Protectionism turns “green”: here is how

CBAM was just the beginning of a new trend

The CBAM story started 4 years ago when the EU launched the first discussions on the issue. Industry players thought that the current carbon leakage mechanism was not enough and new restrictions were needed. European officials supported the idea and included CBAM in the European Green Deal. While preparing the regulatory framework, it became clear that the reality would differ from the expectations of industrialists.

The introduction of CBAM in the EU requires changes to the EU ETS, as it forms the CO2 prices. The ideology of the EU ETS was to create conditions for CO2 quotas reducing and later increasing their prices. The EU ETS mechanism includes measures against excessive increases in CO2 prices, specifically free quotas. These quotas had to ensure the competitiveness of European producers compared to foreign producers, who are not granted with free quotas.

The European Commission considered CBAM an alternative to free quotas, as both mechanisms counter carbon leakage (relocating production to countries with less stringent environmental regulations). Therefore, with the introduction of CBAM, the abolition of free quotas was on the agenda. Everyone understands that this process should be gradual, with reducing free quotas annually to zero. Thus, discussions on the timing of the free quotas abolishing started.

The European Commission proposed abolishing free quotas by 2035, while the European Parliament’s environmental committee called for the complete abolition of free quotas by 2030. The European Parliament’s Industrial Committee has supported the abolition of free quotas by 2034, and the Social Democrat faction considered it possible to abandon free quotas until 2032.

The variety of opinions led to the withdrawal of the draft laws on CBAM and EU ETS on 8 June with the requirement to send them to the European Parliament’s committees for review. The decision was initiated by the Social Democrats and the Greens, who believed that the proposed bills did not contribute enough to the EU’s ambitious goals of decarbonization.

It is obvious that a compromise will be found, and all the parties will have to give up some of their interests. Some media outlets expect the new bills to appear by the end of the summer. However, amid the bureaucratic process, the work on the introduction of CBAM in the United States intensified. The very possibility was discussed a year ago, but on June 7, 2022, a relevant bill was registered in Congress.

It is yet difficult to talk about the prospects of adopting this bill. The very debate about CBAM in the United States is important. There is some support for the bill in the industrial lobby. In particular, the president of the American Iron and Steel Institute said at a conference that he supported the introduction of CBAM. According to him, the American steel industry has already reached one of the lowest levels of CO2 emissions per ton of steel in the world, so it is wise to use a new tool (CBAM) to protect it from carbon-intensive imports.

Technically, the American CBAM, if adopted, will be unlike the European one. The United States has neither a carbon tax nor a greenhouse gas emissions trading system. Therefore, the question of setting the CO2 price, which will be calculated by CBAM, is open. The registered bill sets a starting price of $55/t with further indexation to inflation + 5%.

Another interesting aspect is who will fall under CBAM in the United States. The bill proposes that its payers be both domestic consumers and importers. Local industrialists will clearly not like this idea, because in this case, for domestic producers, CBAM will actually become a carbon tax. The President of the American Iron and Steel Institute said the United States did not need a carbon tax or a greenhouse gas emissions trading system. These instruments are seen as a punishment for businesses that have already significantly reduced CO2 emissions.

The debate on CBAM in the US will be no less interesting than in the EU. In the future, other countries may choose the path of introducing their own CBAMs. In each case, CBAM will be different, as the conditions for its implementation will be different. This may be a new trend of the protectionism evolution. We see traditional trade restrictions gradually erode as bilateral political arrangements to ease them increase. There is a demand for new tools of protectionism, including CBAM.

It is unlikely that CBAM will remain the only instrument of environmental protectionism. The EU is discussing the need to protect exports after the introduction of CBAM. European industrialists rightly argue that free greenhouse quotas have supported the competitiveness of enterprises both in the domestic market and in exports, while CBAM protects only the domestic market from carbon-intensive imports. Therefore, with the abolition of free quotas, other tools to support exports will be needed.

One option is export compensations (subsidies). Probably to support not all exporters, but only those that produce the most environmentally friendly products (with the lowest CO2 emissions). There are fears that the WTO will not approve such a measure. However, as some previous cases of trade restrictions showed, the WTO is not strong enough to act as an effective arbiter of global trade.

Environmental protectionism is already changing the global trade system. These changes are far from ending. We still can influence them, as the process is at an early stage. This is particularly important for Ukraine, as the war significantly damages Ukraine’s economic development and deprives it of opportunities for a “green transition”. The post-war reconstruction of Ukraine will be impossible without access to Ukrainian enterprises to foreign markets. Some diplomatic talks with international partners were needed so that CBAM and other new protectionism measures would not delay Ukraine’s post-war development.

The original material is published on the website of the European Business Association.