Significantly, the average rise in energy spending due to transport emission costs  for EU27 households in the 1^st income quintile could reach 44%, while that due to residential building emission costs could reach 50%. In the case of Poland, emission costs linked to residential buildings will increase the energy spending of the poorest households by 108%, according to the Polish Economic Institute’s report Cost for households of the inclusion of transport and residential buildings in the EU ETS.

In this report, we present the impact on EU households’ budgets of applying carbon pricing to the transport and residential building sectors. We evaluate the potential costs of introducing an ETS mechanism in the transport and residential building sectors based on different scenarios. We use two approaches. The first uses an exogenous EUA price drawn from two different scenarios to evaluate the potential costs of the extension. In the second approach, the price is calculated endogenously within the model as the ETS price needed to deliver the desired emission reduction (-40%) in the transport and building sectors, in line with an overall 62% target for the whole ETS. We compare the reduction in emissions obtained and the corresponding CO₂ prices.

“Our analysis showed that moving transport and heating out of the ESR (Effort Sharing Regulation) would make decarbonisation of transport (in particular) more difficult as there would be little incentive for member states to keep current fuel taxes in place. Incorporating these sectors into both the ESR and the ETS would lead to an unclear shared responsibility for reducing emissions there. At the same time, an EU-wide carbon price would require very high allowance permit prices to decarbonise these sectors equally rapidly by 2030, reaching EUR 180 per tonne (in 2015 prices) by 2030,” says Magdalena Maj, a senior analyst on the Polish Economic Institute’s energy and climate team.

Advantages and disadvantages of different scenarios

As the building and transport sectors are relatively unresponsive to the carbon price, an extended ETS would force companies in the existing ETS sectors to do more to compensate. This would lead to a loss of competitiveness in these sectors, resulting in small decreases in output and employment.

Without the revenue recycling the parallel ETS scenario would have a negative impact on output and employment. With 100% of revenue recycled the ETS scenario could increase economic activity in Europe while delivering the same emission reductions. If a share of the revenues is used for low-carbon technologies and to improve energy efficiency, it reduces the costs of low-carbon technology for all consumers and leads to lower carbon prices. If revenues are recycled back to consumers (through tax cuts or lump-sum transfers), it leads to higher consumer spending and economic activity.

Low-income households and the poorest states are the most vulnerable to extended carbon pricing

Introducing an ETS system in transport and residential buildings would significantly improve the effectiveness and feasibility of reducing emissions. However, modelling exercises show that, to achieve the required 40% reduction, it would be necessary to reach EUA prices of almost EUR 180/t CO₂ (in 2015 prices). At the EU27 level, such high prices would lead to an enormous cost for households – EUR 1112 billion in 2025-2040 – and have a potentially devastating impact on EU industry under the current EU ETS.

Higher prices would disproportionally affect poorer households. It is estimated that emission costs would impose an average annual cost increase in energy spending of 44% in transport and 50% in residential buildings for households in the first (poorest) income quintile.

The poorest EU member states are more vulnerable to the impact of the extension of carbon pricing. In Poland, in all of the analytical scenarios for the carbon pricing paths in the transport and residential building sectors, the costs for households compared to the BASELINE scenario is higher than in the EU27. In the MODERATE scenario for Poland, the total cost is 84% higher than in the BASELINE scenario, while in the HIGH scenario it is 163% higher. Residential building emission costs account for 57% of the total costs in Poland, around 15 percentage points higher than in the EU27.