EU’s carbon border tax proposal still has many grey areas

by Louise Rozes Moscovenko

While the EU carbon tax should be introduced at the bloc’s borders by 2022, a report details the challenges and options of this mechanism, which still has many grey areas. 

The carbon border tax is one of the highlights of the European Commission’s Green Deal, and should be presented around June 2021 in view of implementation the following year.

However, there are many uncertainties surrounding the contours of this mechanism, which is supposed to preserve Europe’s competitiveness by preventing “carbon leakage”, where companies relocate to countries with lower pollution costs.

In a report published on 30 September and backed by the French and German governments, the European Roundtable on Climate Change and Sustainable Transition (ERCST) stated that the challenge is “closely linked” to the EU’s increased climate ambitions.

The stakes are high because, in addition to the objectives of the Green Deal, the Commission would like to allocate the revenues from this future tax to the Next Generation EU recovery plan, endowed with €750 billion.

The European Parliament had endorsed this possibility in a plenary vote on 16 September, maintaining its position on “the need to introduce new sources of revenue into the EU budget.”

MEPs had also called for a legally binding timetable for their introduction, insisting that “the financing of the recovery must be sustainable through, for example, the introduction of taxes on transnational polluters.”

A very wide range of incomes

According to European Commission estimates, the border carbon tax could bring between €5 and €14 billion in revenues, a very wide range that will become clearer depending on the scope and design of the mechanism.

At the moment, the carbon border tax is currently subject to a public consultation until 28 October. In Brussels, several options are being considered, including a tax on imports at the EU border for products from sectors at risk of carbon leakage and the extension of the EU’s emissions trading scheme (EU ETS) to imports.

The latter option would oblige foreign producers or importers to buy allowances under the scheme, which would have an impact on the market stability reserve.

This measure, effective since January 2019 and designed to reduce auction volume, had pushed up the price of carbon before the lockdowns caused a massive and unforeseen reduction in greenhouse gas emissions once again.

After plunging below €10 between 2016 and 2018, the price carbon reached almost €30 per tonne in July 2019 before falling to €15 in mid-March. It is now trading again above €25 following the Commission’s announcement of new higher climate targets for 2030.

“The carbon border tax will have characteristics that cannot currently be verified,” said Andrei Marcu, the founder and director general of ERCST and co-author of the report.

Some of these characteristics are even “likely to interact with the ETS in several ways,” he told EURACTIV France. “If the design requires importers to hold EU allowances which have to be purchased under the current ETS limit, this will control market dynamics and will clearly have an impact on prices and liquidity. It will also require a revision of the parameters of the market stability reserve,” he added.

Dealing separately with the design and parameters of the ETS and the carbon border tax “will certainly pose problems that will need to be resolved in the future,” the report’s co-author claims.

Other solutions envisaged by the Commission include imposing a tax – such as an excise duty or VAT – to products from sectors at risk of carbon leakage, whether they are imported or not. Another option would be to impose an obligation to buy carbon allowances from a dedicated pool outside the ETS, which would reflect the EU’s carbon market price.

It is also unclear which sectors of activity would be subject to this new mechanism.

“It is administratively easier to cover only a few sectors, and the EU could run a pilot project on just a handful,” says Aaron Cosbey, development economist and ERCST associate, who also co-authored the report.

“But a narrow scope would also pose problems: it encourages the substitution of products that aren’t covered. It must therefore be sufficiently broad so as not to exclude these substitutes,” Cosbey explained.

A few more obstacles

The carbon border tax will still have to overcome many obstacles before seeing the light of day. In addition to the technical and administrative difficulties, the issue is likely to be complicated at the diplomatic level as well.

“We will work for just globalisation,” argued European Commission President Ursula von der Leyen in her State of the Union address on 16 September.

“We must insist on fairness and a level playing field. And Europe will move forward – alone or with partners that want to join,” said the Commission chief, adding that “carbon must have its price – because nature cannot pay the price anymore.”

“This Carbon Border Adjustment Mechanism should motivate foreign producers and EU importers to reduce their carbon emissions, while ensuring that we level the playing field in a WTO-compatible way,” she added.

Several trading partners have already expressed concern or even opposition, such as China, the US and Russia.

“The carbon border tax will undoubtedly be controversial with trading partners but our engagement with foreign stakeholders has also changed considerably over the past decade,” said Mike Melhing, one of the report’s co-authors and deputy director of the Centre for Energy and Environmental Policy Research (CEEPR) at the Massachusetts Institute of Technology (MIT).

“Almost all countries now have some form of national climate policy, so the problems of emissions leakage and impact on competitiveness are also becoming a reality for these states, making the carbon adjustment mechanism at the EU’s borders much easier to understand,” he added.

On 22 September, at the UN summit in New York, Chinese President Xi Jinping announced that China, the world’s biggest emitter of greenhouse gases, aims to reach its emissions peak before 2030 and become carbon neutral by 2060.

China’s announcement was widely seen as a victory for the EU’s climate diplomacy. And the EU’s threat of applying a carbon border tax was no stranger to this outcome.

*first published in: www.euractiv.com