EU carbon market faces oversupply risk from reforms, study warns
Proposed EU ETS changes could flood the market with allowances through 2040, clashing with a geopolitically constrained reform timeline.
The EU emissions trading system could face persistent oversupply until 2040 under proposed market reforms, research group Oeko Institute warned on Thursday (2026-05-21), saying the changes risk substantially increasing carbon allowance availability beyond what is needed.2
The European Commission is simultaneously racing to agree ETS reforms by Q1 2027 — a timeline analysts at a Montel event on Thursday (2026-05-21) called "ambitious" and "extremely challenging." The ongoing US-Israeli war with Iran is likely to delay the process further, they said.1
The commission has signalled it will propose adjustments that could cut ICE EUA Dec-rolling prices by roughly 13% over the next two years, according to a senior analyst at Veyt speaking to Montel on Wednesday (2026-03-25).7
Two new EU initiatives are likely to compound bearish pressure. The launch of the Industrial Decarbonisation Bank and the ETS investment booster scheme could release more carbon allowances into the market from next year, consultancy Energy Aspects said on Tuesday (2026-04-14).6
The market structure complicates any straightforward bearish read. Gas plants set the price in 89% of European power market hours so far in 2026, Ember data shows, compared to just 15% in Spain.4 Where gas remains the marginal fuel, ICE EUA Dec-rolling prices draw support from the generation mix — a prop that erodes as allowance supply grows from policy reforms.
The compressed reform timeline carries its own risk. If allowance supply expands before geopolitical uncertainty from the Iran war recedes, the market could absorb simultaneous pressure from lower industrial output and higher auction volumes. ICE EUA Dec-rolling prices initially declined on the US rejection of Iran's latest peace proposal over the weekend before recovering as positive fundamental sentiment spread among traders, Carbon Pulse reported on Tuesday (2026-05-20).3
The commission's broader simplification drive cuts both ways. The EU carbon border adjustment mechanism has been streamlined: excluding all shipments under 50 tonnes means that 90% of firms originally obliged to participate will no longer have to, a change that still leaves 99% of the emissions the scheme targets covered, the commission said.5 This reduces compliance costs for smaller importers without materially shrinking the scheme's overall emissions scope.
For carbon traders, the bearish case rests on policy-driven allowance oversupply through 2040.2 The bullish case depends on gas retaining its role as the marginal fuel across European power markets — Ember's 89% pricing figure suggests that support remains intact for now, though the Iran conflict adds uncertainty over whether the reform calendar holds at all.4 The next signal is whether the Commission publishes a draft legislative proposal before the summer recess, since hitting Q1 2027 would require that milestone.1,7