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Kleimann: A successful Article XX defence of the EU’s CBAM is not off the cards

As the dust settles on the Commission’s raft of climate proposals released last week (14 July), commentators and experts are now beginning to analyse them in depth and, in the case of the carbon border adjustment measure at least, assess its compatibility with the World Trade Organization rule-book and the likelihood that its members could file a legal challenge in Geneva.

David Kleimann, Senior Visiting Fellow at the Institute of International Economic Law at Georgetown University and Senior Fellow at the Partnership for Responsible Growth.

One such expert is David Kleimann, Senior Visiting Fellow at the Institute of International Economic Law at Georgetown University and Senior Fellow at the Partnership for Responsible Growth.

Kleimann is co-author of a legal study for the European Parliament’s INTA Committee on the compatibility of different CBAM options in a report released in 2020.

“It is virtually certain that the CBAM will violate the WTO’s national treatment provision,” Kleimann told Borderlex, “as long as future WTO jurisprudence does not depart from prior case law on the question of whether trade measures like the CBAM may discriminate among products based on their processing and production methods.”

However, in his view, the CBAM proposal “prepares the ground for an Article XX GATT defence well”, adding that the Commission has “made wise choices.”

“The Commission cites carbon leakage, but not competitiveness, as the underlying concern and employs the EU legal basis for environmental policy, not trade policy, to render aspirational language more credible,” Kleimann said.

“What’s more, its criteria for the calculation of the adjustment appear, at first sight, objective and potentially least restrictive to achieve the regulatory purpose, for instance by allowing for credits of payments already made in the country of origin. These factors would take centre-stage in a potential future dispute.”

For these reasons he concludes that a successful Article XX defence is, “at the very least, not off the cards.”

“Free allowances remain vulnerable”

In advance of the proposal’s publication, legal analysis sponsored by Aegis Europe, an industry alliance incorporating more than 20 European manufacturing associations, had argued that the co-existence of free CO2-emitting allowances within the ETS and a CBAM is compatible with World Trade Organization rules.

Kleimann, however, highlights broader concerns around free allowances and recalls that they have recently been subject to US countervailing duties.

“What is at stake here are not free allowances per se but the additional free allowances that go to installations on the carbon leakage list”,  a list that designates those producers at particularly exposed to carbon leakage, including all sectors covered by the CBAM. Producers in listed sectors receive up to 100% of allowances needed for production for free, instead of up to 30% available to all industry sectors.

“The US investigation makes a straightforward case for the conferral of a benefit and the measure’s specificity,” he says.

“The latter is built on the fact that not all of EU industry receives additional free allowances, which then renders the measure actionable. Future free allowances distributed under the carbon leakage list will likely be subject to similar treatment because they are not available to the entire industry and are – with rising carbon prices – prone to cause material injury to the industry of the investigating trading partner.”

One legal solution would be for the EU to expand the allocation of additional free allowances to all sectors, rather than reduce them – but of course, this does not align with the Commission’s climate objectives.

“Free allowances under the carbon leakage list will remain legally vulnerable and even more so when CBAM enters into force” says Kleimann. “Complete industry coverage is the opposite of the sensible direction of travel, which is their phase out.”

ETS “not eligible for export adjustments”

The Aegis-sponsored study also calls for “export adjustments”, which it says are “imperative to prevent carbon leakage associated with exports from the EU.”

Once again, Kleimann urges caution.

“Generally, it is only import adjustments for taxes in the meaning of Article III:2 GATT, but not export adjustments, that are exempted from GATT disciplines” he says.

“More importantly, export adjustments could fall within the scope of the export subsidy prohibition of the SCM Agreement. However, the SCMA exempts refunds of domestic duties and taxes paid in the exporting country from the export subsidy prohibition. But it does not exempt refunds for payments made under regulations.”

“The ETS is a regulation. That means that an export adjustment for the ETS would be highly vulnerable to challenge as prohibited export subsidies. This is an oddity in WTO law, which thereby creates diverging incentives to use cap & trade schemes vs. carbon taxes among WTO members. For instance, if the US used a carbon tax scheme, it could legally refund taxes accruing under that scheme, whereas the EU cannot do so for the ETS.”

 

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