As more and more countries raise their ambition on climate action and commit to much stronger nationally determined contributions (NDCs) to achieving the Paris Agreement targets, there has been a resurgence in the debate around Carbon Border Adjustment Mechanisms (CBAMs) and the role they may play in preserving the effectiveness of climate action in high ambition countries. This report explores how the European Union’s CBAM, announced to come into force by the end of 2022, might affect the UK.
- A robust carbon pricing framework with anti-carbon-leakage measures is needed to support deep decarbonisation of industry on the pathway to net-zero greenhouse gas emissions.
- The EU has announced that a Carbon Border Adjustment Mechanism (CBAM) will be operational by the end of 2022. A failure by the UK to coordinate or keep pace with the EU’s level of policy stringency for industrial sectors could risk important UK exports being penalised by the CBAM.
- This could entail large financial transfers from the UK to the EU, potentially amounting to €1 billion or more, with exporters of steel hit particularly hard.
- The product coverage of the CBAM has significant implications for the expected carbon leakage and competitiveness impacts, as well as for paid/collected fiscal revenue. It matters particularly for steel, where semi-finished products account for a significant share of sectoral trade-embodied carbon.
- As the EU is the UK’s main trading partner in carbon-intensive goods, regardless of whether the CBAM considers only basic materials or broader products, the potential impact is significant. Around one-third of the total value of all UK goods exported to the EU could be affected.
- Joint implementation by the EU and UK of a CBAM covering imports but not exports would be more compatible with environmental objectives and trade law. However, it would disadvantage UK raw material exporters as they would not be able to pass on carbon costs in foreign markets. This would particularly affect exporters in steel and aluminium because they have a stronger trading relationship with non-EU countries.
- To decarbonise industry there needs to be a strong policy framework that includes a high carbon price and complementary leakage measures. The carbon price should rise to £75/tonne in 2030.
- Given strong trade linkages and integrated supply chains with the EU, uncertainty around UK’s post-Brexit climate policy and particularly around anti-carbon-leakage measures further reduces the long-term investment security for carbon-neutral production processes for UK industry. As a priority, measures should be put in place to address this uncertainty and enable investors to recover the incremental costs of carbon-neutral investments.
- To reduce investment uncertainty, the UK should consider close multilateral cooperation with the EU on a robust policy package to support industrial decarbonisation, including linking of emissions trading systems, equitable CBAM design, the gradual phase-out of free allocation of permits, support for innovation, and carbon contracts for difference.
- Policies to address carbon leakage and prevent export sectors from losing global market share should focus on specific sub-sectors and may be differentiated. For example, leakage provisions that are tailored to steel and aluminium would be needed if the UK has a broad, import-only CBAM in conjunction with the EU CBAM. This could include different boundaries for product coverage.
To view the original research by the London School of Economics and Political Science, please click here.