The European Union is squaring up for a major battle in 2021, proposing a carbon border adjustment mechanism that risks the ire of its trading partners and exporters to the 27-nation bloc.
The CBA mechanism, scheduled for announcement by the European Commission in June, would force exporters in some energy-intensive sectors to pay for the carbon they emit when creating products sent to EU markets.
That would confront the main drawback of the European Union's Emissions Trading System (ETS): It puts a price on carbon emitted by more than 11,000 carbon-producing installations across the bloc, forcing the operators of those sites to buy emissions allowances, but it puts those European businesses at a competitive disadvantage compared to exporters outside the European Union.
The Landscape for a CBA Mechanism in the European Union
EU policymakers fret that the bloc has been a victim of its own considerable success story, due to the ETS. EU greenhouse gas emissions have been on a gentle slide to 79% of 1990 levels by 2018, according to the Brussels-based Bruegel Institute think tank, whereas the carbon generated by its imports has grown by an estimated 28% over the same period.
Some of that rise in carbon imports has been due to "carbon leakage," in which carbon-producing companies in the European Union have moved their operations outside of the bloc to remain unencumbered by the ETS. A carbon border adjustment mechanism would address that.
The idea has been floating around for more than a decade, but would be implemented by 2023 under proposals outlined by the European Commission, the executive branch of the European Union.
In theory, the commission is still debating one of three main forms that a CBA mechanism could take: an import tax, a new excise duty, or a levy based on the price of allowances trading in the EU ETS.
However, most readings of the tea leaves strongly suggest that the Commission is minded to opt for the ETS-based carbon border adjustment system that would force exporters to the European Union to buy allowances technically outside of the EU ETS, but based on its prices. Read how market mechanisms aimed at a greener future impact oil prices.
Brussels-based think tanks have hosted several events in recent weeks featuring ETS-based CBA mechanism proposals. One such event, hosted by the Bruegel Institute, saw Spanish economist and Member of the European Parliament (MEP) Luis Garicano outline how the thorny issue of measuring EU carbon imports could be addressed.
“Obtaining the actual level of carbon emissions for every imported product is unfeasible,” Garicano said. But a reasonable approximation can be created to measure the carbon content of imports by “using the weight of the raw material embedded in the product and multiplying them by a default carbon intensity value,” argued Garicano.
CBA Mechanism May Cause Rifts
The potential for a CBA mechanism to spark fisticuffs with the rest of the world is high. But exporters to the European Union will have a harder time arguing that it falls foul of World Trade Organization (WTO) rules designed to stop protectionist measures. Those exporters to the bloc would be paying the same carbon price as EU-based emitters subject to the ETS.
The least clear aspect of the European Commission's forthcoming CBA proposal concerns the economic sectors likely to be subject to it. MEPs sitting on the European Parliament's Committee on Environment, Public Health and Food Safety backed a maximalist approach at the start of February. The parliamentarians voted by 58 to eight in favor of a CBA mechanism applied to imports across the cement, power, steel, oil refining, aluminum, paper, glass, chemicals, and fertilizer sectors.
The MEPs also backed an ETS-linked CBAM and the 2023 starting date.
A CBAM will likely face a fierce backlash later this year, a point underscored by US President Joe Biden’s climate envoy John Kerry, who recently said that a CBA mechanism “does have serious implications for economies, for relationships and trade,” warning that Europe should see the measure as “a last resort.”