Developed countries bound by emission reduction commitments under the Kyoto Protocol, and expecting even stricter emissions targets, have begun to introduce cap-and-trade and carbon tax systems. These raise production costs and undermine competitiveness. Producers from developed countries may relocate their production to countries with no carbon restrictions. To prevent job losses in their countries and an increase of emissions elsewhere ("carbon leakage"), developed countries may use border adjustment measures (BAMs) aimed at adjusting emissions costs and restoring a level playing field for domestic producers. Carbon import restrictions can also act as an incentive for producers from uncapped countries to cut emissions.
The inclusion of imports in an emissions trading scheme (ETS), through a requirement for an importer to surrender emission allowances at the border in the quantity corresponding to the carbon footprint of imported products, is found among recently proposed BAMs in existing and pending ETSs (e.g., the European Union and the United States). Other BAMs may include carbon taxes (i.e., taxes on the carbon footprint of imports) and various carbon-related technical regulations and standards (e.g., carbon labels).
The introduction of carbon-related BAMs will have serious trade implications for developing countries. Given the heavy reliance of developing economies on fossil fuels, industrial products from developing countries commonly have high emissions contents. A requirement to surrender emission allowances, or to pay a carbon tax at the border, would significantly raise the price of carbon-intensive exports from developing countries, especially steel, aluminum, cement, chemicals and paper. This would undermine the competitiveness of developing countries' exporters and could significantly reduce or even effectively ban their exports to developed countries.
Two categories of solutions for developing country exporters arise: reactive (short-run) and proactive (with long-run effects). Reactive solutions may include cutting production costs to adjust for emissions charges at the border, without increasing prices. Yet cutting costs is not always possible. Another way could be to redirect exports to markets of other developing countries, i.e., to countries in the same region that have no restrictions on emissions. This would further stimulate carbon-intensive production and generate world emissions. It might also lead to "trade diversion", from a more efficient exporter towards a less efficient one. Furthermore, there might be opportunities to evade carbon-related BAMs. Given the administrative and technical problems of tracing emissions in final products, carbon-related BAMs are likely to be imposed only on primary products. If not all developed countries introduce BAMs at the same time, exporters from developing countries might look for intermediate locations for their carbon-intensive primary goods to be processed and exported as final products to countries imposing BAMs on primary and semi-finished products. Owing to cheap, carbon-intensive inputs from developing countries, these finished products would be much cheaper than similar products in the importing country. (1)
Proactive solutions, which develop the competitiveness of developing country producers, are preferred in the long run. They include technological changes (including carbon capture and storage), adoption of energy-efficiency measures and a reorientation of a developing country's economy from fossil fuel to renewables.
Making the transition to a low-carbon economy requires substantial financial aid and technology transfer from developed countries. Some estimates indicate that developing countries' financial requirements for mitigation and adaptation purposes could reach 100 billion [euro] per year by 2020. (2) Technology transfer could be facilitated by improving the Clean Development Mechanism in a post-Kyoto agreement (3) and removing tariffs, and non-tariff barriers, as well as internal taxes on clean technologies, the so-called "environmental goods and services". …