E.U. Carbon Border Adjustment Mechanism

A carbon border adjustment mechanism is a duty on imports based on the amount of carbon emissions resulting from the production of the imported product.¹ The European Union (E.U.) has adopted a carbon border adjustment mechanism (CBAM), which will impacted all United States (U.S.) exporters to the E.U starting in 2023 moving towards full implementation in 2027.
E.U. importers began reporting data on pilot sectors in January 2023. The first “pilot” phase includes cement, iron, steel, aluminum, fertilizer, certain chemicals, and electricity.²
If a U.S. business does not provide their own independently verified embedded emissions data, the E.U. will use its proposed “default” calculation method for the purpose of determining emissions, which is unfavorable to businesses because it assumes a large amount of emissions.
The carbon border adjustment mechanism has the potential to rearrange global trade and supply chains. As a result, producers need to be aware of their emissions, and calculate their existing efforts to offset emissions. U.S. manufacturers are important for E.U. supply chains of affected products, ranging between 5 and 35 percent of the E.U.’s imported goods market share.
Due to more energy efficient processes, manufacturers based in the United States stand to fare well under the CBAM. However, countries, states, and firms that already tax carbon will fare the best under these rules. While the U.S. does not have a federal carbon tax, some U.S. producers may already be paying carbon taxes in the form of state or local taxes.

In June 2022, the European Parliament officially adopted a package of carbon legislation, including a Carbon Border Adjustment Mechanism (CBAM), or tax, a revised emissions trading scheme (ETS), and direct income support for energy for low-income families (the Social Climate Fund).³This package of carbon legislation works as part of the European Commission’s “Fit for 55 package” – carbon reforms to meet 2030 emissions goals. Other tax measures in the package include a plastics tax, and an energy taxation directive (to include transport in energy taxation).⁴

The E.U. has enacted CBAM to avoid “carbon leakage” concerns—this results when companies move their production from a country with stringent carbon policies to one that is more lenient to avoid taxation. The E.U. currently has a domestic carbon tax, but to avoid paying the tax, E.U. producers have been offshoring their production to more high emitting locations, leading both to E.U. job losses and overall higher global emissions. To avoid this scenario, the E.U. has adopted measures to tax the carbon on imported goods.⁵

Sectors Covered in Pilot Phase:

Iron, Steel, Aluminum
Cement
Fertilizers
Chemicals and Polymers
Electricity and Energy

Stage 1: This is the transitional “pilot” phase for E.U. importers and began in January 2023 and continues through December 2025. During this phase, importers of the pilot phase products which include iron, steel, aluminum, cement, fertilizers, chemicals, polymers, electricity and energy are required to calculate and report their emissions to the E.U. In Stage 1, the most important step for U.S. firms will be to measure their current direct and indirect emissions and any carbon tax exposure they already have. Without a robust data structure from which to draw, E.U importers will need to make their own estimates, relying on information provided by non-E.U. producers on embedded emissions.⁶

If a U.S. business does not provide their own emissions information, the E.U. will use its proposed “default” calculation method. Default values are based on the emissions of the worst 10% of E.U. performers or may be adapted to the performers in the region where the exporter is from data that is available (i.e., energy mix of steel producers in that country).⁷ To avoid E.U. default settings, the CBAM requires an independently verified assessment of embedded emissions of covered goods. This will require firms to understand the carbon footprint of their products, even if they have a good understanding of this at the facility level. For example, if company wanted to export steel to the E.U. and avoid the default E.U. settings (say because they consider their emissions profile to be lower), they would need to undertake verified product level accounting.⁸

Stage 2: Starting in January 2026 importers will be required to purchase import permits for the initial list of products to offset their emissions. E.U. importers first register with national authorities and purchase CBAM certificates/import permits that would be priced based on the E.U.’s existing weekly ETS allowances. ⁹ E.U. importers will be required to declare the amounts of emissions that their imports produce and submit the corresponding number of certificates each year from their permits. If the importer can prove that the carbon price has already been paid during production (via a domestic carbon tax or trading scheme), the corresponding amount can be deducted from the total amount of certificates owed.

Stage 3: Starting in January 2027 the program will expand to other products. The full implementation of CBAM is planned for January 2032, where the program will apply to all imported products. They are required to calculate both direct emissions and indirect emissions from electricity usage (see Figure 1 for timeline of events).

Currently, E.U. importers are paying an estimated €70 per metric ton of CO2 emissions.¹⁰ This price could increase the more the domestic carbon tax is increased via weekly auction prices; the tax rate is trading at more than €80 per metric ton by 2025, just before companies will begin purchasing CBAM credits, and is expected to rise to over €100 in the next decade^.11

What Are Auctions:

In the E.U. ETS system, 28 E.U. countries are allotted carbon credits based on emissions goals (minus 43% from 2005 emissions by 2030). The credits are then purchased at auction by companies, including carbon brokers and traders who then sell the credits to companies later.

Carbon tax complexities

U.S. producers will face numerous complexities in managing this new CBAM tax regime:

First, U.S. businesses will be required to provide carbon emissions data to the E.U. for their products in accordance with E.U. standards –in this case, it is the E.U. that will bear the burden of paying the CBAM tax to be compliant with WTO standards.
Second, U.S. businesses may likely be faced with accepting lower prices for their products to offset the higher cost paid by their buyers. Depending on the market power of the U.S. business, the exporters may also be faced with accepting lower prices for their products in the E.U. (e.g., if the U.S. business is the only seller of that product, it can afford to pass on the extra cost to the E.U. importer. But if the U.S. seller is one of many, then it may need to absorb more of the burden of the CBAM cost), and
Third, U.S. producers will face greater pressures to lower emissions because E.U. importers will prefer lower emissions importers because it will be less expensive for them.¹² As an example of the potential level of tax, Phase 1 products, specifically, iron and steel, could be facing more than $80.75 CBAM tax per ton exported to the E.U. (Table 1).¹³

Commodity	Imports as a share of Imports + Exports	Value of U.S. Exports to E.U. (Thousands $)	Share of Imports from U.S. (Value)
Iron and Steel	58.5%	$712,010	8.0%
Aluminum	64.3%	$384,623	11.1%
Basic Chemicals	51.2%	$11,993,631	35.0%
Fertilizers	54.8%	$113,389	4.7%
Crude Oil	96.9%	$14,785,574	7.8%
Natural Gas	99.4%	$4,749,858	12.3%

Sources: KPMG Economics, U.S. Census Bureau, Organization for Economic Complexity, US ITA, UN Comtrade, Eurostat, Aluminum Association (2019).

Given that product prices are determined in the global marketplace, particularly for intermediate goods that are not final products, one challenge will be that prices will increase for inputs generally. For example, if the final price of steel products increases in the EU, it is likely to also increase globally, CBAM tax notwithstanding. This means that U.S. domestic prices may also increase for these products.

Figure 2 below shows how sensitive U.S. industries are to price changes in the Phase 1 commodities.

Industry	Steel and Aluminum	Iron	Cement	Chemicals and Fertilizers	Electricity	Oil and Gas
Mining
Manufacturing
Construction
Transportation and warehousing
Other Services
Professional, Scientific, and Technical Services
Administrative and Support and Waste Management and Remediation Services
Real Estate, Rental, Leasing, and Housing
Accommodation and Food Services
Agriculture, Forestry, Fishing, and Hunting
Educational Services
Utilities
Wholesale Trade
Arts, Entertainment and Recreation
Retail trade
Information
Health Care and social Assistance
Management of Companies and Enterprises
Finance and Insurance

Note: The colors in the table correspond to the industry's relative exposure to the key economic channel when compared to other industries.
Sources: KPMG Economics, Bureau of Economic Analysis (2020).

The tax amount is relative and varies dependent on the carbon content of the imported product (such as where it is from, the production methods, and the carbon taxes paid by the foreign producer). As such, the most important piece of information that companies need to understand is how it compares with other firms both domestically and internationally in terms of emissions intensity. This is important because the tax is applied on a relative scale, comparing emissions from different countries and producers.

Products with carbon intensive manufacturing processes will require importers to pay a higher CBAM tax, resulting in higher prices for companies. For example, the E.U. imports 24% of its steel (2019), making it the world’s largest steel importer, and is primarily reliant on imports from China, Russia, and Turkey. However, China and Russia, along with Ukraine, South Korea, India, and Canada, tend to use blast furnace and oxygen furnaces, which have a much greater carbon intensity than steel from U.S. and Turkey, which use electric arc furnaces. The U.S. produces more than 70% of steel in electric-arc furnaces (see Figure 3) and accounts for around 5% of imports to the E.U.¹⁴

After CBAM is implemented, European manufacturers will encounter a higher cost for steel produced in blast furnaces than the same type of steel produced via electric arc furnaces. The same could be said for crude oil—some places, such as Russia, use extraction methods that are much more carbon intensive than the U.S. or Saudi Arabia.

In November 2021, U.S. steel executives came out in favor of a CBAM because it raises the costs of steel with high carbon emissions and as the U.S. has relatively lower carbon emissions in their steel manufacturing, the U.S. steel industry is aided by the CBAM tax.¹⁵

While some countries will benefit from CBAM, others will face negative impacts. E.U. producers will benefit from the CBAM tax. The U.S. will largely remain unscathed in terms of total exports, though chemicals exports would fall by 0.4%. The most negatively impacted countries would be in the Middle East and North Africa (MENA), China, and Ukraine. Chemicals was the most impacted sector with exports reduced at levels ranging between 1% and 4%. Iron and steel were also heavily impacted in India with reductions of almost 6%.¹⁶

Within U.S. businesses, one final nuance is the difference between exporters that exclusively export to the E.U. versus those that export to both the E.U. and other countries. Businesses that export exclusively to the E.U. will have a higher up-front cost than those that can pass some cost on to other buyers as well. However, this depends largely on how many other countries adopt a similar CBAM measure. Businesses that can report and perform well under the E.U. CBAM may find adoption in other countries to be favorable for them.

The firms and countries that will fare the best will be ones that are already compliant with E.U. standards on carbon taxes. Currently, 47 countries already have a price on carbon in their production. However, the E.U. already pays an average $70 per ton, whereas the average global carbon price is $2 per ton. For example, in China, the ETS only covers $1 per ton versus $30 per ton in the South Korean ETS.¹⁷ In this case, even though both countries have an emissions trading scheme, South Korea will pay much less of a tax in the E.U. than China. Some countries, such as Switzerland and Norway, have agreements with the E.U. that CBAM will not apply to their exporters.¹⁸ As such, currently, these types of initiatives cover 23% of total global emissions of carbon.¹⁹

While producers in the U.S. do not have a federal carbon tax that would cover the E.U.’s standards, some producers may already be paying carbon taxes in the form of state taxes and ETS programs.

If individual firms are voluntarily paying a carbon price, or paying a carbon price within their state, data reporting becomes even more important. It is unclear if E.U. importers will automatically count these balances toward the carbon tax, so firms will need to work with their buyers, so the firm is not double-taxed.

One final point to note is the dynamics of the CBAM. In the example of China and South Korea, China would currently pay much more of a tax on the same amount of emissions because South Korea pays closer to parity with E.U. producers. However, if China decided to increase their tax per ton, the relative tax would change. This goes for all exporters, and so preference over time will be given to those producers who are paying at least the E.U. tax.

It is also important to compare within countries, and to make sure that firms’ supply chains are well documented for importers. For another pilot phase product—aluminum—producers that make primary aluminum could face an additional tax as much as $724/thousand kg of aluminum. However, producers of recycled aluminum would only face a tax of $44.80/thousand kg of aluminum, leading to preferences for recycled products.

The E.U. CBAM—a tax on imported carbon—is transitioning into effect beginning in January 2023. Firms need to be prepared for both the reporting process and dynamics of the trade effects that the CBAM will have on them. Especially for the pilot sectors, cement, iron, steel, aluminum, fertilizer, certain chemicals, and electricity, firms will need to work with importers to determine the carbon content of their production and whether they have paid a domestic carbon tax on their production. Exporters in countries that already pay a tax on carbon emissions will fare better than those with no such tax.

The impact of the CBAM will be three-fold:

All producers of the covered products will directly be affected via the tax that E.U. importers are paying,
Producers that have less carbon content in their production will fare better than others, and
Producers already paying a carbon tax will be preferred by importers.

Finally, CBAM will mark a change to actions that U.S. companies need to take to remain competitive internationally as they seek to export to the EU. This climate landscape is everchanging and companies will need to navigate CBAM in tandem with the complexities of new and emerging regulations regarding climate change in both the U.S and globally. The proposed SEC climate disclosure rule has significant disclosure requirements for public companies on physical and transition risks, metrics and targets, and emissions. The recently passed Inflation Reduction Act amends the Clean Air Act to define the carbon dioxide produced by burning fossil fuels as an air pollutant –this explicitly gives the EPA the authority to regulate greenhouse gases. In addition, other countries, including Canada, are strongly considering enacting their own version of a carbon border tax similar to CBAM that could potentially add to reporting requirements.

Cecilia Bellora and Lionel Fontagne, “E.U. In Search of a WTO-Compatible Carbon Border Adjustment Mechanism,” Working Paper from CEPII and Bank of France (20 March 2022)

Sean Bray, “Russia’s Ukrainian War Could Impact E.U. Carbon Proposal Too,” Tax Foundation (18 March 2022).

Maksym Chepeliev, “Possible Implications of the European Carbon Border Adjustment Mechanism for Ukraine and Other E.U. Trading Partners,” Energy Research Letters 2(1) (2021)

ESG Matters—Europe “Carbon Border Tax: The Whys and Wherefores” (17 November 2020)

European Parliament, “CBAM: Parliament pushes for higher ambition in new carbon leakage instrument,” Plenary Session (22 June 2022).

KPMG, “New Carbon Borders Change the Game,”

KPMG Impact “Carbon Border Adjustment Mechanism (CBAM)” (2021)

David Lawder, “US Steel Executives Favor Carbon Border Adjustment to Combat Dirty Imports,” Reuters (2 November 2021)

U.S. International Trade Administration. Global Steel Trade Monitor.

World Economic Forum, “What Is a Carbon Border Tax and What Does it Mean for Trade?” (26 October 2021).

Relevant Results

Sorry, there are no results matching your search.

5 Key Insights

Sectors Covered in Pilot Phase:

Stages of change

What Are Auctions:

Potential Impact on U.S. Firms

Carbon tax complexities

Table 1: Selected Pilot Phase Commodities

Sources: KPMG Economics, U.S. Census Bureau, Organization for Economic Complexity, US ITA, UN Comtrade, Eurostat, Aluminum Association (2019).

Figure 2: Exposure to Carbon Border Adjustment Mechanism, Phase 1 Commodities (red indicates U.S. industries that are more sensitive to prices changes and green indicates U.S. industries that are less sensitive to price changes.)

Relativity Matters

Figure 3: E.U. Steel Imports, by Volume and Carbon Intensity

Impacts on Existing U.S. Carbon Tax Programs

Conclusion

Footnotes

Works Cited

Explore more

KPMG Economics

Meet our team

Contact KPMG

Headline

Insights

Services

Industries

How We Work

Careers & Culture

Relevant Results

Sorry, there are no results matching your search.

E.U. Carbon Border Adjustment Mechanism

5 Key Insights

Sectors Covered in Pilot Phase:

Stages of change

What Are Auctions:

Potential Impact on U.S. Firms

Carbon tax complexities

Table 1: Selected Pilot Phase Commodities

Sources: KPMG Economics, U.S. Census Bureau, Organization for Economic Complexity, US ITA, UN Comtrade, Eurostat, Aluminum Association (2019).

Figure 2: Exposure to Carbon Border Adjustment Mechanism, Phase 1 Commodities (red indicates U.S. industries that are more sensitive to prices changes and green indicates U.S. industries that are less sensitive to price changes.)

Relativity Matters

Figure 3: E.U. Steel Imports, by Volume and Carbon Intensity

Impacts on Existing U.S. Carbon Tax Programs

Conclusion

Footnotes

Works Cited

Explore more

KPMG Economics

Meet our team

Headline