UK Government announces UK ETS Extension to 2040 and Market Reform

The UK Emissions Trading Scheme is heading into its next phase.

As the market matures, and as the UK and EU edge closer to a potential future link, policymakers have been reassessing how best to keep the UK ETS fit for long-term decarbonisation and give participants certainty. 

As well as publishing the Response to extending the UK ETS cap beyond 2030, on 4 December 2025, the UK ETS Authority also published its response to the Future Markets Policy consultation, setting out how it plans to shape the scheme in the years ahead. 

“These proposals in themselves are in line with expectations and don’t change the current view or demand supply balances,” said Tim Atkinson, Head of Carbon at CFP Energy. 

 However, responses and decisions on the future are being made with linking in mind.

The UK recently announced that it would adopt the EU’s free allocation benchmarks from 2028 onwards and now no separate supply adjustment mechanism.

 The UK ETS is here to stay 

The UK ETS launched in 2021, replacing the UK’s participation in the EU ETS after Brexit.  

“The Authority has decided to extend the UK ETS into a Phase 2 from 2031 onwards,” it stated in the response adding that “A 10-year phase will ensure that market signals remain consistent with long-term decarbonisation goals, enabling strategic planning and long-term decarbonisation investment in the sectors within scope,” 

Full response - Extending the UK Emissions Trading Scheme cap beyond 2030 - GOV.UK 

Key decisions include:

• Extend the UK ETS into a Phase II from 2031 onwards. Before legislating to extend the Scheme, the Authority will consult on the specifics of a detailed Phase II cap profile. 

• UK ETS Phase II will run from 1 January 2031 to 31 December 2040, a phase length of 10 years. 
• To allow banking of allowances between Phases I and II of the UK ETS. 

The ”Future Markets Policy” response also focuses on ensuring that the market continues to send a robust and credible carbon-price signal, while protecting participants from extreme volatility. 

The Headline ETS Decisions 

A higher, inflation-proof auction reserve price

One of the key changes is the decision to increase the Auction Reserve Price (ARP), the minimum price at which allowances are sold at auction. 

• From 2026 the ARP will rise from £22 to £28. 
• From 2027 onwards, it will automatically increase each year in line with inflation. 

Although this price is still significantly below the current UK Allowance (UKA) price and future price forecasts, the ARP now has a steady, upward trajectory, preventing it from eroding in real terms and helping maintain a meaningful minimum carbon price.  

The cost containment mechanism remains

The Cost Containment Mechanism (CCM), the tool designed to respond if carbon prices rise too far, too fast, remains untouched. 

The Authority argues that the current trigger (a price three times above the trailing two-year average for six consecutive months) provides an effective safeguard without distorting the market.  

No new supply adjustment mechanism

 A key question in the consultation was whether the UK should introduce a quantity-based Supply Adjustment Mechanism (SAM), similar to the Market Stability Reserve in the EU ETS. 

For the moment, the answer is no.

The Authority concluded that the existing price-based tools (ARP and CCM) are sufficient for a standalone UK market and that adding new, complex mechanisms now could be premature given the possibility of future UK–EU linkage. 

The risks policymakers are targeting

Behind these policy choices are three main risks the Authority believes are important to the effective functioning of the UK carbon market.

• Long-term drops in demand that could create a persistent surplus of allowances. 
• Sudden, sustained price falls that weaken the incentive to decarbonise. 
• Sharp, prolonged price spikes that place excessive cost pressure on businesses. 

In The Authority’s view, the combination of a strengthened ARP and an unchanged CCM strikes the right balance for the next stage of the UK ETS.  

However, as we have seen in recent years, carbon price volatility in both the UK & EU carbon is driven by a number of external drivers so it remains to be seen if these mechanisms would be dynamic enough to prevent price shocks. 

All eyes still on Europe 

A major backdrop to the response is political: on 19 May 2025, the UK and EU agreed to work towards linking their emissions-trading systems. 

Because linkage would require harmonised or mutually compatible market-stability tools, the Authority has chosen to make; “changes reflect policy the Authority considers proportionate to make at this stage to support an effective standalone market while negotiations to link the UK and EU ETS are ongoing” 

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