Europe has been the torchbearer of climate action. However, in doing so, it has compromised industrial growth to some extent. Until now, the European leaders have taken the high road. But as Covid-19 and the Russia-Ukraine war pressurised supply chains and raised the cost of living, especially energy costs, its climate change ambitions seem to be derailing.
European leaders, especially the right-wing parties, want to press the pause button on their climate change agenda. 2026 will be pivotal in this regard, not only for Europe but for the entire world.
Europe’s Emissions Trading System Explained
The Emissions Trading System (ETS), in simple terms, say that pollution should carry a price, and polluters must pay for it. The EU sets a cap on total greenhouse gas emissions allowed from sectors such as power generation, airlines, and heavy industry. In a way, each company has limits on how much it can emit. Each year, the EU lowers the overall emissions cap so that total emissions decline over time in line with long-term climate targets.
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If a company’s emissions are less than the permitted level, it can sell the excess in the market. Firms wanting to emit more will buy these permits in the secondary market. These carbon permits are called European Union Allowances (EUAs). One EUA represents the right to emit one tonne of carbon dioxide or equivalent greenhouse gases.
When carbon prices rise, pollution becomes more expensive, forcing companies to accelerate investments in cleaner energy and efficiency improvements. When prices fall, the financial pressure on industries decreases, but the incentive to decarbonise also weakens.
Proposals for ETS2
ETS1 was the original carbon market that was launched in 2005. It covered sectors such as power generation, aviation within Europe, and energy-intensive industries such as steel, cement, chemicals, and refineries. The EU is now preparing to introduce ETS2, a separate carbon market for road transport and buildings. Suppliers of petrol, diesel, heating oil, and natural gas will have to buy permits when they sell the fuel.
The system is expected to start in 2027, though it could be delayed to 2028 if energy prices remain high. Because it will raise fuel and heating costs for consumers, indirectly, ETS2 has become far more politically sensitive than the original system.
Challenges and Political Backlash to ETS
Emissions and pollution have indeed decreased in Europe. But the industry has been facing financial pressure due to rising carbon and energy prices. Between 2019 and 2025, carbon prices have risen by almost 3.5 times. During the same period, electricity prices for industries have jumped by over 70%. That’s where the disagreement comes in. One group supports the ‘Green Deal’, while another prioritises growth and productivity, arguing that Europe may be at risk of deindustrialisation due to higher costs.
This debate came into sharp focus twice last month. First, at an informal retreat at Alden Biesen castle in Belgium. Then, at the Antwerp European Industry Summit on February 11. Many European leaders, including German Chancellor Friedrich Merz, Italy’s PM Giorgia Meloni and Belgian PM Bart De Wever, expressed reservations about the system.
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Last Two Months of Carbon Pricing
Financial markets responded swiftly to the political changes. In late January, carbon prices fell from €93 to €76 per tonne and remained stable until February 11. On that day, European Commission President Ursula Von der Leyen, in a keynote at the Antwerp European Industry Summit, expressed support for ETS. She noted that ETS sectors reduced emissions by 39%, grew economic output by 71% and generated nearly €200 billion in revenue for member states.
Despite this, prices dropped 8% that day – the sharpest fall since May 2022 – and fell below €70 by February 16. The market took cues from the changing political landscape. A drop in carbon prices signals expectations of diluted climate policies, higher supply of permits or reduced demand for emission allowances in the future.
Carbon Border Adjustment Mechanism
Now, let’s talk about another linked policy that impacts developing countries like India: the Carbon Border Adjustment Mechanism (CBAM). To avoid higher carbon costs, many industries started moving production to other countries with weaker environmental regulations. Although it didn’t increase emissions within the continent, it pollutes other countries and increases global emissions. Through CBAM, it tries to limit imported emissions. The system officially began on January 1, 2026.
Importers must pay a carbon fee for goods such as steel, aluminium, cement, and fertilisers. If carbon allowances trade at €80 per tonne, the CBAM certificate price is also €80 per tonne. Importers must calculate the embedded emissions in the products and purchase certificates accordingly. They will pass the CBAM certificate costs down the chain to the exporters of other countries. In a way, it is some form of tariff.
But there was one problem with CBAM. Along with ETS, the EU also gave free carbon allowances to domestic heavy industries such as steel, cement, aluminium, and chemicals. If European companies receive 50% free allowances, the net carbon cost goes down from, say, the market price of €80 to €40. However, imported steel is subject to an €80 carbon tax, thanks to the CBAM.
This price difference violates World Trade Organisation (WTO) rules. For this reason, the EU has planned to phase out the free carbon allowances. That means it will increase costs for European companies – something they don’t like at all.
Global Implications and India’s Position
If European governments choose to keep those free allowances or push carbon prices lower to protect domestic industry, the EU may be forced to dilute or delay CBAM to remain compliant with international trade rules. For countries such as India, this development creates both opportunities and strategic challenges.
Indian exports of steel and aluminium are particularly exposed to CBAM because their production processes tend to be more carbon-intensive than European alternatives. According to GTRI estimates, exporters may need to cut prices by 15-22% to absorb the carbon costs.
However, if carbon prices fall due to political resistance within Europe, the cost of CBAM certificates also falls. Lower carbon prices would therefore reduce the effective tax burden on exporters. This creates an unusual situation. European leaders seeking to reduce carbon costs for their domestic industries may unintentionally reduce import costs and weaken the trade barriers that developing countries face.
At the same time, CBAM has already triggered policy changes around the world. For instance, India, China, Turkiye and Brazil are developing domestic carbon markets. Any backlash on ETS or CBAM might delay these reforms elsewhere.
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Final Take
The rise of far-right parties has begun to slow and dilute parts of the EU’s climate agenda. Internal disagreements within Europe have also intensified, with ETS becoming one of the most visible contested policies.
Ironically, weakening Europe’s carbon market could lower trade barriers and increase imports from developing countries. This runs counter to the goal of protecting European industry and promoting reindustrialisation. Apart from this, it could also slow the global momentum toward carbon markets and reshape the future of climate-linked trade policies.
With the US already shifting its stance on climate action under Donald Trump, the world is closely watching how Europe navigates this moment. In that sense, the current debate is not just about Europe’s climate strategy – it could influence the direction of the global climate agenda itself.
Disclaimer: The views expressed in this article are solely those of the author and do not necessarily reflect the opinion of NDTV Profit or its affiliates. Readers are advised to conduct their own research or consult a qualified professional before making any investment or business decisions. NDTV Profit does not guarantee the accuracy, completeness, or reliability of the information presented in this article.
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