Carbon border risk

EUAs offer a tradeable hedge against future CBAM exposure

Photo by Peter Werkman on Unsplash

The EU’s carbon border levy could be a significant source of new demand for EU emission allowances (EUAs).

To recap, the levy, known as the ‘Carbon Border Adjustment Mechanism’ or CBAM for short seeks to address the problem of ‘carbon leakage’. This is where EU firms might lose market share to more carbon intensive products from countries without a corresponding carbon price. The loss of competitiveness might prompt a carbon intensive firm (or even a whole industry) to move their operations to migrate to a jurisdiction with less onerous environmental regulations.

The CBAM transitional phase began on 1st October 2023 and ends on 31st December 2025. During this period importers are only obligated to report emissions. Each importer must submit a CBAM report within one month of the end of every reporting quarter. This report will contain information on the quantity of CBAM obligated products imported into the EU, the direct and indirect emissions involved in their production (i.e., Scope 1 and 2 emissions), as well as the carbon price due in the country of production. The penalty for non-compliance is set by the individual Member State but must be €10-50 per tonne of unreported embedded emissions.