The European Commission has proposed a major reform of EU carbon markets beyond 2030. The package combines targeted scope expansion, slower reductions in EUA supply, higher free allocations, and new support mechanisms for industrial decarbonisation. These measures seek to lower future carbon costs rises for industry.
(Last update on 21/07/2026)
Reforms to alleviate carbon costs
The European Commission (EC) has published its long-awaited review of the EU Emissions Trading System (ETS). It presented a reform alongside the Electrification Action Plan to balance industrial competitiveness, decarbonisation and energy security while keeping the EU on track towards its 2040 climate target.
The ETS remains the EU’s main instrument to achieve its climate targets. Under the ETS-1, energy and industry installations need allowances for each tonne of carbon they emit.
The EU ETS is established under Directive (EC) 2003/87. Its most recent major reform was adopted through Directive (EU) 2023/959 as part of the Green Deal and Fit-for-55 package. This package also introduced the EU Carbon Border Adjustment Mechanism (CBAM) to phase-out free emission allowances in the ETS.
CBAM aims to reduce the risk of carbon leakage when carbon costs in Europe rise. Under CBAM, also importers need to pay a carbon price through CBAM certificates. Changes to the EU ETS therefore influence both carbon costs for European producers and importers.
The current review comes against a backdrop of increasing pressure from industry. Many companies argue that carbon costs, energy prices and global overcapacities are creating challenges for European manufacturing. The EC’s proposals seek to introduce more flexibility while maintaining the overall ETS framework.
In addition to an impact assessment, the EC’s review package includes proposals for the reform of the ETS mechanism (Proposal 2026/0212 (COD)), update of ETS benchmarks (Proposal 2026/0211 (COD)) and revision of MRV rules (Proposal 2026/0210 (COD)).
Under the ordinary legislative procedure, the reform proposals will now move through the “trilogue process”. Parliament and Council are expected to develop their positions during the second half of 2026 before trilogue negotiations begin.
ETS reform levers and their impact on carbon costs
As a cap-and-trade mechanism, the EU ETS sets the number of EU Emission Allowances (EUA) with prices determined by the market. From our analysis, the reform proposals can be grouped into 4 main levers that influence carbon costs.
Expanding ETS scope
One objective of the review is to the extend carbon pricing and decarbonization incentives to additional emissions sources. A range of activities have been assessed for inclusion in the ETS.
The proposal introduces several targeted scope extensions:
- Aviation: Extension to EEA flights to non-EEA airports located within 5,000 km between 2029 and 2032, subject to further review;
- Maritime: Examination of the inclusion of smaller ships below 5,000 gross tonnage but above 400 gross tonnage no later than by 2031;
- Waste: Gradual inclusion of municipal waste incineration installations into the EU ETS from 2031 onwards.
These changes bring more activities and installations into the ETS. The result is additional demand for allowances and further companies facing direct carbon costs and pressure to decarbonize.
Raising EUA supply
Further measures keep the supply of EUA higher than previously planned. The EC has argued that the EU ETS must remain aligned with the 2040 climate target while also maintaining predictability and competitiveness. The review also builds on earlier proposals for amending the role of the Market Stability Reserve (MSR).
Several measures reduce the pace of EUA scarcity:
- Linear Reduction Factor (LRF) lowering from the current 4.4% trajectory to 3.7% during 2031-2035 and 1.7% during 2036-2040;
- International carbon credits of up to 260 Mt to be used under defined conditions (Article 6) between 2036 and 2040;
- Carbon removals of up to 250 Mt could be integrated between 2031 and 2040 through CRCF-certified permanent removals, i.e. BioCCS and DACCS;
- Market Stability Reserve (MSR) intake rate would revert to the former 12% from 2028 onwards and the reserve architecture is adjusted, including changes to release thresholds and reserve management.
Taken together, these measures reduce the pace at which the ETS cap declines. The practical result is a larger supply of EUA compared with the current trajectory. This could ease carbon price pressure relative to the existing Fit-for-55 framework while maintaining the overall ETS architecture.
Increasing free allocations
A larger share of EUA are still handed out for free to industry. With the start of CBAM, free EUA are gradually phased out. The EC proposes changes to slow this phase-out. These changes complement the recently proposed benchmark updates.
The reform increases the availability of free allocation through:
- Cross-Sectoral Correction Factor (CSCF) buffer increase to 4% of the cap;
- CBAM factor revisions to extend free allocation beyond 2034 with a factor of 15% remaining in place until 2038;
- Benchmarks 2026-30 continue to be based on the 10% most efficient installations, while the annual update corridor for 2031-2040 is revised to be 0.3%-2.0%;
- Conditionality of free allocations to decarbonisation investment plans (80% of free EUA) and implementation and verification requirements (20%).
These measures reduce the speed at which free allocations decline. As a result, industrial companies would need to purchase fewer EUA or CBAM certificates than under the current phase-out schedule.
Supporting decarbonisation investments
The EC recognizes that carbon pricing alone is not sufficient to deliver industrial transformation. Large investments in low-carbon technologies will be required across steel, chemicals, cement, metals and other industrial sectors.
The package introduces revised funding mechanisms:
- Auction revenues of at least 50% to be spent for decarbonization support by Member States;
- Industrial Decarbonisation Bank with a two-stage support: (a) Investment Booster (2028-2030) with 400 mio EUA allocated on a first-come, first-served basis to verified emissions avoidance, and (b) competitive bidding of further 400 mio EUA from 2031 onwards through Carbon Contracts for Difference (CCfDs);
- Innovation Fund: Continued operation after 2030 with an allocation of 200 mio EUA.
The reform package creates a revised financing framework for industrial decarbonisation. Companies investing in low-carbon technologies may gain access to additional support mechanisms. These measures may help mobilise investments required to reduce future emissions exposure.
Review industrial decarbonization measures
The proposed reforms have prompted mixed reactions. First assessments show that the significant oversupply of EUA risks suppressing carbon prices and undermining the EU’s 2040 climate target.
Also in industry there are different view points. On the one hand, many industrial associations call for even stronger measures to keep carbon costs down. On the other hand, companies that have already invested in low-carbon technologies are concerned that these reforms would weaken the return on those investments.
As the proposals now move through Parliament and Council negotiations, this debate across parties and Member States will continue. Differing proposals and further changes can be expected. The EC proposals, however, set the agenda and the carbon costs levers to be revised.
Against this backdrop, industrial companies can stay on top of the reforms by:
- Tracking further policy developments and proposed changes in Parliament, Council and trilogue negotiations;
- Assessing policy impacts to update long-term carbon price scenarios and investment assumptions to review compliance costs and investment plans;
- Evaluating potential actions and opportunities, e.g., from scope expansion, CDR integration or the Investment Booster.
The proposals point towards a less stringent carbon market than under the current trajectory. However, carbon prices remain an important cost factor for industrial companies. And with CBAM and its proposed downstream exposure an increasing number of companies face financial and compliance burdens.
Sources and further information:
- EC: Impact Assessment of ETS Directive
- EC: Reform of ETS mechanism (Proposal 2026/0212 (COD))
- EC: Update of ETS benchmarks (Proposal 2026/0211 (COD))
- EC: MRV rules in the ETS (Proposal 2026/0210 (COD))
Photo by Wolfgang Weiser on Unsplash
