Understanding the EU Carbon Border Adjustment Mechanism (CBAM) in 2025

The European Union's Carbon Border Adjustment Mechanism (CBAM) is a policy that makes sure products imported into the EU face a carbon cost similar to those produced within the EU, which are subject to the EU's Emission Trading System (ETS).

This system is designed to stop "carbon leakage," where companies might move their production to countries with weaker pollution rules or increase imports of carbon-intensive products. CBAM covers goods that have a high risk of carbon leakage, including steel, aluminium, cement, fertilizers, hydrogen, and electricity. 

Why CBAM is Important?

In the early 2000s, the European Union recognized the urgent need to tackle climate change and reduce greenhouse gas emissions. To address this challenge, they introduced an initiative in 2005 called the Emissions Trading System.

Over the years, the ETS has proven to be an effective tool in reducing emissions. However, it has created an unintended consequence. Products imported from countries without similar carbon pricing policies have gained a competitive edge, as they don't face the same environmental costs.

To level the playing field, the EU is set to implement a new policy called the Carbon Border Adjustment Mechanism (CBAM) in 2026.

“This mechanism aims to ensure that imported goods are subject to similar carbon costs as those produced within the EU.”

These initiatives represent significant steps towards creating a more sustainable and fair global economy, where the environmental impact of production is reflected in the price of goods, regardless of their origin.

CBAM is a vital part of the EU's plan to cut greenhouse gas emissions by at least 55% by 2030, compared to 1990 level. The goal is to be climate-neutral by 2050. By putting a carbon levy on certain imported goods, the EU aims to create a fair situation for its own producers and encourage other countries to adopt similar carbon pricing measures.

The mechanism ensures that the same carbon price is applied to goods, no matter where they come from. This encourages a cleaner way of making things, aligning with the Paris Agreement and the EU's Fit for 55 package.

Key Milestones and What to Expect in 2025 

2025 is a key year in the transitional phase of CBAM. As of January 1, 2025, the EU methodology is the only accepted method for reporting emissions.

This means companies will have to report real emissions data rather than estimates, which calls for accurate and clear data collection systems. Within 2025, expect these important changes to come into effect:

Finalised Reporting Framework

Throughout 2025, the EU Commission will keep improving the CBAM reporting system. Businesses need to adapt to these requirements.

Enhanced Enforcement Mechanisms

Expect stricter compliance checks in 2025, with the European Commission and national authorities closely examining the data. This is in preparation for the financial part of CBAM, which begins in 2026. Penalties for non-compliance during the transitional phase can reach up to €50 per ton of CO2.

“In the definitive phase from 2026, penalties will be linked to the EU ETS carbon price, which is currently around €85 per ton of CO2.”

Alignment with EU Climate Goals 

CBAM will play a crucial role in linking trade policy with the EU’s broader climate goals as part of the Green Deal. The aim is to lower carbon leakage and encourage other countries to adopt similar carbon pricing. 

CBAM - More Than Just Tariffs

CBAM is making waves in international trade, but how do they differ from traditional tariffs? Let's break it down:

CBAMs vs. Carbon Tariffs

CBAMs are designed to level the playing field between domestic and foreign producers, considering existing carbon pricing policies. Here's how they work:

• Adjusting for Domestic Policy: CBAMs take into account carbon prices already paid in the exporting country.

• Encouraging Global Action: They aim to push for broader adoption of carbon pricing worldwide.

In contrast, carbon tariffs are simpler but less nuanced:

• No Domestic Adjustment: They don't consider existing carbon prices in the exporting country.

• Flat Fee: Tariffs are typically a set charge based on the carbon emitted during production.

How CBAMs Work in Practice

Let's look at an example and say that a Malaysian steel manufacturer exports to the EU.

Under CBAM, they pay the difference between the carbon price they would have paid if producing in the EU. Also, their final payment is minus any carbon price already paid in Malaysia.

This approach ensures that imported goods face similar carbon costs to those produced domestically.

The Bigger Picture

CBAMs are more than just trade tools. They're designed to:

• Create fair competition globally

• Encourage countries to adopt stronger climate policies

• Prevent "carbon leakage" where production moves to areas with lax environmental rules

By understanding the difference between CBAMs and simple carbon tariffs, businesses can better prepare for the evolving landscape of international trade and climate policy.

What Businesses Need to Know

The EU’s Carbon Border Adjustment Mechanism (CBAM) is set to reshape international trade and climate policy. Here's a overview for businesses:

Initially, EU CBAM will first apply to carbon intensive industries, cement iron and steel, aluminium, fertilizers, electricity and hydrogen. 

Global Response 

Since 2019, 44 jurisdictions worldwide have implemented or are considering carbon pricing. China has expanded its carbon pricing to cover CBAM sectors, while countries like Pakistan, Thailand, and Taiwan are increasingly focusing on decarbonization.

As such, any business needs to keep on top of global developments and appreciate that, over the next decade, CBAM equivalents may become more common across the globe.

Business Implications

All businesses should pay attention, as CBAM could become a model for addressing climate change globally with similar initiatives and measures rolled out beyond the EU and UK (UK CBAM currently scheduled for 2027).

What You Need to Do in 2025 

 To get ready for CBAM, businesses should take these steps in 2025: 

1) Refine Compliance Systems: Spend this final year of the transitional phase improving your compliance systems. Adapt to the reporting needs to prepare for the financial side of CBAM certificates. 

2) Accurate Data Collection:

Put systems in place for collecting accurate and clear emissions data, so you can report real figures. The EU wants businesses to report direct and indirect emissions from their suppliers. 

3) Utilise the Voluntary Portal: Producers in countries outside the EU can use the new voluntary portal to upload their business and emissions information, including any carbon price they already pay. This makes it easier for CBAM declarants and producers to comply. 

4) Become an Authorised CBAM Declarant: Apply to become an ‘authorised CBAM declarant’ via the CBAM Registry. 

Key Points for Businesses

• Equal Treatment: Non-EU exporters will face the same carbon-related scrutiny as EU producers. 

• Carbon Price Equivalence: Imported goods will have a carbon price applied, matching the EU's Emissions Trading System.

• Credit for Existing Efforts: Companies get credit for carbon prices already paid in their home countries, reducing the CBAM impact.

• Competitive Shift: Without CBAM, products from countries with lax environmental rules would have an unfair price advantage. 

Looking Ahead 

CBAM represents a significant step in aligning trade with climate goals. Businesses should prepare for these changes by:

• Assessing their carbon footprint

• Monitor policy developments

• Understanding the carbon pricing in their supply chains

• Prepare for potential expansion to other sectors

• Considering low-carbon alternatives in production

• Consider the impact on their export markets

By adapting to CBAM, companies can stay competitive in the evolving global market while contributing to climate change mitigation efforts.

CBAM represents a significant shift in aligning trade with climate goals. By understanding and preparing for these changes, companies can stay competitive in the evolving global market while contributing to climate change mitigation efforts.

Challenges and Opportunities

CBAM presents challenges in terms of data collection, emissions calculation, and potential cost increases.

Also, as certain elements are still to be confirmed, businesses are going to have to stay up to date, and relatively flexible in their approach to make sure they remain compliant.

However, it is not about challenges and some opportunities will arise. For example, there are opportunities for those businesses who already prioritise sustainability or are ahead of the game in terms of compliance and record keeping.

Staying Compliant

By understanding the compliance requirements , implementing robust data management systems and prioritising sustainability, businesses can navigate the CBAM landscape effectively and maintain their competitiveness in the European market.

“Early adoption and a proactive approach will be key to success in this new era of carbon accountability.”

Staying compliant with CBAM is crucial to avoid penalties and ensure trouble-free trade with the EU.