What is the carbon border adjustment mechanism?

Fri 29 Sept 2023
Posted by: Benjamin Roche
Trade News

Green trade globe

As the EU’s Carbon Border Adjustment Mechanism (CBAM) enters into force in its initial form this Sunday (1 October), we’re taking a look at the rules and what they will mean for companies inside and outside the bloc.

The first phase

The mechanism is set to begin a trial phase from Sunday onwards. In this transitional period, no levies will be charged but businesses will be required to record and report on the embedded greenhouse gas emissions produced by their production processes.

The first report must be submitted by 31 January 2024, but CBAM declarants can also choose from a set of default emission measures when their specific level of emissions cannot be measured. This will only remain an option until July 2024.

The European Commission (EC) says that the data reported during the transitional period will inform how carbon price will be decided in the later, definitive period when the requirement for CBAM certificates becomes applicable.

Full implementation is set to take place from 1 January 2026.

Curtailing carbon leakage

The levy applies to six sectors: cement, electricity, fertiliser, iron/steel, aluminium and hydrogen.

These sectors were selected for inclusion due to the high level of greenhouse gas emission caused by their production, as well as their high risk of ‘carbon leakage’.

Carbon leakage is when firms move production processes from countries that exact high levies on carbon emissions to those with lower ones—doing little to minimise the final amount of CO2 emitted.

Anna Doherty,  Institute of Export & International Trade (IOE&IT) senior trade and customs specialist, highlights some of the core considerations for those in affected industries, as well as the EU’s intentions in implementing the CBAM. She said:

“What businesses need to remember is that, even though we’re no longer in the EU, they might still have responsibilities for compliance because of their supply chains.”

Certificates

But what will compliance look like once the legislation becomes definitive?

Businesses will need to purchase CBAM certificates that demonstrate that they have paid an amount corresponding to the emissions in their supply chain and production processes. Those certificates will be priced differently every week and the price will reflect the previous week’s average auction price of EU ETS allowances, Doherty notes.

“It’s a little like hedging currency… The consideration for businesses will be: these are my emissions and this is today’s certificate cost—do I buy all my certificates now or wait for the price to change?”

She also explains that businesses will buy and sell certificates from the Member State’s Competent Authority where the CBAM goods are being declared, rather than the EU as a whole.

Additionally, CBAM declarants will be able to claim a reduction of the CBAM certificate up to a level of any carbon price paid in the country of production of imported goods to avoid being double charged.

Businesses affected by the measures need to learn about them and whether they need to support their customers in the EU who will likely be the importers, Doherty adds.

The business perspective

The EU hopes that other countries will follow their example by instituting their own carbon border measures, which they hope will disincentivise producing in ways that contribute to climate change.

Recent coverage in the FT notes that some organisations, including think tank The Conference Board, are concerned that a lack of expertise in assessing emissions could cause problems for firms and create import bottlenecks.

Anuj Saush from the group said:

“[CBAM] adds an ongoing burden on European businesses, creating additional expense for them, while non-EU exporters are going to have to invest significantly in their carbon reporting systems.”

Doherty’s final note for businesses is that, even if they are based in the UK, they should still be getting familiar with the regulations.

“Speak to your EU customers and see if there’s anything that they need for you.

“The detail of the definitive measures may change in the final stages, and the message from the EC is to focus on this transitional stage first.”