On June 7, the European Parliament will vote definitively on the proposed Carbon Border Adjustment Mechanism (CBAM). This will be the last chance for the EU Parliament and Council to fine-tune the mechanism and ensure that its ultimate goals can be achieved. As it stands, CBAM lacks the provisions to effectively prevent carbon leakage into downstream products, which could spur a transfer of carbon emissions, production and investment outside the industry. ‘Europe. In other words, encourage industrial relocation.
Paolo Falcioni is Managing Director of APPLiA, the trade association representing home appliance manufacturers in Europe.
Putting a price on carbon is not an easy task. Over the past two decades, Europe has become a global leader in carbon pricing policies with the development of its Emissions Trading System (EU-ETS), the first and largest carbon market constraining never put in place. For sectors considered to be “at risk of carbon leakage”, a system of free quotas has been put in place to secure jobs and investments in Europe. In this respect, the free allowances of the ETS have made it possible to preserve competitiveness and ensure a fair and gradual economic transition towards a low-carbon economy.
By design, the mechanism proposed by the EU seeks to replicate the European carbon price on imported goods, so that European producers and international competitors pay the same price on carbon, regardless of the place of production. In a nutshell, CBAM aspires to align the EU’s heightened environmental ambition with global trade, in an effort for the EU to become a global leader in the race towards climate neutrality.
CBAM is nevertheless an experiment whose unintended consequences must be carefully assessed. As indicated in the impact assessment, the mechanism was designed for raw materials and electricity, while the inclusion of finished products was dropped due to administrative complexity. Finished goods which are made with the same raw materials covered by the CBAM and which would thus become less competitive, when produced in the EU, than equivalent goods produced outside the EU.
Take the case of a washing machine made in Europe. The cost of carbon emissions will apply to aluminium, iron and steel used in the production process, whether supplied in the EU (subject to EU-ETS) or imported moreover (subject to the CBAM). However, the same washing machine manufactured outside Europe will not be subject to EU-ETS or CBAM.
Such a scenario not only falls short of the targets set by the European Green Deal, as it does not reduce CO2 emissions outside the EU, but it also negatively affects European competition, ultimately creating an incentive for industrial relocation. and jeopardizing EU exports, therefore. Overall, EU-based manufacturers will face at least a 5-10% increase in manufacturing costs to produce a single washing machine.
The same cost increase will not be experienced by the same manufacturer, with a factory located outside the EU. As such, it is not simply a question of “absorbing” the overcharge, but rather determining where to manufacture the next washing machine: in the EU facing overcharges, or outside the EU?
A complementary legislative proposal to tackle carbon leakage in downstream products
For CBAM to be fit for purpose, it is imperative to implement a complementary legislative proposal that properly addresses downstream products and ultimately safeguards the competitiveness of EU manufacturing industry in global markets. In essence, downstream products are more complex than raw materials and therefore require appropriate methodology. The complementary legislative proposal should at least answer the following questions:
- Scope and definitions: how to properly identify downstream products at risk of carbon leakage?
- Calculation of on-board emissions: how to measure their relative levels of carbon intensity (and therefore the relative carbon cost that should apply)?
- Value chain traceability: at what point in the value chain should the CBAM apply?
- Reporting methods: how could they be proportionate and consistent, given the diversity of downstream activities?
- WTO compatibility: formally, the CBAM only applies to specific categories of goods already covered by the EU-ETS, which is not the case for many types of downstream activities. How to ensure consistency with WTO rules?
- Additional measures: beyond carbon pricing, what other possible measures can be added to facilitate the relative progress “from brown to green” in third countries?
In this regard, the ENVI Committee of the European Parliament proposes an extension of the scope of CBAM to downstream products, via delegated acts. Yet this is an incomplete answer to a multi-faceted question, which would simply risk “sweeping the dust under the rug”. Here, a simple extension of scope to downstream products does not adequately address the complexity of the industry. What is needed instead is that these are clearly defined and subject to a tailor-made methodology.
The method for calculating the risk of carbon leakage as defined in art. 10b of the EU-ETS directive could serve as a compass to detect downstream products at risk of carbon leakage, similar to what has been done for raw materials over the years.
The relative levels of global trade and emissions intensity could reveal downstream sectors mainly exposed to non-EU competition. This is where the introduction of a complementary legislative proposal would come in to prevent carbon leakage in the sectors concerned, while safeguarding European jobs and industrial competitiveness.