UK-EU Emissions Trading Scheme (ETS) linkage: a new era for carbon markets

The renewed agenda for EU-UK cooperation common understanding published on 19 May 2025 may prove to be the start of a new era for EU and UK carbon markets. Although the detail is still to be worked through, the commitments set out in the common understanding represent a significant shift in post-Brexit climate policy relations and support for a common carbon market.

The new common understanding on ETS linkage

The common understanding confirms that the European Commission and UK Government have formally agreed to "work towards linking emission trading systems" as part of their renewed cooperation agenda.

The aim of such cap-and-trade schemes is to create a price signal for cutting carbon emissions and, therefore, an incentive for emitting less, in economic terms. As the cap shrinks, the number of allowances available reduces and their price increases. Over time, decarbonisation becomes more economically attractive than high-emission activities.

The common understanding establishes several key principles in respect of the new alignment:

• the linkage will not constrain either party from pursuing higher environmental standards consistent with their international obligations;
• the territorial application will be "appropriately articulated" within the provisions of the Windsor Framework;
• goods originating in either jurisdiction will benefit from mutual exemptions from respective carbon border adjustment mechanisms (CBAMs);
• all aspects of the functioning of an ETS will be covered under the new linkage;
• the linked scheme will cover electricity generation, industrial heat generation, industry, domestic and international maritime transport and domestic and international aviation, with provisions to expand this list over time;
• the UK ETS cap and cap reduction will be guided by the UK’s obligations under the Climate Change Act 2008;
• the UK will ensure “dynamic alignment” with relevant EU rules underpinning the functioning of the ETS linkage and provide a financial contribution towards relevant EU policy development; and
• the linkage agreement will be subject to a joint governance mechanism.

Broader cooperation on energy and regulation for low carbon technologies

In recognition of close cooperation being in the best interests of both the EU and the UK, the common understanding confirms that the UK’s possible participation in the broader EU internal electricity market will also be explored. Any such arrangement would need to ensure a level playing field and provide clarity as to the relationship between the parties in relation to rules on state aid, promotion of renewables and the environment in so far as they relate to the electricity sector. While the details of any such participation are yet to be confirmed, closer integration of electricity markets may have a positive impact on day ahead interconnector trading costs and encourage investment in multi-purpose interconnectors.

The common understanding also confirms that there will be continued technical regulatory exchanges on new energy technologies such as hydrogen, carbon capture, utilisation and storage (CCUS) and biomethane.

Impact of cooperation for the UK and EU energy sector

The planned linkage between the UK and EU ETS and the coordinated CBAM exemptions are likely to create a more stable, predictable carbon price which would enhance investment certainty for low carbon and carbon capture technologies. It represents a significant development for the energy industry and for climate ambitions. By creating consistency, the cost to companies of complying with the schemes is reduced, potentially enabling them to achieve net zero more quickly and economically.

The CCUS industry anticipates that this new alignment may unlock increased long-term investment in CCUS technology, accelerating the deployment of carbon capture solutions as part of industrial decarbonisation strategies.

While other regulatory barriers to a fully functioning cross-border CO2 storage and transfer market remain, the common understanding signals strong political backing for a unified UK-EU carbon market.

Increased strategic alignment on technical regulation of low-carbon industrial technologies will foster clarity, reduce friction and enhance investment signals for the market. Integration of the UK into the EU electricity market will similarly make electricity trading easier and potentially reduce electricity prices in both jurisdictions.

Next steps

We anticipate that a linking agreement could be agreed before the next UK general election, with an interim agreement likely to be put in place while negotiations are ongoing.