EU levy could impose carbon price of A$65-140 on Australian exports, with more climate tariffs to come

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The European Parliament’s environment committee last week endorsed the proposed Carbon Border Adjustment Mechanism (CBAM), requiring importers of polluting industrial goods to the European Union (EU) to pay a border levy – by no later than 2023 – based on the volume of greenhouse gas (GHG) emissions used in making and shipping their products.

The new regulation would initially apply a carbon cost to products sold into the EU including steel, cement, chemicals and fertilisers – not widely exported by Australia to EU markets – but would eventually extend to all commodities and products covered by the EU’s carbon market.

Moreover, the shift from rhetoric to implementation of carbon adjustment fees now represents a real risk to Australian exporters, with US President Joe Biden also proposing to implement carbon border fees or quotas on carbon-intensive goods, while UK Prime Minister Boris Johnson is considering using the G7 presidency this year to try and forge an alliance on carbon border taxes.

The EU CBAM framework will be voted on by the full legislature in March, informing the European Commission’s upcoming carbon border policy proposal due in June.

By forcing companies to pay a fee to sell carbon-intensive goods, the EU aims to level the playing field for domestic industrial emitting companies as they invest to reduce GHG emissions to meet compliance targets under the EU emissions trading scheme (ETS). Australian exporters would therefore be forced to buy carbon permits at prices which mirror the EU ETS, with European Union Allowances (EUAs) currently trading at a record-high of €38.56 (A$60), with prices forecast to significantly increase to 2030.

In this article, we take a closer look at the EU’s proposed CBAM framework, and EUA prices through to 2030, along with implications for local policy development.

Background to the Carbon Border Adjustment Mechanism (CBAM)

In December 2019, the European Commission adopted its Communication on the European Green Deal, introducing a proposal for a carbon border levy to ensure a level playing field for domestic companies as the EU increases its climate ambition – should differences in the levels of global climate ambition remain.

The debate over the implementation of carbon border measures stems from the design of the EU ETS, which imposes a price on GHG emissions that is not replicated in some export markets, posing a threat to the competitiveness of European industry.

To initially resolve these risks, Europe’s energy-intensive industrial sectors (such as cement, steel, chemicals and fertilisers) received free carbon allowances under the EU ETS – similar to the design of Australia’s emissions intensive trade exposed (EITE) assistance (initially proposed under the Carbon Pollution Reduction Scheme and currently used under the Renewable Energy Target scheme) – protecting these sectors against competition from imports not covered by carbon pricing regimes.

However, Europe’s free allowances framework has also removed the incentive for large industrial companies to reduce their GHG emissions, leaving the power sector to carry the bulk of the EU’s decarbonisation goals.

As the EU begins its transition toward its new target to reduce emissions by 55% on 1990 levels by 2030, on a pathway to net-zero emissions by 2050, EU regulators have increased pressure on all sectors of the economy to contribute to the bloc’s long-term climate goals, meaning the phase out of free allocation for industry in favour of new GHG emissions reduction measures – both within and outside of the EU.

The CBAM would mirror European carbon prices

According to the European Parliament, the CBAM will mirror the price of EUAs under the EU ETS, requiring importers to buy carbon permits from a supply pool kept separate from the EU market, therefore levelling the playing field by forcing importers to pay the same cost of carbon that European industry faces under the EU carbon market.

Given the charge will mirror the EU ETS carbon price, the scheme would be compatible with World Trade Organization (WTO) rules against trade protectionism.

Under the scheme, emissions-intensive exporters to the EU would be required to measure the emissions intensity of their products, or an estimate would be made based on factors for global average emissions content for a product, informing the total emissions covered by the scheme, and the required compliance liability.

While international carbon markets were previously considered ‘least cost’ for Australian companies operating under the former Carbon Price Mechanism (CPM), which was proposed to allow the use of EUAs from the (early) commencement of its floating price period in 2015, much has changed since that time.

In 2015, EUAs were trading between €7-8 (A$11-12.50). As shown in Figure 1, EUAs are now trading at a record-high of €38.50 (A$60), around 3x higher than the local price of Australian Carbon Credit Units (ACCUs), driven by the EU’s more ambitious climate targets and market anticipation of a tighter future carbon market.

Figure 1: EUA price (in AUD) versus ACCU price – 12-months (as of 10/2, 1 EUR = 1.56656 AUD)

Specifically, an aggressive tightening of the EU ETS system is expected to align industry and bloc-wide climate goals, with consensus EUA prices forecast to average €39 (A$60) in 2021 and €46 (A$71) in 2022, increasing to €56-89 (A$88-139) by 2030.

Implications for Australian policymakers

According to the CBAM proposal, foreign countries (or sub regions such as states) will be able to avoid the carbon levy should they implement a carbon trading system similar to the EU ETS, and/or put in place an equivalent price on emissions.

As a result, while right-wing policymakers grapple with a net-zero emissions target, more stringent regulation of industrial emissions is likely to be required to avoid the levy, be it the CBAM, or other border tariffs proposed by Australian export partners.

According to Pascal Canfin, the French MP who chairs the EU Parliament’s environment committee, international countries need not adopt the exact same policies as the EU, but “…they must have the same objective as ours” and “align policies and measures with those of the European Union”.

For Australian policymakers, a compliance framework aligned to a net-zero emissions is therefore likely to be required to avoid future cost imposts, with a robust domestic carbon market – currently trading at a record high of $17.53/t and expected to continue rising – representing a far better alternative to high international prices.

One way or another, Australian policymakers are now likely to quickly find that the cost of continued policy inaction will be high – while the stakes are becoming even higher for local exporters.

Watch this space.

To access our latest forecasts for the price of Australian carbon credit units to 2030-50 and our long-term price expectations under the Paris Agreement, please click here.

Kind Regards,
The RepuTex Team
Australian Electricity Markets

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