Carbon Border Adjustment Mechanism (CBAM): Protection for Environment Versus Economy?

In recent years, developing countries have increasingly engaged in exports or joined global value chains in order to trade a greater share of output due to their lower cost of production, often in exchange for higher emissions that endanger the environment and cause developed countries to lose competitiveness. In order to counter the loss of competitiveness and to motivate developing countries to participate in climate change adaptation and green investment, the Carbon Border Adjustment Mechanism (CBAM) has been introduced as a policy instrument that binds European countries to impose a tariff on the import of carbon-intensive goods. This article discusses some issues that may have implications for a carbon tariff on green investment in exports. Further, it highlights its ambiguity when the consumer cannot distinguish between high-value clean goods and low-value dirty goods, and the existence of low-value consumers in the absence of clear public information on quality differentiation. Using a simple Bayesian game, authors found that the incentive for green investment in response to a carbon tariff declines under this situation, even if the signals for true types are high. The paper shows while CBAM may motivate developing countries to take climate action, it does not promise to encourage investment in clean goods exports.

JEL Classification: F18, Q2