The bloc is aiming to better protect Europe’s materials industry from competitors in other countries with less stringent and costly greenhouse gas regulations - but its proposals could fail to stem so-called carbon leakage

Greenhouse gas emissions

A report by Scope Group warns the EU’s proposals could fail to stem so-called carbon leakage (Credit: Wikimedia Commons/Monkeyboy0076)

The EU is currently putting carbon pricing plans in place to tax the carbon content of imports into the region.

The bloc’s legislative proposal on a carbon border adjustment mechanism (CBAM), which will run as a corollary to the EU’s Green Deal, will aim to better protect Europe’s materials industry from competitors in other countries with less stringent and costly greenhouse gas regulations.

But a report by Scope Group, a Berlin-based provider of independent ratings, research and risk analysis solutions across asset classes, warns the EU’s proposals could fail to stem so-called carbon leakage, where there is an emission increase in one country as a result of a reduction by a second country with a strict climate policy.

In its proposals, the EU does, however, want to avoid the problem of firms simply relocating production to more lenient foreign jurisdictions from where they export goods with untaxed carbon back to the region.

“Brussels faces the difficulty of identifying the carbon content of imported manufactured goods,” says Bernd Bartels, director at Scope ESG.

 

Carbon pricing for EU “increasingly complex” for manufactured products

While Scope believes the identification of original carbon content and its quantity in imported materials such as steel or cement “seems manageable”, it highlights that the task becomes “increasingly complex” for manufactured products such as computers and electronics.

“If importers of manufactured goods are initially exempt from the CBAM, the move would increase rather than reduce carbon leakage by encouraging the delocalisation of European materials producers – such as suppliers of steel, cement and chemicals which have heavy carbon footprints,” says Bartels.

“Equally, such a levy would encourage imports of manufactured goods whose carbon content goes untaxed for the moment. At the same time, manufactured goods are the most traded items globally in terms of traded value-added.”

The administrative cost of defining and identifying the carbon content of these goods is difficult, explains Bartels. He says it depends on underlying production technologies and the energy mix, both of which are hard to identify if the supply chain involves multiple countries of origin.

“This is exactly the challenge investors face when it comes to judging the ESG risks and impacts of companies with complex, global supply chains,” adds Bartels.

 

EU carbon pricing plans on imports would “fall more heavily” on Chinese goods

According to Scope’s report, the EU’s import levy would “fall more heavily” on Chinese goods than on imports from any other country for two reasons.

Firstly, China is effectively the world’s largest exporter of carbon, considering its economy is heavily reliant on fossil fuels for power generation. And secondly, the nation is one of the world’s biggest producers of materials and finished goods.

The analysis highlights that the burden of the levy would be highest in absolute terms for manufactured imports – but that it is most punitive on imports of materials, representing a much higher proportion of value-added than for manufactured goods such as electronics.

“Accordingly, we are more likely to see incentives to change existing supply chains have an impact in the materials sector than in manufacturing, even if both are taxed,” says Bartels.