Publication

The EU emissions trading system's (ETS) invalidation rule implies that shocks and overlapping policies can change cumulative carbon emissions. This paper explains these mechanisms and simulates the effect of COVID-19, the European Green Deal, and the recovery stimulus package on cumulative EU ETS emissions and allowance prices. Our results indicate that the negative demand shock of the pandemic should have a limited effect on allowance prices and rather translates into lower cumulative carbon emissions. Aligning EU ETS with the 2030 reduction target of -55% might increase allowance prices to 45-94 euro/ton CO2 today and reduce cumulative carbon emissions to 14.2-18.3 GtCO(2) compared to 23.5-33.1 GtCO(2) under a -40% 2030 reduction target. Our results crucially depend on when the waterbed will be sealed again, which is an endogenous market outcome, driven by the EU ETS design, shocks and overlapping climate policies such as the recovery plan. This paper finds that the EU's 2030 reduction target of -55% might correspond to EU ETS allowance prices between 45 and 94 e/ton CO2 today, while the invalidation rule reduces carbon emissions to 14.2 to 18.3 GtCO2 over the EU ETS' remaining lifetime.