UK Warned Against Divergence from EU CBAM
Alignment in carbon pricing rules will lessen compliance burden and may serve as protection against trade tariffs.
Confirmation of a UK carbon tax on imports has sent investors a positive signal of the Labour government’s climate ambition, but experts insist it must be interoperable with the EU’s carbon rules to minimise disruption.
Currently slated to come into effect from January 2027, the Carbon Border Adjustment Mechanism (CBAM) will complement the UK’s existing Emissions Trading System (ETS) – which sets an internal carbon price – by placing a tax on carbon-intensive goods imported from other countries to prevent carbon leakage.
It follows in the wake of the EU CBAM, but areas of divergence between the two have raised concerns that the UK mechanism could cause compliance challenges, while the prospect of tariffs amid heightening geopolitical tensions could be exacerbated by the introduction of a carbon-focused tax.
“The introduction of a CBAM marks a crucial step in the UK’s efforts to establish a robust carbon market that facilitates the transition of businesses to low-carbon solutions while maintaining their competitiveness,” Lorenzo Sani, Power and Utilities Analyst at think tank Carbon Tracker, told ESG Investor.
“However, without strong collaboration with the EU, the effectiveness of the UK’s carbon market could be severely compromised.”
The UK’s proposed scope was outlined in this year’s Autumn Budget. Further detail will be added over the coming months, but the UK CBAM currently diverges from the EU mechanism, which is set to complete its transitional period in 2026.
“As well as coming into effect one year later, a crucial difference is that, unlike the EU CBAM, the UK proposal does not include electricity,” said Caroline Bush, Associate Director in the Environment Team at international legal practice Osborne Clarke.
A report published by the Grantham Research Institute on Climate Change and the Environment at the London School of Economics (GRI LSE) warned that the UK will be significantly affected by the EU’s decision to extend its CBAM to electricity, as it has increasingly imported electricity from the bloc following energy security concerns.
“A potential negative outcome of the introduction of the [EU] CBAM is that electricity flows from Britain to the EU could diminish [in response to the tax],” the report said.
This may force both UK and EU countries to rely more on domestic thermal power generation – to fill the supply gap in response to fluctuating conditions for wind and solar generation – instead of importing electricity from each other, GRI LSE added.
Glass and ceramics will also not be included from 2027, as previously proposed, with the government citing the need to address “implementation issues” that arose during the consultation process earlier this year.
Both mechanisms will target aluminium, fertiliser, cement and ferrous metals.
“It would make sense for the UK to align as closely as possible with the EU CBAM, as there will be companies in the UK who are also very active in the EU, so they are going to have to get to grips with the nuances of two different regimes, which may lead to more confusion and higher compliance costs,” Bush said.
A 2021 paper published by the GRI LSE noted that a weaker UK carbon pricing framework could cost UK exporters around a third of the total value of all goods exported to the EU.
There is a wider risk of multiple divergent CBAMs “creating a patchwork of disjointed regulations worldwide”, which would disproportionately impact developing countries due to the high compliance costs, said Ellie Belton, Senior Policy Advisor for Trade and Climate at think tank E3G.
A study by the Asian Development Bank suggested that Indian manufacturers could face tariffs of around 10.5% value-added tax once the EU CBAM comes fully into effect.
“CBAMs can either become one of the biggest opportunities for climate cooperation, or risk becoming one of the biggest points of contention,” said Belton.
Political fallout
The introduction of a carbon tax by the UK may “add fuel to the fire” as trade tensions ramp up between developed nations, Osborne Clarke’s Bush warned.
The incoming Trump administration in the US – a country which itself mulled a CBAM – has already sent waves across the globe with threats of higher tariffs on China and Europe – and potentially the UK, pending clarity on their relationship status.
“The current geopolitical and global trade context could further complicate the international politics of CBAM implementation for the UK,” said E3G’s Belton.
“With rising excess capacity and Chinese export risks, and the threat of trade tariffs from the new US administration, there is a risk that more trade defence measures are implemented in 2025 which could place additional pressure on climate policies with trade implications.”
To mitigate this risk, the UK CBAM should aim to align with the “larger and more established” European mechanism in the medium- to long-term, suggested Sani at Carbon Tracker.
However, with the exact scope of tariffs currently uncertain, the UK government’s more immediate priority should be to strengthen its carbon market framework to ensure it supports the UK’s climate goals, he added.
“This includes addressing the persistent issue of the UK ETS trading at a 30% discount to the EU ETS over the past year,” Sani said.
“Bridging this gap is critical to restoring effective pricing, building investor confidence, and creating a stable foundation for long-term market growth.”
To align the UK CBAM with the country’s existing ETS, the UK ETS Authority launched a consultation on extending free allocations to emitting entities through 2026 and delaying the second period until 2027.
The UK has the opportunity to improve upon the EU model and push ambition, argued Belton.
“However, this opportunity will have to be weighed against the costs involved with divergence,” she said.
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