European Union Emissions Trading System

Definition

The European Union Emissions Trading System (EU ETS) is a market-based approach to reducing greenhouse gas emissions by setting a cap on the total amount of certain greenhouse gases that can be emitted by regulated entities. It operates on the 'cap and trade' principle, where a limit is set on the total amount of emissions, and this limit is reduced over time to achieve emissions reduction targets.

5 Must Know Facts For Your Next Test

1. The EU ETS is the world's largest emissions trading system, covering around 40% of the EU's greenhouse gas emissions.
2. The system covers power stations, industrial plants, and airlines operating within the European Economic Area.
3. Participating entities are required to monitor and report their emissions, and to surrender a number of allowances equal to their emissions.
4. The number of allowances is reduced over time to achieve the EU's emissions reduction targets, which are set in line with the Paris Agreement.
5. The EU ETS has been in operation since 2005 and has undergone several phases of implementation and reform to improve its effectiveness.

Review Questions

• Explain how the cap and trade principle works within the European Union Emissions Trading System.
  • The European Union Emissions Trading System (EU ETS) operates on the 'cap and trade' principle, where a limit is set on the total amount of greenhouse gas emissions that can be emitted by regulated entities. This cap is then reduced over time to achieve emissions reduction targets. Participating entities are allocated a certain number of emissions allowances, which they can trade on the market. If an entity exceeds its allowance, it must purchase additional allowances from other participants who have reduced their emissions below their allocated limit. This creates a financial incentive for entities to invest in emissions-reducing technologies and practices.
• Describe the role of carbon pricing in the European Union Emissions Trading System and its impact on emissions reduction.
  • Carbon pricing is a key component of the European Union Emissions Trading System (EU ETS). By putting a price on the emission of carbon dioxide and other greenhouse gases, the EU ETS creates a financial incentive for regulated entities to reduce their emissions. The price of carbon allowances fluctuates based on supply and demand, and as the overall cap on emissions is reduced over time, the price of allowances is expected to increase. This price signal encourages entities to invest in low-carbon technologies and adopt more efficient practices, ultimately driving down emissions in line with the EU's climate targets.
• Evaluate the effectiveness of the European Union Emissions Trading System in achieving its emissions reduction goals and discuss potential areas for improvement.
  • The European Union Emissions Trading System (EU ETS) has been generally effective in achieving its emissions reduction goals, but it has also faced some challenges and criticism. On the positive side, the system has contributed to a significant reduction in greenhouse gas emissions from the sectors it covers, with emissions falling by over 40% since its inception in 2005. However, the system has also been criticized for issues such as over-allocation of allowances, price volatility, and concerns about carbon leakage (the risk of emissions-intensive industries relocating to areas with less stringent regulations). To improve the effectiveness of the EU ETS, policymakers have implemented reforms to strengthen the system, such as reducing the overall cap on emissions and introducing a market stability reserve to address supply and demand imbalances. Ongoing evaluation and further refinements to the system will be crucial to ensure it continues to drive meaningful emissions reductions in line with the EU's climate goals.

Related terms

Cap and Trade:

A market-based approach to controlling pollution by providing economic incentives for achieving reductions in the emissions of pollutants. A cap is set on the total amount of a pollutant that can be emitted, and this cap is reduced over time.

Carbon Pricing:

The practice of putting a price on the emission of carbon dioxide and other greenhouse gases, typically through a carbon tax or an emissions trading system, in order to incentivize reductions in emissions.

Emissions Allowance: A permit that allows the holder to emit a certain amount of a pollutant, such as carbon dioxide, within a given time period. These allowances are traded on the emissions trading market.