EU Carbon Border Tax Faces Criticism for Underestimating Chinese Import Emissions

EU Carbon Border Tax Faces Criticism for Underestimating Chinese Import Emissions

The European Union's Carbon Border Adjustment Mechanism (CBAM) is facing criticism from industry groups who claim the methodology for calculating the carbon footprint of imports is flawed. Businesses argue that the default values published by the European Commission for countries like China, Brazil, and the U.S. are too low. This discrepancy, they warn, could undermine the policy's goal of preventing 'carbon leakage' and may inadvertently create a 'green-washing machine' instead of leveling the competitive playing field for EU producers.

Context & What Changed

The European Union's Carbon Border Adjustment Mechanism (CBAM) is a cornerstone of its 'Fit for 55' package, a comprehensive legislative framework designed to achieve a 55% reduction in greenhouse gas emissions by 2030 compared to 1990 levels (source: ec.europa.eu). The primary objective of CBAM is to prevent 'carbon leakage,' a phenomenon where companies move carbon-intensive production to countries with less stringent climate policies, or where EU products are replaced by more carbon-intensive imports. CBAM aims to equalize the price of carbon between domestic products, which are subject to the EU's Emissions Trading System (ETS), and imported goods. It initially covers imports in five key sectors: cement, iron and steel, aluminium, fertilisers, and electricity, with hydrogen added during negotiations.

The mechanism entered a transitional phase on October 1, 2023. During this period, which runs until December 31, 2025, importers are required to report the quantity of goods imported and their embedded greenhouse gas emissions, but without any financial obligation. The definitive system begins on January 1, 2026, at which point importers will need to purchase and surrender 'CBAM certificates' corresponding to the embedded emissions of their products, with the price linked to the weekly average auction price of EU ETS allowances (source: European Commission).

What has changed, and the central issue highlighted by the news, is the methodology for this reporting phase. The European Commission published Implementing Regulation (EU) 2023/1773, which allows importers, until the end of 2024, to use default values for embedded emissions if actual data from foreign producers is unavailable. These default values are largely based on global averages or other non-specific data. European industry associations, most notably Eurofer (representing the European steel industry), have publicly warned that these default values are significantly lower than the actual emissions from major competitors, particularly China. They argue that this flaw, if uncorrected, will fundamentally undermine the mechanism's purpose by under-reporting and under-pricing the carbon content of imported goods, thereby failing to level the playing field and potentially sanctioning high-carbon production from abroad.

Stakeholders

European Commission (DG TAXUD, DG CLIMA): As the architects and regulators of CBAM, their primary goal is a smooth, effective, and World Trade Organization (WTO)-compliant implementation. They are navigating a complex balance between protecting EU industry, achieving climate goals, and managing diplomatic relations with major trading partners who view CBAM with suspicion.

EU Energy-Intensive Industries: Actors in the steel, cement, aluminium, and fertilizer sectors are the intended primary beneficiaries. They face high carbon costs under the EU ETS (with prices fluctuating between €60-€100 per tonne of CO2 in recent years) and see CBAM as essential for their long-term competitiveness. They are the most vocal critics of the low default values, fearing the policy will fail to protect them from unfair competition.

Importers and Downstream EU Industries: Companies in sectors like automotive, construction, and manufacturing rely on imported raw and semi-finished materials covered by CBAM. They face increased administrative burdens and, from 2026, higher input costs. While they benefit from a level playing field in the long run, they may be sensitive to the price impacts of a stringently applied CBAM.

Third-Country Exporters (e.g., China, Turkey, India, Brazil, U.S.): These are the nations whose industries are directly targeted by CBAM. They face significant new compliance requirements to monitor, report, and verify (MRV) their emissions. Inaccurate default values create a complex incentive structure: while a low default value reduces the immediate financial threat, it also disincentivizes investment in accurate MRV systems.

Governments of Third Countries: These governments are concerned about the economic impact on their key industries and the potential for CBAM to act as a disguised protectionist measure. China has officially voiced its concerns, and the mechanism's WTO compatibility is a persistent point of contention that could lead to formal disputes.

Environmental Non-Governmental Organizations (NGOs): While broadly supportive of the principle of carbon border adjustments, NGOs are closely monitoring the implementation. They will be highly critical if loopholes, such as underestimated default values, turn the policy into an ineffective tool that allows for 'greenwashing' and fails to drive global decarbonization.

Evidence & Data

The core of the industry's complaint is the significant gap between the Commission's published default values and evidence-based estimates of emissions intensity in key exporting countries.

Emissions Intensity Discrepancy: While the exact default values are complex and product-specific, the principle is clear. For steel, production via the blast furnace-basic oxygen furnace (BF-BOF) route is highly carbon-intensive (approx. 1.8-2.3 tonnes of CO2 per tonne of crude steel) compared to the electric arc furnace (EAF) route using scrap metal (approx. 0.4-0.6 tCO2/t). China's steel industry is dominated by the BF-BOF route. Industry groups like Eurofer have claimed that the EU's default values can be up to 50% lower than the actual emissions of typical Chinese steel production (source: industry statements, media reports). If a realistic emissions factor for Chinese steel is 2.2 tCO2/t, but the default value is set at a global average of 1.5 tCO2/t, the mechanism fails to account for 0.7 tCO2 for every tonne of steel imported.

Financial Impact: The financial implications of this discrepancy are substantial. With EU ETS allowance prices around €70 per tonne of CO2 (source: tradingeconomics.com, Q4 2023/Q1 2024 data), that 0.7 tCO2 gap translates to an uncaptured carbon cost of €49 per tonne of imported steel. This directly undermines the price signal CBAM is meant to send and represents a significant competitive disadvantage for EU producers who must pay the full carbon price.

Trade Volumes: The scale of the issue is magnified by trade volumes. The EU is a major importer of CBAM-covered goods. In 2022, the EU imported approximately 35.8 million tonnes of steel, with significant volumes coming from countries whose producers may rely on default values, including Turkey, India, and China (source: Eurofer). For aluminium, the EU imports over 50% of its needs, with China being the world's largest producer (source: European Aluminium).

WTO Compliance Risk: The use of non-representative default values could strengthen legal challenges at the WTO. The General Agreement on Tariffs and Trade (GATT) requires that internal regulations do not discriminate between domestic and foreign products ('National Treatment') or between different foreign trading partners ('Most-Favoured-Nation'). If default values are shown to systematically favour certain countries or are not based on the best available evidence, they could be challenged as a discriminatory trade barrier.

Scenarios (3) with probabilities

Scenario 1: Status Quo & Policy Dilution (Probability: 45%)

The European Commission, prioritizing a smooth rollout and avoiding diplomatic friction, maintains the current, globally-averaged default values through the transitional period and into the definitive phase. This path of least resistance leads to widespread under-reporting of embedded emissions. As a result, CBAM’s impact is severely blunted, carbon leakage continues, and EU producers see little benefit. The policy is widely criticized as a bureaucratic failure, and political support for ambitious climate measures erodes.

Scenario 2: Phased Correction & Refinement (Probability: 40%)

Responding to intense pressure from industry and evidence gathered during the transitional phase, the Commission commits to revising the methodology before 2026. It develops more granular and conservative (i.e., higher) default values, potentially differentiated by country and production technology, which more accurately reflect the emissions of producers who do not provide their own verified data. This strengthens the mechanism’s integrity and effectiveness but increases administrative complexity and provokes stronger pushback from trading partners, though it may narrowly avoid formal WTO disputes.

Scenario 3: Overcorrection & Trade Escalation (Probability: 15%)

In a sharp reversal, the Commission adopts highly punitive default values that are perceived by trading partners as overtly protectionist. China, India, and other nations launch a coordinated challenge at the WTO. The dispute escalates, leading to retaliatory tariffs on key EU exports (e.g., automotive, luxury goods). CBAM becomes a central front in a broader trade war, jeopardizing its climate objectives and causing significant economic disruption.

Timelines

Oct 1, 2023 – Dec 31, 2025: Transitional Period. This is the critical window for data collection and lobbying. The first quarterly importer reports were due by January 31, 2024. The quality of this data will inform the Commission's review.

By mid-2025: The Commission is expected to present a report reviewing CBAM's implementation. This is the key political moment for decisions on methodology changes, including the calculation of default values.

Jan 1, 2026: Definitive Period begins. Financial adjustments start as importers must purchase and surrender CBAM certificates. The phase-out of free ETS allowances for EU producers begins, making the effectiveness of CBAM critically important.

2026 – 2034: The CBAM is phased in gradually as free ETS allowances are phased out. The full impact of the mechanism will not be felt until the end of this period.

Quantified Ranges

Uncaptured Carbon Cost: As calculated above, the potential uncaptured cost due to flawed default values for a single product like steel could range from €40 to €60 per tonne, assuming an ETS price of €70-€85/tCO2 and a realistic emissions gap of 0.6-0.8 tCO2/t.

Potential Revenue Loss: The EU projects CBAM could generate approximately €9 billion in annual revenue by 2030 (source: European Commission estimates). If a significant portion of imports (e.g., 20-30%) uses default values that understate emissions by 30-50%, the potential revenue loss could be in the range of €0.5 to €1.5 billion annually, funds which are earmarked for the EU budget and its innovation funds.

Competitive Disadvantage: For an EU steel plant producing 1 million tonnes per year, a €49/tonne competitive disadvantage on imports translates to a €49 million annual impact on its competitive position, a figure that could determine profitability and investment decisions.

Risks & Mitigations

Risk 1: Policy Ineffectiveness: The primary risk is that CBAM fails to prevent carbon leakage due to flawed implementation. Mitigation: The Commission must use the transitional period to develop and commit to more robust and conservative default values. These values should be set at a level that strongly incentivizes foreign producers to provide accurate, verified, plant-level data.

Risk 2: WTO & Diplomatic Backlash: A poorly justified or overly punitive methodology will be challenged at the WTO. Mitigation: The methodology for default values must be transparent, evidence-based, and applied in a non-discriminatory manner. The EU should increase diplomatic and technical outreach, offering assistance to partner countries in developing their MRV capacities.

Risk 3: Circumvention and Fraud: Importers may seek to circumvent CBAM through misclassification of goods, trans-shipment via non-CBAM countries, or fraudulent data reporting. Mitigation: Robust enforcement by customs authorities, leveraging data analytics and requiring third-party verification of emissions reports, is essential. The scope of CBAM may need to be expanded to include more downstream products to prevent circumvention via 'resource shuffling'.

Sector/Region Impacts

Sectors: The immediate impact is on the EU's energy-intensive industries (steel, cement, aluminium, fertilisers), whose survival is tied to CBAM's success. Downstream sectors like automotive and construction will face higher input costs but will benefit from a more resilient and decarbonized domestic supply chain. The logistics and customs brokerage sectors face new administrative challenges.

Regions:

European Union: The competitiveness of industrial regions like Germany's Ruhr Valley, Northern Italy, and parts of Eastern Europe is at stake. A successful CBAM could spur significant investment in green technologies (e.g., green steel, carbon capture).

China: As a primary target, China's heavy industry faces immense pressure to accelerate decarbonization and enhance its emissions data transparency. CBAM could act as an external driver for China's own climate policies.

Other Major Exporters (Turkey, India, Brazil, UK): These nations will need to align their industrial and climate policies with EU standards to maintain market access, potentially leading to a 'race to the top' on carbon pricing and regulation.

Least Developed Countries (LDCs): While the EU has stated LDCs will receive support, they risk being disadvantaged if they lack the technical capacity for the complex MRV requirements, potentially losing market share to larger, more sophisticated economies.

Recommendations & Outlook

For Policymakers (EU Commission, Parliament):

Acknowledge the validity of industry concerns regarding the current default values and publicly commit to a review and revision before the end of the transitional period.

Collaborate with industry experts, independent auditors, and international partners to develop a new set of default values that are conservative and better reflect technological and geographical realities.

Utilize the CBAM review in 2025 to assess the risk of circumvention and consider expanding the scope to include select downstream products.

For Large-Cap Industry Actors (EU-based):

Continue to systematically provide policymakers with data-driven evidence of the discrepancy between default values and real-world emissions from foreign competitors.

(Scenario-based assumption): Operate under the assumption that a more robust CBAM will be implemented (aligning with Scenario 2). This justifies continued, aggressive investment in domestic decarbonization projects, as these will form the basis of a long-term competitive advantage in a carbon-constrained world.

Collaborate with downstream customers to highlight the supply chain benefits of a secure, low-carbon domestic industrial base.

For Large-Cap Industry Actors (Non-EU Exporters):

Prioritize investment in plant-level MRV systems. Relying on default values is a high-risk strategy that will likely lead to punitive charges post-2025.

(Scenario-based assumption): Proactively engage with EU regulators and customers to demonstrate credible decarbonization pathways. Use the transitional period to establish a reputation for transparency and environmental performance, which will become a critical factor for market access.

Outlook:

The controversy over default values is the first and most critical stress test of the EU’s landmark climate policy. The decisions made in the next 18 months will determine whether CBAM functions as a powerful global catalyst for industrial decarbonization or devolves into a complex but ultimately toothless administrative exercise. (Scenario-based assumption): Our outlook anticipates an outcome aligned with Scenario 2 (Phased Correction & Refinement). The political and economic stakes for the EU’s domestic industry are too high for the Commission to allow the policy to fail. We expect a contentious but ultimately successful revision of the methodology, leading to a more effective CBAM from 2026, which will set a de facto global standard for carbon accounting in trade.