The European Commission recently opened a public consultation on a carbon border adjustment mechanism (CBAM) to maximise the impact of tax in meeting the EU’s climate goals. A CBAM would reduce the risk of carbon leakage, which occurs when production is moved to countries with less robust climate policies, by ensuring that import prices better reflect carbon content.
One option under consideration is a “[c]arbon tax (e.g. excise or VAT type) at consumption level on a selection of products whose production is in sectors that are at risk of carbon leakage. Under this option, the tax would apply to EU production, as well as to imports.” Other options include: a border tax or customs duty on certain carbon intensive products; an extension of the EU Emissions Trading System (ETS) to imports; and an obligation to purchase carbon allowances from a specific pool outside the ETS dedicated to imports.
The European Green Deal
Creating a CBAM is a priority of the European Green Deal, a set of proposals to go climate-neutral by 2050. Specifically, the Green Deal provides:
As long as many international partners do not share the same ambition as the EU, there is a risk of carbon leakage…If this risk materialises, there will be no reduction in global emissions, and this will frustrate the efforts of the EU and its industries to meet the global climate objectives of the Paris Agreement. Should differences in levels of ambition worldwide persist, as the EU increases its climate ambition, the Commission will propose a carbon border adjustment mechanism, for selected sectors, to reduce the risk of carbon leakage.
The Commission notes that tax reforms will play a key role in the Green Deal by incentivising sustainable behaviour.
Other Green Deal tax reforms
There will likely be far-reaching tax changes beyond a carbon tax. For example, the EC underscores the importance of increased flexibility in applying reduced VAT rates. Current VAT rules allow Member States to apply reduced rates only to a list of select products and services. Proposed rules would abolish that list and replace it with a list of products to which the standard rate would always be applied. The Green Deal urges rapid adoption of the new rules, “so that Member States can make a more targeted use of VAT rates to reflect increased environmental ambitions, for example to support organic fruit and vegetables.”
What’s next?
Consultation on CBAM is open until 28 October 2020. Some main expected stakeholder groups include Member States, industry associations, unions, and citizens. An impact assessment will be performed. A legislative proposal is planned for the second quarter of 2021. Any measure will need to comply with World Trade Organization (WTO) rules and other international requirements. Discussions with third countries will take place through the WTO and other channels. CBAM is also an option mentioned in the Recovery Plan for Europe, the Commission’s response to the economic and social impacts of COVID-19.
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