Climate financing
We analyse EU funding initiatives driving climate innovation and industrial decarbonisation. Ensuring revenues from the EU ETS and CBAM are well spent.
ETS Revenues
The European carbon market, currently under review, will likely generate emission allowances worth over a trillion euros over 10 years, which is more than the EU’s entire Covid recovery budget. Under the current system, up to 43% of the emission cap can be distributed each year to industry to protect against carbon leakage.
The permits that are not given for free to industrial installations (and airlines) are sold or auctioned by the European Commission (via the EIB) or by Member States. A share of the proceeds is dedicated to the Modernisation Fund for poorer Member States to upgrade their energy infrastructure; another share is for the Innovation Fund.
Our Campaigns:
Accelerate the implementation of the CBAM and phasing out of free allocation
For the emission permits not given for free, make sure the proceeds are spent efficiently
The Innovation Fund
The EU’s Innovation Fund, launched in 2018, is the EU’s programme for funding cutting-edge low-carbon technologies. According to the European Commission, to be eligible, projects must be, highly innovative, cost-efficient, mature, scalable, and have a significant emission reduction potential.
The Innovation Fund is financed using revenues from the Emissions Trading Scheme (ETS), under which certain sectors must buy emission permits (allowances) to be allowed to pollute. We estimate that it will receive the proceeds from the sale of nearly 800 million emission permits over the period of 2021-2030. Subsidies come in the form of grants (paid mostly upfront) but may also include performance-based amounts in the future. In practice, the funding goes to sectors already receiving emission permits under the EU ETS.
We estimate that the fund will be worth €75 billion. How the money will be spent is therefore more critical than ever.
As Sandbag’s research showed, the Fund’s current granting approach is costly and inefficient. Upfront subsidies are used in the wrong way and do not address competitive distortions, leading to high decarbonisation costs instead of incentives for low carbon activities.
The scale of the climate change challenge requires careful funding allocation: more parsimonious subsidies to activities that do not expose investors to innovation-related risks would free up the funds needed to support activities with high abatement potential currently left out of the granting mechanisms.
The Parliament’s ETS revision proposal included the creation of a new Climate Investment Fund, which was closer to what Sandbag had suggested (a Carbon Neutrality Fund). Its scope would have been extended to “techniques, processes and technologies that may no longer be considered innovative” as was asked in the Parliament’s report in June 2022. This was later dropped during the ETS trilogues.
The Innovation Fund has been overhauled to reflect recent changes to the ETS. You can find Sandbag’s proposals submitted to the European Commission’s Innovation Fund Expert Group here.
Our Campaigns:
Avoid upfront funding to innovation as much as possible.
In our feedback to the European Commission’s Innovation Fund Expert Group, we detail how upfront funding crowds out private investment, does not incentivise performance and creates more risk of projects closing down (if their profits become negative). Instead, contracts (fixed premium or contract for difference) should be rewarded to projects on the basis of their performance.
Make resource-saving a requirement for Innovation Fund support.
The degree of resource saving is only covered by the IF criteria in optional ways. For example, as part of the “degree of innovation” criteria, the fact that a project also saves resources can be considered a “plus”. Resource-saving is key to scalability and should therefore be explicitly assessed in a mandatory criterion with equal importance as a project’s degree of innovation. Scalability should be considered on an economy-wide level.
Fix the funding gap for circularity
As incumbent technologies receive free emission allowances and innovative ones receive Innovation Fund money, the Innovation Fund makes circularity activities that are not innovative become even less competitive than they are already. Carbon contracts for substitution (not for difference) for these activities should be introduced to bridge this gap.
Our achievements
2023–2025: Innovation Fund auctions redesigned towards performance-based support
Sandbag’s analysis and engagement contributed to the policy shift towards performance-based auctions under the Innovation Fund, moving away from upfront grants and blind support mechanisms.
In March 2023, Sandbag warned that the proposed European Hydrogen Bank risked distorting competition within the EU ETS by over-subsidising hydrogen relative to other decarbonisation pathways.
The European Hydrogen Bank: a recipe for competitive distortion
Read it here
In September 2023, Sandbag showed that the final Hydrogen Bank design confirmed a blind support approach, failing to account for ETS revenues and competing low-carbon solutions.
The European Hydrogen Bank confirms a blind support approach
Read it here
These concerns were reflected in the introduction of performance-based hydrogen auctions in 2023, followed by the launch of an Innovation Fund auction for industrial heat electrification in 2025, which Sandbag welcomed while highlighting the need to prevent induced emissions.
Auction for industrial heat electrification: A positive step, but mind the induced emissions!
Read it here
Read our analysis and policy recommendations
Heat up industry, not the climate!
The European Commission has set out proposed terms and conditions for its auction on electrified /renewable industrial heat under the Innovation Fund (IF). We support the IF’s acknowledgment that indirect emissions are linked to the timing of electricity consumption rather than the source of electricity used. However, although it claims an intention to limit electricity use at hours of high marginal emission intensity, we are concerned that the proposed terms might lead to the opposite and significantly limit the scheme’s climate benefits.
The EU ETS at a Crossroads
Sandbag’s latest submission to the EU ETS and Innovation Fund consultation calls for clearer rules on free allocation, stronger criteria for funding innovation, and safeguards against misleading carbon accounting practices.
Auction for industrial heat electrification: A positive step, but mind the induced emissions!
Industrial heat electrification is a key strategy for decarbonising energy-intensive industries by replacing fossil-based heat. We welcome the European Commission’s initiative to launch an auction to electrify industrial heat, while emphasising the need for careful design to prevent unintended increases in emissions due to electricity grid dynamics.
Fixing the Innovation Fixation
The EU’s Innovation Fund, launched in 2018, is the EU’s programme for funding cutting-edge low-carbon technologies. To be eligible, projects must be, according to the European Commission, highly innovative, cost-efficient, mature, scalable, and have a significant emission reduction potential. The Innovation Fund is financed using revenues from the Emissions Trading System (ETS), under which certain sectors have to buy emission permits (allowances) in order to be allowed to pollute.
Lost opportunity of carbon market reform leaves a lot to fix in ancillary laws
Sandbag warns that EU carbon market reforms raise ambition but fail to fix structural flaws: free allocation is phased out too slowly, CBAM coverage remains partial, benchmarks still reward polluting processes, and circularity is sidelined-risking inefficiency, distortions, and missed decarbonisation opportunities
Spend Smarter: A bit of advice on climate innovation financing
Report | Spend Smarter: A bit of advice on climate innovation financing Download the report Currently, most EU-managed climate innovation subsidies go to innovation (through the Innovation Fund). The EU’s Innovation Fund, launched in 2020, is one of the world’s...
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