On 6 October, the EU-Japan Centre for Industrial Cooperation held a webinar entitled "What is the EU's carbon border adjustment mechanism (CBAM)",1 in response to a formal proposal for a climate change legislation package made by the European Commission on 14 July. As the main speaker, Mr. Vicente Hurtado Roa (Head, Unit of Indirect Taxes (other than VAT), Directorate General of Tax and Customs Union of the European Commission) was invited to deliver a detailed explanation of the Carbon Border Adjustment Mechanism and then a lively Q&A session was held. I acted as a moderator for the session. In this column, I will present an overview of the content and my personal impressions.
What is the EU's Carbon Border Adjustment Mechanism?
First, I will present a summary of Mr. Hurtado's explanation.2
According to Mr. Hurtado, the CBAM has the following characteristics:
- It is a climate measure aimed at avoiding carbon leakage from the EU as the EU increases its climate ambitions, promoting emission reductions in other countries.
- The first stage targets the sectors with high CO2 emissions, such as cement, steel, aluminium, fertilizer, and electricity, and the second stage is planned to target other sectors as well.
- For imports into the EU, importers are required to purchase a certificate for the difference between the carbon content of the imported product and the same product produced in the EU as an adjustment amount.
- 2023–2025 will be a transitional period to collect information on carbon emissions from imported products, and the first phase will be implemented from 2026.
Even before the draft was officially proposed by the European Commission in July 2021, stakeholders inside and outside the EU had raised issues and concerns regarding consistency with the WTO rules, but Mr. Hurtado explained that it reflects (mirrors) the same system as the existing EU’s Emissions Trading System (EU ETS), but it will be implemented in stages with sufficient bilateral and multilateral consultations (including with the WTO). Thus, he emphasised that the WTO rules will be observed. He also cited the fact that the IMF and the OECD support international emission reduction efforts.
Regarding what countries will be affected, Mr. Hurtado gave examples of the top exporters to the EU in the target sectors. These include cement from Turkey, Ukraine, and Belarus; fertilizer from Russia, Egypt, and Algeria; steel from China, Russia, and Turkey; and aluminium from Norway, Russia, and China (however, Norway is not subject to the CBAM because it is linked to the EU ETS).
Regarding the phase of CO2 emissions in each sector covered by the CBAM, Mr. Hurtado said it applies to direct emissions, or Scope 1 as in the EU ETS. It can be understood from the fact that the five target sectors are so-called carbon-intensive upstream industries. However, he affirmed the possibility that downstream industries such as automobiles and machinery will be targeted in the future, and that Scope 2 and Scope 3 will also be targeted, pending an assessment of the possibilities for such extensions.
Mr. Hurtado and Ms. Susanne Akerfeldt (Policy Officer of the European Commission) gave the following explanations and answers to the participants’ questions in the Q&A session.
First, regarding the future legislative decision-making process, Mr. Hurtado said the CBAM proposal was made by the European Commission in July 2021 and will be finalised after negotiations through the ordinary EU legislative procedure involving joint decision-making by the Council (member state governments) and the European Parliament. In the past, deliberations took longer than expected during proposals, and the implementation time of the system was sometimes delayed, but since this is an important, high-priority matter, he said deliberations are proceeding smoothly in line with the implementation schedule. He explained that he had high hopes for forward movement, and that the discussions in the Council have already begun.
Second, regarding the impact on Japan, Mr. Hurtado said in the opening explanation that even if Japan does not introduce a carbon tax or emissions trading system, if it makes efforts to reduce emissions through an energy tax and technical efforts, that amount will be taken into consideration when calculating the CBAM obligation. Also, for Japan, major impacts are limited since there are not many exports to the EU in the industrial sectors targeted for the first stage, and Japan is leading the effort to reduce emissions to combat climate change. He supported the statement by Vice-President Timmermans of the European Commission that Japan would likely not be significantly adversely affected. According to Nikkei Asia, dated 23 September 2021, Timmermans stated: "Given the fact that Japan is actually aligned with the European Union in its ambition to decarbonize its economy by 2050, I think it is highly, highly unlikely that we would ever have a discussion about CBAM between the European Union and Japan because [of] the risk of carbon leakage."3
Regarding the part of this statement that it was "highly unlikely that we would ever have a discussion", Mr. Hurtado said that discussions with Japan are necessary and hoped that Japan would be on the side of the EU in international discussions. He added that after analysing Japan's efforts and their interaction with the EU system, they would decide whether Japan will become a white-listed country.
Third, in the calculation of the CBAM, the explicit carbon price of the producing country is taken into consideration, but the implicit (indirect) carbon price is not taken into consideration. In Japan, the carbon tax rate (the Global Warming Tax) is low, but energy tax, which includes the oil tax and coal tax, is quite high and it has the effect of curbing energy consumption. A question was asked as to whether this point would be taken into consideration. Ms. Akerfeldt said that the European Commission's proposal clearly states that only explicit carbon prices are considered, although there may be further discussion in the Parliament in the future on this point. She was clear in her statement that energy taxes are not applicable. At the same time, she agreed that high energy taxation has the effect of curbing carbon emissions, which would have the effect of reducing carbon content in calculations.
Fourth, regarding the use of CBAM revenue, Ms. Akerfeldt said there is no mention of how to use the revenue in the CBAM proposal, but it is planned to be included in the EU budget as a financial resource for use by the EU. Furthermore, the EU would be able to provide technical assistance to other countries with those resources. It was suggested that there is a possibility of joint development with Japan on reduction technology.
The EU's ability for strategic and tactical policymaking regarding the ambitious policy of the CBAM
My personal impressions regarding the above explanation are as follows.
First, the EU's ability in terms of strategic and tactical policymaking regarding the ambitious policy of CBAM is impressive. This CBAM proposal is ambitious in concept, but practical and restrained in its introductory system, implemented after careful coordination with many stakeholders before the proposal by the European Commission in July of 2021. This impressive coordination with many stakeholders was also reported by Mr. Andrei Marcu (Representative of European Roundtable on Climate Change and Sustainable Transition) at the seminar co-sponsored by the Centre and RIETI on 24 June 2021.
The European Commission said that 2023–2025 is a period without financial obligations, enabling third country producers and importers to prepare for the obligations arising in 2026. The introduction of the first-stage system will be limited to industries in five fields with high carbon emissions and a high risk of carbon leakage. It is evident that the utmost efforts are being made to reduce the amount of opposition to the system, such as the decision to maintain the free allocation of emission allowances in EU ETS, which was requested by related industries. Talks between the European Commission and the US government also seem to be underway, although significant concerns have been expressed by the US government, and especially by Special Envoy Kelly.4
I personally respect the EU's ability to make policy proposals that have a global impact, including from a realist perspective, including the scope and timeframe for the policy.
Second, the EU holds high expectations for Japan, both in terms of CBAM and efforts toward decarbonisation. As the EU-Japan Summit agreed to establish the EU-Japan Green Alliance in May 2021, the EU is enthusiastic about Japan becoming an ally in decarbonisation efforts around the world. The above statement by Vice-Chairman Timmermans is a manifestation of this, and Mr. Hurtado clearly urged Japan to join their side. I came to recognise the EU's strong conviction to mobilise further efforts around the world to combat climate change and to increase its power to lead like-minded countries toward the same goal. Of course, regarding the treatment of Japan in the CBAM, as Mr. Hurtado says, it will be necessary for both authorities to come to mutual understanding through sufficient consultation and to mutually acknowledge that both efforts are sufficient. I hope that the Japanese and EU authorities will have discussions and create partnerships based on a broad perspective.
Third, Japan's future efforts are important. Since (then) Prime Minister Suga's 2050 Carbon Neutral Declaration in October 2020, Japan has been prominent in discussions and efforts on decarbonisation by the public and private sectors. The reduction target for 2030 was also revised upward in April 2021 from the previous 26% reduction to a 46% reduction. A draft energy basic plan, including the ideal energy mix aimed at those goals, has also been announced and is awaiting a formal decision. The transition to decarbonisation is an all-out effort. Japan's strength is in technology (utilisation of existing technology and development of new technology) as pointed out by International Energy Agency (IEA) Secretary-General Fatih Birol (Birol 2021).
The Innovation for Cool Earth Forum (ICEF) held on 6-7 October 20215 also showed a roadmap for innovative technologies. It is expected that this effort will be greatly accelerated.
In July 2021, the EU provided a framework of all-out effort by proposing the ‘Fit for 55’ package, which includes the CBAM. Among the items in the package, CBAM is a system based on carbon pricing (according to the EU ETS). In Japan as well, the Ministry of Economy, Trade and Industry and the Ministry of the Environment are taking the lead in considering the introduction of carbon pricing. Japan will be required to make sufficient efforts for such a system as an alliance with the EU. And Japan, together with the EU, will continue to lead global discussions, including in the technical, financial, and institutional aspects, through various forums including places like COP26, in order to promote international cooperation toward global decarbonisation.
Author’s Note: This column first appeared on the website of the Research Institute of Economy, Trade and Industry. This column is the author's personal opinion alone based on the author's understanding of the discussions during the above-mentioned webinar and does not represent the official views of the Japanese and EU authorities and the Centre.
Birol, F (2021), “Japan will have to tread a unique pathway to net zero, but it can get there through innovation and investment”, IEA commentary, 28 June.
Marcu, A (2021), “Towards carbon neutrality: Challenge of Japanese & EU industry and system”, presentation at EU-Japan Center for Industrial Cooperation and RIETI seminar on "Towards Carbon Neutrality: Challenge of Japanese and EU-Japan Industry and Policy", 24 June.
2 The presentation material used by Mr. Hurtado can be found here: https://www.eu-japan.eu/sites/default/files/imce/FF55_CBAM%20by%20Mr.%20...
4 My understanding is that, like the EU's General Data Protection Regulation (GDPR), Japan will be given reciprocal adequacy status, thereby relaxing the regulation, although tough discussions are expected between authorities in the process.