The Carbon Border Adjustment Mechanism (CBAM) is a tool designed to combat carbon leakage, a phenomenon where companies relocate their production to countries with less stringent environmental regulations, undermining global decarbonization efforts. This mechanism taxes the carbon emissions embedded in imported goods, leveling the playing field between domestic and foreign products. Both the European Union (EU) and the United Kingdom (UK) have implemented their own CBAM, but while they pursue the same objective, their approaches differ in key aspects. Below, we explore in detail what CBAM is, the differences between EU CBAM and UK CBAM, and the landscape in other regions.
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What is CBAM?
CBAM is a climate policy that imposes a price on the carbon emissions associated with the production of imported goods. Its purpose is to ensure that imported products pay a comparable cost to that faced by domestic producers under emissions trading systems, such as the EU Emissions Trading System (EU ETS) or the UK ETS. This prevents local producers, subject to stringent climate regulations, from being disadvantaged compared to imports from countries with less rigorous policies.
CBAM applies to carbon-intensive sectors such as steel, cement, fertilizers, aluminum, and electricity (though with regional variations). Additionally, it addresses both direct emissions (generated during production) and indirect emissions (such as those derived from electricity consumption).
EU CBAM: Certificates and Phased Approach
The EU CBAM, established through Regulation (EU) 2023/956, entered a transitional phase in October 2023 and will be fully operational from January 1, 2026. This mechanism is based on a system of CBAM certificates, which importers must purchase and surrender to cover the emissions embedded in imported goods. These certificates are valued according to the weekly average market price of the EU ETS, adjusted for:
- Free allocations under the EU ETS, which reduce the number of certificates required.
- Effective carbon prices paid in the country of origin, which may also decrease the obligation.
Key features of the EU CBAM:
- Product scope: Includes cement, iron and steel, aluminum, fertilizers, electricity, and hydrogen products.
- Emissions covered: Covers all direct emissions and, in the case of cement and fertilizers, indirect emissions derived from electricity consumption.
- Reporting: Importers must submit annual emissions reports.
- Mechanics: CBAM certificates are an additional instrument to the EU ETS, implying more complex administration.
UK CBAM: A Tax-Based Approach
The UK CBAM, announced by HM Revenue & Customs and the HM Treasury, will come into effect on January 1, 2027, one year after the full implementation of the EU CBAM. Unlike the European model, the UK opts for a simpler approach: a direct tax collected by HMRC, based on the emissions embedded in imported goods.
Key features of the UK CBAM:
- Product scope: Covers similar sectors to the EU CBAM (cement, steel, aluminum, fertilizers) but does not include electricity.
- Emissions covered: Includes all direct emissions and, unlike the EU CBAM, covers indirect emissions from all sectors within its scope.
- Reporting: Reporting will be annual in 2027 but may become quarterly from 2028, increasing the frequency of obligations.
- Mechanics: By eliminating certificates, the UK CBAM simplifies administration, as the tax is calculated based on the effective carbon price in the UK, including the Carbon Price Support and the compensation scheme for energy-intensive industries.
Key Differences Between EU CBAM and UK CBAM
Although both mechanisms aim to prevent carbon leakage, the differences in their design reflect distinct priorities and administrative systems:
Mechanics:
- EU CBAM: Utilizes CBAM certificates, requiring an additional system of purchase and surrender, linked to the EU ETS.
- UK CBAM: Applies a direct tax, simpler to administer and adapted to the UK ETS context.
Product Scope:
- EU CBAM: Includes electricity, a critical sector for indirect emissions.
- UK CBAM: Excludes electricity, focusing on industrial goods.
Emissions Covered:
- EU CBAM: Limits indirect emissions to cement and fertilizers.
- UK CBAM: Covers indirect emissions in all sectors, broadening its impact.
Reporting:
- EU CBAM: Annual reports.
- UK CBAM: Annual in 2027, with a possible shift to quarterly from 2028.
Global Landscape: CBAM Beyond the EU and the UK
The concept of CBAM is gaining traction in other regions, albeit not without controversies:
- Australia: The Australian government is reviewing carbon leakage and consulting on a possible CBAM, particularly for steel and cement, according to the Carbon Leakage Review: Consultation Paper 2 (November 2024).
- Canada: Is exploring Border Carbon Adjustments as part of its climate strategy.
- Oppositions: Countries like India have expressed objections, arguing that CBAMs could violate World Trade Organization (WTO) rules. India has threatened to challenge the EU CBAM at the WTO.
Extract
CBAM represents a bold step towards equity in the global climate transition, but its implementation varies by region. The EU CBAM, with its certificate system, is more complex and closely tied to the EU ETS, while the UK CBAM opts for a direct tax, simpler and adapted to the British context. Differences in scope, emissions covered, and reporting periods reflect distinct approaches to the same problem. As other regions, such as Australia and Canada, explore similar mechanisms, and others, like India, question them, CBAM promises to be a central topic in the global climate debate.
For professionals in the sector, understanding these differences is crucial for navigating international trade in an increasingly carbon-regulated world. Keeping abreast of ongoing consultations and potential WTO challenges will be key to anticipating the impact of these policies.
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