The European Union is the first jurisdiction to introduce a carbon border adjustment mechanism to address carbon leakage arising from the relocation of production to countries with less stringent regulatory framework for reducing greenhouse gas (GHG) emissions. This can be a powerful tool to promote the Paris Agreement’s goals. However, it also creates political tension over its implications for international trade. Notably, the complexity of the situation is especially pronounced in the relationship between the EU and the United States.
The EU Solution to Carbon Leakage
The European Union has been operating an emissions trading system (EU ETS) since 2005 that could achieve a reduction of around 50 per cent in emissions by the end of 2024. In addition, the EU has also set an ambitious, legally binding climate neutrality target for 2050, adopting the European Climate Law.
However, the EU’s climate ambitions can easily be compromised by carbon leakage. Therefore, the European Commission (EC) identified the industrial sectors at the highest risk and proposed a regulation to address this issue in 2021. Two years later, the European Parliament (EP) and the European Council adopted Regulation 2023/956, establishing a carbon border adjustment mechanism (CBAM), which imposes a levy on certain carbon-intensive goods imported from third countries. The goods included in the regulation range from iron, steel, and aluminium to cement, fertilizers, hydrogen, and electricity. After a transitional period from 2023 to 2025, the CBAM’s definitive phase started on 1 January 2026.
During and after the negotiations, several Member States (MSs) voiced their concerns about the mechanism’s impact on EU competitiveness. Meanwhile, the EP and the Council reached an agreement on the so-called Omnibus I package, which simplified some of the CBAM’s requirements. It exempted importers from certain obligations, for instance, if their annual imports into the EU do not exceed 50 tonnes.
In December 2025, the EC proposed further modifications, also covering downstream products. Beyond the general concern about EU competitiveness, some MSs pointed out that the carbon levy imposed on fertilizers could negatively affect the agricultural sector. In response, to mitigate the growing tensions, the EC proposed a further modification, allowing it to suspend or remove certain goods from the list in the event of severe harm to the EU’s internal market.
Mixed Global Reactions
The CBAM inherently has a two-sided effect on the third countries involved. On a positive note, it can exempt goods originating in jurisdictions that apply the EU ETS (in addition to EU MSs), such as the European Free Trade Association countries and Northern Ireland (with respect to electricity generation), or in countries with carbon-pricing systems fully linked to the EU ETS. Therefore, complying with the standards of the EU ETS can motivate third countries to improve their own carbon pricing mechanism.
According to a simulator by Sandbag, the CBAM revenue generated from Chinese products will likely be around €1 billion per year, while it will reach €503 million from South Korean and €285 million from Japanese products. An analysis by Carbon Market Watch claims that the carbon pricing systems in these three countries can evolve quickly due to CBAM, which can help their decarbonization efforts.
Furthermore, several other countries are also planning to implement or develop their own carbon pricing mechanisms. In 2027, a similar system will come into operation in the United Kingdom and Norway, while Canada, Australia, and Taiwan have already begun preparing their own carbon adjustment mechanisms.
On a negative note, several countries have criticized CBAM in various international forums. In 2024, the founding members (Brazil, Russia, China, India, and South Africa) and recently admitted members (Egypt, Ethiopia, Iran, and the United Arab Emirates) of BRICS adopted the joint Kazan Declaration, which emphasized that CBAM was a unilateral and discriminatory protectionist measure inconsistent with international law. In 2025, Russia initiated a World Trade Organization dispute settlement proceeding, claiming that the EU regulation violated international trade norms. During COP30 in Belém, Brazil, in November 2025, several countries, including China, India, Bangladesh, and Saudi Arabia, also criticized the EU approach. At the beginning of 2026, the spokesperson for the Chinese Ministry of Commerce called CBAM a protectionist measure that was unfair toward China.
CBAM and the US: A Nuanced Relationship
According to an International Emissions Trading Association report, the Biden administration raised concerns over CBAM, emphasizing that it should be used only as a ‘last resort’ measure. In April 2025, Senators Bill Cassidy and Lindsey Graham reintroduced their proposal for the Foreign Pollution Fee Act (FPFA), a similar carbon tax instrument. The FPFA explicitly frames its purpose as targeting China, claiming that the country is responsible for 30 per cent of global GHG emissions.
The products the FPFA covers also reflect this intention. In addition to aluminium, cement, fertilizers, and iron and steel products, glass, hydrogen, solar products, and battery inputs are included. According to the International Energy Agency, China accounted for 80 per cent of global solar product exports in 2024. The FPFA intends to apply a 200 per cent tariff—relative to the value of the imported products—on Chinese solar goods. However, the FPFA would primarily affect Malaysia (proposed rate: 100 per cent), South Korea (100 per cent), Thailand (100 per cent), and Vietnam (200 per cent), as these countries account for a significantly larger share of solar product exports to the United States than China.
The situation was further complicated when President Trump imposed a 25 per cent tariff on steel and aluminium imports from the EU in early 2025. In August 2025, the EU and the US announced a Framework Agreement that, among other provisions, reduced US tariffs on several goods to 15 per cent. For steel and aluminium products, the EU and the US expressed their intent to cooperate more closely to protect their domestic markets from global overcapacity, while maintaining reliable and secure bilateral supply chains, for example through tariff-rate quotas.
‘The EU agreed that the EC would work to introduce more flexibility into the implementation of CBAM to address US concerns’
Furthermore, the EU agreed that the EC would work to introduce more flexibility into the implementation of CBAM to address US concerns regarding its impact on small and medium-sized enterprises. As a Carbon Market Watch analysis highlighted, the EU’s step to further relax its regulation concerning the US could be heavily criticized, as this flexibility was not offered to developing countries with vulnerable economies, despite several calculations indicating that CBAM’s impact on EU–US trade would be negligible.
Meanwhile, at the end of 2025, President Trump’s intention to acquire Greenland became clear. Several MSs and European countries, such as Denmark, Norway, Sweden, France, Germany, the Netherlands, Finland, and the United Kingdom, deployed small military contingents to the island in response. On 17 January 2026, the US reacted by announcing an additional 10 per cent tariff on these countries’ imports effective February 2026, rising to 25 per cent in June. At the same time, the EP, responsible for the political agreement’s formal approval, postponed the vote on the agreement. However, a few days later, President Trump declared that the US would not impose tariffs on EU MSs. After this move, the EP decided to proceed with the implementation of the deal. This episode clearly illustrates how such volatile political tensions contribute to the uncertainty surrounding CBAM implementation and the ongoing debate over US flexibility.
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