By - King Stubb & Kasiva on October 5, 2023
The signing of a preliminary agreement on the Carbon Border Adjustment Mechanism (“CBAM”) in December 2022 marked a watershed moment in the European Union’s (“EU”) fight against climate change. This ground-breaking policy aims to boost global climate action, reshape international trade, and combat carbon leakage. The implications and potential effects of the CBAM on transatlantic trade, and the World Trade Organisation (“WTO”), are examined in this article, with a focus on the broader context of carbon taxation.
The Carbon Border Adjustment Mechanism (CBAM) is indeed a key component of the EU’s ambitious Fit for 55 climate agenda, which aims to reduce greenhouse gas (“GHG”) emissions by 55% from 1990 levels by 2030. The EU heavily relies on its emissions trading system, the EU Emissions Trading System (“EU ETS”), which covers emissions from various sectors. However, the EU ETS’s carbon pricing system may place European producers at a competitive disadvantage in comparison to producers in other regions with different pricing.
The CBAM addresses this issue by imposing import taxes on carbon-intensive non-EU products. This mechanism levies a tax on imports based on the amount of CO2 emitted by the product. The CBAM’s primary goal is to level the playing field between domestic producers subject to carbon pricing and importers from less regulated regions.
The Broader Context: Carbon Tax taxation is indeed a larger context of carbon pricing. A carbon tax, also known as a carbon pricing mechanism, is a financial incentive for businesses and individuals to reduce their carbon footprint. Carbon taxes have been successfully implemented in several countries, including Sweden and Canada, demonstrating their ability to reduce emissions while funding climate initiatives.
Beyond economic goals, the CBAM positions the EU as a global leader in climate action. The EU hopes that the CBAM will encourage foreign producers to reduce their emissions and encourage other countries to implement carbon pricing mechanisms.
Years of legislative activity and negotiations culminated in the CBAM agreement. In July 2021, the European Commission will release its first draught proposal for the European Green Deal, which will begin in 2019. The negotiations that followed within the European Parliament highlighted key points of contention as a result of disagreements between centre-right and left-leaning coalitions regarding climate ambition and the timing of CBAM implementation.
A provisional agreement was reached following the trialogue negotiations in December 2022, and the CBAM was initially applied to several carbon-intensive industries. The scope of the original proposal, which included iron, steel, cement, electricity, fertilizers, and aluminium, has been expanded to include hydrogen. Importers will report the carbon intensity of their products, with fee reductions possible for lower emissions. The transition period, which lasts from October 2023 to December 2025, allows for a smooth transition and encourages trading partners to adopt EU standards.
The CBAM is confronted with several challenges, particularly concerning the WTO. To be WTO-compliant, it must avoid inter-country discrimination and adhere to principles such as non-preference treatment and national treatment. These issues may result in disagreements and litigation.
Furthermore, the CBAM raises concerns among least-developed countries (“LDCs”) about the potential impact on their exports. The EU has committed to providing technical and financial assistance for LDC decarbonization, but proposals to allocate CBAM revenue to LDCs were not included in the final agreement. This support must be "at least equivalent in financial value to the revenues generated by the sale of CBAM certificates.
The EU’s CBAM is a watershed moment in the global fight against climate change. While it poses challenges and uncertainties, particularly concerning the WTO and trade relations, it also provides opportunities to incentivize deeper decarbonization and reshape international trade. Carbon taxation’s role as a broader climate policy tool becomes increasingly important in this context. Cooperation and alignment among trading partners, including the United States and the EU, will be critical in achieving a sustainable and climate-friendly global economy as the world navigates this new terrain.
The CBAM is a European Union policy designed to combat carbon leakage. It imposes a tax on carbon-intensive imports, ensuring that EU producers subject to carbon pricing have a level playing field. It intends to encourage foreign producers to reduce emissions and align with EU climate goals.
The CBAM and carbon taxes both seek to internalize carbon costs, but they do so in different ways. The CBAM is an import tax, whereas carbon taxes are applied domestically. Both seek to reduce emissions and promote climate action, but they do so through different mechanisms and at different points in the supply chain.
The CBAM may face WTO challenges regarding discrimination, extraterritoriality, and WTO compliance. Its impact on global trade dynamics, as well as its potential to spark disputes, have the potential to reshape international trade rules and necessitate careful consideration of legal and trade implications.
King Stubb & Kasiva,
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