The Future of Carbon Trading: What a UK-EU Linked ETS Could mean for UK Industry

September 1, 2025

The UK is on the brink of a major shift in carbon trading and it could have big implications for businesses, especially those in energy-intensive sectors. On 19 May 2025, the government announced its intention to link the UK Emissions Trading System (ETS) with the EU ETS. But what does that actually mean for UK industry? And why should we care? 

Let’s break it down. 

 

What is an Emissions Trading System (ETS)? 

Think of an ETS as a carbon budget for businesses. It caps the total amount of CO₂ that can be emitted and either auctions or allocates allowances to companies. If a company emits less than its allowance, it can sell the surplus – creating a financial incentive to decarbonise. 

In the UK, some sectors receive free allowances to prevent carbon leakage (i.e. production moving to countries with weaker environmental rules), while others must bid for them. The funds raised often support wider climate policies like the UK’s net-zero target. 

 

Benefits of an ETS: 

  • Encourages carbon reduction 
  • Creates a carbon price signal 
  • Generates funding for green initiatives 

But it’s not all smooth sailing… 

 

Two Big Challenges: Price Volatility and Carbon Leakage 

Despite the promise, ETS systems face two key hurdles – especially in the UK: 

  1. Price volatility
    Fluctuating carbon prices make it hard for businesses to plan long-term investments in low-carbon tech. The UK tries to stabilise this with a carbon price floor funded by the Carbon Price Support (CPS) tax on electricity producers. The EU, on the other hand, uses a Market Stability Reserve (MSR) to control the supply of allowances – which in turn stabilises prices indirectly. 
  2. Carbon leakage
    Because the UK ETS covers a much smaller region than the EU ETS, it’s easier for companies to shift production abroad – harming both the UK economy and global emissions targets. The broader the ETS, the harder this is to do. 

 

Why a Linked UK-EU ETS Could Be a Game-Changer 

A UK-EU linked ETS could offer: 

  • More stable carbon pricing 
  • Reduced carbon leakage 
  • Boosted competitiveness for exporters 

Here’s why it matters: over 40% of UK exports go to the EU. Without linkage, UK exporters may face double costs under the EU ETS and the incoming Carbon Border Adjustment Mechanism (CBAM): essentially a carbon tax on imports. That’s a major blow for sectors like manufacturing and agriculture. 

 

Early estimates suggest linking the systems could: 

  • Save UK exporters £800 million by 2030 
  • Retain ~£5 billion of UK business that might otherwise relocate 

 

What About EII Compensation? 

The Energy-Intensive Industries (EII) Compensation Scheme exists to help firms offset the indirect costs of carbon pricing, including costs from the CPS and UK ETS. But if the UK links its ETS with the EU’s, it might rethink its approach to compensation and exemptions. 

Regardless of what changes, one thing is clear: the UK can’t hit net-zero without supporting its manufacturers. More support schemes and incentives are likely on the horizon.  

 

When can we expect the UK-EU linked ETS come into effect? 

While there’s no official date yet, we can make an educated guess. 

For context, Switzerland began ETS negotiations with the EU in 2010. The agreement was signed in 2017 and came into effect in 2020 – a ten-year process. 

That said, the UK-EU linkage may move faster due to: 

  • Strong financial incentives 
  • Shared environmental goals 
  • Precedents already set 

Both the EU and UK plan to implement CBAMs in 2026 and 2027 respectively. That increases the likelihood of a linked system – or at least an interim solution – by 2027. 

 

Final Thoughts 

The UK-EU ETS linkage could mark a turning point for UK industry and climate policy. If done right, it could help reduce emissions without driving business overseas. 

But the devil will be in the details, especially around price controls, carbon leakage safeguards, and compensation schemes. 

 

Watch this space. As negotiations progress, businesses should stay informed and start preparing for a more integrated carbon market. Rest assured, Bonham & Brook will be keeping up to date and in line with current legislation, helping support your business needs and secure well-deserved tax relief for our clients.  

 

 

Find more information on Energy Intensive Industries (EII) tax incentives and compensation here.

To discuss how Bonham & Brook can help your business contact us today.

 

Muntasir Uddin

Energy Consultant

Book a Meeting with Jon here

 

 

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