Carbon border adjustments: what are they and how will they affect Australia?

Jun 13, 2021

Australia cannot continue to stand apart from other wealthy countries, free riding on their emission reduction efforts.  Sooner rather than later, we will need to set commensurate targets under the Paris Agreement and implement policies to achieve them.

Countries are ramping up emission reduction commitments and carbon pricing in the lead up to the COP26 Climate Summit in November. Although still short of what is needed to achieve the goals of the Paris Agreement, there has been a dramatic shift to higher ambition in recent months, including among Australia’s major trading partners. Carbon border adjustments are being proposed to tackle carbon leakage and enable carbon pricing to operate more effectively across the economy, including basic industry.

The European Union plans to release in July a detailed proposal that is compliant with international trade rules and to open discussions with its trading partners. Border adjustments are also under consideration in the United Kingdom, Canada, Japan and the United States. Calls increasingly are being made for the formation of a “carbon club” of like-minded countries with high climate ambition, carbon pricing and co-ordinated border adjustments.

Australia stands almost alone among high-income advanced economies in increasing emissions from fossil fuel combustion since 2005 and falls well short of its peers in the commitments it has made under the Paris Agreement to reduce emissions.  It is also now one of the very few high-income countries without some form of carbon price.

The Australian Government has repeatedly attacked the European Union’s CBAM proposal as protectionist but has not released any analysis to back up this claim. By contrast, the former head of the World Trade Organisation has described trade rules as a compass to follow, not an obstacle, in designing a carbon border adjustment. Indeed, from the perspective of countries making greater efforts to reduce emissions, Australia’s lack of ambition and unpriced carbon looks more like protectionism.

It seems likely that one motive for opposition from the Government, and some commentators, is that a CBAM would penalise Australian commodity exports.  The exports at risk of being penalised in this way can be identified from the Government’s list of Emissions Intensive Trade Exposed (EITE) industries.  This list was originally developed to grant exemptions from paying the Gillard Government’s short-lived carbon price, and now delivers exemptions from paying the component of electricity prices attributable to the Large Renewable Energy Target scheme.  However, when Australia’s current detailed commodity export data are analysed against this list, it is found that exports of emissions intensive commodities accounted for only 7% of the value of Australia’s total commodity exports during the two most recent years.  The share of value of all exports, both goods and services, was only 5%.  While only a tiny fraction of the value of EITE exports went to countries which are members of the EU, 64 percent of aluminium and 40 percent of steel went to industrialised countries where carbon prices are in place or under consideration.  Australia’s aluminium exports are vulnerable, because they are produced using coal-fired electricity, while most of its competitors use hydro-electricity.  Australia’s cheap and abundant renewable resources make it well placed to decarbonise aluminium, and position it better than other countries make Australia a world leader in low emission steel production.  A well-designed system of carbon border adjustments across industrialised countries could assist that transition.

Our conclusion from this analysis is that, with a change in climate policy, Australia would benefit far more from the adoption of a CBAM by its customer countries than it would lose by persisting with its current climate policies.  Australia’s abundant and low-cost solar and wind resources, minerals endowment, land availability, scientific and technological capacity, and strong project development skills position it better than most other countries to prosper in a world transitioning to net-zero emissions. Australia has numerous opportunities to develop new zero-emission export industries. Carbon border adjustments in destination markets can assist their development by levelling the playing field with high-emission competitors with unpriced carbon. They also can ease the transition for existing carbon intensive export industries like aluminium and steel to a zero-emission future.

Climate protection is now a central goal of the trade policies of Australia’s closest allies. Instead of shouting from the sidelines, the Australian Government should engage constructively with the European Union and other trading partners to develop a multi-lateral approach to carbon border adjustments. Australia should seek an approach that has environmental integrity and works for Australia’s economy as well as for Europe’s.

While the Australian Government continues to push its ‘technology not taxes’ slogan, it raises very significant tax revenue to fund support for continued use of fossil fuels.  But they are taxes on the income and other activities of households and businesses instead of taxes on pollution[1]. Australia cannot continue to stand apart from other wealthy countries, free riding on their emission reduction efforts.  Sooner rather than later, we will need to set commensurate targets under the Paris Agreement and implement policies to achieve them.

Like other countries strengthening their targets, Australia will need a comprehensive approach that includes economy-wide carbon pricing, green infrastructure spending, clean technology support with effective ‘market-pull’ measures and a serious effort on energy efficiency.

In 2009, Nobel Laureate in economics and trade expert Paul Krugman wrote
“Sooner than most people think, countries that refuse to limit their greenhouse gas emissions will face sanctions, probably in the form of taxes on their exports. They will complain bitterly that this is protectionism, but so what? Globalization doesn’t do much good if the globe itself becomes unliveable[2].”

That day is arriving with developed country trading partners considering measures that will tax our exports of aluminium and steel. It is time for Australia to look forward, engage constructively and grasp the many opportunities available to us in a low carbon global economy.

[1] Revenues in this case might either come from a carbon tax or from the auction of emissions allowances under an emissions trading scheme.

[2] Krugman, P. Empire of Carbon, The New York Times, May 15, 2009. https://www.nytimes.com/2009/05/15/opinion/15krugman.html

 

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