In the run up to the Paris climate change talks in December, the European Commission has set out major new proposals to revise the EU Emissions Trading System – currently the largest carbon market in the world.

Describing it as Europe's flagship tool for tackling climate change and placing the EU on track towards a low-carbon economy, the Commission said the new proposal sent ” a powerful signal” to the international community in the run-up to the Paris climate summit.

The move is seen as the first legislative step towards implementing the EU's commitment to reducing greenhouse gas emissions by at least 40% domestically by 2030 as part of its contribution to the new global climate deal due to be adopted in Paris this December. The proposal is aimed at ensuring that the EU ETS – the cornerstone of EU climate policy – remains the most efficient way to cut emissions in the decade to come.

The proposed more targeted approach is also aimed at safeguarding the international competitiveness of industry sectors that are at the greatest risk of seeing their production relocated outside the EU to less Green House Gas constrained jurisdictions as well as in pushing energy investment toward innovative and cleaner alternatives.

The Commission said that additional funds from the EU ETS are provided for low-carbon innovation – for the first time also for energy-intensive industry – and for the modernisation of the energy systems in lower-income Member States. This would further stimulate the uptake of renewables and other low-carbon and energy-efficient technologies.

The Commission is also proposing that a proportion of emission trading revenues should be used by Member States to finance actions to help countries outside the EU to adapt to the impacts of climate change.

Under the proposal, Member States will continue to be able to exclude small emitters from the EU ETS, including small and medium-sized enterprises with low emissions, as long as they are subject to equivalent measures.

The decisions to be adopted in Paris are expected to mobilise climate finance, technology transfer and capacity building for eligible parties, particularly those with the fewest capabilities.

Under the proposed  ETS revision, the overall quantity of allowances will decline by 2.2% every year starting from 2021.

Since 2013, the main method of distributing EU ETS allowances has been through auctioning by Member States. Over the current trading period (2013 to 2020), 57% of the total amount of allowances will be auctioned, while the remaining allowances are available for free allocation.

The share of allowances to be auctioned will remain the same after 2020. The revenues from auctioning provide Member States with funding that can be used for different actions, such as renewable energy programmes.

As the total number of allowances is limited and declining, the Commission said the system of free allocation needs to be revised in order to distribute the available allowances in the most effective and efficient way.  The allocation of free allowances will be focused on the sectors at highest risk of relocating their production outside the EU.

The basic architecture will remain in place after 2020, while individual elements will be improved in line with the agreement reached by EU leaders in October 2014:

Benchmark values will be updated to capture technological progress in different sectors. Current values are determined based on data from 2007-2008 and would not reflect the state of technology after 2020.

On carbon leakage –the Commission is proposing that, as currently, beyond 2020 all major industrial sectors will be considered at risk of carbon leakage.

The Commission is also planning to establish an Innovation Fund to support first-of-a-kind investments in renewable energy, carbon capture and storage (CCS) and low-carbon innovation in energy intensive industry. Some 400 million allowances − representing up to around EUR 10 billion when sold − will be reserved from 2021 onwards for this purpose.

In addition, a further 50 million of the unallocated allowances from 2013-2020 will be set aside to enable the Innovation Fund to start before 2021 and include projects to support breakthrough technologies in industry.

Under the proposal a separate Modernisation Fund will also be set up to support lower income Member States in meeting the high investment needs relating to energy efficiency and the modernisation of their energy systems. Between 2021 and 2030, 2% of the allowances, some 310 million allowances in total, will be set aside to establish the fund.

All Member States will contribute to the fund, which will benefit 10 Member States with a GDP per capita of less than 60% of the EU average (in 2013). The countries eligible to receive support are: Bulgaria, Croatia, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania and Slovakia.

The legislative proposal has now been submitted to the European Parliament and to the Council for adoption as well as to the Economic and Social Committee and the Committee of the Regions for opinion. The Commission said it will work with these institutions to see the legislation through. 

EU Commissioner for Climate Action and Energy Miguel Arias Cañete said:

"Actions speak louder than words. Today we take a decisive step towards enshrining the EU's target of at least 40% emissions cut by 2030 into law. My message to our global partners ahead of the Paris climate conference: the EU stands by its international commitments.  And my message to investors, businesses and industry: invest in clean energy; it's here to stay and continue to grow. With these proposals, Europe is once again showing the way and leading the global the transition to a low-carbon society."

Last week the Department for Energy and Climate Change called on the Commission to bring forward a robust and comprehensive ETS Phase IV package as soon as possible, with proposals which should include:

• A system of focused support for those industrial sectors at greatest and genuine risk of carbon leakage.
• Assistance to lower-income Central and Eastern European Member States with the transition to a safe and sustainable low-carbon economy through the new Modernisation Fund including a strong role for the European Investment Bank.
• Support for innovation in breakthrough low-carbon technologies through a new NER400, such as Carbon Capture and Storage (CCS), industrial innovation and efficiency and innovative renewables;
• A reduction in administrative burdens, especially for small ETS operators.

DECC also said that given the linkages between the EU ETS Phase IV and the Effort-Sharing Decision (ESD), and to enable an early agreement on the legislative implementation of the overall 2030 climate and energy package, it was important that the Commission brings forward its ESD proposals early after the Paris COP and by the end of the first quarter of 2016 at the latest.