Staying Competitive in a Cleaner World

U.S.-EU Cooperation on Carbon Tariffs

The United States and the European Union should cooperate and use carbon tariffs cautiously to ensure we can stay competitive while addressing global warming, writes Jake Caldwell.

A crane segregates waste in a dump yard on the outskirts of Hyderabad, India. Major greenhouse gas and energy-intensive industries in the United States and the European Union are worried that relative inaction on the part of certain major emitting developing countries such as India will produce competitive challenges. (AP/Mahesh Kumar A)
A crane segregates waste in a dump yard on the outskirts of Hyderabad, India. Major greenhouse gas and energy-intensive industries in the United States and the European Union are worried that relative inaction on the part of certain major emitting developing countries such as India will produce competitive challenges. (AP/Mahesh Kumar A)

Strengthening U.S. economic competitiveness is a key element of moving forward on efforts to combat climate change at a global level. The European Union shares our concern that energy-intensive industries should not be at a competitive disadvantage against industries operating in countries not taking action against climate change. And we need to work together to demonstrate leadership and put forward solutions that reduce greenhouse gas emissions and facilitate international trade.

Climate policy has reemerged front and center in both the United States and the European Union. Sens. John Kerry (D-MA) and Joe Lieberman (I-CT) publicly released comprehensive clean energy and climate change legislation last week, and the European Commission is preparing to issue a report in June on the economic benefits of strengthening the European Union’s overall greenhouse gas emissions target from 20 percent to 30 percent reductions by 2020.

Carbon tariffs—which the United States and the European Union could decide to impose on greenhouse-gas-intensive products imported from countries refusing to take action on climate change—have the potential to play an important role in these discussions moving forward. Carbon tariffs can be an effective policy tool to reduce global emissions and preventing carbon leakage, or the migration of carbon-intensive industries to countries with more lax regulations.

But we must proceed cautiously. Carbon tariffs may also present significant risks to the multilateral trading system and the Earth’s climate if they are designed and implemented poorly and do not fundamentally reduce global greenhouse gas emissions. That’s why the United States and the European Union should work together to design and implement an open and transparent approach to carbon tariffs as part of an overall effort to reduce global greenhouse gas emissions.

The United States and the European Union should immediately commence a process to jointly establish a concrete policy framework detailing the appropriate circumstances under which carbon tariffs should be implemented. The joint U.S.-EU policy can be used to inform the countries’ decisions to use carbon tariffs and carried forward into ongoing international climate change negotiations in the U.N. Framework Convention on Climate Change, Major Economies Forum, G-20, and World Trade Organization negotiating processes.

Major greenhouse gas and energy-intensive industries in the United States and the European Union are understandably worried that relative inaction on the part of certain major emitting developing countries such as China and India will produce competitive challenges. Industrial competitors active in countries failing to take comparable action to reduce greenhouse gas emissions are likely to enjoy lower costs of production relative to their U.S. and EU counterparts operating in a carbon-constrained economy and international trading relationship.

The presence of nonparticipating, or “free-riding,” nations also weakens environmental effectiveness and heightens the risk of carbon leakage. But carbon tariffs can discourage greenhouse-gas-intensive industries, their associated jobs, and carbon emissions from moving overseas to free-riding countries with weaker or nonexistent climate change mitigation policies and preventing overall carbon reductions from taking effect on a global scale.

Many policymakers also see carbon tariffs as a negative incentive (or policy “stick”) to exert leverage in encouraging major emitting developing countries and trading partners—including China and India—to reduce greenhouse gas emissions and meaningfully engage in ongoing international negotiating processes to address climate change.

A variation on the carbon tariff concept has appeared in every major piece of federal U.S. climate change legislation and is present in recent Senate legislation announced by Sens. Kerry and Lieberman. The American Power Act sets aside 15 percent of its allowances to provide free rebate allowances to U.S.-based energy-intensive and trade-sensitive industries such as cement, steel, aluminum, and others, to ensure that these industries are not placed at a competitive disadvantage against foreign-based competitors operating in noncarbon-constrained economies.

The American Power Act also allows the United States to require foreign competitors to purchase carbon allowances starting in 2025 as a form of carbon tariff or border adjustment on imports. The carbon tariff would be applied to imports if the industry’s home country has not joined an international climate change agreement and the United States can identify a significant competitive advantage in a particular industrial sector from a country’s refusal to take action on climate change.

France and Italy have recently renewed their calls for a carbon tariff approach that is consistent with WTO rules as a means of encouraging more countries to reduce greenhouse gas emissions. Any nation that refused to take action on climate change in certain energy-intensive and trade-sensitive sectors would be placed on notice that the European Union would seek “compensation equivalent to the effort made by the EU.” The European Commission has raised concerns regarding effective implementation of a carbon tariff and its potential impact on international trade relations.

Trade-based actions tend to provoke trade-based responses. If the United States or the European Union impose a form of carbon tariff on imports from other countries, it is virtually assured their trading partners would respond in kind with reciprocal trade action directed against similar U.S. and EU products. One or more WTO member trading partners will also undoubtedly initiate a formal WTO dispute challenge to the U.S. and EU carbon tariffs.

A potential WTO dispute settlement challenge to U.S. or EU climate policy is neither desirable from the perspective of the stability of the multilateral trade regime, nor ideal to facilitate an international collaborative response to climate change. Yet the looming threat of a WTO challenge should not be viewed as inherently fatal to an effective domestic and international climate change policy, or used as an excuse for inaction.

Existing WTO rules, obligations, and exceptions contain significant flexibility to allow the United States, the European Union, and other countries to take multilateral—and in some cases even unilateral—measures to conserve exhaustible natural resources, and protect human and plant life or health outside a country’s territory. Only WTO member countries can interpret their respective WTO obligations, but the WTO Secretariat and the United Nations Environment Programme have issued a report that suggests border adjustment measures may be consistent with WTO rules in certain circumstances.

The most effective means for addressing U.S. and EU competitiveness and carbon leakage concerns is a binding international agreement where all major emitting developed and developing nations pledge to contribute greenhouse gas emission reductions and cooperative efforts on mitigation, adaptation, and technology cooperation. A multilateral agreement will discourage unilateral actions, reduce trade tensions in key overseas markets, and be regarded more favorably as consistent with WTO rules and obligations.

But there is still a role for well-designed, transparent, and well-implemented carbon tariffs. The United States and the European Union can work together to ensure maximum effectiveness in accomplishing their climate change and competitiveness objectives by pursuing the following implementation and policy design recommendations:

  • Apply carbon tariffs in an open and transparent manner. The United States and the European Union should allow sufficient flexibility prior to the application of carbon tariffs to ensure that other countries’ compliance is based on performance and reductions in overall greenhouse gas emissions and not on capacity to implement measures identical to U.S. or EU policy.
  • Exempt least developed countries from tariffs. We should apply carbon tariffs only to products from developed and major emerging economy nations. Least developed countries should not be subject to carbon tariffs because they are in need of a boost in their trade exports and are generally the least responsible for greenhouse gas emissions.
  • Consider countries’ greenhouse gas reduction efforts. We should apply carbon tariffs only if a country is not participating, or is not in compliance, with a sectoral, or bilateral, or international agreement on climate change that is contributing to reductions in greenhouse gases. We should also give full consideration to a comprehensive accounting of all a nation’s “building block” emission reduction efforts, including, for example, greenhouse gas intensity of products, energy efficiency measures, and verifiable and permanent offsets.
  • Establish a joint U.S.-EU working group to identify the relationship between trade and climate change issues. The task force should consider a range of issues including the use of carbon tariffs and deliver its policy recommendations to the WTO to guide the WTO’s approach to these issues.
  • Invoke a joint U.S.-EU agreement to apply a “peace clause” for an initial period of 10 years. The peace clause means that the United States and the European Union agree to not formally challenge each other’s domestic climate change policy in WTO dispute settlement proceedings. U.S. and EU climate change policies will need time to work, and dispute settlement challenges at the WTO are premature and could potentially undermine progress.
  • Allow national leaders to make a final decision on carbon tariffs. The president should have final decision-making authority for the United States on whether to apply carbon tariffs to greenhouse-gas-intensive imports. And the European Commission should have the final decision-making authority in the European Union on whether to apply carbon tariffs to greenhouse–gas-intensive imports.
  • Consider other policy options. We should not use carbon tariffs to the exclusion of other potential policy tools to address carbon leakage, engagement of major emitting nations, and competitiveness concerns. Other tools might include extending rebate programs to greenhouse-gas-intensive, trade-sensitive industries legitimately affected by competitive disadvantages and job loss and negotiating strong, enforceable sectoral agreements with trading partners to set emission limits or performance standards on an industry-by-industry basis.

The call for carbon tariffs has underscored the economic, environmental, and political importance that leaders and the general public on both sides of the Atlantic attach to climate change and trade policy. The effort is aimed at reducing global greenhouse gas emissions and ensuring that the production of energy-intensive and trade-sensitive manufactured products and their associated jobs are not outsourced beyond the shores of their home countries in a carbon-constrained economy.

If other major greenhouse gas emitting nations do not make comparable efforts to U.S. and EU actions on climate change, well-designed carbon tariff provisions do have a role to play in addressing climate change and preventing greenhouse gas emissions from migrating to other countries. The United States and the European Union will have to undertake open and transparent efforts to maintain a level competitive playing field for a narrow group of U.S. and EU energy-intensive industries once we place a price on carbon.

As the United States considers comprehensive clean energy and climate change legislation in the Senate, and the European Union contemplates further reductions in greenhouse gas emissions, we have a unique opportunity to work together to improve the clarity and support for the implementation of carbon tariffs—and redouble our efforts to reduce greenhouse gas emissions on a global scale.

Jake Caldwell is the Director of Policy for Agriculture, Trade and Energy at American Progress.

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