What is the EU Emissions Trading System?

December 1, 2023

What is the ETS (EU Emissions Trading System)?

Established in 2005, the EU Emissions Trading System (ETS) was created as a market-based mechanism to tackle greenhouse gas emissions within the European Union. Initially targeting energy-intensive sectors such as manufacturing and power generation, there has been recent developments to now include shipping.

Recent developments

In December 2022, a provisional agreement to extend the EU ETS to include shipping was made by political negotiators. This was adopted and finalized on May 16, 2023, and published in the Official Journal of the European Union, which communicates new laws and regulations adopted by EU institutions. Starting in 2024, the Emissions Trading System will encompass shipping activities within the European Economic Area (EEA). The EEA consists of all EU member states, Iceland, Liechtenstein, and Norway.

As a result of this, ship operators will be required to monitor and report their emissions and surrender allowances for every ton of CO2 they emit.

Start of carbon pricing and inclusion of additional greenhouse gases

In an effort to combar climate change the inclusion of the shipping industry in the EU ETS is a significant milestone. The goal is to create financial incentives for reducing greenhouse gas emissions and promoting a transition to more sustainable methods in the industry. There will be a phased implementation of carbon pricing for shipping. In other words, shipping companies will be required to submit allowances equivalent to a portion of their emissions according to the following schedule:

In 2024, companies must submit allowances for 40% of their verified emissions.
In 2025, companies must submit allowances for 70% of their verified emissions.
From 2026 onwards, companies must submit allowances for all their verified emissions.

Starting from January 1, 2026, the ETS regulations will expand to include emissions of two additional greenhouse gases: nitrous oxide and methane. Renewable fuels in the future are strongly encouraged. This phased in approach will gradually increase the carbon price per ton of CO2e for the shipping industry leading up to the year 2026.

Carbon pricing and extraterritorial application

Under the new law, carbon pricing in the EU ETS is determined based upon vessels rather than cargo. The law also has extraterritorial application alongside introducing carbon pricing for vessels traveling between EU countries. Therefore vessels that sail between an EU port and a non-EU port are also impacted and half of the emissions from the voyage will be subject to the EU ETS.

Shipping companies are obligated to purchase allowances for the following emissions:

50% of emissions from voyages departing from an EU port to a non-EU port and vice versa.
100% of emissions from voyages between EU ports.
100% of emissions from ships docked at an EU port.

As the extension of the ETS to maritime transport activities increases shipping costs, negotiators are concerned about the risk of evasion and transhipment activities moving outside the EU. To mitigate this, the law specifically targets non-EU ports near the EU with a high share of transhipment. For these ports, the ETS effectively extends the length of voyages to address concerns about carbon leakage.

What does this mean for customers?

1 European Union Allowance (EUA) must be purchased and submitted to the EU each year for every 1 ton of reported CO2. This is applicable to all shipping companies who are responsible for buying EUAs. EUAs can be purchased on exchanges such as ICE, EEX and Nasdaq, and from the over-the-counter market.

EU ETS introduces carbon pricing for shipping from 2024. The phased implementation will see costs increased over time, the cost of compliance is expected to significant. A standalone surcharge known as ‘Emissions Surcharge’ will be applied to all bookings on any voyage that will be subject to the EU ETS.