Carbon border adjustments and international trade – What are the key issues?

Recent proposals in the United States to impose border adjustments on certain imports from heavy carbon emitters, while in the early stages and likely to face challenges, represent new initiatives to address climate change – the use of established trade mechanisms. These efforts have attracted the attention of countries that could be affected by such adjustments.

Mechanisms such as the EU’s ‘cap-and-trade’ Emissions Trading Scheme (ETS) have been in place for many years. The United States now is considering new proposals generally known as carbon border taxes or border adjustments – levies on imports based on the amount of carbon emissions resulting from production of the product in question. Some of these measures are aimed in part at reducing ‘carbon leakage’ – the relocation by businesses from countries that have enacted measures to reduce carbon emissions to other countries with less strict standards. They also would be a means of incentivizing/penalizing countries deemed to be insufficiently addressing the issue of climate change.

Democrats on the US Senate Budget Committee have proposed a ‘polluter fee’ on certain carbon-intensive imports into the United States. Separately, the Biden Administration also announced that it is considering imposition of a version of a carbon border adjustment on imports from countries the United States determines are not sufficiently addressing climate change. See United States Trade Representative, 2021 Trade Policy Agenda.

The ‘polluter fee’ proposal indicates that carbon border adjustments might become a reality sooner than thought possible even a few months ago. Other countries are exploring the concept as well. As a result, there may be growing interest around the world in using these types of measures as a means to achieve carbon reduction policy goals. Companies that could be affected by carbon border adjustments should monitor developments and, when opportunities arise, provide input to policymakers.

Observation: This proposed new form of border levy could have a considerable effect on international trade due to the prominence of the United States, and countries characterized as less focused on climate change issues, in global supply chains. This article will examine key issues arising from the interaction of carbon border adjustments and international trade.

Why would a US carbon border adjustment be a major development?

US enactment of a carbon border adjustment, such as a ‘polluter fee,’ would be a major development for several reasons.

First, the United States has not enacted any national domestic carbon emissions pricing legislation such as a carbon tax or an emissions trading program. A border adjustment fee on foreign carbon-intensive products therefore might be viewed by US trading partners as discrimination against imports. However, supporters argue that it could help protect domestic US producers as they invest heavily in clean energy production.

Second, a US carbon border tax might add to trade issues with China, which is both a top US trading partner and also the world’s top producer of carbon emissions. US policymakers will need to consider whether a ‘carrot’ or a ‘stick’ would be the better approach to encouraging China to accelerate its reduction of carbon emissions.

Observation: Although US Treasury Secretary Janet Yellen in the past has been an advocate for a carbon tax, the Biden Administration did not include a carbon tax proposal in its most recent budget proposals submitted to the US Congress. In the meantime, US manufacturers could face new border taxes on their imports to the EU, the UK, and perhaps Canada as well, so the Administration might consider taking interim measures while it formulates its carbon tax strategy.

Proposed ‘polluter fee’

Details of the ‘polluter fee’ proposed by Democrats on the Senate Budget Committee have not been released. Revenue from such a fee, which might be viewed by some as similar in some ways to a tariff, could be used to help offset some of the cost of Democratic spending proposals.

One proponent of the concept, Senator Chris Coons (D-DE), has said that the fee “will be based on the domestic environmental cost incurred and will initially cover both carbon-intensive products and products exposed to trade competition, including aluminum, cement, iron, steel, natural gas, petroleum, and coal.

The list of goods covered by the tariff will expand as the United States improves processes for determining the carbon intensity of different types of goods.” Note: This quote from Senator Coons explicitly referring to the polluter fee as a tariff is his characterization of the fee; there has been no determination that such a fee would constitute a tariff.

Observation: Senator Coons’s proposal generally seems to take the same approach as the proposed EU carbon border adjustment mechanism (CBAM). The timing of its introduction may suggest that it is a response to the proposed CBAM, indicating that some Democrats in Congress do not expect the United States to stand by while the EU moves forward with its approach to addressing carbon-heavy imports.

Though much remains to be clarified in terms of the future impacts of carbon border adjustments on international trade, one fact that appears clear is the focus by the United States, EU, and other major trading partners on the issue of climate change and more specifically the role of global trade as a contributing factor. All companies that engage in international trade activity into or from the United States should closely monitor developments in this space and more specifically stay abreast of Congressional action regarding potential carbon border adjustments.

Image source: http://unsplash.com

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