A business covered by the system surrenders allowances equal to its emissions each year. Allowances are handed out or bought at auction. A business that is short buys the difference from other businesses, and one with a surplus can sell it or carry it forward.
Consider a hypothetical example in which a business that emits 10,000 tonnes a year is given 8,000 allowances. If it buys the missing 2,000 allowances at 80 euros each, the cost is 160,000 euros. At a market price of 100 euros the cost is 200,000 euros, and at 60 euros it is 120,000 euros, so the cost falls when the price falls and rises when it rises.
An allowance is not the same as a credit, which certifies a result of emission reductions. The Financial Services Agency's material notes that under EU law emission allowances are financial instruments, while voluntary credits are not.