Stop Removing Carbon Allowances to Keep the Market Balanced

This proposal aims to change how the Market Stability Reserve (MSR) manages allowances within the European Union's emissions trading system (EU ETS).

The MSR is designed to keep the carbon market stable. Currently, the system automatically removes (invalidates) allowances held in the reserve once they exceed a certain limit. This limit was set at a fixed threshold of 400 million allowances starting in 2024.

Since the invalidation process began in 2023, a total of 3.2 billion allowances have been removed from the market. While this process has successfully eliminated the historical surplus of allowances, continuing to remove them is predicted to reduce the total supply available in the market over the coming decades, potentially leading to higher prices and market instability.

To ensure the EU ETS remains stable and effective, especially after the mid-2030s, the proposal recommends stopping the automatic invalidation of allowances. By allowing a larger number of allowances to remain in the MSR, the reserve will gain a crucial "buffer" or "firepower" to balance the market in the future.

This targeted change will improve the long-term stability and predictability of the EU ETS, helping the EU meet its climate goals, such as the 2030 targets.

Broader context

The EU Emissions Trading System (EU ETS) is the world’s first and largest carbon market, covering energy-intensive industries, power stations, and aviation within the EU. It works by setting a cap on the total amount of greenhouse gases that can be emitted by these sectors. Companies receive or buy allowances, each representing one tonne of CO₂, and can trade them. The Market Stability Reserve (MSR) was introduced to address the surplus of allowances that built up in the system, which had led to very low carbon prices and weakened the incentive to reduce emissions.

The current automatic invalidation of allowances was a temporary measure to absorb the historical surplus. However, as the EU tightens its climate targets—aiming for at least a 55% reduction in greenhouse gas emissions by 2030 compared to 1990 levels—the role of the MSR is evolving. The proposal reflects a shift towards ensuring the carbon market can adapt to future challenges, such as fluctuating demand, technological changes, and the integration of new sectors into the EU ETS.

Impact on people living in the EU

Stopping the invalidation of allowances means more allowances could remain available in the MSR, helping to stabilize carbon prices and prevent extreme price spikes. This can make it easier for businesses to plan investments in cleaner technologies, ultimately supporting the transition to a low-carbon economy.

For people in the EU, stable carbon prices can lead to more predictable energy costs. Higher or unstable carbon prices can increase the cost of goods and services that rely on fossil fuels, such as electricity, heating, and transport. By maintaining a buffer of allowances, the MSR helps prevent sudden price hikes, making the green transition smoother and more affordable for households and consumers.

The proposed change also supports the EU’s climate goals by ensuring the carbon market remains effective in driving emissions reductions, without causing unnecessary economic disruption.