A Primer on Carbon Border Adjustment Mechanisms

Buried in one of my newsletters last week was an article describing the first shipment of green steel from China to Italy, seemingly in alignment with the EU’s Carbon Border Adjustment Mechanism (CBAM).

I’ve been taking a closer look at the CBAM, how it works, and the precedent it sets, particularly as we see the evolving trade landscape around the globe in response to the US’ trade wars.

What is CBAM, and what does it do?

The EU’s Carbon Border Adjustment Mechanism is designed to protect EU industries from what’s known as carbon leakage – that is, where industrial producers in the EU subject to industrial carbon pricing via the EU Emissions Trading System (ETS) may be prompted to leave the EU and set up production facilities outside of the bloc, largely due to the ETS.

The CBAM applies through a charge levied on importers based on the carbon content of their goods coming into the EU, thus providing a level playing field for both domestic and importing producers. That is, domestic producers face carbon pricing via the ETS, and importing producers face an equivalent pricing mechanism via CBAM.

The CBAM in the EU is in its transitory phase, which began October 1, 2023, and ends December 31, 2025. The transitory phase has required applicable importers to report on the embedded emissions in their products without applying a charge (within the system, termed surrendering CBAM certificates) – charges are set to be imposed on importers starting January 1, 2026.

How does the CBAM account for embedded emissions?

As I’ve been looking more closely at the EU’s CBAM, I’ve had discussions with a few experts around how the GHG accounting works for the embedded product emissions. My own experience is largely with corporate and industrial emissions (Scope 1, 2, and 3 of the GHG Protocol, or the ISO 14064 set of standards), and I’ve worked with life cycle assessment and product standards as well (ISO 14044, ISO 14067). Industrial carbon pricing in Canada (among many other countries) is generally applied through the former set of standards mentioned.

The question then comes up – if industrial carbon pricing systems applying those standards largely use facility-based reporting to implement pricing mechanisms, how does the EU adjust their CBAM system and regulations to adapt to product-based reporting?

Interestingly enough, it seems – in broad strokes – that the EU’s CBAM does not follow an international standard (of which there are certainly several to choose from). Even within its own guidance, the European Commission directs that the “scope of the CBAM is principally related to the rules of the EU ETS and therefore has differences to other methods for calculating product carbon footprints such as the “GHG Protocol” or ISO 14067.” And yes, because I’m me, I did in fact go right into the depths of the EU’s CBAM regulation (see Annex IV) to look up the specific equations they use for determining embedded emissions.

What are other countries doing about CBAM?

The EU is far from the only region taking carbon leakage concerns seriously through a CBAM. In fact, the UK is set to implement their own CBAM by 2027. In response to their Carbon Leakage Review relating to their industrial carbon pricing system (The Safeguard Mechanism), Australia’s independent review panel put forward a recommendation to further explore a CBAM for the country. Even in the US, several bipartisan bills have been put forwards to adopt a CBAM in recent years, under both Trump and Biden Administrations.

In Canada, Prime Minister Mark Carney’s election platform explicitly proposed developing a CBAM for the country to help ensure “the competitiveness of Canada’s most energy-intensive, trade-exposed sectors, and protect Canadians who work in industries such as steel and aluminum.”

At the World Trade Organization level, several countries (including China) have put forwards concerns related to the imposition of CBAM, which critics state is a hidden form of protectionism. I’m watching closely as these discussions evolve.

Why does this matter?

As Canada and other trade-allied countries look to shore up our relationships – both across the Atlantic and across the Pacific – industrial players should be aware of the state of different CBAMs. We should be watching for the challenges and successes the EU will inevitably experience within the first period of compliance of CBAM starting January 1, 2026, such that we can build on them when we start developing our own mechanisms. Hopefully not every country will decide it’s “unique” and require a country-specific methodological approach to quantifying embedded emissions, but I won’t keep my fingers crossed.

In the near future, one of the most fascinating things to me will be how CBAMs might affect the energy sector. Imagine a world where renewable electricity is shipped in storage containers from Vancouver to Singapore, and captured carbon dioxide is shipped from Tokyo to Prince Rupert to be sequestered permanently in northwest AB depleted gas fields. Amidst the continuing and evolving trade of oil and natural gas products, think of wholly new (and low-carbon!) sectors that could be developed! Canada would hardly be the first, but it certainly could become a big player.

If we can level the playing field for industrial producers through making low-carbon production a trade advantage, it could be a win-win, addressing GHG emissions while developing a more resilient industrial base. We could certainly use some of those.