Editing IPCC:AR6/WGIII/Chapter-11 (section)

=== 11.6.1 GHG Prices and GHG Markets ===

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Internalising the cost of GHG emissions in consumer choices and producer investment decisions has been a major strategy promoted by economists and considered by policymakers to mitigate emissions cost-effectively and to incentivise low-GHG innovations in a purportedly technology neutral way ( [[#Stiglitz--2017|Stiglitz et al. 2017]] ; [[#Boyce--2018|Boyce 2018]] ). In the absence of a coordinated effort, individual countries, regions and cities have implemented carbon-pricing schemes. As of 23 August 2021, 64 carbon schemes have been implemented or are scheduled by law for implementation, covering 22.5% of global GHG emissions ( [[#World%20Bank--2020|World Bank 2020]] ), 35 of which are carbon taxes, primarily implemented on a national level and 29 of which are emissions trading schemes, spread across national and sub-national jurisdictions.

Assessments of pricing mechanisms show generally that they lead to reduced emissions, even in sectors that receive free allocation such as industry ( [[#Martin--2016|Martin et al. 2016]] ; [[#Haites--2018|Haites et al. 2018]] ; [[#Narassimhan--2018|Narassimhan et al. 2018]] ; [[#Metcalf--2019|Metcalf 2019]] ; [[#Bayer--2020|Bayer and Aklin 2020]] ). However, questions remain as to whether these schemes can bring emissions down fast enough to reach the Paris Agreement goals ( [[#Boyce--2018|Boyce 2018]] ; [[#Tvinnereim--2018|Tvinnereim and Mehling 2018]] ; [[#World%20Bank%20Group--2019|World Bank Group 2019]] ). Most carbon prices are well below the levels needed to motivate investments in high-cost options that are needed to reach net zero emissions ( [[#11.4.1.5|Section 11.4.1.5]] ). Among the 64 carbon-price schemes implemented worldwide today, only nine have carbon prices above USD40 ( [[#World%20Bank--2020|World Bank 2020]] ). These are all based in Europe and include EU Emissions Trading System (ETS) (above USD40 since March 2021), Switzerland ETS, and seven countries with carbon taxes. Furthermore, emissions-intensive and trade-exposed (EITE) industries are typically allowed exemptions and receive provisions that shelter them from any significant cost increase in virtually all pricing schemes ( [[#Haites--2018|Haites 2018]] ). These provisions have been allocated due to concerns about loss of competitiveness and carbon leakage which result from relocation and increased imports from jurisdictions with no, or weak, GHG emission regulations ( [[#Branger--2014a|Branger and Quirion 2014a]] ; [[#Branger--2014b|Branger and Quirion 2014b]] ; [[#Jakob--2021a|Jakob 2021a]] ). Embodied emissions in international trade accounts for one quarter of global CO 2 emissions in 2015 ( [[#Moran--2018|Moran et al. 2018]] ) and has increased significantly over the past few decades, representing a significant challenge to competitiveness related to climate policy. CBAM, or CBA are trade-based mechanisms designed to ‘equalise’ the carbon costs for domestic and foreign producers. They are increasingly being considered by policymakers to address carbon leakage and create a level playing field for products produced in jurisdiction with no, or lower, carbon price ( [[#Mehling--2019|Mehling et al. 2019]] ; [[#Markkanen--2021|Markkanen et al. 2021]] ). On 14 July 2021, the European Commission adopted a proposal for a CBAM that requires importers of aluminium, cement, iron and steel, electricity and fertiliser to buy certificates at the ETS price for the emissions embedded in the imported products ( [[#European%20Commission--2021|European Commission 2021]] ; [[#Mörsdorf--2021|Mörsdorf 2021]] ). CBAMs should be crafted very carefully, to meet technical and legal challenges ( [[#Jakob--2014|Jakob et al. 2014]] ; [[#Sakai--2016|Sakai and Barrett 2016]] ; [[#Rocchi--2018|Rocchi et al. 2018]] ; [[#Cosbey--2019|Cosbey et al. 2019]] ; [[#Joltreau--2019|Joltreau and Sommerfeld 2019]] ; [[#Pyrka--2020|Pyrka et al. 2020]] ). Technical challenges arise because estimating the price adjustment requires reliable data on the GHG content of products imported as well as a clear understanding of the climate policy implications from the countries of imports. Application of pricing tools in industry requires standardisation (benchmarking) of carbon-intensity assessments at products, installations, enterprises, countries, regions, and the global level. The limited number of existing benchmarking systems are not yet harmonised and thus not able to fulfill this function effectively. This limits the scope of products that can potentially be covered by CBAM-type policies ( [[#Bashmakov--2021a|Bashmakov et al. 2021a]] ).

Legal challenges arise because CBAM can be perceived as a protectionist measure violating the principle of non-discrimination under the regulations of the World Trade Organization (WTO). However the absence of GHG prices can also been perceived as a subsidy for fossil fuel-based production ( [[#Stiglitz--2006|Stiglitz 2006]] ; [[#Al%20Khourdajie--2020|Al Khourdajie and Finus 2020]] ; [[#Kuusi--2020|Kuusi et al. 2020]] ). Another argument supporting CBAM implementation is the possibility to induce low-GHG investment in non-regulated regions ( [[#Cosbey--2019|Cosbey et al. 2019]] ).

Thus far, California is the only jurisdiction that has implemented CBA tariffs applied on electricity imports from neighbouring states and provides insights on how a CBA can work in practice by using ‘default’ GHG emissions intensity benchmarks ( [[#Fowlie--2021|Fowlie et al. 2021]] ). CBAM is an approach likely to be applied first to a few selected energy-intensive industries that are at risk of carbon leakage, as the EU is considering. The implementation of CBA needs to balance applicability versus fairness of treatment. An option recently proposed is an individual adjustment mechanism to give companies exporting to the EU the option to demonstrate their actual carbon intensity ( [[#Mehling--2020|Mehling and Ritz 2020]] ). Any CBAMs will have to comply with multilaterally agreed rules under the WTO Agreements to be implemented.

The adoption of CBAM by different countries may evolve into the formation of a climate club where countries would align on specific elements of climate regulation (e.g., primary iron or clinker intensity) to facilitate implementation and incentivise countries to join ( [[#Nordhaus--2015|Nordhaus 2015]] ; [[#Hagen--2021|Hagen and Schneider 2021]] ; [[#Tagliapietra--2021a|Tagliapietra and Wolff 2021a]] ,b). However, not all countries have the same abilities to report, adapt and transition to low-carbon production. The implications of CBAMs on trade relationships should be considered to avoid country divide and separation from a common goal of global decarbonisation ( [[#Michaelowa--2019|Michaelowa et al. 2019]] ; [[#Kuusi--2020|Kuusi et al. 2020]] ; [[#Banerjee--2021|Banerjee 2021]] ; [[#Eicke--2021|Eicke et al. 2021]] ; [[#Bashmakov--2021|Bashmakov 2021]] ). The globalisation of markets and the fragmentation of supply chains complicates the assignment of responsibility for GHG emissions mitigations related to trade ( [[#Jakob--2021|Jakob et al. 2021]] ). Production-based carbon-price schemes minimise the incentives for downstream carbon abatement due to the imperfect pass through of carbon costs and therefore overlook demand-side solutions such as material efficiency ( [[#Skelton--2017|Skelton and Allwood 2017]] ; [[#Baker--2018|Baker 2018]] ). An alternative approach is to set the carbon pricing downstream on the consumption of carbon-intensive materials, whether they are imported or produced locally ( [[#Neuhoff--2015|Neuhoff et al. 2015]] , 2019; [[#Munnings--2019|Munnings et al. 2019]] ). However, implementation of consumption-based GHG pricing is also challenged by the need of product GHG traceability and enforcement transaction costs ( [[#Jakob--2014|Jakob et al. 2014]] ; [[#Munnings--2019|Munnings et al. 2019]] ). Hybrid approaches are also considered ( [[#Neuhoff--2015|Neuhoff et al. 2015]] ; [[#Bataille--2018a|Bataille et al. 2018a]] ; [[#Jakob--2021|Jakob et al. 2021]] ). The efficacy of GHG prices to achieve major industry decarbonisation has been challenged by additional real world implementation problems, such as highly regionally fragmented GHG markets ( [[#Boyce--2018|Boyce 2018]] ; [[#Tvinnereim--2018|Tvinnereim and Mehling 2018]] ) and the difficult social acceptance of price increases ( [[#Bailey--2012|Bailey et al. 2012]] ; [[#Raymond--2019|Raymond 2019]] ). The higher GHG prices likely needed to incentivise industry to adopt low-GHG solutions pose social equity issues and resistance ( [[#Grainger--2010|Grainger and Kolstad 2010]] ; [[#Bataille--2018b|Bataille et al. 2018b]] ; [[#Hourcade--2018|Hourcade et al. 2018]] ; [[#Huang--2019b|Huang et al. 2019b]] ; [[#Wang--2019|Wang et al. 2019]] ). GHG pricing is also associated with promoting mainly incremental low-cost options and not investments in radical technical change or the transformation of socio-technical systems (Grubb et al. 2014; [[#Vogt-Schilb--2018|Vogt-Schilb et al. 2018]] ; [[#Stiglitz--2019|Stiglitz 2019]] ; [[#Rosenbloom--2020|Rosenbloom et al. 2020]] ). Transparent and strategic management of cap-and-trade proceeds toward inclusive decarbonisation transition that support high abatement cost options can contribute toward easing these shortcomings ( [[#Carl--2016|Carl and Fedor 2016]] ; [[#Raymond--2019|Raymond 2019]] ). In California, Senate Bill 535 (De León, Statutes of 2012) require that at least a quarter of the proceeds go to projects that provide a benefit to disadvantaged communities ( [[#California%20Climate%20Investments--2020|California Climate Investments 2020]] ).

Clear and firm emission reduction caps towards 2050 are essential for sending strong signals to businesses. However, many researchers recognise that complementary policies must be developed to set current production and consumption patterns toward a path consistent with achieving the Paris Agreement goals as cap-and-trade or carbon taxes are not enough ( [[#Schmalensee--2017|Schmalensee and Stavins 2017]] ; [[#Vogt-Schilb--2017|Vogt-Schilb and Hallegatte 2017]] ; [[#Bataille--2018b|Bataille et al. 2018b]] ; [[#Kirchner--2019|Kirchner et al. 2019]] ). In this broader policy context, proceeds from pricing schemes can be used to support the deployment of options with near-term abatement costs that are too high to be incentivised by the prevailing carbon price, but which show substantial cost-reduction potential with scale and learning, and to ensure a just transition ( [[#Wang--2021|Wang and Lo 2021]] ).

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