters giving them unjust advantages, cheating in connection with carbon offsets, and as a distraction from the search for other solutions.[57]


Forest campaigner Jutta Kill (2006) of European environmental group FERN argued that offsets for emission reductions were not substitute for actual cuts in emissions. Kill stated that "[carbon] in trees is temporary: Trees can easily release carbon into the atmosphere through fire, disease, climatic changes, natural decay and timber harvesting."[58]

Permit supply level[edit]

Regulatory agencies run the risk of issuing too many emission credits, which can result in a very low price on emission permits.[59] This reduces the incentive that permit-liable firms have to cut back their emissions. On the other hand, issuing too few permits can result in an excessively high permit price.[60] This is an argument for a hybrid instrument having a price-floor, i.e., a minimum permit price, and a price-ceiling, i.e., a limit on the permit price. However, a price-ceiling (safety value) removes the certainty of a particular quantity limit of emissions.[61]

Permit allocation versus auctioning[edit]

If polluters receive emission permits for free ("grandfathering"), this may be a reason for them not to cut their emissions because if they do they will receive fewer permits in the future.[62]

This perverse incentive can be alleviated if permits are auctioned, i.e., sold to polluters, rather than giving them the permits for free.[60] Auctioning is a method for distributing emission allowances in a cap-and-trade system whereby allowances are sold to the highest bidder. Revenues from auctioning go to the government and can be used for development of sustainable technology[63] or to cut distortionary taxes, thus improving the efficiency of the overall cap policy.[64]

On the other hand, allocating permits can be used as a measure to protect domestic firms who are internationally exposed to competition.[60] This happens when domestic firms compete against other firms that are not subject to the same regulation. This argument in favor of allocation of permits has been used in the EU ETS, where industries that have been judged to be internationally exposed, e.g., cement and steel production, have been given permits for free).[65]

Structuring issues[edit]

Corporate and governmental carbon emission trading schemes have been modified in ways that have been attributed to permitting money laundering to take place.[66][67] The principal point here is that financial system innovations (outside banking) open up the possibility for unregulated (non-banking) transactions to take place in relativity unsupervised markets.

Carbon leakage[edit]

The current state of carbon emissions trading shows that roughly 22% of global greenhouse emissions are covered by 64 carbon taxes and emission trading systems as of 2021.[68] This means that there are still several member states that have not ratified the Kyoto Protocol. This is a cause of concern for energy intensive industries that are covered by such instruments that claim that there is a loss of competitiveness. Such corporations are thereby forced to take strategic production decisions that contribute to the issue of carbon leakage. To mitigate carbon leakage and its effects on the environment, policymakers need to harmonize international climate policies and provide incentives to prevent companies from relocating production to regions with more lenient environmental regulations.[69] A level playing field for businesses across the globe is essential for maintaining competitiveness while effectively combating climate change.


"Economy-wide pricing of carbon is the centre piece of any policy designed to reduce emissions at the lowest possible costs".

Ross Garnaut, lead author of the Garnaut Climate Change Review in 2011[70]

The process began in Rio de Janeiro in 1992, when 160 countries agreed the UN Framework Convention on Climate Change (UNFCCC). The necessary detail was left to be settled by the UN Conference of Parties (COP).

In 1997, the Kyoto Protocol was the first major agreement to reduce greenhouse gases. 38 developed countries (Annex 1 countries) committed themselves to targets and timetables.[71] The resulting inflexible limitations on GHG growth could entail substantial costs if countries have to solely rely on their own domestic measures.[72]

The following is the estimated size of the worldwide carbon market according to the World Bank:[73][74]

Volume (millions metric tonnes, MtCO2)

  • 2005: 718 (330 in Main Allowances Markets & 388 in Project based transactions)
  • 2006: 1,745 (1,134 in Main Allowances Markets & 611 in Project based transactions)
  • 2007: 2,983 (2,109 in Main Allowances Markets & 874 in Project based transactions)

Examples by country[edit]


In 2003 the New South Wales (NSW) state government unilaterally established the New South Wales Greenhouse Gas Abatement Scheme[75] to reduce emissions by requiring electricity generators and large consumers to purchase NSW Greenhouse Abatement Certificates (NGACs). This has prompted the rollout of free energy-efficient compact fluorescent lightbulbs and other energy-efficiency measures, funded by the credits. This scheme has been criticised by the Centre for Energy and Environmental Markets (CEEM) of the University of New South Wales (UNSW) because of its lack of effectiveness in reducing emissions, its lack of transparency and its lack of verification of the additionality of emission reductions.[76]

Prior to the 2007 federal election, both the incumbent Howard Coalition government and the Rudd Labor opposition promised to implement an emissions trading scheme (ETS). Labor won the election, and the new government proceeded to implement an ETS. The new Rudd government introduced the Carbon Pollution Reduction Scheme, which the Liberal Party of Australia (now led by Malcolm Turnbull) supported. Tony Abbott questioned an ETS, advocating a "simple tax" as the best way to reduce emissions.[77] Shortly before the carbon vote, Abbott defeated Turnbull in a leadership challenge (1 December 2009), and from there on the Liberals opposed the ETS. This left the Rudd Labor government unable to secure passage of the bill, and it was subsequently withdrawn.

Julia Gillard defeated Rudd in a leadership challenge, becoming Federal Prime Minister in June 2010. She promised that she would not introduce a carbon tax, but would look to legislate a price on carbon[78] when taking the government to the 2010 election. In the first Australian hung-parliament result in 70 years, the Gillard Labor government required the support of crossbenchers - including the Greens. One requirement for Greens' support was a carbon price, which Gillard proceeded with in forming a minority government. A fixed carbon-price would proceed to a floating-price ETS within a few years under the plan. The fixed price lent itself to characterisation as a "carbon tax", and when the government proposed the Clean Energy Bill in February 2011,[79] the opposition denounced it as a broken election promise.[80]

The Lower House passed the bill in October 2011[81] and the Upper House in November 2011.[82] The Liberal Party vowed to repeal the bill if elected.[83] The bill thus resulted in passage of the Clean Energy Act, which possessed a great deal of flexibility in its design and uncertainty over its future.

The Liberal/National coalition government elected in September 2013 promised to reverse the climate legislation of the previous government.[84] In July 2014, the carbon tax was repealed - as well as the Emissions Trading Scheme (ETS) that was to start in 2015.[85]


The Canadian provinces of Quebec and Nova Scotia operate an emissions trading scheme. Quebec links its program with the US state of California through the Western Climate Initiative.


The Chinese national carbon trading scheme is the largest in the world. It is an intensity-based trading system for carbon dioxide emissions by China, which started operating in 2021.[86] The initial design of the system targets a scope of 3.5 billion tons of carbon dioxide emissions that come from 1700 installations.[87] It has made a voluntary pledge under the UNFCCC to lower CO2 per unit of GDP by 40–45% in 2020 when comparing to the 2005 levels.[88]

In November 2011, China approved pilot tests of carbon trading in seven provinces and cities—Beijing, Chongqing, Shanghai, Shenzhen, Tianjin, as well as Guangdong Province and Hubei Province, with different prices in each region.[89] The pilot is intended to test the waters and provide valuable lessons for the design of a national system in the near future. Their successes or failures will, therefore, have far-reaching implications for carbon market development in China in terms of trust in a national carbon trading market. Some of the pilot regions can start trading as early as 2013/2014.[90] National trading is expected to start in 2017, latest in 2020.

The effort to start a national trading system has faced some problems that took longer than expected to solve, mainly in the complicated process of initial data collection to determine the base level of pollution emission.[91] According to the initial design, there will be eight sectors that are first included in the trading system: chemicals, petrochemicals, iron and steel, non-ferrous metals, building materials, paper, power and aviation, but many of the companies involved lacked consistent data.[87] Therefore, by the end of 2017, the allocation of emission quotas have started but it has been limited to only the power sector and will gradually expand, although the operation of the market is yet to begin.[92] In this system, Companies that are involved will be asked to meet target level of reduction and the level will contract gradually.[87]

European Union[edit]

Price of CO2 in the EU Emissions Trading System
Price of CO2 in the EU Emissions Trading System

The European Union Emissions Trading System (EU ETS) is a carbon emission trading scheme (or cap and trade scheme) which began in 2005 and is intended to lower greenhouse gas emissions by the European Union countries. Cap and trade schemes limit emissions of specified pollutants over an area and allow companies to trade emissions rights within that area. The EU ETS covers around 45% of the EU's greenhouse gas emissions.[93]

The scheme has been divided into four "trading periods". The first ETS trading period lasted three years, from January 2005 to December 2007. The second trading period ran from January 2008 until December 2012, coinciding with the first commitment period of the Kyoto Protocol. The third trading period lasted from January 2013 to December 2020. Compared to 2005, when the EU ETS was first implemented, the proposed caps for 2020 represents a 21% reduction of greenhouse gases. This target has been reached six years early as emissions in the ETS fell to 1.812 billion (109) tonnes in 2014.[94]

The fourth phase started in January 2021 and will continue until December 2030. The emission reductions to be achieved over this period are unclear as of November 2021, as the European Green Deal necessitates tightening of the current EU ETS reduction target for 2030 of −43% with respect to 2005. The EU commission proposes in its "Fit for 55" package to increase the EU ETS reduction target for 2030 to −61% compared to 2005.[95][96]

EU countries view the emissions trading scheme as necessary to meeting climate goals. A strong carbon market guides investors and industry in their transition from fossil fuels.[97] A 2020 study found that the EU ETS successfully reduced CO2 emissions even though the prices for carbon were set at low prices.[98] A 2023 study on the effects of the EU ETS identified a reduction in carbon emissions in the order of -10% between 2005 and 2012 with no impacts on profits or employment for regulated firms.[99] The price of EU allowances exceeded 100€/tCO2 ($118) in February 2023.[97]


Trading is set to begin in 2014 after a three-year rollout period. It is a mandatory energy efficiency trading scheme covering eight sectors responsible for 54 per cent of India's industrial energy consumption. India has pledged a 20 to 25 per cent reduction in emission intensity from 2005 levels by 2020. Under the scheme, annual efficiency targets will be allocated to firms. Tradable energy-saving permits will be issued depending on the amount of energy saved during a target year.[90][needs update]


Japan as a country does not have a compulsory emissions trading scheme. The government in 2010 (the Hatoyama cabinet) had planned to introduce one, but the plan lost momentum after Hatoyama resigned as prime minister, due partly from industrial opposition,[100] and was eventually shelved. Japan has a voluntary scheme. Furthermore, the Kyoto Prefecture has a voluntary emissions trading scheme.[101]

Two regional mandatory schemes exist however, in Tokyo and Saitama Prefecture. The city of Tokyo consumes as much energy as "entire countries in Northern Europe, and its production matches the GNP of the world's 16th largest country". A cap-and-trade carbon trading scheme launched in April 2010 covers the top 1,400 emitters in Tokyo, and is enforced and overseen by the Tokyo Metropolitan Government.[102][103] Phase 1, which was similar to Japan's voluntary scheme, ran until 2015.[104] Emitters had to cut their emissions by 6% or 8% depending on the type of organization; from 2011, those who exceed their limits were required to buy matching allowances, or invest in renewable-energy certificates, or offset credits issued by smaller businesses or branch offices.[105] Polluters that failed to comply were liable up to 500,000 yen in fines plus credits for 1.3 times excess emissions.[106] In its fourth year, emissions were reduced by 23% compared to base-year emissions.[107] In phase 2 (FY2015–FY2019), the target was expected to increase to 15–17%. The aim was to cut Tokyo's carbon emissions by 25% from 2000 levels by 2020.[105]

One year after Tokyo launched its cap-and-trade scheme, the neighbouring Saitama Prefecture launched a highly similar scheme. The two schemes are connected.[101]

New Zealand[edit]

New Zealand Unit Prices

The New Zealand Emissions Trading Scheme (NZ ETS) is an all-gases partial-coverage uncapped domestic emissions trading scheme that features price floors, forestry offsetting, free allocation and auctioning of emissions units.

The NZ ETS was first legislated in the Climate Change Response (Emissions Trading) Amendment Act 2008 in September 2008 under the Fifth Labour Government of New Zealand[108][109] and then amended in November 2009[110] and in November 2012[111] by the Fifth National Government of New Zealand.

The NZ ETS was until 2015 highly linked to international carbon markets as it allowed unlimited importing of most of the Kyoto Protocol emission units. There is a domestic emission unit; the 'New Zealand Unit' (NZU), which was initially issued by free allocation to emitters until auctions of units commenced in 2020.[112] The NZU is equivalent to 1 tonne of carbon dioxide. Free allocation of units varies between sectors. The commercial fishery sector (who are not participants) received a one-off free allocation of units on a historic basis.[113] Owners of pre-1990 forests received a fixed free allocation of units.[114] Free allocation to emissions-intensive industry,[115][116] is provided on an output-intensity basis. For this sector, there is no set limit on the number of units that may be allocated.[117][118] The number of units allocated to eligible emitters is based on the average emissions per unit of output within a defined 'activity'.[119] Bertram and Terry (2010, p 16) state that as the NZ ETS does not 'cap' emissions, the NZ ETS is not a cap and trade scheme as understood in the economics literature.[120]

Some stakeholders have criticised the New Zealand Emissions Trading Scheme for its generous free allocations of emission units and the lack of a carbon price signal (the Parliamentary Commissioner for the Environment),[121] and for being ineffective in reducing emissions (Greenpeace Aotearoa New Zealand).[122]

South Korea[edit]

South Korea's national emissions trading scheme officially launched on January 1, 2015, covering 525 entities from 23 sectors. With a three-year cap of 1.8687 billion tCO2e, it now forms the second largest carbon market in the world following the EU ETS. This amounts to roughly two-thirds of the country's emissions. The Korean emissions trading scheme is part of the Republic of Korea's efforts to reduce greenhouse gas emissions by 30% compared to the business-as-usual scenario by 2020.[107]

United Kingdom[edit]

The UK Emissions Trading Scheme (UK ETS) is the carbon emission trading scheme of the United Kingdom.[123] It is cap and trade and came into operation on 1 January 2021 following the UK's departure from the European Union.[124] The cap is reduced in line with the UK's 2050 net zero commitment.[125]

United States[edit]

As of 2017, there is no national emissions trading scheme in the United States. Failing to get Congressional approval for such a scheme, President Barack Obama instead acted through the United States Environmental Protection Agency to attempt to adopt through rulemaking the Clean Power Plan, which does not feature emissions trading. The plan was subsequently challenged by the administration of President Donald Trump.

Concerned at the lack of federal action, several states on the east and west coasts have created sub-national cap-and-trade programs.

President Barack Obama in his proposed 2010 United States federal budget wanted to support clean energy development with a 10-year investment of US$15 billion per year, generated from the sale of greenhouse gas (GHG) emissions credits. Under the proposed cap-and-trade program, all GHG emissions credits would have been auctioned off, generating an estimated $78.7 billion in additional revenue in FY 2012, steadily increasing to $83 billion by FY 2019.[126] The proposal was never made law.

The American Clean Energy and Security Act (H.R. 2454), a greenhouse gas cap-and-trade bill, was passed on 26 June 2009, in the House of Representatives by a vote of 219–212. The bill originated in the House Energy and Commerce Committee and was introduced by Representatives Henry A. Waxman and Edward J. Markey.[127] The political advocacy organizations FreedomWorks and Americans for Prosperity, funded by brothers David and Charles Koch of Koch Industries, encouraged the Tea Party movement to focus on defeating the legislation.[128][129] Although cap and trade also gained a significant foothold in the Senate via the efforts of Republican Lindsey Graham, Independent and former Democrat Joe Lieberman, and Democrat John Kerry,[130] the legislation died in the Senate.[131]

Global carbon market[edit]

A global (international) carbon market can play a significant role in stopping climate change. The Paris Agreement provided a legal base for its creation.[132] In the beginning of 2024 the idea made some progress, as in the Bonn meeting new tools and supervisory bodies was created. One of the purposes is to address human rights issues during the implementation of the mechanism. To establish such market, capacity building measures in participating countries are needed. Those measures are advancing "with the number of designated national authorities rising to 72 on 1 March from 64 on 2 November."[133]

The rules of the European Union Emissions Trading System include the possibility of connecting it with other trading systems. This had already happened with the Switzerland emissions trading system.[132][134] China expressed a support for a global carbon market, saying it is better than the Carbon Border Adjustment Mechanism of the European Union.[135]

In 2023 the global value of carbon markets was $948.75 billion.[136] It is expected to reach 2.68 trillion dollars by 2028 [137] and 22 trillion by 2050.[138]

Society and culture[edit]

Public opinion[edit]

In the United States, most polling shows large support for emissions trading (often referred to as cap-and-trade). This majority support can be seen in polls conducted by The Washington Post/ABC News,[139] Zogby International[140] and Yale University.[141] According to PolitiFact, it is a misconception that emissions trading is unpopular in the United States because of earlier polls from Zogby International and Rasmussen which misleadingly include "new taxes" in the questions (taxes are not part of emissions trading) or high energy cost estimates.[142]

See also[edit]


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