The European Union (EU) is committed to pass a suite of policies and regulations that aims to cut its greenhouse gas (GHG) emissions by 55% from 1990 levels by 2030 to address climate change issues, a commitment its trading partners should pay close attention to and prepare for as early as now, according to an international expert.

In a recent technical briefing prepared for the International Trade Centre, development economist Aaron Cosbey said that the European Commission has committed to establish a carbon border adjustment mechanism (CBAM) to enable the EU to impose a high carbon price, via its emissions trading system (ETS), on its energy-intensive trade-exposed industries like steel, aluminum, fertilizers and cement. Aside from these four, electricity is also covered.

The Commission published in July 2021 its proposal to create the CBAM, part of the Fit for 55 climate policy package under the EU Green Deal. The Fit for 55 is a proposed measure that seeks to deliver the EU’s 2030 climate target by reducing emissions by at least 55% by 2030 from 1990 levels on the way to climate neutrality by 2050.

The EU emissions trading system requires GHG-emitting industries to buy allowances for every tonne of carbon produced. The CBAM requires importers to purchase emissions allowances for imported goods as if those goods had been produced domestically and subjected to the EU ETS. This is to prevent high domestic carbon prices from simply shifting emissions to other countries as EU producers compete with foreign producers that are not subject to a carbon price.

The CBAM has not yet been passed into law. Before that happens, the EU Council and the EU Parliament will negotiate to produce final legislation. This negotiation is supposed to be completed in time for the CBAM to come into effect by January 1, 2023, but it seems likely to be delayed, said Cosbey.

The Commission proposal would see a three-year period during which data is required but no charges imposed, with charges starting in 2026, he added.

On the impact of the CBAM, Cosbey said that the general impact on foreign exporters is expected to be limited because of the limited sectors covered and the slow timeline for actual implementation.

Nonetheless, he said countries and exporters should pay attention to the CBAM proposal for these reasons:

• Average figures do not tell the whole story. Specific producers in specific countries will be disproportionately impacted by the regime.
• The coverage of the CBAM is expected to be broadened, with a proposal having been made to extend coverage to include basic chemicals, plastics, and hydrogen. To give a sense of scale, that proposal would increase the total value of covered Chinese exports by roughly 500%.
• The EU is probably not the only jurisdiction that will bring into force such a regime. Canada has just wrapped up government consultations on what a CBAM might look like in that country. The UK has said that it will match whatever scheme the EU puts in place. The US has also repeatedly stated that it wants a border carbon adjustment regime.

“It is important to put the CBAM into context as an example of a trend toward the consideration of embedded carbon in traded goods” in the crafting of government policies by advanced nations such as the US, UK, Canada and EU member states such as Germany, said Cosbey.

This trend also manifests in private sector transactions, such as buyers setting standards or locking in contracts to decarbonize their supply chains and buyers’ coalitions pledging to procure only low-carbon products.

“At this point, these sorts of standards and commitments only affect a small portion of global trade. But they likely represent the thin edge of a larger reality: that in a world where climate change is taken seriously, the carbon content of traded goods will be a significant factor in demand and price,” Cosbey said.

“For GHG-intensive exporters, that means it makes sense to explore the viability for tracking and reducing GHG emissions. Governments that host such producers should be thinking about ways to boost the capacity of producers to do so, helping them to succeed in the greener global markets of the future,” he added.