Carbon leakage and deep decarbonization: future-proofing carbon leakage protection

Achieving climate neutrality within the next three decades will require decarbonization of all sectors and negative emission technologies to compensate for residual emissions from hard-to-abate sectors. This report considers the decarbonization challenge for basic industrial materials such as steel, cement, aluminium, and various chemical products, which account for 22% of global CO2 emissions. It develops a conceptional framework for protection against carbon leakage.

To achieve the goal of limiting temperature increase to 1.5 degrees Celsius, policymakers will face new challenges. One is balancing efforts to transition to a competitive, low-carbon economy with short-term economic and social pressures that arise from increasing carbon prices.

In the absence of a global carbon price, differences in carbon prices give rise to concerns about carbon leakage and loss of competitiveness for firms in jurisdictions with carbon pricing.

Carbon leakage means shifting emissions and production from domestic firms to markets with fewer constrains on emissions. Carbon leakage thereby presents both environmental concerns and potential economic, social, and political challenges.

This report considers the decarbonization challenge for basic industrial materials such as steel, cement, aluminium, and various chemical products. It also develops a conceptual framework for assessing the compatibility of carbon leakage provisions in driving deep decarbonization as well as alternative approaches to measuring and addressing the risk of leakage, including border carbon adjustments.

The deep decarbonisation challenge

With this in mind, a conceptual framework was developed with criteria for evaluating leakage protection measures that are consistent with the deep decarbonization challenge:

1. Providing ongoing protection against carbon leakage
2. Compatibility with long-term transition – including incentives for low-carbon production, low-carbon consumption, and developing new technologies/markets
3. Political durability, including international acceptance and ease of implementation

Furthermore, the report addresses free allocation as an approach to leakage protection, alternative approaches to address carbon leakage, and additional policies supporting decarbonization.