After a year of intense talks, and a series of marathon negotiations in the lead-up to Christmas, the EU late last year agreed on a carbon border tax — the first of its kind globally. It could be vital for the bloc’s net zero ambitions. If it galvanises other trading partners into pricing their carbon emissions, it could also be a pioneering stride forward in the global fight against climate change. While the levy makes sense in theory, its success will depend on how effectively the EU can navigate the numerous practical challenges of actually implementing it.
The carbon border adjustment mechanism (CBAM) requires firms in the bloc to pay tariffs on some carbon-intensive imports linked to the domestic carbon price under its Emissions Trading System (ETS). As such, it aims to level the playing field for European industries that already pay for their emissions via the ETS, and prevent dirty production from shifting to where it is less heavily taxed — also known as “carbon leakage”. While it raises trading costs, the lure of retaining access to the world’s largest trading bloc could support the wider adoption of carbon prices — which is vital for cutting global emissions. Indeed, the more countries adopt carbon pricing, the less carbon-related tariffs would actually be applied.
By moving first the EU hopes to sustain support for the green transition at home. Europe’s competitiveness has been strained over the past year. High energy costs, supply chain disruption, and the potential impact of the US Inflation Reduction Act have raised fears of industrial decline. Decarbonisation is not cheap: while CBAM would put the bloc’s businesses on a fairer footing, the EU will need to grapple with demands for more support. Free emission allowances are being phased out, albeit slowly, as the CBAM comes in. Meanwhile, some businesses and officials are calling for export rebates, which analysts say may contravene WTO rules.
Keeping international partners on side, and not intensifying existing trade tensions will be hard. While some nations are mulling similar schemes, the CBAM has already faced accusations of creating protectionist trade barriers. The US and China have expressed concerns. Countries are worried their manufacturers may face a wave of cheap imports diverted from the EU, alongside weaker access to the bloc. Developing nations, which are less able to cushion regulatory costs and measure emissions, may also suffer without concessions. This risks spurring WTO challenges, retaliation, and a hodgepodge of carbon border taxes with varying rules.
Over time the CBAM could also lead to unintended consequences. Given its initial scope — covering a few imports including iron, steel, fertiliser, and electricity — EU businesses could adjust their supply chains to avoid the tax, for example by importing finished products instead. Companies outside could also simply send their cleanest products to the bloc and carbon-intensive ones elsewhere without slashing emissions. Indeed, the scope of CBAM may need widening to make it more effective, but this would also intensify the domestic and international challenges.
The CBAM is a key instrument in the EU’s climate toolkit. Ideally, it would catalyse a broader international discussion on how trade can be used as a tool to help meet global goals on climate change. To make carbon border taxes work — and ultimately redundant — there needs to be transparency and common standards on how carbon content is measured and priced. German chancellor Olaf Scholz’s push for a G7 “climate club” offers hope that nations can band together. The EU must redouble efforts on such initiatives with international partners, otherwise global carbon pricing will remain a pipe dream.