What the new EU Carbon tax means for global net-zero and the energy markets
Here’s what you need to know about the Carbon Tax[1]
- The Carbon Border Adjustment Mechanism (CBAM) was agreed in December 2022 and will see the EU putting carbon prices on certain imported goods.
- The aim is to level the playing field for carbon intensive industries so that EU based manufacturers operating under stricter climate laws aren’t facing unfair competition from importers with weaker legislation.
- The deal covers cement, steel, aluminium, fertilizers, electricity production and hydrogen and comes as part of the bloc’s plan to reach net-zero by 2050.
- Reporting requirements come into effect this year as the first stage of a gradual phase in, with the CBAM becoming fully operational by 2026.
Bringing the rest of the world on side – how the CBAM is influencing the global approach to net-zero
Whilst the levy is a landmark step in the right direction for climate change, it’s also the definition of ‘winning ugly’ – the stars don’t have to align in order to get the job done. The first-of-its kind move will set the benchmark for the rest of the world when it comes to climate policy. However, setting the agenda doesn’t come without obstacles or resistance.
Globally, the end goal is a system where all companies bear the cost of reducing carbon emissions equally. This is what free competition is all about and the path that the CBAM is paving.
But not everyone sees it that way. US trade representative Katherine Tai has voiced criticisms about the CBAM, citing “a lot of concerns coming from our side about how this is going to impact us and our trade relationship”.[2] It’s not just the US that are worried – representatives from South Africa have also spoken up about their worry that the tax will unfairly penalise their manufacturers and weaken access to the bloc.
At the same time, there are reports of tensions rising between Global South nations and Brussels over these countries’ ability to keep up with the regulatory requirements, putting robust systems in place to measure emissions without concessions or support from the bloc.
However, doing something is always better than nothing. Despite these pushbacks, the tax is already playing its part in incentivising trading partners to decarbonise their industries – and it hasn’t even come into full force yet.
According to the European Commission, countries including Japan and Canada are already considering similar approaches and looking to adjust existing measures to avoid falling behind the EU. And the UK is also going down this path, raising the option of developing its own border carbon adjustment to mitigate the risk of losing business with the region.
The implications for energy markets
At present, many of the specifics surrounding the CBAM are yet to be ironed out, but that doesn’t mean that there aren’t signs of progress for European energy markets on the horizon.
Aside from the obvious impact of increasing carbon prices, another key consideration for energy markets will be the future of hydrogen. As a core foundation of the green transition, the EU is looking to ensure that green hydrogen – made with water and renewables – is a viable and more attractive option than its cheaper cousin, grey hydrogen, which emits large amounts of greenhouse gases in production.
And with electricity production also included in the tax, how might this affect EU energy markets? As power generators also fall under the charge for their carbon emissions, the cost of electricity will also likely be impacted as generators pass on the cost of the tax to consumers. This could increase the pressure for generators to turn to greener energy sources – such as wind and solar power. The carbon tax would also create the incentive for power generators to invest in cleaner energy production methods, such as carbon capture technology, helping further reduce their carbon emissions and minimise their tax liability.
One of the main benefits of the CBAM will be its prevention of carbon leakage. Under normal circumstances, paying higher carbon prices increases the cost of goods produced and so makes shifting manufacturing overseas seem all the more attractive.
The EU border tax will not only discourage domestic firms from offshoring to countries with weaker carbon tax laws but will accelerate much welcomed investment into greener energy solutions. This is the moment of reckoning both for EU businesses and trading partners, forcing them to either improve existing operations to become less carbon intensive or face the alternative of paying hefty penalties.
As well as making it more expensive to use energy from fossil fuels and drawing companies towards greener energy, the carbon tax may also bring in efficiencies for energy markets in the form of revenue generation, which can be used to support the development and deployment of clean energy technologies.
The CBAM is the EU drawing a line in the sand. The message is loud and clear - the loopholes are closing, and companies need to respond to the challenge head on and be prepared to play a meaningful role in the green transition.
Now we wait to see which countries will be next to follow in the EU’s footsteps and step up on carbon taxing, as we look towards the ultimate goal of global carbon pricing.
[1] https://ec.europa.eu/commission/presscorner/detail/en/ip_22_7719
[2] https://www.ft.com/content/67c1ea12-7495-43ff-9718-7189cef48fd6
