What is the EU's CBAM and How Does It Work?
Updated: 14.08.2024
The European Union’s Carbon Border Adjustment Mechanism (CBAM) is a key tool designed to align with the EU’s international commitments and environmental standards, including World Trade Organization rules, while mirroring the EU Emissions Trading Scheme (ETS).
How Does CBAM Work?
1. Calculating Embedded Emissions
CBAM applies to the actual embedded emissions in goods imported into the EU. Calculations are made according to a methodology consistent with EU ETS reporting standards for similar goods produced within the EU.
2. CBAM Certificates
Starting in 2026, EU importers will need to purchase CBAM certificates. These certificates represent the carbon emission price that would have been incurred if the goods had been produced according to EU carbon pricing rules. This ensures a level playing field for both EU producers and importers.
3. Deduction for Non-EU Carbon Emission Prices
If a non-EU producer has already paid a carbon emission price in their home country for the emissions embedded in their products, this cost can be deducted from their CBAM obligations. This prevents double charging and acknowledges existing carbon pricing mechanisms outside the EU.
CBAM aims to reduce the risk of carbon leakage (shifting production to countries with less stringent climate policies) and reduce emissions while encouraging greener production processes worldwide. It also motivates countries to adopt carbon pricing measures.
How is CBAM Implemented, and What is Its Sectoral Scope?
To ensure legal stability for businesses and countries, CBAM is introduced gradually. Initially, it applies only to specific high-risk sectors of carbon leakage, including:
- cement,
- iron and steel,
- aluminum,
- fertilizers,
- hydrogen, and
- electricity.
These sectors account for over 50% of emissions from industrial sectors under the ETS.
During the transitional period, which began on October 1, 2023, a reporting system for these sectors was introduced to facilitate smooth implementation and dialogue with third countries. Importers will start paying the CBAM financial adjustment in 2026.
How Does CBAM Interact with the EU Emissions Trading System (ETS)?
The EU ETS, the world’s first international emissions trading system, is crucial to the EU’s climate policy and climate neutrality. It limits greenhouse gases emissions from energy production and large industrial installations, requiring the purchase of allowances on the ETS market. To prevent carbon leakage, some free allowances are distributed, but their number will decrease over time.
Complementary Mechanism
CBAM complements the ETS by gradually introducing financial adjustments as free allowances decrease. This ensures that importers are treated fairly compared to EU producers.
Certificate System
CBAM uses a certificate system based on the embedded emissions in imported goods. Unlike the ETS emissions trading system, there is no limit to the number of CBAM certificates, but their price reflects the ETS allowance price.
By 2026, the full CBAM regulation will be aligned with the revised ETS, particularly concerning the reduction of free allowances. Until these allowances are completely phased out by 2034, CBAM will apply proportionately to emissions not covered by free allowances.
FAQ on the CBAM
What is the EU Carbon Border Adjustment Mechanism CBAM?
It’s a key tool implemented by the European Union (EU) to address carbon leakage and align with international climate commitments. CBAM ensures that carbon-intensive goods imported into the EU market are subject to the same carbon price as those produced within the EU, thus maintaining a level playing field.
It is designed to complement the EU Emissions Trading System (EU ETS) and reduce greenhouse gas (GHG) emissions by encouraging other countries and foreign producers to adopt similar carbon pricing mechanisms.
How does the CBAM work with embedded carbon emissions?
CBAM focuses on the actual embedded emissions in goods imported into the EU. These emissions are calculated based on methodologies aligned with EU ETS reporting standards.
Starting in 2026, EU importers will be required to purchase CBAM certificates, which reflect the carbon price that would have been applied if the goods were produced within the EU member states. This mechanism helps to ensure that imported goods face equivalent carbon prices, preventing carbon leakage and encouraging greener production processes worldwide at international trade level.
What are the reporting obligations during the CBAM transitional phase?
During the transitional period, which began on October 1, 2023, importers of specific carbon-intensive goods must comply with reporting obligations. These obligations involve providing detailed CBAM reports on the embedded emissions and carbon intensity of the imported goods.
The reporting system aims to facilitate a smooth implementation of CBAM and enable dialogue with non-EU countries about their carbon pricing measures. The transitional phase allows for a gradual introduction of the CBAM financial obligations, with full implementation set for 2026.
How does CBAM interact with the EU Emissions Trading System (EU ETS)?
CBAM operates alongside the EU ETS, which is the EU’s primary tool for limiting GHG emissions from large industrial installations and energy production. The EU ETS requires domestic producers to purchase allowances for their emissions, while CBAM imposes similar financial obligations on EU importers of carbon-intensive products.
By gradually phasing out free allowances in the EU ETS, CBAM ensures that importers pay the same carbon price as domestic producers, thereby preventing carbon leakage and promoting climate protection. The system uses CBAM certificates, priced according to the EU ETS allowance price, to account for the carbon emissions embedded in imported goods.