This weekend, the European Commission, Parliament, and Council are set to finalise an important reform of the EU’s carbon market in the final round of their “trilogue” (trilogues are informal tripartite meetings on legislative proposals between representatives of the three bodies). Or should we say a “non-reform”, at least on some aspects.

The most important issue with the EU’s emissions trading scheme (ETS) is the way it gives, for free, most of the emissions permits to the industries that are supposed to stop polluting. This creates obstacles to decarbonisation, innovation and the good functioning of the carbon market.

This issue was rightly picked up by the Commission, which inserted in its ETS Directive amendment proposal (in July 2021) a clause to review the 54 “benchmarks” in the near future (benchmarks determine the numbers of free permits given per unit of each product type).

A core principle of the Commission’s proposal was that “…free allocation for the production of a product should be independent of the nature of the production process.”[1], which is vital to avoid locking in high-emission processes. Parliament followed that logic in its position voted in June 2022, stating that the benchmark review should ensure that “free allocation for the production of a product is independent of the feedstock or the type of production process.”[2] This would, at last, open the door to making low carbon processes more competitive for manufacturing steel and other metals such as aluminium, including through recycling.

Steel and aluminium: sacrificed circularity

Take the case of flat steel products in which the most polluting steelmaking route, the blast furnace route, receives 7 to 10 times[3] more free allowances than the less polluting electric furnace route, which can be fed on up to 100% scrap and has the best emissions performance as explained in Sandbag’s report. This provides no incentive to switch to circular steelmaking, it only provides incentives to cut emissions on the same production process because otherwise these companies would receive fewer free allowances.

Even though there hasn’t yet been substantial progress in the trilogues, according to ETS rapporteur Peter Liese, one of the agreements reached during the 11 October trilogue was a bespoke exemption for the steel sector. This will exclude the “hot metal” benchmark (the number of free allowances reserved to blast furnace steelmaking) from any update of the benchmarks altogether for 2026-2030. This also means that steelmaking will keep differentiated free allocation benchmarks for primary and secondary production, regardless of the end product.

Exempting the “hot metal” benchmark will lock-in high emitting practices in the steel sector, causing the EU to miss out on the huge resource savings and affordable emissions reduction potential from increased circularity. This is not only damaging to the environment and EU finances. It is also damaging to an entire industry which could thrive in a policy framework more favourable to recycling, as stated in Sandbag’s joint letter with the European Recycling Industries’ Confederation. Damage to the EU’s shipbreaking industry was also evidenced in Sandbag’s previous study. And of course, such an exclusion will penalize the secondary steelmaking industry itself.

The steel industry is not the only one threatened by transgressions of the product-based approach. Even though it was not part of the tabled institutional positions, in its latest draft strategy document, the European Parliament proposed that “the revised benchmarks for 2026 to 2030 should continue distinguishing between primary and secondary production of steel and aluminium”. This will effectively kill any incentive to switch to less polluting secondary production of both metals.

Pretext of a reform in EU’s carbon market

One source of concern is that the steel and aluminium exemptions are being decided before the review of the ETS free allocation benchmarks has even started. That review, scheduled to start after the reform of the ETS itself, is meant to reconsider the way allowances are given away in an attempt to level the playing field between production processes of similar products and better reward low-carbon methods. The Parliament’s proposal undermines the very product-based approach the review is supposed to introduce.

Benchmarks are also constrained by the obligation, in the ETS Directive to represent the “average performance of the 10% most efficient installations in a sector or subsector”, which prevents any major overhaul or extension to truly low-carbon processes. Indeed, adding low-carbon processes to existing benchmarks would knock down those benchmarks disproportionately. Any meaningful review should also allow for a revisiting of that rule.

The benchmark reform was supposed to be applied through implementing acts, taking the time to be comprehensive and well thought through, duly supported by impact assessments and technical studies that would be used to discuss in expert groups where NGOs and industry are represented.

Instead, exemptions are being pushed through at the last minute by policymakers pressured by private companies with interests at odds with the EU’s carbon market decarbonisation goals, or even the rest of their industries.

In conclusion: A big win for a handful of powerful lobbies. A big loss for everyone else.

[1] See recital 8, Proposal for a DIRECTIVE OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL amending Directive 2003/87/EC establishing a system for greenhouse gas emission allowance trading within the Union (European Commission, 2021)

[2] See Article 10a(1), Revision of the EU Emissions Trading System (European Parliament, 2022)

[3] See Update of benchmark values for the years 2021 – 2025 of phase 4 of the EU ETS (European Commission, 2021). This figure includes allowances allocated to coke, sintered ore and blast furnace steelmaking vis-à-vis those allocated to electric arc furnace carbon steel and  high alloy steel

Photo by Mathieu Stern on Unsplash