Problem
When a government puts a price on carbon emissions, companies face higher costs. The fear has always been that they will respond by moving their most polluting activities to countries where no carbon price exists: a problem known as carbon leakage. We needed to show clearly whether the world's first and largest carbon trading system, covering more than 12,000 power and manufacturing plants across 31 countries had cut global emissions or simply shifted them elsewhere.
Science
We used detailed administrative data from the French manufacturing sector, covering every year from 1996 to 2012, to compare firms regulated under the EU with similar unregulated firms. We matched each regulated firm to a comparable unregulated firm in the same industry, with similar emissions, employment, capital and trade patterns, then tracked both groups over time. This matched difference-in-differences approach allowed us to isolate the direct effect of the policy. We measured not just emissions but also value added, employment, capital investment, imports and investment in cleaner production technologies, so we could test whether any emissions reductions were real or simply the result of firms outsourcing their most polluting activities.
Outcome
Regulated firms cut their CO2 emissions by 14% during the first trading phase (2005 to 2007) and by 16% during the second (2008 to 2012), with no detectable fall in output, employment or value added. Across France, the EU ETS reduction in industrial CO2 emissions accounted for 28 to 47% of the total reduction in industrial emissions during that period. We found no evidence that firms moved production or emissions abroad. Instead, regulated firms increased their capital investment by around 8 to 10% and significantly raised their spending on cleaner production technologies, such as more efficient boilers and heat recovery systems.
Change
This research provides the first firm-level evidence that the EU ETS delivered real, global reductions in CO2 emissions. Firms achieved this by investing in cleaner production, and those investments appear to have paid for themselves through lower running costs, which is why output and employment held steady. Policymakers designing or expanding carbon trading systems can now point to this evidence when making the case that carbon pricing works without destroying jobs or growth. Governments considering whether to introduce or strengthen carbon pricing have stronger grounds to act.
Jonathan Colmer, University of Virginia; Ralf Martin, International Finance Corporation and ³Ô¹ÏºÚÁÏ; Mirabelle Muûls, ³Ô¹ÏºÚÁÏ; Ulrich J. Wagner, University of Mannheim
'Does pricing carbon mitigate climate change? Firm-level evidence from the European Union Emissions Trading System', Review of Economic Studies, vol. 92, no. 3, 2025, pp. 1625–1660