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Carbon pricing and industrial competitiveness: border adjustment or free allocation?

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  • Robert A. Ritz

Abstract

To mitigate concerns about carbon leakage and industrial competitiveness, cap-and-trade systems have typically relied on the free allocation of carbon allowances to trade-exposed sectors. The European Union's Green Deal raises the prospect of free allocation being replaced by a carbon border adjustment mechanism (CBAM) on imported products. This paper provides a simple framework to analyze the competitiveness support provided by these policy instruments. It shows how the rate of carbon leakage can be a "sufficient statistic" to determine the output and profit impacts of the switch to a CBAM. High-leakage sectors will prefer the CBAM while low-leakage sectors will prefer free allocation.
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Suggested Citation

  • Robert A. Ritz, 2022. "Carbon pricing and industrial competitiveness: border adjustment or free allocation?," Working Papers EPRG2211, Energy Policy Research Group, Cambridge Judge Business School, University of Cambridge.
    • Handle: RePEc:enp:wpaper:eprg2211
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    References listed on IDEAS

    as
    1. Raj Chetty, 2009. "Sufficient Statistics for Welfare Analysis: A Bridge Between Structural and Reduced-Form Methods," Annual Review of Economics, Annual Reviews, vol. 1(1), pages 451-488, May.
    2. Aaron Cosbey & Susanne Droege & Carolyn Fischer & Clayton Munnings, 2019. "Developing Guidance for Implementing Border Carbon Adjustments: Lessons, Cautions, and Research Needs from the Literature," Review of Environmental Economics and Policy, Association of Environmental and Resource Economists, vol. 13(1), pages 3-22.
    3. Meunier, Guy & Ponssard, Jean-Pierre & Quirion, Philippe, 2014. "Carbon leakage and capacity-based allocations: Is the EU right?," Journal of Environmental Economics and Management, Elsevier, vol. 68(2), pages 262-279.
    4. Hepburn, Cameron J. & Quah, John K.-H. & Ritz, Robert A., 2013. "Emissions trading with profit-neutral permit allocations," Journal of Public Economics, Elsevier, vol. 98(C), pages 85-99.
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    More about this item

    Keywords

    Cap-and-trade; carbon border adjustment; carbon leakage; industrial competitiveness;
    All these keywords.

    JEL classification:

    • H23 - Public Economics - - Taxation, Subsidies, and Revenue - - - Externalities; Redistributive Effects; Environmental Taxes and Subsidies
    • L11 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Production, Pricing, and Market Structure; Size Distribution of Firms
    • Q54 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Environmental Economics - - - Climate; Natural Disasters and their Management; Global Warming

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