CBAM NEWS - UPDATE ON THE EU'S CARBON BORDER ADJUSTMENT MECHANISM

Last year, on 14 July 2021, as part of the 'Fit for 55' package, the European Commission published its proposed regulation establishing a carbon border adjustment mechanism (CBAM) that would put a carbon price on imports of a targeted selection of products (see here for more). The mechanism is designed to avoid 'carbon leakage', in which case, Europe's ambitious efforts to contribute to the global emission decline could be undermined as companies move carbon-intensive production outside of Europe.

On 15 March 2022, the European Council reached an agreement on the general approach of the CBAM regulation providing more details on the scope and proposing the centralisation of the CBAM governance (the "Council Position"). However, there are outstanding issues that have not been addressed by the Council, particularly the phase-out of free allocation and with it the availability of free carbon allowances. The main updates are as follows:

1. Scope

The Council Position broadly aligned with the proposals made in July 2021, including the confirmation that the scope of the regulation should cover iron and steel, cement, electricity, fertilisers, and aluminium. In addition to this, the Council has introduced a minimum threshold where goods imported with an intrinsic value of less than EUR 150 per consignment would not fall within the scope of this regulation. This measure will reduce the administrative burden for one-third of consignments, and the aggregate value and quantity of such goods would bring about a negligible amount of greenhouse gas emissions thereby justifying this threshold. This could also help to avoid the negative impact on small businesses that would have more difficulty bearing the cost of the increased tax burden.

2. Centralisation of the CBAM governance

The main deviation of the Council Position from the 2021 proposal is that the Council has opted for the centralisation of the CBAM governance. This means that instead of applying to relevant competent authorities at the relevant place where a company is established, companies intending to import goods that fall within the scope would have to apply to a new registry of CBAM declarants that is centralised at the EU level. The Commission will also establish a central database accessible to the public containing the details of the operations and the location of installations in third countries. In addition to this, the Council Position has a greater focus on coordination by supporting the exchange and issuing of guidelines on best practice, as well as promoting an adequate exchange of information and cooperation between the competent authorities, and between competent authorities and the Commission.

3. Next steps

The CBAM is designed to function in parallel with the EU ETS, to mirror and complement its functioning on imported goods. However, the CBAM is intended to gradually replace the existing EU mechanisms by addressing the risk of carbon leakage in a different way. In spite of this, the Council has not made sufficient progress on the phase-out of the EU ETS's free allocation, i.e. the issuance of free carbon allowances to industry sectors covered by the CBAM. These would need to be resolved to ensure that economic efficiency, environmental integrity and WTO compatibility of the CBAM are ensured.

It is important to note that the Council Position only confirmed the general approach to the CBAM regulation and has not addressed certain outstanding issues. Further proposals by the Commission are expected in relation to the use of revenues from the sale of CBAM certificates by 1 July 2022. In addition to this, the Council has emphasised the importance of greater focus on international cooperation with third countries, including the UK, by establishing a 'climate club' where countries could discuss and cooperate on carbon pricing policies. Finally, the current approach of CBAM regulation is import focused, neglecting the potential issues that may arise to EU exports, with critics arguing that EU exports may be put at a comparatively more disadvantaged position once free allocation has been phased out. This may be addressed in subsequent discussions. However, negotiations with the European Parliament will only start once sufficient progress is made by the Council.