Yesterday, the European Commission launched its plans for a Carbon Border Adjustment Measure (CBAM), which would charge fees on imports of certain high emissions goods. In the U.S., Democrats raised the possibility of “polluter import fees” as part of a tax reform connected to the $3.5 trillion budget plan. In both cases, the idea is to ensure that domestic producers who are trying to transition to cleaner production methods aren’t undermined by cheaper high-emissions imports.
While the idea of a CBAM has been around for years, the EC proposal is the first to offer details. The 291-page plan covers a few highly emitting industries: steel, electricity generation, cement, aluminum and fertilizers. Taken together, those sectors represent 94% of EU industrial emissions. Europe imports substantial electricity from Switzerland, Russia and Ukraine; cement from Belarus, Colombia, Turkey and Ukraine; steel from China, Russia, Turkey, the U.K. and Ukraine; and fertilizers from Russia, Egypt, Belarus, Algeria and Morocco.
The CBAM is tied to the EU’s Emissions Trading System. Under that system, companies receive allowances for a set level of emissions, with the permitted emissions levels declining over time. The CBAM proposal would require companies exporting to the EU to purchase CBAM credits priced at the current cost of carbon in the EU, currently about €50 per ton (and expected to rise over time), with adjustments for companies already paying such fees in their home countries. Those certificates, which are not tradeable, would be surrendered at the border. EU companies in the sectors included in the CBAM currently receive free emissions credits. Under this plan, those free credits would be phased out as the CBAM is phased in over a 10-year period beginning in 2026.
The CBAM plan has been debated extensively in the EU but is a newer topic in the U.S. President Biden indicated in his campaign that he would support some kind of CBAM, but since then, U.S. climate envoy John Kerry has urged the EU to proceed with caution. The U.S. doesn’t have a national carbon trading scheme or a set carbon price, so any implementation would be different here, but the idea raises several complex issues:
1. Will a CBAM fix the problem of carbon leakages?
If domestic companies are pursuing ambitious plans to modernize their plants to reduce emissions, whether in industry or agriculture, that transition will likely result in higher prices, creating incentives to import from countries with lower standards or to shift production to those countries, called carbon leakages. If that happens, total emissions reductions might be lessened or not happen at all. Even under a CBAM, if both cleaner and dirtier factories are available in an exporting country, a company could just use the lower emitting facility for exports, a term called “resource shuffling,” without changing total emissions. While the idea of offshoring emissions seems logical, the evidence of it happening is less clear. This is not to say the issue isn’t real, but it’s important to solve problems in specific industries, say in steel, rather than considering a broad program covering many industries.
Also, other approaches may be indicated. Commenting on the inclusion of fertilizers in the EU CBAM, Copa and Cocega, which represents European agribusinesses and farmers, says: “If the Carbon Border Adjustment Mechanism does not apply to agricultural products [which they would potentially support], it should not apply to fertilisers either. Nitrogen fertilisers are the most important input in crop production and the main variable cost item for our cereal and oilseed farms. However, the price of fertilisers is already higher in Europe than in the rest of the world because our fertiliser market is protected by customs duties and antidumping measures that cost European farmers €600 million a year. If a border adjustment mechanism were to be added to this, the price of fertilisers would skyrocket, further increasing the cost of agricultural production in Europe, while making the use of imported food more competitive and attractive.” While Fertilizers Europe insists that they need a CBAM as part of a package of support to facilitate modernization of its fertilizer plants, it might be that direct public support to domestic industry would be an effective way to address that problem.
2. Is a CBAM fair to developing countries?
Here, the problem is a lot thornier. Developing countries, especially middle-income countries like China, South Africa and India, have expressed “grave concern regarding the proposal for introducing trade barriers, such as unilateral carbon border adjustment, that are discriminatory and against the principles of Equity and CBDR-RC [Common but Differentiated Responsibility-Respective Capabilities].” While the EU CBAM proposal would primarily affect nearby countries, many of them middle or high income, those exports are also important to some smaller economies. The EC proposal acknowledges that “LDCs currently account for a minimal share of EU-external trade in the commodities that could be covered by a CBAM. Yet, it should be recognised that exports to the EU from LDCs can provide important foreign exchange earnings for these countries and represent a significant share of their GNI.” (p. 115) For example, “Mozambique is an important exception to otherwise negligible shares of LDCs in EU imports, as the country accounts for 7.7% of the EU’s imports of aluminium. In fact, 54.1% of Mozambican Aluminium CBAM sector exports were to the EU.” (p. 194) The report notes that while blanket exceptions for LDCs might stimulate higher emissions production for export, this is a real concern that must be addressed, perhaps with targeted support through bilateral or multilateral channels. (p. 30)
Many European civil society groups, such as Carbon Market Watch, the Institute for European Environmental Policy and GermanWatch, while raising concerns on a CBAM generally, insist that any revenues generated by a CBAM be used to finance climate transition in developing countries, either directly to affected industries or more generally to the Green Climate Fund or similar international funds. The EC plan proposes holding onto those funds to finance climate costs within the EU. Without a major increase in climate funding, and the loosening of rules on technology transfer (something the EU continues to resist in the case of patent protections for COVID-19 vaccines), it’s hard to see how those countries can transition to cleaner production. This is true with or without a CBAM (and for the U.S. as well), but the absence of that linkage in the EU plan is disappointing.
3. Is a CBAM legal under existing trade rules?
The World Trade Organization (WTO) and other free-trade agreements are designed to facilitate the flow of goods and services among countries, not to respond to the climate emergency or to facilitate sustainable development (see my colleague Sharon Treat’s review of recent sustainability initiatives in trade agreements). Governments in the global North and South, working with civil society, need to figure out new approaches to trade rules, not let those old rules deter ambitious new climate plans.
The EC plan is designed with an eye to avoiding conflicts at WTO, but it is unclear whether it would be legal under current rules on discrimination against importers. Article XX of the GATT allows for exceptions to “protect human, animal, or plant life or health” or when they are related “to the conservation of exhaustible natural resources”, as long as it’s clear that environmental protection – not protecting local industry – is the main objective. Clearly, any CBAM is about both objectives. There has been a lot written on this issue, and it will almost certainly be debated more as the European Parliament debates the EC proposal in the coming months.
These talks should include clear discussion of the potential impacts on specific sectors. Take fertilizers, for example. Nitrogen fertilizers, which are included in the proposed CBAM, are produced using natural gas. Emissions result both from the electricity used in production, as well as the carbon dioxide and nitrous oxide produced in the process. Prices are highly correlated with energy costs. And the EU has a many aging plants that will need to be modernized to meet emissions goals.
But is the EU proposal addressing the right question? Globally, emissions from fertilizer production and use have been rising for years. Protection under a CBAM, coupled with public support to modernize factories, could lead to significant reductions in emissions from production. Yet, those fertilizers have other impacts on human health, including skin, respiratory and cardiovascular diseases and cancers, and nitrate toxicity in drinking water. Overuse of nitrogen fertilizers reduces species and soil biodiversity, increases air pollution, and soil and water acidification. Comprehensive public support for more agroecological approaches could make a bigger impact on agriculture as part of the economic, social and environmental ecosystem.
Whatever form a CBAM may eventually take in the EU or the U.S., it has sparked an important debate on the inadequacy of existing rules to facilitate a climate transition that is fair to domestic workers and consumers and to producers in other countries. It also highlights the disconnect between aspirational agreements at the United Nations Framework Convention on Climate Change (UNFCCC) and the hard enforcement rules embodied in trade agreements. Whether or not this proposal, or the idea of a polluter import fees floated in the U.S., is eventually approved, ideally it will lead to other meaningful debates on the best ways to resolve these thorny issues and move towards a just global climate transition.