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ISLAMABAD: The government is mulling imposing carbon tax on exports to the European Union (EU) to deal with Carbon Border Adjustment Mechanism (CBAM), intended to achieve European carbon neutrality by 2050, well informed sources in Commerce Ministry told Business Recorder.

According to the UN, as of June 2021 there are 195 signatories to the Paris Agreement to limit their CO2 emissions. However, the Paris Agreement permits countries to set their own ambitions within certain parameters.

Some jurisdictions or regions have undertaken to cut carbon emissions faster than others.

SDPI-UNESCAP seminar: Need for diversified, inclusive trade based on cut in carbon footprint stressed

The EU, in particular, has stated its ambition to cut emissions by 55 percent by 2030 in comparison to 1990 levels. This commitment was made as part of the EU Green Deal, which is a comprehensive package of tax and non-tax measures.

The European Green Deal provides a roadmap with actions to boost the efficient use of resources by moving to a clean, circular economy and stop climate change, revert biodiversity loss and cut pollution.

It outlines investments needed and financing tools available, and explains how to ensure a just and inclusive transition. The European Green Deal covers all sectors of the economy, notably transport, energy, agriculture, buildings, and industries such as steel, cement, ICT, textiles and chemicals.

On May 16, 2023, the Regulation establishing an EU Carbon Adjustment Mechanism was published in the Official Journal of the EU as the world’s first carbon tax. Under the CBAM, importers into the EU of carbon-intensive goods (mainly cement, electricity, fertilisers, iron and steel, aluminium, and hydrogen) will be required to pay a charge for the carbon emissions embedded in those products.

This charge will be gradually phased in from 2026 to 2034 and eventually will equal the charge that would have been paid by an EU producer under the EU Emission Trading System (EU ETS).

The CBAM also imposes detailed reporting requirements. The transitional period provided in the CBAM started from October l, 2023 with importers being subjected only to reporting requirements until December 31, 2025.

As per different reports, the EU Carbon tax could impact 1.8 per cent (worth $ 8 billion) of India’s exports of carbon-intensive goods including cement, electricity, fertilisers, iron and steel, aluminium and hydrogen to the EU.

And 0.2 per cent of Pakistan’s total exports to the EU worth $ 16.83 million could be adversely affected by the implementation of carbon tax by the EU.

During 2022-23, total export of selected products was recorded at $ 464.09 million of which share of fertiliser was $ 0.25 million, articles of iron and steel $ 107.70 million, aluminium and articles thereof $ 146.86 million, cement $ 192.04 million and sodium hydroxide or caustic soda $ 17.24 million. The share of these products in total exports was just 1.64 per cent.

However, export of these items to EU was mere $ 16.83 million or 0.20 per cent of total exports of $ 464.09 million as share of fertilisers was 0.24 million, articles of iron and steel $ 7.72 million, aluminium and articles thereof $ 2.55 million, and sodium hydroxide or caustic soda $ 6.32 million.

The EU importers would be required to buy carbon certificates corresponding to the carbon price that would have been paid, had the goods been produced under the EU’s carbon pricing rules.

The EU importer would bear a cost to importing from higher carbon emitting countries/ firms; hence carbon emissions will have a direct impact on demand for Pakistani goods. This leads to an additional dimension of competition in the international market granting more value to sustainable production.

The alterative is the possibility within the CBAM that allows EU importers to avoid paying the carbon price (or pay a reduced amount) if they can prove that a carbon price (possibly one which is calculated similarly if not exactly as the EU one) has already been paid i.e. Pakistan government would then in this instance levy a carbon tax on its carbon emitting sectors.

This would allow the Pakistan government to benefit from the tax rather than the tax revenue being collected by the EU. However, the cost would have to be borne by Pakistani exporter rather than EU importers.

The following considerations are being discussed: (i) developing a balance between EU demand for Pakistani products and direct cost to Pakistani exporters; (ii) whether Pakistan’s exporting SMEs would be able to handle the increased taxation if imposed; (iii) whether the tax would be progressives or regressive (who stands to face the higher cost, SMEs who are less sustainable than the larger firms?) Hence the design of the tax would have to be analysed if imposed and; (iv) will the other factors be adequate in pushing Pakistani firms towards sustainable practices for lower omissions.

Commerce Ministry has been considering two options, i.e., imposition of carbon taxes and non-imposition of carbon taxes.

The implications of imposition of carbon taxes on exporters will be as follows: (i) improved state revenue; (ii) increased demand from EU (EU importers who could potentially avoid direct carbon taxes to them, making imports from Pakistan more attractive); (iii) impose a direct cost on high carton emissions (greater motivator for Pakistani sectors to become more environmentally sustainable); (iv) direct cost on Pakistani exporter (reduced profit margins, or if they don’t cut profit margins then it would mean a higher product price); (v) Pakistan would have to establish traceability practices and enforcement of taxation and possibly would have to be imposed on not just exporting firms to the EU (otherwise exporting to the EU would be discouraged especially newer firms looking to export).

The impact if Pakistan does not impose carbon taxes on its exporters will be as follows: (i) No direct cost on Pakistani exporters; (ii) Pakistan would not have to establish traceability practices and enforcement of taxation; (iii) only exporting firms to the EU would be subject to traceability practices imposed by EU importers on their respective supply chains; (iv) Pakistan risks losing market share in cases where other countries take the lead in setting up such taxation thus gaining a competitive advantage of increased EU demand;(v) no carbon tax revenue for Pakistan and;(vi) Pakistan would have to rely on other measures for promoting sustainable production and de-carbonisation for it to maintain relevancy in the EU market.

Copyright Business Recorder, 2023

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