Authors: Pooja Rajawat and Jayam Jha
Recently, European Union’s Carbon Border Adjustment Mechanism (CBAM) was signed by the co-legislators of the European Commission. CBAM’s key objective is to avert ‘carbon leakage’ by putting a price at the time of importation on the greenhouse gases emitted during the production of cement, aluminium, iron and steel, electricity and fertiliser. By doing so, it proposes to create a “level playing field for“the domestic products which are subjected to carbon pricing under EU Energy Trading System (ETS). This has raised concerns as to whether this mechanism creates a protectionist trade regime under the garb of environmental protection.
CBAM and its WTO Compliance
In order to analyse the compliance of CBAM with WTO laws, we first need to understand as to whether the measure will come within the purview of Article III or Article XI of the GATT 1994. Article III of the GATT deals with the issue of National Treatment on Internal Tax and Regulations. National Treatment constitutes one of the two most fundamental pillars of international trade, the other being the principle of Most Favoured Nation.
National Treatment ensures the prohibition of any discrimination between imported goods and the domestically produced goods in terms of imposition of tariffs or other regulations. Article III is an internal measure, applying both to the domestic goods and the imported goods and it affects the trade competitiveness of the imported goods, in comparison with the domestic goods. Article XI, on the other hand, is an external regulation, dealing primarily with the border measures, which applies only to the imports. It prohibits quantitative restrictions on trade. This categorisation between internal measure and the border measure is important because if CBAM falls under Article III, then its non-compliance depends upon its discriminatory treatment between domestic goods and imported goods. While if the measure falls under Article XI, then it will be automatically prohibited.
However, though the point of collection in case of CBAM is at border, the proponents of this legislation claim that it would still come within the purview of Article III as the Note Ad to the provision mentions that in case when the measures apply to both domestic products and the like imported products, it would be regarded as internal, even when the collection or enforcement in case of imported products is done at the point of importation. Article XI mentions that it will invalidate any “prohibitions or restrictions other than duties, taxes or other charges”. CBAM constitutes a fiscal burden in the nature of duties, taxes or other charges and thus, it would not be struck down by Article XI.
Even though, it would be difficult to bring it within the purview of Article XI, it would anyway amount to “arbitrary or unjustifiable discrimination” under Article III:4 of GATT 1994. As far as Article III:2 is concerned, which delas with internal charges or taxes of any other kinds, Sakuya Sato argues that it is a post importation event and not the importation of goods itself that creates an obligation under the scheme for the purchase of CBAM certificates and thus, it would not come within the purview of Article III:2.
Creating a Comparative Market Advantage
This then brings the issue of its interplay with Article III:4. The Appellate Body of the WTO in EC-Banana III case observed that this article covers the measures having ‘an effect’ on the internal sale. Since CBAM will be having an effect on the internal sale of the domestic products by providing a comparative market advantage, it would come within the scrutiny of this article. For extending no less favourable treatment to the imported products, it necessarily has to be a like product. In EC-Asbestos case, four criteria were laid down to determine the likeness of products, namely, (i) nature, quality and properties of the products; (ii) consumers’ tastes and habits; (iii) end use of the products and (iv) tariff classification of the products. One of the objectives of CBAM is to ensure that the imported goods should be subject to same carbon pricing which is charged from the domestically produced goods under EU Energy Trading System (ETS). Thus, when the scheme calls for creating a level playing field between goods subjected to ETS and CBAM, it necessarily creates an assumption that the likeness of both of the products are well established.
Given the likeness of the products, no less favourable treatment has to be meted out to ensure compliance with the principle of National Discrimination. EU claims that CBAM for imported goods mirrors the scheme of ETS for domestic goods and thus, by creating an equivalent mechanism for the imported goods and the like domestic goods as provided under Article II:2(a), the principle of National Treatment is upheld. It is well accepted that equivalent treatment and not identical treatment is the measuring rod for checking the standard of “treatment no less favourable”. This was found in the case of United States – Section 377 of the Tariff Act of 1930. However, we argue that CBAM has been unsuccessful in creating an equivalent scheme.
In this regard, the administrative burden on producers is more in the case of CBAM. This burden is even heavier in case of complex goods. The purchase of CBAM certificates will also be made on less favourable terms. The combined reading of recital 22 and Article 23(1)(2) and 24 of the CBAM proposal provides that it cannot be traded and can be carried forward for only one year. As held by the WTO Appellate Body in Korea – Various Measures on Beef, CBAM alters the “conditions of competition in the relevant market to the detriment of imported products.”
Another probable justification for the proposal is sought under General Exceptions (Article XX) of GATT. Article XX(g) pertains to the conservation of exhaustible natural resources. In US-Shrimp case, it was observed that there needs to be a close relationship between the end and the means of the object. This necessitates a genuine effort towards conservation of exhaustible natural resources under the mechanism. However, providing free allowance to domestic producers under ETS levels down the cost of production for the domestic producers and secondly, carbon pricing is not applicable for the exports from EU. Thus, the common global commitment to reduce carbon emission is undermined.
What does it Mean for India?
Prof. Penny Goldberg from Yale University says that CBAM has the potential to kill trade in India and other low-income countries. It will lead to a huge burden of tax on products like aluminium, iron and steel. Through CBAM, EU is exploring new alternate sources of revenue to make good the economic ramifications of the pandemic.
As per the report of Global Trade Research Initiative (GTRI), 27 percent of India’s export in iron, aluminium and steel products, amounting to $ 8.2 billion went to EU in 2022. Furthermore, it is also against the spirit of Paris Convention of 2015, which relies on the principle of common but differentiated responsibilities. It enumerates that historically, the countries whose contribution in the global pollution is less should not be subject to same obligation as that of countries who have contributed more, like western developed countries. This has been India’s stand in terms of climate change policy. Afterall, climate justice should necessarily be at the centre of any such measure or discourse.
*Pooja Rajawat and Jayam Jha are pursuing international trade and investment law honours at National Law University, Jodhpur.