Carbon Becoming a Central Element in International Trade

Nov. 15, 2021
By: David G. Forgue

The deal reached at the end of October between the European Union and the United States to manage trade in steel and aluminum products is a glimpse at an emerging issue in international trade. One important aspect of the agreement was a desire to reward countries that produce relatively low-carbon steel and aluminum. The result is that countries where steel and aluminum production is more carbon-intensive face the competitive disadvantage of a 25% duty on their products entering the United States, while E.U. (and likely Japanese, British, and maybe other) producers will instead face tariff-rate quotas. In essence, “clean” steel and aluminum production is being rewarded relative to “dirty” production.

Using economic incentives to guide steel and aluminum sourcing reflects larger trends apparent in the international trade community. In specific, countries and regions are examining how to level the playing field for expensive, clean manufacturing versus cheaper, more polluting manufacturing. Rather than avoiding environmental regulation because it makes manufacturing non-competitive, this approach raises the price of less-regulated manufacturing. Different models are being discussed in the E.U. and U.S. at the moment and it is possible experience will generate other models as well.

Under the E.U. model there is an E.U.-wide market for carbon emission allowances. Companies start with a specific amount of emissions and may buy or sell the right to emit carbon, depending on their processes and plans. Because the total amount of emission is capped at a particular level this system is known as “cap and trade.” Cap and trade has the advantage of allowing the logic of the market to allocate emissions, rather than government regulators making those allocations. Thus, if company A invests in cleaner processes, its emissions will drop and it can sell some of its allocation to offset the cost of the upgrade. Meanwhile, the company purchasing the allocation will be paying more as it emits more pollutants. This system also gives the E.U. a basis to calculate a carbon import fee for imports from other countries. The E.U. would calculate the “embedded carbon” in the imports and require that emissions allocation be purchased for the carbon at importation. As currently discussed, the products of some countries would also be exempted from the payment if their embedded carbon had already been accounted for in the country of manufacture.

The U.S. model under discussion does not start with a Federal cap-and-trade system. While some states or groups of states have a market for carbon trade, there does not appear to be support for such a market at the Federal level. Therefore, the U.S. is discussing a Carbon Border Adjustment (“CBA”). The current proposal in Congress would not apply a CBA to least developed countries, or countries with (enforced) environmental laws at least as strong as those in the U.S. For all others, carbon-intensive industries like cement, steel, and aluminum would be subject to CBA calculation and payment. The United States government would then calculate both the cost of environmental regulations in the U.S. and the carbon emissions caused by the foreign production. Importers would have the right to challenge the carbon calculation for the import. The CBA would aim to level the playing field between the costs in the U.S. and the costs avoided abroad by charging a fee to capture the regulatory cost that U.S. producers face.

There are many important questions with regard to carbon taxes or fees in international trade. Some plans have been criticized as not being WTO compliant, while others have been criticized as being too complicated. However, it remains important for importers to be aware of the direction of the carbon discussion. In many ways the calculation and goals of a CBA are reminiscent of the calculation and goals in antidumping and countervailing duty cases, which also seek to “level the playing field” between domestic and foreign manufacturers. We expect that importers who are thoughtful in their consideration of possible CBA impacts on their imports will benefit relative to their competitors, just as some importers of AD/CVD goods do relative to theirs.

We have and will continue to remain abreast of developments regarding imports of carbon-intensive products. If you have any questions about sourcing steel, aluminum, cement, or other carbon-intensive products, or about the developing importance of carbon in importing please contact any attorney at Barnes, Richardson & Colburn.