The European Union’s flagship plan to cut carbon dioxide emissions and fight global warming has turned into a licence to pump more pollution into the atmosphere, it emerged today.

Under the EU Emissions Trading Scheme, big polluters such as power stations have been allocated permits to release certain levels of CO2 into the atmosphere. Those that beat their target are able to trade their excess allocations with businesses that are pumping out more of the greenhouse gas than they have been allowed.

Overall the scheme, the first of its kind, is designed to cut pollution by providing financial incentives to businesses.

But the first report on the system, which was introduced last year, showed today that Britain was one of only six countries in the 21-nation European Union to issue permits last year that required polluters to cut emissions.

Across the EU, industrial plants pumped out 1.785 billion tonnes of CO2 in 2005, while national authorities had given them allowances for 1.829 billion tonnes.

The resulting capacity for more pollution under the scheme is now likely to lead to a fierce round of negotiations in Brussels, with governments urged to stand up to big business and to demand more challenging caps on CO2.

Ian Pearson, the Minister for Environment and Climate Change, said: "The results across the EU do raise questions about the stringency of caps in some member states."

He added: "I will be encouraging the Commission to use this information to improve the enforcement of tough caps for Phase II."

Today's report showed that British industry overshot the CO2 target imposed by Whitehall for 2005 by 27 million tonnes, after electricity providers produced far more emissions than they were allocated under the scheme.

In contrast, Germany, the EU's largest polluter, beat its targets by some 21 million tonnes, meaning that the country has far less incentive to become greener under the scheme and potentially placing its businesses at an advantage to Britain's.

Most other countries have issued permit allocations that allow industry to increase CO2 emissions by at least one fifth compared with recorded CO2 emissions in their countries in 2005. Lithuania and Latvia have issued permits that allow almost double the volume of CO2 emissions.

The price of carbon-emission permits traded under the scheme has plunged in the past month as speculation grew that many European governments have been strong-armed by industry into issuing permits that allow more pollution.

In late April, the market fell 35 per cent in a single day to €15 for a tonne of CO2 emissions after the publication of figures from Belgium, the Czech Republic, Estonia, France, the Netherlands and Spain.

Environmental groups have said that at such levels the EU's efforts to cut greenhouse gases under the Kyoto Protocol are bound to fail.

"European governments have blatantly ignored the aims behind [it] and abused the trading scheme, under pressure from their dirty industries," Matthias Duwe, the European director of the Climate Action Network, said.

"Governments need to grab control of the wheel and steer a clear path to emission reductions."

Whitehall sources are now voicing fears that unless the EU cracks down on member states to impose quotas that require businesses to cut down pollution, the system will go into meltdown.

There are also widespread fears over the quality of reporting in some countries.

More than 12,000 industrial installations are covered by the scheme, but four countries - Cyprus, Luxembourg, Malta and Poland - do not yet have operational emission allowance registries.

Mr Pearson said: "These results represent the completion of the first year of the scheme and are a major milestone. It is still very early days for this groundbreaking scheme."

He added: "Compliance with the scheme in the UK has been excellent - almost all operators submitted their verified emissions reports and surrendered the correct number of allowances within the deadlines."

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