HMT CBM0027

Written evidence submitted by HM Treasury

Introduction

1. The Government recognises the importance of addressing the risk of carbon leakage to vulnerable sectors to ensure that its ambitious transition to net zero is not undermined. As part of this, the Government is considering the full range of options to address these risks, including international diplomacy and potential new policy measures.
2. At the same time, the Government is considering its approach to existing mechanisms that help to address carbon leakage risks, such as:

• the Free Allocation of allowances under the UK Emissions Trading Scheme (UK ETS);
• the compensation to Energy Intensive Industries (EIIs) for indirect ETS and Carbon Price Support related costs; and
• the exemptions available to EIIs in respect of the indirect costs of funding Contracts for Difference (CFD), the Renewables Obligation (RO) and the small scale Feed in Tariff (FIT).

3. Carbon leakage, and potential policy responses such as Carbon Border Adjustment Mechanisms (CBAMs), have been the focus of increasing debate, both domestically and internationally, and the Government welcomes the Environmental Audit Committee’s inquiry into CBAMs.
4. HM Treasury is the government’s economic and finance ministry, maintaining control over public spending, setting the direction of the UK’s economic policy and working to achieve strong and sustainable economic growth. It is responsible for strategic oversight of the UK tax system. Under the Taxation (Cross-border Trade) Act 2018, HM Treasury is primarily responsible for making secondary legislation that gives legal effect to the tariffs imposed and collected at the UK's customs borders. It also has a strong interest in the market framework of the ETS and its implications for public finances as well as the economy generally.

5. The Department for Business, Energy and Industrial Strategy (BEIS) is responsible for UK climate policy, including industrial decarbonisation and, with the Devolved Administrations, HMT and the Department for Transport, the UK ETS. The Department for International Trade (DIT) is responsible for UK trade policy, including bilateral/multilateral Trade Agreements, the UK Global Tariff, and the UK’s membership of the WTO. BEIS and DIT have inputted into this submission.

Recent Government Publications Considering Carbon Leakage and CBAMs

6. Building on the Prime Minister’s Ten Point Plan for a Green Industrial Revolution, the Government has published a number of documents during 2021 that consider carbon leakage and possible policy responses. This submission highlights those parts of these recent publications which are relevant to the issues that the EAC is considering.

7. The Industrial Decarbonisation Strategy (IDS), published in March, sets out an indicative policy framework to drive decarbonisation in industry by 2050.

• Action 2.5 (pages 33-36) commits the Government to a targeted approach to mitigating carbon leakage.
• Action 2.6 (page 36) commits the Government to work with stakeholders to understand how an EU CBAM could affect the UK.
• The IDS sets out principles for demand-side measures to support the development of a market for low carbon products. Actions 3.2 and 3.3 (pages 40 to 42) commit the Government to developing proposals for new product standards and product labelling respectively. 

8. The Net Zero Review (NZR), published in October, is an analytical report that uses existing data to explore the key issues and trade-offs as the UK decarbonises, against a backdrop of significant uncertainty on technologies, costs and changes to the economy over the next thirty years. Chapter 2 of the NZR (paragraph 2.20 onwards) covers carbon leakage, and options for policy responses. In particular:

• Paragraphs 2.27 to 2.33 present analysis of the relative carbon intensity of UK sectors, compared to OECD and non-OECD averages, drawing on the OECD’s Trade in Embodied CO2 database (TECO2). It offers interesting insights, but as noted in the text, it has important limitations and caveats;
• Paragraphs 2.34 to 2.39 consider agriculture; and
• Paragraphs 2.40 to 2.63 cover policy options to address carbon leakage risk, with CBAMs considered in paragraphs 2.50 to 2.53.

9. The Net Zero Strategy (NZS), also published in October, sets out a comprehensive range of policies to support and capitalise on the UK’s transition to net zero by 2050 across the whole economy. Across the Journey to Net Zero, Fuel supply, and Industry chapters we emphasise that we continue to explore options to mitigate carbon leakage focusing on international, multilateral efforts to tackle carbon leakage at source through global action on industrial decarbonisation and climate regulation. In doing so, the strategy acknowledges the risks of carbon leakage whilst outlining measures to transition to a green and sustainable future, helping businesses and consumers to move to clean power, supporting hundreds of thousands of well-paid jobs and leveraging up to £90 billion of private investment by 2030.

November 2021