Mind the Emission Gap: Policy Stringency Matters for Emission Reductions in the EU ETS

Luca Taschini
University of Edinburgh Business School, UK

Abstract:

Analyzing data from 6,273 firms covered by the EU Emissions Trading System between 2013 and 2021, we show that firm-level emission reductions are strongly influenced by firm-specific policy stringency, even after controlling for business performance metrics, financial constrains, and common sector-specific factors. We define policy stringency as the gap between expected firm-level allowances and emissions, adjusted by the carbon allowance price and scaled by firms’ sales. This measure reflects both current regulatory pressure and firms’ expectations about future individual compliance obligations, highlighting the role of forward-looking considerations in managing regulatory pressure. 

While policy stringency varies substantially across sectors, it remains a key driver of emissions reductions across all regulated industries, regardless of firm-level financial constraints or technological barriers. A counterfactual analysis shows that while CBAM’s phase-out of free allowances reduces emissions in covered sectors, meeting the EU’s 2030 targets would require an immediate carbon price of around €125 per tonne.

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Luca Taschini is an economist whose interdisciplinary research spans economics and applied finance, cutting across environmental and resource economics, industrial organisation, and financial economics. He is Professor and Chair of Climate Change Finance at the University of Edinburgh Business School and Director of the Centre for Business, Climate Change and Sustainability (B-CCaS). He is also a Visiting Senior Fellow at the Grantham Research Institute on Climate Change and the Environment at the London School of Economics, and a Fellow of CESifo’s Energy and Climate Economics group in Munich.