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Irina Slav

Irina Slav

Irina is a writer for Oilprice.com with over a decade of experience writing on the oil and gas industry.

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Will Carbon Taxes Level The International Playing Field?

A year ago, the idea of a carbon border tax was more of a hypothetical than an actual plan. But a year ago, the EU had not yet tightened its already tight emission reduction targets that forced a number of businesses in highly polluting industries to invest in emission-cutting. Now, we have the brand new EU Carbon Border Adjustment Mechanism and a proposal for a carbon border tax in the United States. There is also talk about other countries following. The U.S. case is particularly interesting. Washington was quick to react to the EU's idea of a carbon border tax earlier this year when it was first floated, and that reaction was, while polite, not exactly positive. In fact, none other than President Biden's climate envoy John Kerry warned the EU that a carbon border tax should be a last resort.

Fast forward to mid-July, and a group of Democrats in Congress are drafting plans for nothing other than a carbon border tax for certain imports such as steel to reduce the amount of emissions associated with these imports. According to the sponsors of the bill, the tax would level the playing field for domestic manufacturers that are subjected to more stringent carbon emission regulations.

"International cooperation will be critical to reaching net-zero emissions," said one of the bill's authors, Senator Chris Coons from Delaware, as quoted by Reuters. "We have an historic opportunity to demonstrate that climate policy goes hand in hand with providing economic opportunities as U.S. innovators develop and scale clean energy technologies."

The EU's idea of a carbon border tax, by the way, also came after a pushback from industries that stand to suffer loss of competitiveness as their products become more expensive than imports because of tight EU emission regulation. On the face of it, the Carbon Border Adjustment Mechanism has the potential to kill two birds with one stone: help European steel producers and other big polluters clean up their act and reduce the so-called carbon leakage from foreign producers by levying what is effectively a tariff on their exports to the bloc.

But carbon border taxes are potentially problematic as well. China unsurprisingly criticized the European Commission's tax proposal saying it violated the rules of the World Trade Organization.

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"CBAM is essentially a unilateral measure to extend the climate change issue to the trade sector. It violates WTO principles ... and (will) seriously undermine mutual trust in the global community and the prospects for economic growth," said a spokesman for Beijing's Ministry of Ecology and the Environment earlier this month, as quoted by Reuters.

The spokesman also noted China's official stance on carbon emission reduction, namely that the efforts undertaken in this respect need to correspond to a country's level of economic development. This is certainly a valid argument. Developing nations often rely more on manufacturing—and polluting industries—for their economic growth than developed economies. China is by far the biggest among these manufacturers. As such, it stands to lose the most by any carbon border taxes.

The U.S. carbon border tax proposal also has a worrying focus on trade, Energy Intelligence's Emily Meredith wrote in a recent commentary. She cites the bill as mentioning "protecting jobs" as smacking of protectionism, quoting Aaron Cosbey, with the International Institute for Sustainable Development as saying, "It says a lot that there's 'competition' in the name of this act."

And it's not just competition. The bill also says, "The FAIR Transition and Competition Act of 2021 will protect U.S. jobs, reduce reliance on foreign energy sources, and drive climate innovation and resilience."

The reduction of reliance on foreign energy sources could also be seen as a protectionist ambition.

The trade aspect of carbon border taxes would certainly be one sticking point in international relations going forward. It is no coincidence that some experts are arguing for a concerted global effort in this respect. However, the success of such an effort is highly questionable for the reasons mentioned by China: climate change efforts depend on a nation's level of development.

What's perhaps worse for the proponents of carbon taxes is that instead of reducing carbon leakage, they might stimulate it. Carbon leakage is the phenomenon where a country with laxer emission regulations exports its products to a country with stricter regulation, undermining the competitiveness of the latter's own output and, consequently, emission reduction efforts.

Carbon border taxes aim to make these higher polluters pay for their pollution. Some skeptics, however, argue that these taxes might force some businesses to up and leave emission-strict locations for laxer ones, effectively motivating more carbon leakage.

It will be a fine balancing act, therefore, to make sure you both "punish" polluting importers for their emissions and stimulate your domestic businesses to invest in cleaner production. The act becomes even finer in light of plans to make carbon increasingly expensive. The higher the price of emissions goes, the more businesses would need to invest in reducing their footprint. Eventually, many may opt for relocating and emitting instead of paying through the nose for low-emission output.

By Irina Slav for Oilprice.com

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