European industrial competitiveness is being shaped by the combined cost of carbon, energy and production, alongside the regulatory conditions affecting imports and investment. A provisional EU deal to keep more emissions allowances in reserve has altered the framework for managing future carbon-market scarcity. Steel, aluminium and cement producers are still dealing with weak demand, international competition and uncertainty about the returns from industrial decarbonisation.
EU ETS market stability reserve threshold set to rise
On October 20, 2026, EU negotiators reached a political agreement that would increase the market stability reserve allowance-invalidation threshold from 400 million permits to 700 million permits, subject to formal adoption. The arrangement does not require any additional allowances to be sold or released into circulation. Manufacturing costs are expected to continue reflecting EU ETS auction prices, electricity and gas prices, production efficiency and the availability of free allocation.
The impact of carbon-market scarcity management is one element of a broader cost picture for industry. In parallel, steelmakers face demand conditions and trade dynamics that can affect output independently of CBAM. These factors are part of how companies assess operating conditions under evolving EU climate policy.
Steel output trends highlight pressure on margins
EU steel production illustrates the scale of the challenge reported by industry. EUROFER said EU crude steel output fell to 125.8 million tonnes in 2025, described as the lowest level on record. Apparent steel consumption is expected to rise by only 0.1% in 2026.
EU trade signals also point to weaker external demand. EUROFER’s October outlook reported a 20% decline in exports to third countries during the first half of 2026. Weak construction and manufacturing activity, together with global excess steelmaking capacity, were cited as continuing to affect the sector.
Technology differences shape exposure to carbon and power prices
Steelmakers’ cost structures vary with production technology. Blast-furnace routes create carbon exposure through iron ore reduction and fuel use, while electric-arc furnaces can reduce direct emissions. Electric-arc furnace competitiveness is also linked to scrap quality and electricity costs.
Primary aluminium production is described as particularly electricity intensive, while scrap remelting has a different direct and indirect emissions profile. Cement production faces constraints because emissions from limestone calcination cannot be eliminated simply through purchasing renewable electricity. As a result, an EU ETS price can translate into different cost and investment implications across industrial sectors.
CBAM coverage begins in multiple sectors from January 2026
The Carbon Border Adjustment Mechanism entered its definitive phase on January 1, 2026. It initially covers selected products in the iron and steel, aluminium, cement, fertiliser, electricity and hydrogen sectors. The mechanism is designed to align the carbon treatment of covered imports with that applied to European production.
Manufacturers using CBAM-covered materials as inputs may face higher purchasing costs if those costs are reflected in supply chains. At the same time, certain imported finished goods incorporating those materials remain outside CBAM’s current product scope. This gap has raised concerns about potential carbon leakage further along manufacturing supply chains.
Downstream CBAM expansion remains unresolved
The European Commission proposed COM(2025)989 in December 2025 to extend CBAM to selected steel- and aluminium-intensive downstream goods from 2028. The European Parliament and the Council adopted different negotiating positions, leaving no agreed final list of additional products. The proposed extension therefore has not become a final adopted expansion of product scope.
Steel and aluminium producers support extending coverage to finished products competing with European manufacturing. Some machinery, automotive and equipment manufacturers have raised concerns about additional compliance requirements and higher sourcing costs before the existing CBAM regime has fully settled into operation. The dispute reflects differing positions within industrial supply chains regarding competition and administrative burdens.
Investment outlook depends on carbon expectations and free allocation
Producers considering direct-reduced iron, electric furnaces, clean-power supplies or recycling facilities require credible long-term revenue expectations. Higher future carbon prices can improve relative economics for lower-emission production but may also increase operating costs for European industrial facilities and raise material purchasing expenses.
The provisional market stability reserve agreement is described as adding a larger potential buffer against future allowance scarcity. However, its effect on industrial investment depends on how it influences market expectations and resulting carbon-price outlooks rather than on the reserve threshold alone.
The European Commission’s July 2026 EU ETS revision proposal introduces another variable by proposing a slower phase-out of free allocation for CBAM sectors. The proposal would potentially extend the process from 2034 to 2038, while the existing legal schedule remains in force because legislation has not been amended.
If negotiations lead to a different outcome than assumed in valuations, investors could misjudge future carbon costs under scenarios involving a slower phase-out. Financial models that ignore the Commission’s proposal could overstate exposure if changes are eventually adopted.
Trade safeguards and pricing contracts interact with CBAM costs
CBAM-related carbon costs are only one component of European manufacturers’ competitive position. EU steel trade safeguards, tariffs, sanctions affecting certain origins, freight rates, automotive production levels and currency movements can all influence import volumes, selling prices and profit margins.
Because these factors can move together with carbon-related charges, changes in imports or market prices cannot automatically be attributed to CBAM without separating other effects. A separate point is that CBAM includes a 50-tonne annual mass-based exemption that must be distinguished from broader customs classification exemptions for small businesses.
The threshold does not mean all smaller companies are automatically excluded from customs classification or record-check requirements tied to relevant documentation processes. Regulatory costs can also interact with commercial pricing uncertainty; for example, a steel mill may have to buy allowances without sufficient pricing power when global capacity is excessive.
A downstream fabricator under an annual fixed-price contract may not recover unexpected increases in steel input costs until contract renewal. Depending on market power and contractual terms, the same carbon-price scenario can affect mill earnings, processor margins or final-consumer demand differently across supply-chain roles.
Decarbonisation projects rely on long lead times
Certain operational improvements such as metering upgrades, materials accounting changes and energy-efficiency measures can be implemented over shorter periods. Converting furnaces or developing carbon-capture projects requires design work, permits, financing, construction and reliable long-term offtake arrangements.
Regulatory commitments made in 2026 can influence whether investors proceed immediately or wait for greater certainty about future carbon costs and industrial support measures. Delaying projects can postpone emissions reductions that policy frameworks aim to encourage.
Emissions verification requirements affect Western Balkan suppliers
For manufacturers in Serbia, Bosnia and Herzegovina, North Macedonia and Montenegro, an immediate commercial challenge is documenting product-level emissions at a cost and reliability acceptable to EU buyers. The longer-term question is whether European purchasers will relocate more production within the EU, source lower-carbon materials from abroad or reorganise industrial supply chains.
The EU’s provisional carbon-market agreement provides greater flexibility for managing future allowance supply. At the same time, debate continues over free allocation approaches and downstream CBAM coverage expansion beyond current scope.
Suppliers in Southeast Europe are expected to continue demonstrating emissions performance as European buyers assess procurement costs, regulatory exposure and the competitiveness of alternative production locations within regional supply networks.