Draft Greenhouse Gas Emissions Trading Scheme (Amendment) Order 2026
(Limited Text - Ministerial Extracts only)
Read Full debateThe Committee divided: - Ayes: 11 / Noes: 4 - Question accordingly agreed to.
The Parliamentary Under-Secretary of State for Energy Security and Net Zero (Chris McDonald)
I beg to move,
That the Committee has considered the draft Greenhouse Gas Emissions Trading Scheme (Amendment) Order 2026.
I am grateful to you, Sir Desmond, and to the Committee for their consideration. The draft order was laid before the House on 16 December 2025.
The UK emissions trading scheme, the UK ETS, was established under the Climate Change Act 2008 by the Greenhouse Gas Emissions Trading Scheme Order 2020 as a UK-wide greenhouse gas emissions trading scheme contributing to the UK’s emissions reduction targets and net zero goal. The scheme is run by the UK ETS authority, a joint body comprising the UK Government and the devolved Governments. Our aim is to be predictable and responsible guardians of the scheme and its markets.
Under the UK ETS, operators are required to monitor, report on and surrender allowances in respect of their greenhouse gas emissions. While most allowances are purchased at regularly held auctions, operators in certain sectors at risk of carbon leakage are given a number of allowances for free, referred to as free allocations. Free allocations reduce exposure to the carbon price for those sectors at risk of carbon leakage and reduce the risk that decarbonisation efforts could be undermined by production, and the associated emissions, moving to other countries.
Under the UK ETS, an operator is the person or company that has control over an installation. Installations are stationary units at which regulated activities take place. Sub-installations represent operations carried out at an installation in respect of which operators that receive free allocations are required to report activity levels for the purposes of the UK ETS.
We have brought forward this draft statutory instrument to enable important changes and improvements to the scheme. The first change that the instrument makes is to enable operators of installations to be able to notify their regulator that they wish to have their activity data for the 2020 scheme year, or 2020 and 2021 scheme years, excluded from the calculation of their historical activity level for the 2027-to-2030 free allocation period. That is in recognition of the fact that production levels may have been impacted during the covid-19 pandemic. Such operators will be able to notify their regulator during the second stage of the 2027-to-2030 free allocation application, which runs from 1 April 2026 to 30 June 2026, that they wish to have their activity data for 2020, or 2020 and 2021, excluded.
Legal change is needed to the free allocation regulation, because existing legislation would require regulators to calculate historical activity levels using activity data from all five years of the baseline period, or 2019 to 2023. If amendments are not made, there will be no legal basis for regulators to exclude 2020, or 2020 and 2021, data from the historical activity level calculation for any applicant. Using activity data for those years could result in historical activity levels that do not reflect normal activity, meaning that operators would receive fewer free allocations than they would otherwise be entitled to receive.
The second change that the draft instrument makes is gradually to phase out free allocation for sectors covered by the UK carbon border adjustment mechanism, or UK CBAM, starting over the 2027-to-2030 allocation period. That phase-out will be implemented through applying a UK CBAM reduction factor to the calculation of free allocation and will apply at sub-installation level. To do that, operators will be required to report which of their sub-installations serve the production of goods within the UK CBAM, which will enable regulators to apply the UK CBAM reduction factor to the relevant sub-installations. Legal change is needed as operators only classify their sub-installations by a specific benchmark and the corresponding carbon leakage status of that sub-installation. The instrument also requires operators to classify each sub-installation as relevant or not to UK CBAM.
Benchmarks are the efficiency standards used to calculate each installation’s free allocation entitlement. Installations closer to their benchmark have a higher proportion of emissions covered by free allocation, rewarding more efficient installations and incentivising decarbonisation. The third change that the instrument makes is to use current benchmarks for the purpose of calculating free allocation for stationary installations for the 2027 scheme year. The instrument also provides for the ability to update the benchmark values used to calculate free allocation for the years 2028, 2029 and 2030 of the 2027-to-2030 allocation period. Maintaining current benchmarks for the 2027 year will allow time for industrial participants to adjust to the changes.
Legal change is needed to the free allocation regulation because, under existing legislation, there is no provision to update benchmarks during an allocation period. The in-principle intent is to use the updated EU ETS phase 4 benchmarks in the 2028, 2029 and 2030 scheme years. That will be decided once the EU benchmark values are available, and subject to assessment of the impact.
Installations that permanently cease to operate are required to report on their activity in the final year of operation so that free allocation can be recalculated to reflect the cessation of activity. The amendment clarifies that operators are required to report on the activity levels of a sub-installation, whether that is due to permanent cessation, as is currently provided for, or the surrender or revocation of the operator’s permit.
The intended changes follow comprehensive engagement and consultation with stakeholders. The UK and devolved Governments carried out consultations that covered the provisions included in the statutory instrument. The free allocation review consultation ran from 18 December 2023 to 11 March 2024, seeking views on proposals to alter the free allocation methodology for the UK ETS stationary sectors to better target those most at risk of carbon leakage and ensure that free allocations are fairly distributed.
The free allocation review carbon leakage consultation ran between 16 December 2024 and 10 March 2025. It sought views on a draft UK-focused carbon leakage list, compiled by applying UK data to the existing carbon leakage list, as well as the trajectory for phasing out free allocations for sectors that will be covered by the UK carbon border adjustment mechanism. The relevant responses to those consultations were summarised in the authority’s response.
The changes in the draft order will deliver on commitments made by the UK ETS authority, improve the fairness of the scheme and increase certainty for both regulators and operators. They will ensure that free allocation continues to provide meaningful support to UK industry while maintaining the incentive to decarbonise and rewarding efficient installations. The amendments to the UK ETS will support its role as a key pillar of the UK’s climate policy. They demonstrate that we will take action to improve the scheme where necessary. I commend the draft order to the Committee.
Chris McDonald
I thank everyone for their contributions to the debate, which was considerably more fulsome and energised than is usual for a 4.30 pm Committee. I am incredibly grateful, because Members in all parts of the Committee made a number of points, giving me the opportunity to clarify some details of the workings of the scheme.
The shadow Secretary of State, the right hon. Member for East Surrey, said that it was a very dense report with a lot of governmentitis. I know that she understands the details of this subject well, because she is the former Secretary of State, but I appreciate that it is technical, and it behoves all of us to try to explain as clearly as possible what the draft order means.
I will start by addressing some of the specific points in the draft order and then talk a bit more generally about some of the points that Members have raised. I appreciate the concerns on both sides of the House about the impact on industry and the risk, when we are decarbonising industry, of deindustrialisation. I know that this concern is sincerely felt by everybody in this room, even if we might differ at times on what we think the best approach is. That is why we have been so careful to consult industry on these measures, as I outlined in the long catalogue of dates in my opening speech. We have consulted carefully with industry and made sure we have listened to what they have said.
Some of the issues here run quite broadly around industrial competitiveness. Possibly one of the main points to recognise is that it is important through the whole decarbonisation process that industry manages to maintain access to its key markets, and clearly one of the key markets is the EU. That is where we come to the discussion about linking the EU ETS and the UK carbon border adjustment mechanism with the EU to enable our UK industries to continue to trade there. Negotiations with the EU started in November, but I want to be clear that they will only conclude in this way if it is in the UK interest to do that. We will continue to consult with UK industry on that matter too.
In relation to points made by my hon. Friend the Member for Stoke-on-Trent Central, the ceramics industry made three specific requests during the consultation. We managed to adopt requests to include ceramics on the carbon leakage list, no tiering of free allocations, and greater engagement with the ceramics sector, which is why we set up the UK ETS working group. My hon. Friend asked me specifically if we could reallocate free allocations from other sectors to ceramics. That is not possible within the current rules, but that does not mean that I am not aware of the issues surrounding the ceramics sector. We can use the UK ETS group to look at ETS issues, but we should also look more broadly at the concerns of the ceramics sector. I look forward to starting that conversation over dinner with my hon. Friend and the ceramics industry later this evening.
On the question of power and the impact of the instrument on energy bills, the important point is that the ETS applies to power that is produced from fossil fuels, not renewable energy. This Government’s policy is to pursue our clean power mission by 2030, which involves investing in the cheapest forms of power available, in onshore and offshore wind, solar power and nuclear energy. The purpose of the ETS is to incentivise that. The carbon price incentivises investment; it provides the incentive in power and in industry to invest in new green technologies.
Claire Coutinho
Originally, the choice was between coal and gas, but there is no coal in the system anymore; there is only gas. Even in the Minister’s clean power plans, gas is the dispatchable power in the system—there is no other choice; nothing else will keep the lights on when the wind does not blow and the sun does not shine. Even in his plans, gas will set the price 50% of the time. He is needlessly imposing a tax that inflates that price of gas to the consumer when there is no other choice available. Will he at least come up with a forecast for what this will mean for energy bills and consumers in this country, considering that they do not have another choice, even in the Minister’s plans, apart from using gas power?
Chris McDonald
I think what the shadow Secretary of State has outlined is exactly the success of this policy—it has driven coal out of the system in favour of cheaper power. That is exactly the point of the ETS and the industrial investment. Of course, as we said, we are pursuing our clean power mission for energy security and to lower energy bills, as well as to ensure that we also have green energy.
Steve Barclay (North East Cambridgeshire) (Con)
Can the Minister explain why his impact assessment says opposite things on the same page? In respect of the £92 million direct net cost to business, on the one hand, it says:
“our working assumption is that all costs are incurred to business, with no indirect impacts to households.”
In the very next paragraph, it says:
“we estimate that cost-pass through for most sectors could feasibly be at 80-90%”.
Both those things cannot be true, can they?
Chris McDonald
What can be true is that there are both costs and savings for industry, particularly the savings for industry associated with being a member of the UK carbon border adjustment mechanism, which will come into force in 12 months. If we link the UK and the EU ETS, that will enable UK industry to trade freely within the EU, as it has done in the past.
Chris McDonald
No, no—I have dealt with that.
The hon. and learned Member for North Antrim asked me about the issue in Northern Ireland, which is a separate electricity zone. Electricity generators in Northern Ireland have not historically received a free allocation, and in future, the free allocation rules on electricity generation will apply in the same way for the UK and EU operators, assuming that there is linkage.
I will return to the point about industry that was made by the shadow Secretary of State, among others. Clearly, the drive is to incentivise investment in industry, and that is precisely what the policy does; that is precisely the mechanism of the carbon price. It is a fallacy to assume that the investment in industry will result in less efficient or more expensive industrial products. That is certainly not the case for the steel industry, where investing in green technology results in lower production costs. The Government’s policy framework gives industrial companies a clear investment framework.
Claire Coutinho
I appreciate the Minister’s graciousness in understanding our concern for industry. His priority is decarbonisation, but I am sure he will understand the very real risk that it is not the case that the UK is decarbonising, because those industries are not remaining in the UK and cutting their emissions; instead, UK businesses in those industries are going abroad, often to countries that have more polluting regimes than the UK—which has some of the cleanest electricity of anywhere in the world—including places that are still powered by coal. Rather than reducing global carbon emissions, we will actually increase emissions by moving our businesses from the UK to countries that have more polluting regimes. That will mean fewer jobs in Britain for more carbon in the atmosphere. Do the Government plan to monitor whether that is happening, and if it is, will the Minister change course? Surely he would agree that such a scenario would not count as decarbonising well; in fact, it would not be decarbonising the planet at all.
Chris McDonald
The shadow Secretary of State and I are clearly both concerned about the same thing. I know that that concern is shared across the House, but deindustrialisation and decarbonisation need not be in competition. Sadly, under the previous Government, there was a 30% reduction in UK cement production, a nearly 50% reduction in automotive production and a 30% reduction in chemicals production. That is why, alongside the ETS policy, we published our industrial strategy; it is why I introduced the British industrial competitiveness scheme to reduce energy costs for 7,000 manufacturing businesses; and it is why we increased the supercharger to 90% for energy intensive industries.
Clearly, we recognise that energy costs have been too high in the UK for industrial businesses as well as consumers. That is primarily a result of the policy of the previous Government to leave us at the mercy of petrostates and fossil fuel dictators, on the rollercoaster of fossil fuel prices. The shadow Secretary of State said that my priority is decarbonisation. I happen to be in a place where there is a happy coincidence between energy security, decarbonisation and the lowest cost of energy. That is recognised by industry, and that is why it is Government policy.
Chris McDonald
I feel I have detained the Committee for too long, so if the right hon. Member will excuse me, it would be a good idea to draw the debate—and we have had a good debate—to a close.
The statutory instrument will give certainty to the industry around benchmarks and free allocations. The free allocations reduction is specifically for those sectors that are part of the carbon border adjustment mechanism, so some other sectors will not be affected. The legislation needs to be in place for applicants to apply for their free allocations for the period to April 2026. The statutory instrument will implement the proposed improvements to the scheme.
Chris McDonald
These changes have the support of the four Governments of the UK. That consensus on advancing carbon pricing policy adds to the strength of the UK ETS. I therefore commend the draft order to the Committee.
Question put.