Carbon Border Adjustment Mechanisms
How the EU's carbon border tax works, why it is revolutionary and controversial, and whether it will reshape global trade.
The Carbon Leakage Problem
When a country imposes a carbon price -- through a tax or emissions trading system -- its domestic industries face higher costs. If their competitors in countries without carbon pricing do not, production shifts abroad, taking emissions with it. This is carbon leakage: the climate policy reduces domestic emissions but increases them elsewhere, potentially leaving global emissions unchanged while destroying domestic jobs.
The EU's Emissions Trading System, the world's largest carbon market, has long struggled with this problem. European steel, cement, and aluminum producers argued that high carbon costs made them uncompetitive against Chinese, Indian, and Turkish rivals who faced no such costs. The EU responded with free emission allowances for heavy industry, but this reduced the incentive to decarbonize. Something more fundamental was needed.