The Drivers of Emission Reductions in the European Carbon Market

This paper studies the drivers of emission reductions in the carbon market of the European Union
Emission Trading System (EU ETS) since its inception in 2005. We introduce a novel empirical framework
that facilitates the joint identification of simultaneous demand and supply shocks underlying the European
carbon market. We find that emission supply restrictions of the EU ETS were the dominant driver of
emissions reductions, reducing emissions by 46%. However we also find that two opposing emission
demand factors also played an important role. Demand from industrial economic activity increased
emissions by 15%, while other demand-side factors, primarily reflecting the transition to low-carbon
economies, reduced emissions by 21%.