Does Carbon Pricing Affect International Competitiveness? Implications for Carbon Leakage

This study explores the impacts of carbon pricing on the international competitiveness of manufacturing sectors. A simple theoretical framework is developed to examine the link between carbon pricing and the market share of imported goods that may potentially lead to carbon leakage. We analyze the direct and indirect impacts by considering the shift from domestic to foreign inputs in the production of output goods. Using the European Union Emissions Trading System as an empirical setting, we estimate the effects of carbon pricing on imports and total value in both targeted and non-targeted sectors. The analysis of bilateral trade flows reveals that unilateral carbon pricing slightly weakens the competitiveness of the importing country in the target sector markets, potentially increasing the risk of carbon leakage. Conversely, the policy does not affect competitiveness in non-targeted sectors. The results suggest that unilateral carbon pricing directly influences the targeted sectors, but no evidence exists of spillover effects on non-targeted sectors.