Green trade policies are needed to meet rising demand for green technologies and energy, prevent export of carbon-intensive industries to less regulated markets, and embed just transition principles in these new green trade flows.
Establish carbon border adjustment mechanisms to address carbon leakage
Carbon pricing has not been implemented globally, and the price of carbon varies significantly between jurisdictions, see Figure 9.To address the possibility of carbon leakage – the relocation of carbon-intensive activities to avoid carbon pricing, carbon border adjustment mechanisms (CBAMs) are under discussion. A CBAM applies local carbon pricing to imports of carbon intensive goods, accounting for any pricing applied in the country of production. This can strengthen local carbon pricing, as industries no longer need to receive free allowances to ensure competitiveness. It also incentivises global action; incentivising export countries to implement their own carbon pricing schemes so as to capture the revenue, and incentivising exporters to reduce their carbon emissions. Turkey’s climate envoy stated that the EU CBAM proposal helped the country to ratify the Paris climate accord.
The EU CBAM, currently under final negotiations, is intended to substitute the free allowances of the ETS, ensure EU emissions reductions contribute to global decline and protect EU industrial competitiveness. Under the CBAM, ETS-sector importers would purchase certificates equivalent to the ETS carbon price, minus any carbon price paid in the country of production. The CBAM would be applied from 2023 and EU importers subjected to payments from 2026, with free allowances phased out by 2035. This could provide an example for other jurisdictions, however, broadening the scope and including indirect emissions would increase its impact, while faster phase out of free allowances would accelerate industrial decarbonisation.
Criticism of CBAMs include allegations that they are discriminatory against emerging economies. To address this and better ensure that CBAMs result in global real economy change, revenue can be allocated to Just Transition spending.
The OECD wants a global plan for carbon pricing to ensure CBAMs do not result in trade wars. One element of this would be to ensure that CBAMs take both explicit and implicit local carbon pricing into account when setting the border tax. An international framework for carbon border taxes would also assist with this.
Incentivise green capital and trade flows with a green window for trade
Protectionist tariffs currently threaten transition as they could result in 25% higher prices for solar modules in 2030. Tariffs and policies to protect national RE technology producers would hinder the global transition, and likely increase costs for all – see for example the 2012 solar technology duty increases between America and China. Instead, RE technologies should be prioritised for tariff reductions, and not included in trade sanctions whenever possible. Other policies such as subsidies and offtake agreements can be used to bolster domestic production.
Ministries of trade could establish a green trade window, providing preferential treatment for the international flow of green goods, services and capital. Introducing a green window alongside a CBAM would compensate for any CBAM-induced trade curtailments and stimulate green capital and trade flows. By reducing tariffs on environmentally friendly goods and services, this would also help incentivise greening of global industry and economic processes and improve competitiveness of goods such as green steel.
World Trade Organisation members are engaged in negotiations to establish an Environmental Goods Agreement (EGA) to eliminate tariffs on important environmental goods such as in renewable energy generation, improving energy and resource efficiency; reducing pollution; managing waste and monitoring environmental quality.
Green hydrogen holds great potential for renewable energy trade. Estimates predict that the global hydrogen market will reach USD 2.5 trillion by mid-century. Many DM transition strategies include significant hydrogen imports to enable decarbonisation of their hard-to-abate sectors. For example, the EU Hydrogen Strategy sees 40 GW of its 82 GW of planned electrolysers planned in the EU Neighbourhood. 40 GW of electrolysers would require 77 GW RE capacity but the total 2021 capacity in Ukraine and North Africa was 22 GW.
This poses a risk that exports cannibalise much of these countries’ RE expansion, limiting their own transitions, particularly given some countries’ current low RE penetration. Green hydrogen production for the European market would likely provide companies with the highest economic returns on their electricity. This would substantially slow the transition of the local electricity grid away from fossil-based generation. Trade agreements for hydrogen will need to tackle the political and technical challenges for EM posed by increasing RE to meet domestic demand and export hydrogen. They also need to maintain robust standards to ensure a level playing field for producers.
Trade agreements can include strict criteria, including additionality of RE supply, and lifecycle emissions intensity. They can also cover allocation of RE, water and other key resources between local consumption and exports to ensure contribution to local transition and prevent conflicts of interest – helping build shared prosperity pathways between trade partners.
Stimulate transition investments through export credit agencies
Export credit agencies (ECAs) facilitate domestic companies’ access to international markets by providing loans, guarantees and other instruments to reduce risk of exporting goods and services. These risk mitigation mechanisms can be greened. Many ECAs abide by the voluntary rules of the OECD Arrangement on Officially Supported Export Credits - the rules on sustainable lending could be strengthened to include climate change considerations.
A government can end overseas fossil fuel funding by its export credit agency by excluding fossil fuel activities from trade finance instruments. Participants to the OECD arrangement have already ended support for unabated coal-fired power plants. UK Export Finance’s Transition Export Development Guarantee was introduced to enable the end to international support for fossil fuels. The loan interest rate is linked to the company’s transition plan, similarly to that of a sustainability-linked loan.
DM countries can also leverage ECAs to support overseas energy transitions, see Figure 10. By prioritising green projects for these trade finance instruments, or by setting preferential terms for green projects. These efforts can also complement overseas development aid, similar to how domestic public investment can encourage private investment. Development aid could be used to fund pilot renewable energy projects and critical infrastructure, to prove the case to investors. The export credit agency could then provide a guarantee to further derisk the investment and leverage private investment. This also frees up development aid for adaptation and less attractive investments.