Europe’s carbon market is facing growing scrutiny over whether its design is fit for a more demanding phase of the energy transition, as persistently high electricity costs intensify pressure on the bloc’s industrial base.
The EU emissions trading system, the cornerstone of Brussels’ climate policy for two decades, was built to drive down emissions by making carbon expensive. That logic is not in dispute. What is being questioned, with increasing urgency, is how the system interacts with electricity pricing, investment incentives and the competitive position of European industry at a moment when decarbonisation, energy security and grid expansion must advance in parallel.
The debate has shifted. It is no longer about whether to put a price on carbon. It is about whether the EU Emissions Trading System (ETS) as currently configured, can manage the transition without accelerating the hollowing-out of the industrial economy it was designed to protect.
The European Commission continues to present the ETS as a cornerstone of its climate framework, pointing to its role in reducing emissions and generating auction revenues. However, concerns have grown over how carbon costs affect electricity prices, as well as how the system may function in a tighter market after 2030.
Carbon pricing and electricity costs
A central issue in the debate is the role of fossil generation in setting electricity prices.
An analysis by the Joint Research Centre (JRC) found that gas-fired plants set EU wholesale electricity prices 55 per cent of the time in 2022 while accounting for 19 per cent of total generation. The study suggests that, even as renewables expand, gas plants may continue to play a significant price-setting role in the years ahead.
Because wholesale electricity prices are set by marginal generation, carbon costs under the ETS are passed through to power prices, directly affecting industrial consumers. Supporters argue this is how the market incentivises cleaner investment, while critics say it contributes to higher and more volatile prices.
The Draghi report noted that carbon costs accounted for around 10 per cent of EU industrial retail electricity prices in 2023. While far from the only factor behind Europe’s high energy costs, that share has become politically salient as industry calls for a more competitive operating environment.
Competitiveness pressures intensify
Europe’s electricity prices remain high by international standards. According to the IEA’s mid-year update, prices for large energy-intensive industrial consumers in the EU in 2025 were expected to be roughly twice those in the United States and about 50 per cent higher than in China.
That gap has sharpened concerns over investment leakage, industrial output and the cost of decarbonising production in Europe. For sectors such as steel, chemicals and aluminium, electricity prices are increasingly viewed as a strategic issue.
Still, many in Brussels argue that weakening the carbon price signal would risk delaying the transition and undermining investment certainty. The policy question is therefore less whether the ETS should remain in place than how it can be adjusted without compromising its core climate function.
Infrastructure needs complicate the picture
The debate is also shaped by the infrastructure demands of the transition. ENTSO-E’s European Resource Adequacy Assessment points to a continued need for flexible thermal capacity as electrification increases and variable renewable generation expands.
Several Member States are already moving in this direction. Germany plans 10 GW of dispatchable capacity, Poland is backing gas under its capacity market, while the Netherlands may need up to 3 GW more.
Europe must accelerate investment in grids, storage, clean generation and flexibility tools while maintaining system adequacy during the transition. Some stakeholders argue that the future design of the ETS should better reflect a system that remains partly reliant on dispatchable thermal assets.
This raises questions about whether the current ETS design provides the right incentives to invest in flexible capacity without adding excessive cost pressure.
The scale of that investment challenge is considerable. In its 2040 climate target impact assessment, the Commission estimated that meeting climate-neutrality goals will require annual investment of around €1.5 trillion from 2031 to 2050, highlighting why ETS revenues alone are unlikely to suffice.
A KOBiZE analysis cited in the current debate suggests projected ETS auction revenues over that period would cover only around 11 per cent of the energy sector’s investment needs, underscoring the financing gap.
The next phase of reform
The ETS has generated substantial revenues, with the European Commission reporting more than €250 billion in auction income since 2013. But debate continues over whether those revenues are sufficient relative to the scale of investment needed across the energy system.
As Brussels prepares for the next phase of ETS discussions, the core issue is becoming clearer. The challenge is no longer only how to maintain a robust carbon price, but how to ensure the system continues to support decarbonisation while responding to concerns over affordability, infrastructure and competitiveness.
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