Carbon Leakage. Ausmaß und Gegenstrategie

Seminar Paper 2015 29 Pages

Economy - Environment economics



List of Abbreviations

List of Tables

List of Figures


1. Emissions: Facts, Development and Consequences

2. Effort to reduce emissions
2.1 Kyoto Protocol
2.2 Europe’s Climate Action

3. Extent and consequences of Carbon Leakage
3.1 Carbon Leakage – Reasons of emergence
3.2 Consequences and extent of Carbon leakage

4. Counterstrategies against Carbon Leakage
4.1 Multilateral approaches
4.2 Unilateral Approaches
4.2.1 Free allowances of emission rights
4.2.2 Border Tax Adjustments
4.2.3 Carbon Taxation

5. A complementing incentive scheme

6. Concluding Remarks



List of Abbreviations

illustration not visible in this excerpt

List of Tables

Table 1 Greenhouse gas reduction goals

Table 2: Selected studies calculating the impact of carbon pricing on competitiveness and Leakage for EU27

List of Figures

Figure 1) Countries’ percentage of worldwide CO2 Emissions

Figure 2 ) Emissions of main sectors in %

Figure 3 How leakage would occur when carbon taxes are implemented

Figure 4 Greenhouse gas in the main sectors (in 2011)


This paper is a literary based economical analysis of the problem carbon leakage, its extent, arising consequences and possible counter strategies.

Today plenty of research on carbon leakage is available. It includes, to name just a few, analyses on influences and extent of carbon leakage (Aichele (2013), Paroussos et.al., (2014), Aiginger, (2013)) and research of first and second-best solutions and possible counter strategies (Aichele (2013), Aroyo-Curras et.al., (2013), Görlach, et.al., (2008)). The purpose of this paper is to investigate extent and counter strategies of carbon leakage.

The current climate development is illustrated in the first passage. A brief description is important for efficient subsequent analysis. Following this summary, two major climate actions are introduced in chapter two: the Kyoto Protocol and the European Emissions Trading System. As a consequence of the implementation of unilateral climate approaches, the problem Carbon Leakage arises. When industrialised countries and specifically Europe introduces strict emission standards, costs of production of emission intensive industries rise. As a result of policies like carbon taxation, or the European emissions’ pricing system those companies relocate parts of their sectors in countries without high standards. As a consequence the overall emissions might increase.

After substantiating the dilemma of efforts concerning climate actions, the actual extent of carbon leakage will be illustrated in chapter three. For this, Aichele (2013) is the main source for empirical proof.

Arguments to internalise carbon leakage efficiently are investigated in chapter 4 and 5. Solving the carbon leakage problem will not thoroughly contribute to actual climate goals of the European Union. This paper highlights the importance to concentrate not just on this problem but to tackle down emissions’ reduction and carbon leakage in Europe at the same time. Hence several possibilities of policy tools are introduced. It is substantiated that they might work best if you combine them, because each has advantages and disadvantages and addresses different problems. As long as no multilateral approach is implemented, WTO conform border tax adjustments, carbon taxation of domestic production and fostering investment incentives for new energy saving production are illustrated as one possibility to internalise both carbon leakage and an actual reduction of emissions.

1. Emissions: Facts, Development and Consequences

For a couple of years, the threat of climate change is one of the most discussed topics in the news all over the world. Climate change is not a future possibility, but happening right now. Since 1990, the emissions of Carbon dioxide increased by 48%. (Drnek, 2015. p.8) A prediction of Statista (2015) shows a considerable development of the CO2 emissions’ process until 2040. Compared to 2010 the emissions will rise by another 31%. (EIA, 2015) This results mainly from increasing energy demand of the world. (U.S Energy Information Administration, 2015) China and the United States were responsible for almost 40% of the world’s emissions in 2014, which can be seen in the next figure. (Statista, 2015b) The European Union’s percentage of emissions decreased from 26% to 14% since 1990. (Drnek, 2015, p.3f.)

(Figure 1) Countries’ percentage of worldwide CO2 Emissions

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Source: Statista, (2015) b)

If no ambitious climate policies are implemented in the upcoming years, greenhouse gas emissions (GHG) will increase another 50% by 2050. The main driver of this development is the rise of CO2 emissions from energy use, due to the increasing global demand for energy. (Marchal, et.al., 2011, p.5f.)

The main perpetrator sector, which emits pollutants, like greenhouse gases, is the energy- and heat engendering industry. Cement, Chalkstone, Iron, Steel, Paper industries and others make up 30% of overall emissions. The next figure illustrates the percentages of energy use divided in different sectors. (Drnek, 2015, p.5f.)

{Figure 2 ) Emissions of main sectors in %

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Source: Drnek (2015), 5f.

Throughout the history of our planet, climate changes (e.g. ice age) occurred. But recently global warming is increasing due to man-made interferences. (Schellhuber, et.al., 2013, p.2) “Greenhouse gas emissions have detrimental effects on climate change irrespective of where they take place.” (Aichele, 2013, p.96) Without policies the overall temperature will increase by 3 to 6 °C, which will cause a continuous melting of glaciers, a rise in the sea level by 3,19 mm per year and severe weather events that will develop to immeasurable levels. This will change natural systems and society. (Marchal, et.al., 2011, p.5f.; Jackson, et.al., 2015)

2. Effort to reduce emissions

To harness the consequences of climate change and in order to reduce the risk of this development, the European Union and other countries implement specific strategies. Two major climate regulations are introduced below.

2.1 Kyoto Protocol

“The Kyoto Protocol is an international agreement linked to the United Nations Framework Convention on Climate Change, which commits its Parties by setting internationally binding emission reduction targets.” The protocol was introduced in 1997 and put into practice on 16 February 2005. Since developed countries are primarily responsible for current high levels of emissions, they have a considerably higher burden to reduce greenhouse gases (GHG) under the principle of “common but differentiated responsibilities”, than developing countries. During the first commitment period (2008-2012), 37 developed countries and the European Community “[...] committed to reduce GHG emissions to an average of 5% against levels of 1990”. Unfortunately not all countries could be persuaded to participate at the Kyoto Protocol ratifications. (United-Nations, 2014)

Mechanisms like the International Emissions Trading, the Clean Development Mechanism (CDM) and the Joint implementation (JI) help to foster green investment and to meet emission targets efficiently. With implementing the International Emissions Trading Mechanism, the Kyoto Protocol introduced an emissions trading scheme, which limits maximum amount of emissions. Countries that do not use all of their emission units are able to sell remaining capacity to countries that need more. The Clean Development Mechanism (CDM) is the first global, environmental investment and credit scheme and thus tries to reduce emissions. Countries that invest in emission reduction projects in developing countries can earn saleable certified emission reduction credits, which are “[...] equivalent to one tonne of CO2, which can be counted towards meeting Kyoto targets.” The third mechanism, called Joint Implementation is similar to CDM: Annex B countries can earn emission reduction units (ERUs) by investing in emission removal projects of other Annex B Parties. (United Nations, 2014)

The Kyoto Protocol is an important first step towards a global reduction and stabilization of greenhouse gas emissions. (United-Nations, 2014) In 2012, participating countries committed in the Doha Amendment to reduce emissions by at least 18% compared to 1990 levels until 2020.

2.2 Europe’s Climate Action

Since the progress of a multilateral climate approach is a rather slow process, the European Union implemented further climate actions. (Rosen, 2015, p.33f.) Europe’s goal is to build a smart, green, sustainable future and to slow down global warming. The European Union wants to reduce emissions and increase energy efficiency and has ambitious targets to meet these aspired goals. This all is based on the previous pictured emerging risks and consequences of climate change. (Passage 1)

In 2020 emissions have to be reduced by 20% compared to 1990 levels, the use of renewable production processes has to rise to 20% and energy efficiency has to increase by 20%. This commitment is called the Europe 2020 growth strategy. A new roadmap for 2050 suggests reducing greenhouse gases by 80%-90%, which is based on new pricing of carbon dioxide and new technologies. (European Commission, b, 2015; Aiginger, Böheim, 2015, S.2) The following table lists Europe’s reduction goals for the main energy intensive sectors.

Table 1 Greenhouse gas reduction goals

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Source: European Commission, Climate Action, EU ETS, (2015), c

The European Emissions Trading System, sometimes referred as the “cap and trade system”, is the key tool for reaching climate goals in a cost-effective way. It is “[...] the first – and still by far the biggest – international system for trading greenhouse gas emission allowances [...].” (European Commission b, 2015) EU ETS places a limit on emissions for power production and manufacturing industries and thereby covers almost half of Europe’s emissions. The maximum is steadily reduced every year. Energy intensive companies can buy, sell or trade emission certificates. Therefore, allowances can be seen as currency of EU ETS. The limited total number of certificates gives them value.

With the purchase of one allowance, the company is entitled to emit one tonne of CO2, the main greenhouse gas or two tonnes of the more powerful greenhouse gases N2O and PFCs. If they do not meet emissions standards, they have to pay heavy fines. But not every company has to buy the full amount of emission certificates. Industries are divided in three different groups that differ in the percentage of free allowances of emissions’ certificates. Group I has to purchase 100% of emission rights by themselves. Hence they do not get any free allowance. Group II gets 80% of free allowance. This percentage will be reduced to 30% until 2020 and in 2027 free allowance should be at 0%, thus at the same level as Group I. Group III is exposed to the problem, carbon leakage, which is explained in detail in the next paragraph. They get 100% of free emissions. (European Comission, 2015, b; Aiginger, 2013, S.7) So the worst companies contributing to air pollution do not have to pay for emissions.

Is EU ETS efficient to reduce emissions, if the worst companies are not affected by the emissions‘ prevention system? Would the whole system be better, if the carbon leakage problem was solved?

3. Extent and consequences of Carbon Leakage

Now the question arises to what extent carbon leakage negatively affects Europe’s climate action. In order to discuss possible counter strategies, it is crucial to analyse the main reasons of emergence, the extent and consequences of carbon leakage.1

3.1 Carbon Leakage – Reasons of emergence

First, Carbon leakage is a consequence of the companies’ attempt to stay competitive, when emission prices and consequently costs increase.

Aiginger defines carbon leakage as follows: „If industrialised countries and specifically Europe sets high standards or prohibit, regulate or tax emissions, production of emission intensive industries would relocate to countries with less resource efficiency, thus increasing the overall emissions.”2 (Aiginger, 2013, p.7)

With the implemented regulations, like EU-ETS, companies are exposed to higher prices since the ambitious goals are solely achievable with an increase in carbon prices, up to 250Eur/t. (Aiginger, 2013, p.6) The price of emissions directly leads to higher productions costs. In consequence, increasing expenses of production in the European Union enhances carbon leakage. (Görlach, et.al., 2008, p.11) The risk of leakage is especially high in energy intensive sectors and in firms with high exposure to foreign trade and international competition.

In order to stay competitive - considering the increase in costs, they externalise parts of their energy intense sectors.3 (Ederer, Weingärtner, 2014, p.1; Paroussos et.al., 2014, p.205; Aichele, 2013, p.96) A problem arises, when firms transfer their energy intensive sector to countries with laxer constraints on greenhouse gas emissions and if the overall emissions increase on that account. As stated above, almost half of Europe’s industrial sectors belong to Group III. This induces that carbon leakage could be quite a risk. (Drnek, 2015, p.4f.)

Carbon Leakage is used as the main argument against ecological policies. On account of this, they receive free permits until 2020. (Aiginger, 2013, p.7) Europe has to find a way to reduce emissions and avoid relocation of production of companies that produce on a high energy level and which are exposed to international competition.


1 The discussion about carbon leakage already emerged a few years ago. In the 1990s it was discussed in terms of “pollution haven” and “race to the bottom”. It was seen as the tendency to relocate production in a cost minimizing way, preferably in emerging countries with lax climate regulations. (Görlach, et.al., 2008, p.5)

2 In this context the positive carbon leakage effect (i.e. if the foreign country has great resources of hydro-, or waterpower) will not be discussed, since it would even decrease the overall level of emissions. Europe would not have to cope with it in the way it has to deal with negative carbon leakage. (Görlach, et.al, 2008, p.9)

3 Distinction of the term competitiveness: The difference between Competitiveness of production and competitiveness of a company has to be substantiated: Competitiveness of domestic companies can still be sustained even if parts of their production is outsourced, since revenue made in foreign countries flows back to the domestic European country. The competitiveness of production in European countries is dependent on costs of production within the country. When costs of production in other countries are cheaper, the competitiveness in the domestic country shrinks. When this paper talks about decreasing competitiveness it solely means the worse competiveness of production within the European borders.


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Vienna University of Economics and Business – Volkswirtschaftslehre
carbon leakage counter strategies Gegenmapnahmen



Title: Carbon Leakage. Ausmaß und Gegenstrategie