The European Commission launched a series of public consultations surrounding the technical implementation of the Carbon Border Adjustment Mechanism (CBAM) on Thursday (28 August), as a first step in clearing myriad uncertainties presented by the instrument’s upcoming definitive phase.
Such news will be welcomed – though likely also lambasted for its late initiation – by steel market participants, especially given this week’s confirmation that CBAM will not see further delays to its definitive stage. The definitive phase of CBAM, implemented from January next year, introduces fiscal liabilities for the embedded emissions of imports under CBAM-designated product codes, widely applicable to European steel imports.
Split into three consultations, the Commission’s most recent call for evidence proposes three implementing regulations to outline the specific application of CBAM to the bloc’s imports, namely:
- CBAM’s calculation methodology;
- interactions between Emissions Trading System (ETS) free emissions allocations and CBAM liabilities;
- CBAM cost reductions available to accommodate carbon prices already paid on embedded emissions.
The feedback period runs from 28 August to 25 September.
The European Commission has recently concluded a related consultation on the extension of CBAM to downstream products, to further protect against carbon leakage and address circumvention loopholes.
Throughout this series of consultations on CBAM, the Commission has elected not to complete additional impact assessments, deeming its 2021 review as sufficient. The Commission states in its latest briefing document that CBAM’s practical implementations are of “limited, technical scope,” and include “costs/savings of limited magnitude.”
Too close for comfort?
As McCloskey’s steel market sources have cited potential per ton CBAM cost exposure differentials of well over EUR100 on best estimations of different import routes in lieu of actual formula values, it is unlikely that many of Europe’s importers would agree with the Commission’s assessment. Indeed, at European steel distribution association EUROMETAL’s 75th anniversary conference, CBAM was described as everything from a “nightmare,” to a “molotov cocktail for the entire supply chain.”
That said, with further delays ruled out and just over four months to go, the market will likely prefer administrative certainties on CBAM to an administrative report on its impending consequences – though one could question why such matters are being left to industry consultation at the final hour after nearly two years in CBAM’s transitional phase, regardless of the Commission’s reference to “lessons learnt” since 2023.
Methodology uncertainties
CBAM’s calculation methodology has increasingly become the key point of contention in McCloskey’s conversations with steel market sources, as the “benchmark” values operating within the CBAM formula such to derive an importer’s emissions liability have yet to be released by the European Commission – despite the increasing overlap between steel import lead times and CBAM-liable customs clearances.
In effect, importers cannot currently calculate their actual exposure to CBAM import costs, instead resorting to their own estimated values.
The formula defining CBAM emissions exposure is presented below:
Emissions subject to CBAM = embedded emissions – (CBAM product benchmark x CBAM factor)
Imported emissions subject to CBAM must be secured against CBAM certificates, which are priced according to the quarterly average price of equivalent European Union Allowances (EUAs) auctioned under the Emissions Trading System (ETS). Importers can also deduct prior certified carbon payments under parallel international carbon reduction schemes, reducing the number of certificates required. Both CBAM certificates and ETS EUAs represent one ton of CO2 equivalent (CO2e) of embedded emissions in relevant goods.
Averting “carbon leakage”
The “CBAM factor” in the formula represents the inverse relationship between CBAM obligations and existing “free allowances” under the ETS. CBAM’s purpose is to replace these free allowances as a carbon leakage protection mechanism, in ensuring an equitable winding down of the bloc’s net industrial emissions.
Energy-intensive industries deemed at risk of “carbon leakage” – the relocation of polluting industry outside of the EU to escape emissions reduction obligations and costs – have historically been granted free allowances to ensure their continued competitiveness within the EU, in line with their reported productions, and adjusted against the top 10% of competing domestic installations as an ongoing incentive to decarbonise.
The steel industry’s operations have enjoyed widespread and prolonged categorisation as a carbon leakage sector, meaning that for the duration of the ETS’ tenure, steel producers have received the bulk of its emissions allowances for free, without having to secure EUAs via open auction.
This has led to quirks in market cycles, such as in the latter half of 2024, seeing EU steelmakers oversupply the market despite then-subdued demand conditions, in order to preserve maximum emissions allowances for future production.
Goodbye free allowances, hello CBAM
From 2026 however, steelmakers – and other carbon leakage designees – will begin to lose their free allowances at an accelerating rate to ensure the EU meets its decarbonisation targets. This wind-down opens with a 2.5% reduction from January, nearly halving to a 48.5% reduction in 2030, and fully extinguishing free allowances from 2034.
The “CBAM factor” therefore correlates to these reductions to ensure equivalence between domestic and international markets, meaning that importers of CBAM goods can import 97.5% of their embedded emissions duty-free in 2026, though not without caveat.
CBAM’s elusive benchmarks
This caveat is the aforementioned “CBAM product benchmarks”, which operate similarly to the adjustment factor in the ETS free allowance calculation, incentivising importers to look to the lowest emitting suppliers when sourcing international steel. As long as EU importers remain in the dark as to exact benchmark values, they cannot accurately deduce their cost exposure under CBAM – even for material already on the water.
Larger steel trading companies have already been baking CBAM premiums into their sales to end-users, as consumers have been unwilling to adopt variable cost risks into their procurement.
Despite their link and interdependence, respective coverage under the ETS and CBAM are not identical – for example, CBAM operates at the product level, applicable to the emissions embedded under production route-agnostic CN codes; whereas the ETS assesses emissions liabilities for industrial installations at the production stage – meaning the remit of each mechanism cannot be so easily assumed.
Commission confirmations
The “Call for Evidence” briefing document seeks to enlist industry responses to “clarify key technical aspects of [CBAM],” and solidifies many of the Commission’s intentions for the instrument:
- CBAM’s methodology will be revised and simplified (in line with previous resolutions under the Commission’s Competitiveness Compass strategy).
- The calculation process for direct embedded emissions (for which steel imports are liable) and indirect emissions will be clarified in detail.
- CBAM factor methodology will mirror existing free allowance rules under the ETS.
- Mechanisms and “sufficient evidence” for claiming CBAM cost reductions against carbon prices “effectively paid” under parallel carbon systems will be made transparent, supporting international emissions reduction schemes and leaving the door open for the development of a global carbon price.
The review seeks to encourage and better facilitate declarations using actual emissions values for CBAM compliance, but will also make transparent default emission fallbacks.
Benchmark challenges
As for CBAM benchmarks, the Commission confirms that “benchmarks will be derived from the relevant EU ETS benchmarks used to determine the allocation of free allowances within the EU carbon market […] to reflect the relevant amount of free allocation in imported goods.”
The Commission acknowledges the “key challenge” in matching the ETS and CBAM benchmarks, and states it prefers a “simple […] and accurate” approach in order to avoid “a disproportionate administrative burden.”
While previous communications do suggest that CBAM benchmarks will be separately categorized via production route as in the ETS, which bifurcates its benchmarks for electric-arc furnace and blast furnace-produced steel, this is still yet to be explicitly confirmed by the Commission and could be threatened by their preference for simplicity – though a commitment to an accurate reflection of free ETS allowances would surely require a continued split.
The Commission’s indicative timeline schedules Q4 as the deadline for the technical implementing acts, which will presumably be preceded by the synopsis report on the consultations, which is “to be published in due course.”
Benjamin Steven Journalist, Steel
