UK Emissions Trading Scheme
Published: 13/11/2025
Read time: 6 minutes
As the global conversation around climate change intensifies, Matthew Chapman, Origination Analyst, offers a timely analysis of the United Kingdom's evolving carbon market landscape. In this blog, Matthew examines the UK's Emissions Trading Scheme (ETS), which has undergone significant transformation since its inception in 2021.
Matthew explores how the scheme's expansion, price volatility, and the introduction of new mechanisms such as the Carbon Adjustment Boarder Mechanism (CBAM) are shaping the future of sustainability, trade, and industry. With a clear eyes view on policy developments and the implications for various sectors, this piece delves into the challenges and opportunities that lie ahead for the UK as it strives to balance its economic ambitions with its commitment to net zero goals.
The UK Carbon Market: From EU to UK ETS
The UK carbon market has been a dynamic and evolving landscape, especially since the UK launched its own Emissions Trading Scheme (UK ETS) in 2021 following Brexit. This move marked a significant shift from the EU ETS and aimed to tailor the carbon market to the UK's specific needs and climate goals.
The UK ETS covers emissions from domestic aviation, industry, and power sectors, which together account for about 25% of the country's annual greenhouse gas emissions. The system operates on a cap-and-trade principal, where a cap is set on the total amount of greenhouse gasses that can be emitted by the sectors covered by the scheme. Companies receive or buy emissions allowances, which they can trade with one another as needed.
Price Volatility
Carbon prices under the UK ETS have remained volatile. After falling to a low of £31.48 in January 2024, prices have gradually recovered, reaching around £55/tonne by mid-2025. However, the official carbon price for civil penalties in 2025 was set at £41.84. Several factors contributed to this price volatility, including mild winter weather, reduced power demand, and a surplus of carbon allowances on the market. Despite some recovery, UK carbon prices remain below those of the EU ETS, raising concerns about potential impacts on investment in renewable energy. The UK ETS is a smaller and newer market compared to the EU ETS. This makes it more susceptible to price volatility. Factors such as weak power demand and macroeconomic concerns have contributed to the lower prices of UK Allowances (UKA).
In the UK, power generators have to pay an additional Carbon Price Support (CPS) on top of the UKA price. This structural premium over EU generators can influence the overall cost of carbon for UK power generators. This divergence has continued, with UKA prices often being lower than EUA prices due to factors such as weak power demand and macroeconomic concerns. Weather fundamentals, such as warmer temperatures in August 2023 and September 2023, increased the demand for cooling. This, combined with the lack of availability of coal and hydro, led to increased gas demand for power, contributing to price volatility yet prices remained below the EU system.
The UK carbon market is not without its challenges. The decision to offer more allowances than expected to energy intensive industries under the UK carbon scheme has brought down the carbon price and these lower prices compared with the EU ETS have led to an estimated £2.9 billion in lost revenues over the last two years, which could undermine the UK's wider green ambitions. This decision has sparked debates about the balance between economic and environmental priorities. Looking ahead, the UK aims to position itself as a global hub for voluntary carbon markets (VCMs). The government's Green Finance Strategy outlines this ambition, but any perceived backsliding on its net zero strategy could jeopardize this goal.
Policy Developments and Scheme Expansion
In 2025, the UK ETS Authority announced significant expansions to the scheme. These include:
- Maritime Sector: Emissions from domestic voyages and UK ports will be included from July 2026.
- Waste Sector: A voluntary monitoring, reporting, and verification (MRV) phase begins in January 2026, with full inclusion expected by 2028.
- Greenhouse Gas Removals (GGRs): Engineered removals such as direct air capture and bioenergy with carbon capture and storage will be integrated into the UK ETS by 2029.
These expansions align the UK ETS more closely with the EU ETS and reflect the UK’s ambition to harmonize carbon pricing across sectors.
Free Allocation and Carbon Leakage
To mitigate carbon leakage, the UK ETS continues to offer free allowances to sectors deemed at risk. The allocation table for 2021–2025 was updated in June 2025 to reflect activity level changes. However, the second free allocation period has been postponed to 2027 to align with the introduction of the UK’s Carbon Border Adjustment Mechanism (CBAM), which will apply a carbon price to imported goods from high-emission sectors.
International Cooperation and ETS Linkage
A major milestone was reached in May 2025 when the UK and EU committed to linking their respective ETSs. This linkage will allow mutual recognition of carbon allowances and exemptions from CBAMs, potentially increasing market liquidity and reducing carbon leakage.
Voluntary Carbon Markets (VCMs)
The UK government is also advancing its ambition to become a global hub for high-integrity voluntary carbon markets. A consultation launched in April 2025 focused on implementing six principles for market integrity, including robust standards for supplier and buyer engagement. These efforts aim to scale up climate finance and support corporate decarbonisation, particularly for hard-to-abate Scope 3 emissions.
Carbon Border Adjustment Mechanism (CBAM)
The UK government has announced plans to implement a CBAM by 2027. This mechanism aims to address the issue of carbon leakage, which occurs when production and associated emissions move from one country to another due to differing levels of decarbonization efforts and carbon pricing. The CBAM will place a carbon price on certain emissions-intensive industrial goods imported into the UK, ensuring that the carbon price of imports is equivalent to the carbon price of domestic production.
The liability under the CBAM will depend on the greenhouse gas emissions intensity of the imported goods and the gap between the carbon price applied in the country of origin and the carbon price that would have been applied if the goods were produced in the UK. The importer of the goods will be responsible for the CBAM liability, which will be based on the emissions embodied in the imported goods.
Initially, the CBAM will apply to some of the most emissions-intensive industrial goods, including aluminium, cement, ceramics, fertiliser, glass, hydrogen, and iron and steel. The precise list of products in scope will be subject to further consultation.
The UK government has also indicated that the CBAM will not involve the purchase or trading of emissions certificates. Instead, it will be a direct charge based on the emissions intensity of the imported goods. This approach aims to ensure equal treatment of domestic and imported goods, thereby supporting the UK's decarbonization efforts and preventing carbon leakage.
Impact on UK Industries
Construction
With materials like steel, cement, and aluminium in scope, the construction sector faces increased costs and compliance burdens. However, this also presents opportunities for innovation in green building materials like engineered timber and low-carbon concrete.
Energy & Utilities
The inclusion of hydrogen and steel (used in renewable infrastructure) means energy companies must reassess supply chains. The sector is pushing for alignment with EU CBAM to reduce administrative complexity.
Agriculture
Fertiliser imports will be subject to CBAM, raising concerns among farmers about rising costs. The National Farmers Union warns this could impact competitiveness and food prices, especially in the arable sector.
International Trade and Compliance
The UK CBAM must comply with WTO rules and international climate commitments. The government is actively engaging with global partners to harmonise carbon pricing and avoid unintended trade barriers.
Looking Ahead
The UK CBAM marks a significant shift toward sustainable trade policy. While challenges remain, especially around international alignment and sectoral expansion—the mechanism offers a powerful incentive for global decarbonisation and industrial innovation.
Final thoughts...
As the UK forges ahead with its approach to emissions trading and climate policy, it faces both significant opportunities and notable challenges. The continued evolution of the UK ETS, the integration of sectors like maritime and waste, and the forthcoming introduction of the CBAM all signal a robust commitment to driving decarbonisation while maintaining economic competitiveness. However, success will depend on effective policy implementation, ongoing collaboration with international partners, and a delicate balancing act between environmental ambition and industry realities. For businesses and policymakers alike, staying informed and adaptable will be crucial as the UK strives to solidify its position as a leader in sustainable trade and climate action, paving the way towards its net zero aspirations.
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