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Advanced Review
The effects and side-effects
of the EU emissions
trading scheme
Timothy Laing,1 Misato Sato, 2∗ Michael Grubb3 and
Claudia Comberti4
As many countries, regions, cities, and states implement emissions trading policies
to limit CO2 emissions, they turn to the European Union’s experience with its
emissions trading scheme since 2005. As a prominent example of a regional carbon
pricing policy, it has attracted significant attention from scholars interested in
evaluating the effectiveness and impacts of emissions trading. Among the key
difficulties faced by researchers is isolating the effect of the EU ETS on industry
operation, investment, and pricing decisions from other dominant factors such
as the financial crisis, and establishing credible counterfactual scenarios against
this backdrop. This article reviews the evidence, focusing on two intended effects
(emissions abatement and investment in low-carbon technologies) as well as two
side-effects (profits and price impacts). We find that the EU ETS cut CO 2 emissions
by 40–80 million t/year on average, or 2–4% of the total capped, while the evidence
on innovation and investment impacts is inconclusive. There is strong empirical
support for cost-pass through in electricity (20–100%), in diesel and gasoline
(>50%), and some preliminary evidence of pricing power in other industrial sectors.
Windfall profits have amounted to billions of Euros, and concentrated in a few large
companies. © 2014 John Wiley & Sons, Ltd.
How to cite this article:
WIREs Clim Change 2014, 5:509–519. doi: 10.1002/wcc.283
INTRODUCTION
The EU emissions trading system (EU ETS)
launched in 2005, is Europe’s flagship climate
change policy to meet its carbon mitigation objectives.
Currently in its third phase of operation (2008–2020),
it encompasses over 11,500 installations across 30
countries (including Norway, Liechtenstein, and Ice-
land) and covers over 40% of total EU emissions.
∗Correspondence to: [email protected]
1 Department of Geography and Environment, London School of
Economics, London, UK
2 Grantham Research Institute on Climate Change and the Environ-
ment, London School of Economics and Political Science, London,
UK
3 4CMR, Department of Land Economy, University of Cambridge,
Cambridge, UK
4 Environmental Change Institute, University of Oxford, Oxford,
UK
Conflict of interest: The authors have declared no conflicts of
interest for this article.
Its first eight years of operation has been anything
but smooth, and characterized by over-allocation of
allowances and a series of price crashes. The large
surplus of allowances in the system at the end of
Phase II (2008–2012), set against the background of
the decline in global economic activity because of the
financial crisis, have led to a series of concerted efforts
to buttress the system in future Phases, including pro-
posals for backloading of allowances (the withdrawal
of allowances from the system to reduce surpluses,
before reintroducing the allowances at a later date)
and wider structural reform.
Lessons learnt in the design and operation of the
EU ETS, as the largest and most comprehensive emis-
sions trading system, however, provide an invaluable
toolkit for system design in other jurisdictions. 1 New
Zealand, California, Australia, South Korea, and
Shenzhen already implement emissions trading mar-
kets, and many others are in the pipeline. There is keen
interest from policy makers worldwide to understand
outcomes that are both intended—reduced carbon
Volume 5, July/August 2014 © 2014 John Wiley & Sons, Ltd. 509
Advanced Review wires.wiley.com/climatechange
emissions and greater investment in innovation and
low-carbon technologies—and also ‘unintended’
outcomes such as price effects, competitiveness
impacts and windfall profits.
With the wealth of data available has emerged
a new and enormous wave of ex-post EU ETS eval-
uation studies examining the early evidence. Largely
falling within the program evaluation strand of the
environmental economics literature, they use creative
and advanced approaches to work around method-
ological and data obstacles. Scores of papers have ana-
lyzed the performance of the scheme in relation to a
variety of aspects including allocation rules, electric-
ity sector impacts, uncertainty and price volatility, and
competitiveness. In parallel, on-going efforts to sub-
ject these studies to critical synthesis2 – 5 Giúp draw out
lessons, but at the same time highlight the difficulty
in teasing out the effect of the nascent policy rela-
tive to many confounding factors such as economic
shocks and rising fuel prices. Previous reviews also
discuss aspects around regulatory and technical issues
of emissions trading6 and the historic context of its
development.7
The EU ETS affects corporate actors through
a number of different channels, both those intended
by policy-makers, and unintended that have arisen
through the scheme’s evolution. Abatement, invest-
ment, innovation, and profits have resulted as a result
of these different channels, affecting the effectiveness
and efficiency of the scheme. Along with the price
signal, that changes decision-making regarding invest-
ments and operating processes authors have high-
lighted that the ‘institutional weight’ of the EU ETS
has created attention, experimentation, learning along
with investment with regard to low-carbon technolo-
gies and processes that otherwise would not have been
employed.8 These multiple of channels has created
intended and unintended effects that have affected
both the efficiency and the equality of the scheme.
This article revisits the two central and intended
objectives of the EU ETS: (1) to reduce GHG emissions
efficiently, at a negotiated balance of cost and envi-
ronmental gain and (2) to promote corporate invest-
ment in low carbon technologies, focusing on insights
from the economics and political economy literature. 9
This literature has been arguably the most vocal
in discussing the EU ETS though there are notable
contributions in a number of other fields notably
governance10 and law—especially that regarding com-
petitiveness aspects as reviewed succinctly by Branger
and Quirion.11
The extent to which the EU ETS has contributed
toward emissions reductions and carbon-intensity
improvements remain key indicators of the System’s
environmental performance. There has been a large
debate, predominantly in the policy space regarding
the effectiveness of the EU ETS,12 but there has been
surprisingly little in the academic sphere.
The analysis of the two indicators of direct
and intended effects of the ETS is complemented
by an examination of the two unintended, indirect
effects—impacts on profits and product prices. These
unintended effects are key to understanding both
important second-order effects such as carbon leak-
age and competitiveness, but also possible first-order
effects such as changes in abatement behavior and
investment incentives that the evidence of the EU ETS
has highlighted may arise in trading schemes.13,14 In
doing so, it tries to contribute to the rapid learn-
ing process around efforts to implement national and
regional carbon prices in the absence of a global price.
The next section will focus on emissions and
abatement impacts, separating studies that examine
the pre- and post-financial crisis periods. The third
section collects and scrutinizes evidence from stud-
ies on investment and innovation using both data at
the sector and firm level. The fourth section critically
examines both ex-ante and ex-post studies that esti-
mate the impact of EUA prices on prices, and the
extent to which they give rise to windfall profits.
Finally we offer concluding comments.
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Advanced Review
The effects and side-effects
of the EU emissions
trading scheme
Timothy Laing,1 Misato Sato, 2∗ Michael Grubb3 and
Claudia Comberti4
As many countries, regions, cities, and states implement emissions trading policies
to limit CO2 emissions, they turn to the European Union’s experience with its
emissions trading scheme since 2005. As a prominent example of a regional carbon
pricing policy, it has attracted significant attention from scholars interested in
evaluating the effectiveness and impacts of emissions trading. Among the key
difficulties faced by researchers is isolating the effect of the EU ETS on industry
operation, investment, and pricing decisions from other dominant factors such
as the financial crisis, and establishing credible counterfactual scenarios against
this backdrop. This article reviews the evidence, focusing on two intended effects
(emissions abatement and investment in low-carbon technologies) as well as two
side-effects (profits and price impacts). We find that the EU ETS cut CO 2 emissions
by 40–80 million t/year on average, or 2–4% of the total capped, while the evidence
on innovation and investment impacts is inconclusive. There is strong empirical
support for cost-pass through in electricity (20–100%), in diesel and gasoline
(>50%), and some preliminary evidence of pricing power in other industrial sectors.
Windfall profits have amounted to billions of Euros, and concentrated in a few large
companies. © 2014 John Wiley & Sons, Ltd.
How to cite this article:
WIREs Clim Change 2014, 5:509–519. doi: 10.1002/wcc.283
INTRODUCTION
The EU emissions trading system (EU ETS)
launched in 2005, is Europe’s flagship climate
change policy to meet its carbon mitigation objectives.
Currently in its third phase of operation (2008–2020),
it encompasses over 11,500 installations across 30
countries (including Norway, Liechtenstein, and Ice-
land) and covers over 40% of total EU emissions.
∗Correspondence to: [email protected]
1 Department of Geography and Environment, London School of
Economics, London, UK
2 Grantham Research Institute on Climate Change and the Environ-
ment, London School of Economics and Political Science, London,
UK
3 4CMR, Department of Land Economy, University of Cambridge,
Cambridge, UK
4 Environmental Change Institute, University of Oxford, Oxford,
UK
Conflict of interest: The authors have declared no conflicts of
interest for this article.
Its first eight years of operation has been anything
but smooth, and characterized by over-allocation of
allowances and a series of price crashes. The large
surplus of allowances in the system at the end of
Phase II (2008–2012), set against the background of
the decline in global economic activity because of the
financial crisis, have led to a series of concerted efforts
to buttress the system in future Phases, including pro-
posals for backloading of allowances (the withdrawal
of allowances from the system to reduce surpluses,
before reintroducing the allowances at a later date)
and wider structural reform.
Lessons learnt in the design and operation of the
EU ETS, as the largest and most comprehensive emis-
sions trading system, however, provide an invaluable
toolkit for system design in other jurisdictions. 1 New
Zealand, California, Australia, South Korea, and
Shenzhen already implement emissions trading mar-
kets, and many others are in the pipeline. There is keen
interest from policy makers worldwide to understand
outcomes that are both intended—reduced carbon
Volume 5, July/August 2014 © 2014 John Wiley & Sons, Ltd. 509
Advanced Review wires.wiley.com/climatechange
emissions and greater investment in innovation and
low-carbon technologies—and also ‘unintended’
outcomes such as price effects, competitiveness
impacts and windfall profits.
With the wealth of data available has emerged
a new and enormous wave of ex-post EU ETS eval-
uation studies examining the early evidence. Largely
falling within the program evaluation strand of the
environmental economics literature, they use creative
and advanced approaches to work around method-
ological and data obstacles. Scores of papers have ana-
lyzed the performance of the scheme in relation to a
variety of aspects including allocation rules, electric-
ity sector impacts, uncertainty and price volatility, and
competitiveness. In parallel, on-going efforts to sub-
ject these studies to critical synthesis2 – 5 Giúp draw out
lessons, but at the same time highlight the difficulty
in teasing out the effect of the nascent policy rela-
tive to many confounding factors such as economic
shocks and rising fuel prices. Previous reviews also
discuss aspects around regulatory and technical issues
of emissions trading6 and the historic context of its
development.7
The EU ETS affects corporate actors through
a number of different channels, both those intended
by policy-makers, and unintended that have arisen
through the scheme’s evolution. Abatement, invest-
ment, innovation, and profits have resulted as a result
of these different channels, affecting the effectiveness
and efficiency of the scheme. Along with the price
signal, that changes decision-making regarding invest-
ments and operating processes authors have high-
lighted that the ‘institutional weight’ of the EU ETS
has created attention, experimentation, learning along
with investment with regard to low-carbon technolo-
gies and processes that otherwise would not have been
employed.8 These multiple of channels has created
intended and unintended effects that have affected
both the efficiency and the equality of the scheme.
This article revisits the two central and intended
objectives of the EU ETS: (1) to reduce GHG emissions
efficiently, at a negotiated balance of cost and envi-
ronmental gain and (2) to promote corporate invest-
ment in low carbon technologies, focusing on insights
from the economics and political economy literature. 9
This literature has been arguably the most vocal
in discussing the EU ETS though there are notable
contributions in a number of other fields notably
governance10 and law—especially that regarding com-
petitiveness aspects as reviewed succinctly by Branger
and Quirion.11
The extent to which the EU ETS has contributed
toward emissions reductions and carbon-intensity
improvements remain key indicators of the System’s
environmental performance. There has been a large
debate, predominantly in the policy space regarding
the effectiveness of the EU ETS,12 but there has been
surprisingly little in the academic sphere.
The analysis of the two indicators of direct
and intended effects of the ETS is complemented
by an examination of the two unintended, indirect
effects—impacts on profits and product prices. These
unintended effects are key to understanding both
important second-order effects such as carbon leak-
age and competitiveness, but also possible first-order
effects such as changes in abatement behavior and
investment incentives that the evidence of the EU ETS
has highlighted may arise in trading schemes.13,14 In
doing so, it tries to contribute to the rapid learn-
ing process around efforts to implement national and
regional carbon prices in the absence of a global price.
The next section will focus on emissions and
abatement impacts, separating studies that examine
the pre- and post-financial crisis periods. The third
section collects and scrutinizes evidence from stud-
ies on investment and innovation using both data at
the sector and firm level. The fourth section critically
examines both ex-ante and ex-post studies that esti-
mate the impact of EUA prices on prices, and the
extent to which they give rise to windfall profits.
Finally we offer concluding comments.
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