A recent news article reports that Canada’s most significant industrial polluters end up paying the lowest carbon prices due to general exemptions. Shielding the biggest emitters from Canada’s carbon pricing policy will hinder its progress towards decarbonization. Border adjustments are a much better option than arbitrary exemptions granted to certain polluters to level the playing field between domestic and foreign producers under a domestic carbon price. 

Canada allows its provinces and territories to design their carbon pricing policies as long as they meet the minimum federal benchmark. It also implements the Output-based Pricing System (OBPS) as part of its carbon pricing policies to ensure domestic producers are not disadvantaged in global competition. Under the OBPS, covered facilities must pay for their emissions above a certain threshold, and would receive surplus credits if their emissions are below the threshold. 

Canada’s carbon price is expected to rise to C$170 per tonne by 2030 from C$40 currently. However, on average, companies in Canada pay for only 16 percent of the emission they generate. According to the Canadian Institute for Climate Choices’ study results, companies pay C$25.6 to C$1.8 per tonne of emissions depending on the province. It’s hard to imagine how such generous exemptions granted to the biggest polluters would keep Canada on track to meeting its decarbonization goals. In fact, Canada is considering shifting to carbon border adjustments to preserve its domestic producers’ competitiveness.

The European Union is dealing with a similar challenge despite leading global climate mitigation efforts. The bloc has put in place a carbon price through an Emissions Trading System (ETS) for a long time. The ETS permit prices rose from pre-pandemic level at around €25 to close to €90 towards the end of last year due to the recent ETS reform, supply shortage of natural gas, and other factors. Under the ETS, free allowances are given to specific industrial polluters to protect their competitiveness against foreign producers. But more than 40 percent of the total permits are free allowances, limiting the effectiveness of the bloc’s carbon pricing policy. Recognizing the issues of the free allowances, the European Commission seeks to implement a carbon border adjustment mechanism by 2026. The Commission also proposes phasing out the ETS free allowances gradually by 2036. 

Jurisdictions taking more ambitious climate actions such as the EU and Canada need to adopt measures to maintain their domestic producers’ competitiveness in the global market. Border adjustments would be a much better policy than an OBPS or handing out free emissions allowances. First, border adjustments implemented along with a domestic carbon price would levy import taxes and provide export rebates to equalize the tax burden between domestic and foreign producers. Second, carbon border adjustments ideally would cover a broad base of goods and tax all consumption within a jurisdiction no matter where the goods are produced. Third, under carbon border adjustments, policymakers do not need to arbitrarily give out full or partial exemptions to big polluters to shield them from the emissions costs. Fourth, border adjustments incentivize decarbonization from both domestic producers and foreign producers selling goods to the domestic consumers. 

Policymakers need to balance meeting their decarbonization goals and preserving domestic producers’ competitiveness against foreign producers. Border adjustments combined with a domestic carbon price can effectively help achieve both goals simultaneously.