Minh Trang Nguyen, Quynh Trang Tang, Nguyen Hien Thao Do & Vu Anh Thu Ngo 

Abstract

The world is facing the consequences of climate change. In response to this problem, the European Union (EU) is showing its proactiveness with the latest move to pilot the Carbon Border Adjustment Mechanism (CBAM) from October 2023. By putting a price on imported products to the EU market that may increase the risk of carbon leakage, CBAM might have a great influence on international trade and at the same time act as a motivation in the process of achieving the Net Zero goals of partner countries, especially developing countries like Vietnam. For this reason, this paper discusses the impacts of CBAM on Vietnam’s trade and progress towards the Net Zero targets. Using methods of synthesis, analysis and comparison, the authors assess the compatibility of CBAM with international principles as well as opportunities and challenges for Vietnam when CBAM is implemented. In this context, the authors believe that CBAM will open opportunities for developing countries to promote green technology transition and achieve their Net Zero commitments by the middle of this century.

   

Keywords: Carbon border adjustment mechanism, trade, Net Zero, opportunities, challenges.

Résumé

Le monde fait face aux conséquences du changement climatique. En réponse à ce problème, l’Union européenne (UE) fait preuve de proactivité en lançant en octobre 2023 le mécanisme d’ajustement carbone aux frontières (CBAM – Carbon Border Adjustment Mechanism). En fixant un prix sur les produits importés sur le marché de l’UE susceptibles d’augmenter le risque de fuite de carbone, le CBAM pourrait exercer une grande influence sur le commerce international tout en agissant comme un moteur dans le processus de réalisation des objectifs de neutralité carbone des pays partenaires, notamment les pays en développement comme le Vietnam. Dans cette optique, l’article examine les impacts du CBAM sur le commerce du Vietnam et sur la progression vers les objectifs de neutralité carbone. En utilisant des méthodes de synthèse, d’analyse et de comparaison, les auteurs évaluent la compatibilité du CBAM avec les principes internationaux ainsi que les opportunités et les défis pour le Vietnam lors de la mise en œuvre du CBAM. Dans ce contexte, les auteurs estiment que le CBAM ouvrira des opportunités aux pays en développement pour promouvoir la transition vers les technologies vertes et réaliser leurs engagements de neutralité carbone d’ici le milieu du siècle.

    

Mots clés : mécanisme d’ajustement carbone aux frontières, commerce, Net Zéro, opportunités, défis.

   

The CBAM proposed by EU is a mechanism to deter imported products that are carbon-intensive^[1]. Fundamentally, the CBAM will apply to goods imported into EU customs territory, including iron and steel, cement, fertilizers, aluminum, electricity generation, and hydrogen, unless the exporting countries’ production is already subject to EU-like carbon pricing systems such as the Emissions Trading System (ETS). These products are covered by Annex IA of the Regulations of the European Parliament and of the Council of the European Union on the Establishment of CBAM on April 18, 2023.

In particular, CBAM sets regulations on registering imported goods with the EU’s regulatory body and purchasing CBAM certificates. The price of CBAM certificates is based on the pricing trend of EU ETS allowances calculated on a weekly basis. Importers of EU report the total verified greenhouse gas (GHG) emissions embedded in goods imported in a given calendar year^[2]. If it is relevant that the carbon price is paid in the country of production, the corresponding emissions shall not be re-charged under CBAM. The final document is expected to explain this important provision more specifically. Regarding the full implementation of CBAM from 2026, Rasmus Nedergaard^[3], an expert on renewable energy of Act Renewable Organization, stated that EU importers will register with the regulatory agency for the total volume of goods along with the relevant GHG emissions in production and submit the corresponding carbon certificates if the quota is exceeded. If the importers cannot provide equivalent requirements, additional credits will be charged, with prices based on the weekly average of EU ETS auctions. Most of the revenue generated by CBAM will go to the EU budget.

As can be seen in the Recitals (11) to (13) of the CBAM Regulation, the purpose of this mechanism is to reduce EU’s GHG emissions and mitigate global carbon leakage^[4]. In this context, CBAM is formed on the principle of the EU ETS and to replace the free ETS allowances that are currently granted to EU producers.

In response to climate change and maintaining the Union’s sustainable development, the CBAM is expected to be one of the most promising measures. Most of the research focuses on assessing the impacts of CBAM on the world’s trade activities. However, the number of studies on how this mechanism causes impacts on highly exposed or climate-vulnerable remains too little. For example, Ingo Venzke and Geraldo Vidigal (2022) proved that there might be a violation of the Common but Differentiated Responsibility (CBDR) and Special and Differential Treatment (SDT) under GATT 1994 and UNFCCC 1992 regarding the enforcement of CBAM on developing countries, Least Developed Countries (LDCs) and Small Island Developing States (SIDS). This poses a risk of creating trade discrimination between developed and developing countries. He Xiaobei et al. (2022) concluded that the welfare loss caused by CBAM is primarily to developing countries such as Ukraine, Egypt, Mozambique, and Turkey. A report by the World Bank Group (2021) showed that an additional CBAM fee equal to 3.3% – 33.6% of the export product price to the EU might be paid by Vietnam will cause a decline in the trade competitiveness of this country in the EU market. However, it is unlikely to make exemptions for these countries since it could hinder the EU’s efforts to reduce carbon leakage. According to Sigit Perdana and Marc Vielle (2022), the possible solution is not to reject the CBAM but encourage the EU to use the revenue gained from the CBAM to support such countries in terms of the green transition.

Another strand of literature focuses on the impact of CBAM on the world’s climate neutrality goal. There is a view that the carbon adjustment mechanism is more theoretical than practical because CBAM has not yet considered the legal, technical, and political barriers when applying it to countries outside the EU (OECD, 2020). On the contrary, a study by Naomi S. Newman (2022) demonstrated that CBAM has the potential to be successful in promoting Net Zero targets globally if it is properly regulated and enforced. The author also suggested that the EU should ensure an acceptable transition period as well as support countries in dealing with spendings for emissions reduction.

In Vietnam, CBAM is a very new research area. The compatibility of CBAM with international regulations to which Vietnam is a party is still inconclusive. The lack of in-depth studies to estimate how and to what extent CBAM will affect Vietnam could lead to threats of commercial injury to the country. Moreover, solutions for Vietnamese businesses in adapting to this mechanism are still in its infancy. As CBAM will soon enter into force in October 2023, Vietnam needs to promptly roll out its adaptation measures. To contribute to this problem, we specifically conducted an analysis of the CBAM’s effects on Vietnam; hence, some suitable recommendations will be provided.

1. CBAM and its consistency with international rules

Understanding the feasibility of CBAM under the view of world trade regimes is essential since the EU’s application of CBAM may affect the obligation performance of states under international treaties to which countries are concerned. With the topic of the impact of CBAM on Vietnam’s trade and environmental targets, the authors point out the consistency of CBAM with international treaties that Vietnam is a member of, including EU-Vietnam Free Trade Agreement (EVFTA), Most-Favored Nation (MFN) principle, exemptions of GATT 1994, and the CBDR principle of UNFCCC. Finally, the authors assess whether CBAM is likely to hinder Vietnam’s implementation of international responsibilities.

1.1. EU-Vietnam Free Trade Agreement

The EU-Vietnam Free Trade Agreement (EVFTA) is an important milestone in Vietnam-EU trade relations. For this reason, the authors focus on assessing the compatibility of CBAM with this Agreement on two aspects: (i) the right to apply an environmental tax mechanism on certain imported products of Vietnam under EVFTA; and (ii) exemptions or incentives in case the application of CBAM is consistent with EVFTA’s provisions.

First, Article 13.2(1b) of EVFTA allows each party to “establish its own levels of domestic protection in the environmental and social areas as it deems appropriate”. Therefore, only when the EU is able to prove CBAM to be appropriate does the Union have the right to establish such a mechanism to tackle the risk of carbon leakage^[5].

Second, according to Article 13.3 of EVFTA, both Parties commit to maintaining environmental protection at a high level. Specifically, paragraph 2 of this article provides “A Party shall not waive or derogate from, or offer to waive or derogate from, its environmental or labour laws, in a manner affecting trade and investment between the Parties’’. In this case, it can be construed that CBAM’s environmental enforcement provisions are appropriate, and that Vietnam should not mitigate the application or waive the CBAM’s regulations for its CBAM-subjected products. However, it should be noted that the provisions of CBAM must not cause arbitrary and unreasonable discrimination between Vietnam and the EU under Article 13.3(4).

1.2. General Agreement on Tariffs and Trade 1994

After the proposal of the regulations on the establishment of CBAM in July 2021, there have been many studies indicating the WTO-incompatibility of this mechanism, namely Venzke et al. (2022)^[6]. The official amendment submission in December 2022 has somewhat demonstrated the consistency of CBAM. However, there are some contradictions that need to be taken into consideration.

First, the authors argue that CBAM may violate the MFN principle of WTO. The MFN obligation, conveyed in GATT Article I stipulates that a country should treat the products of other member states equally, immediately and unconditionally. The most striking aspect of CBAM is that it makes exceptions for imports from some countries listed in Annex II and those with comparable emissions trading systems to the EU^[7]. Although Article 5 of the CBAM Regulation opens the possibility for countries to be added to the list of exceptions, they must have an emissions trading mechanism similar to the EU ETS. It can be seen that the EU is making certain “incentives” for countries which have the same carbon regime compatible with the Union and forcing the others to meet the CBAM standards to get such privileges.

However, Article XX(b) of GATT 1994 creates an exception for taking environmental protection, in which “nothing in [the GATT] shall be construed to prevent the adoption or enforcement by any contracting party of measures of […] necessary to protect human, animal or plant life or health”. As such, CBAM would be incompatible with GATT 1994 if the EU failed to demonstrate that the mechanism was a “necessary measure” under article XX’s exception.

Second, based on data shown by the Word Development Index (WDI), Vietnam is considered a lower-middle income country^[8]. Therefore, Vietnam should enjoy certain privileges in the CBAM’s regulation under Article XVIII of GATT 1994. In the new CBAM Regulations amended in December 2022, the EU has demonstrated its greater commitment to support low-and middle-income countries through the EU budget^[9]. However, CBAM has only confirmed the existence of certain incentives for this group; the details of such incentives have not been specifically mentioned. Therefore, CBAM needs to conduct an assessment and set specific regulations related to this issue.

1.3. United Nations Framework Convention on Climate Change

Climate change is a global problem. However, due to the differences in economic development that each country may cause and may have the ability to deal with environmental problems differently. Developed countries tend to produce more greenhouse gas emissions but they are also more capable of redressing the damage to the environment. For that reason, UNFCCC has stipulated in Article 3.1 on CBDR principles. At the same time, Article 3.2 affirms “the specific needs and special circumstances of developing country Parties, especially those that are particularly vulnerable to the adverse effects of climate change, and of those Parties, especially developing country Parties, that would have to bear a disproportionate or abnormal burden under the Convention, should be given full consideration”. Accordingly, the application of CBAM to developing and least-developed countries could be seen as a violation of the CBDR principle, in which CBAM disproportionately places the climate burden on developing countries when setting a common tariff rate for all importers. The authors note that the EU did commit to supporting developing countries through the EU budget. However, the responsibility for these high-carbon exports remains the same as that of countries with stronger economies.

2. The effect of CBAM on Vietnam’s trade

The proposed CBAM framework poses some risks to the general economy and trade. To be more specific, a business can take advantage of lax standards in the host country to manipulate carbon accounting^[10] or claim that all the materials it uses to manufacture goods are from renewable sources to reduce the carbon content of goods for export to the EU without having made any real changes to its production process, which is called “greenwashing”^[11]. In addition, some accuse the EU of practicing protectionism by using emission reduction targets as a disguise to impose a fee on imports. Some recent studies have shown that the CBAM of the EU may cause arguments among important trading partners such as China, the US, Russia, India, and Japan.^[12] The intense trade relations between major economies become a barrier for the world to reach common ground in the global emissions trading system. Essentially, tariffs are only used for trade competition, not for the purpose of protecting the environment. That affects the trade of other small and developing countries, including Vietnam, to some extent.

In 2021, when the EU first introduced CBAM as a tool to realize its climate ambitions, the World Bank Group calculated to forecast the loss of trade competitiveness of Thailand, India, and Vietnam when CBAM was implemented^[13]. In the report, the group identified carbon-intensive products imported into the EU from these three partners to determine the total GHG emissions of such products. Then, a potential CBAM cost for each product was calculated. Finally, the group analyzed the trade-competitive losses of the three countries. Based on this model, the results for the case of Vietnam can be as follows:

The three main carbon-intensive goods Vietnam exports to the EU are steel, aluminum, and cement. In the case of direct emissions, the total cost of CBAM payment for each product is respectively 8.4, 1.3, and 6.4 million Euro per year. The losses of competitiveness of these three products are 2.5%, 3.1%, and 31.5% correspondingly^[14].

Figure 1: Competitiveness loss of Viet Nam’s steel, aluminum, and cement exports to the EU27

Source: World Bank Group, Preliminary Study on the economic impact that EU CBAM could potentially impose on foreign exporters of products to the EU market, 2021.

However, according to the actual situation, the authors find a limitation in this calculation model of the World Bank Group. The calculation of the potential cost of CBAM to foreign exporters was based on two components: the default carbon intensity value of the imports (tCO2/ton of product) and the CBAM carbon prices (EUR/tCO2). In supporting this report, the World Bank Group used the Bloomberg forecasted EUA carbon price of around 41 EUR/tCO2 in 2023. This was in line with the forecasted EUA price of 41.05 EUR/t CO2 in 2023 published by Carbon Pulse and based on the average forecasted EUA price provided by 13 analysts, including Berenberg, BNEF, ClearBlue, Commerzbank, etc.^[15]. However, the EU carbon price from December 2022 to March 2023 fluctuated between 80 and 100 EUR/tCO2, which is 2 to 2.5 times higher than the forecasted carbon price of the World Bank Group^[16]. According to a survey of the International Emissions Trade Association, from 2026 to 2030, the EU ETS average carbon price is estimated to be around 100 EUR/tCO2^[17]. Thus, the cost of CBAM payment for the above export items of Vietnam in the report may be less than the actual cost when CBAM is piloted in October 2023. Therefore, its prediction of the loss of competitiveness may be underrated.

Based on the same method mentioned, we recalculated the ratio of CBAM payment costs per ton of product to the current price of around EUR 90/t CO2. The results of direct emissions for steel, aluminum and cement exported to the EU are 5.7%, 6.6% and 50.4%, respectively. It is concerned that when CBAM is fully implemented, indirect emissions for the three products will also be charged. Consequently, the loss of competitiveness may be much more. It is due to the production of steel, aluminum, and cement in Vietnam consuming a large amount of energy that the total volume of CO2 including both direct and indirect emissions leaked will be exaggerated.

In conclusion, CBAM may pose the risk of a “greenwashing” effect, carbon accounting manipulation, and even global trade conflict. Regarding Vietnam’s trade, the author found a relatively large reduction in Vietnam’s competitiveness of the three main goods exported to the EU market. This enforces Vietnam to either incur large costs for carbon-intensive products and lose its position in the EU “playing field” or make way for a green transition and minimize greenhouse gas emissions in its products.

3. The effect of CBAM on Vietnam’s Net Zero targets

According to the Intergovernmental Panel on Climate Change (IPCC), anthropogenic climate change has been causing extreme weather in the world^[18]. Therefore, it is urgent for mankind to strive to achieve the Net Zero targets as soon as possible. Adopting CBAM as a “shield” can reduce the amount of fossil fuel consumed and encourage other countries to choose less polluting energy, thereby limiting their GHG emissions amount of greenhouse gasses released into the environment.

Recent research by United Nations Conference on Trade and Development (UNCTAD, 2021) suggests that CBAM can be an effective tool to significantly reduce carbon leaking^[19]. In addition, the EU also offers a plan to support developing countries in the improvement of science and technology in the green transition. This not only helps developing countries reduce the burden from CBAM when participating in the EU market, but also acts as an incentive measure to accelerate “green” actions of those countries.

The most significant and direct impact of CBAM on Vietnam’s environmental goals is the requirement for green transition. Vietnam has a great potential for green transformation such as abundant solar radiation and offshore wind power, which is relatively stable during the year. In addition, the labor force accounts for a large proportion of the country’s population structure. Therefore, promoting green transformation will open many new job opportunities for workers, reduce the unemployment rate and enhance economic restructuring. However, the current infrastructure of the country has not yet met the available potential of solar and wind power. Vietnam’s capabilities in the field are still highly dependent on foreign partners. This leads to capital difficulties, especially for initial investments.

Vietnam’s biggest barrier is found in technology independence and capital attraction. The establishment of CBAM will impetus Vietnam to strengthen international cooperation and enhance long-term strategic planning, ensuring the initiative and sustainability of Vietnam’s Green Growth.

In addition to setting the requirements for green transformation, the author group also claims that CBAM encourages the development of the “forest carbon credit market” in Vietnam. The forest is an important factor in Vietnam’s progress towards Net Zero targets. It absorbs large amounts of CO2 through photosynthesis, acting as a natural reservoir for carbon storage. Selling forest carbon credits in Vietnam can contribute to the protection and management of the forest environment more effectively. Although Vietnam’s Forest carbon credit market is in the pilot phase, it already shows positive outcomes in developing this measure.

To achieve the further goal of restoring the global pre-industrial climate levels, it is essential for Vietnam to apply modern science and technology to capture and reduce emissions. Currently, the Carbon Capture and Storage Technology (CCS)^[20] is drawing attention around the world. With the application of CCS, Vietnam is expected to pay lower tariffs when exporting goods to the EU. In the meantime, the country can reduce emissions emitted to the atmosphere from coal-fired power plants, gas, etc. However, expensive costs hinder a developing country like Vietnam from implementing CCS. Therefore, a joint development between the government and private sectors should be made to solve the problem.

In conclusion, the implementation of CBAM requires Vietnam to come up with specific policies to ensure the country’s green growth, increase the scale of seizing and offset emissions. Utilizing available potentials for green transformation and developing the forest carbon credit market with the application of modern science and technology will help Vietnam get closer to its Net Zero targets. On that basis, in the next part of the paper, some possible recommendations will be provided to realize this goal as soon as possible.

4. Recommendations for Vietnam

Before addressing some recommendations, it is essential to consider lessons from the EU ETS model. The EU ETS is a free allowance market where participants can exchange emissions quotas in order to achieve their emissions reductions. However, the flood of permits in the system makes it easy to buy emissions permits from elsewhere. Thus, the emission reduction results are only positive in the early stages and have slowed down so far. Furthermore, the legal definition of emission allowances remains vague as a carbon license is a “permission to pollute in the future”, which tends to be estimated by authorization rather than by actual measurement. The lack of the Registry’s adequate fiduciary controls and the poor cooperation between the EU Commission and national financial regulators are also a matter of concern. To prevent the deficiency made by EU ETS, a more stringent policy of CBAM is introduced. In short, in theory, one of the experiences that Vietnam can learn to form a plan to minimize negative impacts in terms of trade and economy is either linking with the EU ETS or having its own emissions trading system. From this theoretical part, we will present the experience of building a gas emission pricing system in the world and more specific recommendations for the operation of the emission rights trading floor in Vietnam in the following years.

Another lesson can be learned from Canada^[21] and California (USA)^[22] when designing pricing systems for individual countries. Canadian carbon pricing separates fuel fees and output fees of major industries. The proceeds will be invested in an offsetting emissions system, creating opportunities for businesses to adapt. Indirect emissions must be included in the calculation of carbon pricing, based on the principle of a clear cap-and-trade model. However, this price must be designed to completely replace existing federal fuel charges. Similarly in California, the problem does not come from the design of an electrical emissions system but from resource disturbance, which involves establishing contractual arrangements to import low-carbon electricity. The issue raised when intensive-carbon sources will be consumed where low-carbon taxes are implemented. This results in an increase in total GHG emissions even when the system limits emissions. California has taken into consideration the risk of resource disturbance and thus raises the need to ensure an interest balance for all stakeholders potentially affected by this system. Based on the above lessons, corresponding recommendations specialized for Vietnam are made to adapt to CBAM:

First, the best way to reach economic and environmental efficiency is to establish a reasonable environmental protection tax table to accurately reflect the carbon tax. The promulgation of Vietnam’s Law on Environmental Protection Tax in 2010 is considered an active response to the product-consuming behaviors that have an impact on the environment, thereby limiting certain types of goods or goods production that negatively affect the environment. To prevent the overlap of the new tax and the existing taxes, the Government should assess and supplement this tax in accordance with other relevant domestic and international mechanisms and regulations.

Second, Vietnam should continue to promote the development of the domestic carbon market towards regional and world integration. Article 139 in the Law on Environmental Protection 2020 indicates the carbon market as a tool to promote the reduction of GHG emissions in the country, thereby contributing to the realization of the Net Zero target. The carbon market helps the government develop a circular economy toward reducing carbon emissions. Due to the implementation of a carbon market, non-renewable forms of energy will become expensive and be replaced by renewable energy and air pollution and climate change will be mitigated. As a result, Vietnam can reduce the burden of costs on green growth when CBAM is put into effect.

Third, Vietnam should utilize available domestic and international resources such as scientific and technological adoption, international experience, and technical application, etc. Vietnam is a member of many international environmental conventions and agreements, namely UNFCCC, the United Nations Convention on the Law of the Sea (UNCLOS), or the Convention on Biological Diversity (CBD). Participating in such conventions provides Vietnam with a strong legal framework regulating the global climate and environment. This also requires trust building among member parties of Vietnam by faithfully fulfilling international commitments.

Moreover, the Just Energy Transition Partnership agreement (JETP) signed in December 2022 is one of the special benefits that the Vietnamese Government needs to optimize. Under the enforcement of this agreement, the International Partnership Group (IPG) including the EU, the UK, France, Germany, the US, Italy, Canada, Japan, Norway, and Denmark will support Vietnam in achieving its Net Zero target by 2050. Soon, JETP will mobilize about US$15.5 billion of public and private finance to Vietnam in a green transition^[23]. With financial support from important partners, the Government needs to promptly set a plan to allocate and use capital economically to achieve maximum efficiency.

In addition, trade protection policies in Vietnam should be established in the framework of the International Trade Law and the Vietnam Commercial Law, in accordance with four measures: anti-dumping, anti-subsidy, safeguard measures and anti-circumvention of trade remedies. Recently on February 14, 2023, Vietnamese Prime Minister Pham Minh Chinh stressed the cooperation of Vietnam and the EU to effectively implement the EVFTA, which encourages the EU to soon remove the Illegal, Unreported and Unregulated (IUU) yellow card for seafood exports from Vietnam. Therefore, strengthening negotiations and cooperation will help Vietnam reduce other risks when exporting goods to the EU besides difficulties from CBAM.

Finally, the last recommendation comes from Vietnamese enterprises in attracting investment capital. Foreign Direct Investment (FDI) creates a technology spillover effect between domestic and international firms, reducing pressure on green technology transfer. As a result, businesses can minimize the amount of carbon contained in products exported to the EU market, which is essential to reduce costs from CBAM. Seizing that opportunity, Vietnamese businesses can attract high-quality investment projects by implementing advertising, investment promotion and ensuring transparency in accounting and business intermediation.

Conclusion

CBAM is a new but vital tool for the EU in realizing its climate ambitions. As the mechanism enters its transitional period in October 2023, its major influence has been predicted on a global scale. This paper has clarified the operation of CBAM, its compatibility with international regulations, and its impacts on trade and Vietnam’s Net Zero goals. In terms of trade, the application of CBAM reduces Vietnam’s trade competitiveness of important exports such as steel, aluminum, and cement in the EU market. In terms of the environment, this mechanism creates an impetus for Vietnam to cut down emissions in production and accelerate the progress of achieving Vietnam’s Net Zero target while at the same time putting pressure on the green transition. Finally, based on analyzed impacts, the research team proposes solutions for the Vietnamese government and domestic enterprises to proactively adapt to CBAM when it is officially put into operation. However, this study faces certain limitations on the calculation results due to the alteration of actual data. Moreover, the authors’ statements are only subjected to the updated version of the CBAM Regulation in December 2022. Further adjusted regulation by the EU might make the statements no longer relevant. In short, CBAM will be an effective solution in the fight against global climate change, supporting EU and non-EU countries in realizing climate commitments and ambitions if it is well designed and implemented.

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