The European Union’s plan to reach climate neutrality and expand its Emission Trading System (ETS) in 2027 to cover buildings and road transport could worsen economic inequality. Without strong redistribution policies, household consumption – people’s ability to buy goods and services – could significantly decline in some regions, a study by the EU-funded Project WeLaR finds.
Climate policies like carbon pricing are crucial for tackling global warming but can have unintended economic consequences, including wider inequalities between household income groups, regions, and EU countries. While the first ETS (ETS1) covers greenhouse gas emissions from the power sector and energy-intensive industries, the second ETS (ETS2) will apply to the emissions from fuels used in buildings and road transport, increasing costs for households.
In their recent report “The Distributional Effects of EU Carbon Pricing”, WeLaR researchers from ZEW, IBS, and LISER developed economic models to assess the impact of upcoming ETS policy changes on businesses, workers, households, and the economies of 100 European regions.
“Achieving the EU’s climate policy targets through the market-based instrument of emissions trading will have a number of consequences on the structure of economies and the welfare of EU citizens,” said Sebastian Rausch, head of the ZEW Research Unit and a co-author of the study. “Our model sheds light on who will be hit hardest and which regions could be the biggest losers, so it can help policymakers design targeted responses.”
The findings show that the extension of carbon pricing could particularly strongly hit regions whose structure of production relies on carbon-intensive manufacturing. Latvia, parts of Poland, and Bulgaria could experience the largest decreases in consumption. Conversely, wealthier regions with more green and diversified economies will be better positioned to absorb the economic costs associated with the transition. Germany, Luxembourg, and Switzerland (whose trading system is linked to the EU’s) are projected to see smaller economic losses or even gains.
Carbon pricing will disrupt employment and cut real wages, forcing some workers to change jobs or relocate as higher production costs push businesses to downsize or shut down. On average, real wages could decline by around 5%, with the most affected areas seeing steeper drops of up to 10%. This is likely to drive migration, particularly from Eastern Europe, as affected workers may seek opportunities in stronger economies such as Germany, the Netherlands, and the United Kingdom, which remains outside the EU’s emissions trading system.
“Workers will likely look for jobs in places offering better employment options. Our estimates suggest that around 200,000 could move to new locations for jobs,” – said Joël Machado of the Luxembourg Institute of Socio-Economic Research (LISER), a co-author of the study.
Redistribution in the spotlight
The study underscores the importance of redistribution to mitigate the negative effects of carbon policies. The EU has established the Social Climate Fund, an instrument for reallocating ETS2 revenues, that can mobilise at least €86.7 billion in public funding from 2026 to 2032. Member States can allocate part of these resources for households’ direct income support to tackle the ETS extension’s unintended consequences.
The study shows that some countries will see welfare gains, mainly because they will receive a large share of carbon revenues from the first and second phases of the ETS and have relatively low costs for reducing emissions. However, by 2050, nearly all countries are projected to face adverse effects. The impact on households is expected to be even more pronounced. When ETS2 is introduced in 2027, the effects on households’ welfare across the EU could vary significantly, from a decrease of around 10% to an increase of 20%.
WeLaR researchers examined how using carbon revenues to fund lump-sum payments to citizens could ease the financial burden of ETS2 on households. They found that this approach could significantly reduce inequality, particularly in countries where such transfers represent a large share of lower-income households’ disposable income.
In Poland and Spain, for example, such payments would raise the disposable incomes of the poorest households and narrow economic disparities. However, in countries like France, where carbon tax revenues are lower, transfers may not fully offset rising living costs resulting from ETS2.
“We should not sugarcoat the financial impact of climate neutrality on household budgets. We also need to push policymakers to design fair redistribution policies,” said Piotr Lewandowski of the Institute for Structural Research (IBS), a co-author of the study.
In addition to redistribution, the researchers also point out that investing in new clean energy technologies can help reduce carbon prices and make reaching EU climate goals less expensive. Therefore, climate policies should also strengthen incentives for private sector R&D investments.
“To manage the unequal effects of carbon pricing, policies should focus on innovation to reduce costs and better-targeted support to protect vulnerable households,” said Rausch.
Marek Antosiewicz, Michał Burzyński, Piotr Lewandowski, Joël Machado, Sebastian Rausch, Jakub Sokołowski (2025) The Distributional Effects of EU Carbon Pricing. (Deliverable D4.5). Leuven: WeLaR project 101061388–HORIZON.
The full paper is available here.
