Options for avoiding carbon leakage

Carbon leakage – the increase in foreign emissions that results as a consequence of domestic actions to reduce emissions – is of particular concern for countries seeking to put a substantial price on carbon ahead of their trading partners. While energy market reactions to changes in global fossil fuel demand are difficult to avoid, absent a global price on carbon, some options are available to address leakage associated with changes in competitiveness of energy-intensive, trade-exposed industries. This chapter discusses the main legal and economic trade-offs regarding the use of exemptions, output-based rebating, border carbon adjustment, and sectoral agreements. The potential for clean technology policies to address the energy market channel is also considered. Ultimately, unilateral policies have only unilateral options for addressing carbon leakage, resulting in weak carbon prices, a reluctance to go first and, for those willing to forge ahead, an excessive reliance on regulatory options that in the long run are much more costly means of reducing emissions than carbon pricing. Recognising those costs, if enough major economies could agree on a coordinated approach to carbon pricing that spreads coverage broadly enough, carbon leakage would become less important an issue. Furthermore, a multilateral approach to anti-leakage measures can better ensure they are in harmony with other international agreements. If anti-leakage measures can support enough adherence to ambitious emissions reduction programmes, they can contribute to their own obsolescence.