Does the risk of carbon leakage justify the CBAM?

Abstract

The Paris Agreement calls on developed countries to take the lead in global efforts to stop climate change. The drawback with differentiated commitments is carbon leakage, that is, that emission- intensive industries migrate to countries with lower carbon prices. This risk has prompted the EU to introduce a Carbon Border Adjustment Mechanism as part of the “fit-for-55” agenda with the goal of reducing emissions by 55 percent by 2030. In practical terms, the CBAM will equalize the carbon price paid by domestic and foreign producers in the internal market. Other OECD countries are considering similar measures, which will primarily affect developing countries. The issue thus has a north-south dimension that may increase tensions in global trade and climate negotiations. This paper reviews the empirical evidence of carbon leakage from 1995 to 2018, finding that it has played a marginal role for global emissions. Yet, the perceived risk must be managed to allow the EU and other leading parties to lead the way to decarbonize the global economy without risking their own industrial base. The practical solution would be to negotiate new rules on trade-related climate measures that balance the interests of all parties, as proposed by the Secretary-General of the OECD.