EU’s CBAM (Carbon Border Adjustment Mechanism) has taxes on imports based on carbon content, on top of other regular custom duties. Its transitional phase started on October 1, 2023, and the first reporting period ends on January 31, 2024, when the importers in the EU member states are required to register details of emissions embodied in all their imports and effective carbon price in the exporting country, by source and commodity classification, based on a detailed template provided.

A glance at this template suggests that there is a huge amount of complex information that is being solicited, such as direct and indirect emissions, from various production stages in a particular commodity imported.

There is no requirement for authentication/verification at this stage for reporting; different methodologies allowed to report emissions till the end of 2024 — EU method or an equivalent method, or until July, another method based on default reference values.

EU importers then need to buy CBAM certificates and surrender them to the tune of emissions embodied, while they can get refunded for any effective carbon price in the source country.

Strategising for CBAM

There is no time left to strategise on how to face CBAM. The stated objective of CBAM has been to avoid “carbon leakages” that happen due to the regulatory arbitrage driving EU companies to move out of the EU to countries that have less stringent carbon regulations.

While India and other countries may join hands to fight against the European Union in the WTO on the issue of CBAM, it is unlikely to deter the EU, as this is designed to be completely compliant with the WTO rules. EU’s move can hurt Indian exporters, particularly of sectors like iron and steel, aluminium, electricity, hydrogen, fertilizers and cement.

Until January 1, 2025, all countries are allowed to report their equivalent carbon taxes based on their own reporting systems, but after that, only the EU methods will be accepted. In such a backdrop, it is important to establish an equivalence between taxes on fossil fuels and carbon prices.

Carbon taxes are imposed on the carbon content of fossil fuel supply and are therefore a carbon-pricing instrument. Thus, fuel taxes can be seen as implicit carbon taxes. Furthermore, fossil fuel subsidies in India are among the lowest in the world.

Despite not levying carbon taxes, India employs an array of schemes and implicit taxation mechanisms that effectively place an implicit price on carbon. Examples include Coal Cess, Perform Achieve Trade schemes, and Renewable Energy Certificates.

For instance, Goa levies a ‘Green Cess’ on polluting products, while the Uttarakhand has introduced an ‘Eco Tax’ on vehicles entering the hill station of Mussoorie. Carbon taxes are imposed on the carbon content of fossil fuel supply, thus serving as an indirect carbon-pricing instrument. At present, India ranks among the countries with the highest fuel taxes worldwide.

Coal is the most abundant fossil fuel in India, accounting for 55 per cent its energy needs. Indian industry was built upon indigenous coal. According to the Coal Ministry, commercial primary energy consumption in India has grown by about 700 per cent in the last four decades.

Rising energy demand

The current per capita commercial primary energy consumption in India is about 350 kgoe/year, which is well below that of developed countries. Driven by the rising population, a rapidly growing economy, and a need for improved quality of life, energy usage in India is increasing. Considering the limited reserves of petroleum and natural gas, eco-conservation restrictions on hydel projects, and geopolitical perceptions of nuclear power, coal will continue to dominate India’s energy scenario.

It is the primary input for thermal generation and is currently under the GST. The situation is similar to the oil industry, where producers are under the GST regime, but petrol and diesel, the end-products of crude, are not and are heavily taxed by both the Central and state governments.

In 2010, the Government introduced a Clean Energy Cess on coal which was abolished and subsumed by a new cess called the Compensation Cess with the rollout of the Central Goods and Service Tax (GST). Under GST, coal (along with ovoids, briquettes, and similar solid fuels manufactured from lignite, coal, whether or not agglomerated, excluding jet, peat (including peat litter), (whether or not agglomerated) is subject to tax of ₹400 per tonne.

However, on petrol, liquefied petroleum gas (LPG), or compressed natural gas (CNG) (driven motor vehicles of engine capacity not exceeding 1200cc and of length not exceeding 4000 mm), a 1 per cent GST Compensation Cess is levied. However, there has been criticism surrounding the GST Compensation Cess and how the revenue generated by the Coal Cess (pre-GST) around 2010 was later used for GST Compensation Cess. Only 18-20 per cent of the revenue from Coal Cess was used for its intended purpose.

The price per tonne of steel in India is roughly €800 ($874) (₹72,300.36) to €900 ($960) (₹79,414.58), and the tax on coal in India is roughly €5 ($5.40) (₹446.71) per tonne of coal. Given that around eight tonnes of coal are needed to produce a tonne of steel, and the carbon tax on coal amounts to roughly 60 per cent of the price per tonne of coal, this results in a roughly 5 per cent tax on the price of steel, which is similar to the rate that EU applies to its steel producers.

Currently, at their nascent stage, the Indian steel and cement industries are responsible for 10-15 per cent of emissions. While the ‘SteelZero/Green Steel’ initiative is in play to bring leading organisations together to accelerate the transition to a net-zero steel industry, the demand for steel is expected to quadruple in the coming years.

During the UN Climate Summit in 2021, India reiterated the need to phase down unabated coal usage instead of phasing it out. Although India is a net importer of petroleum products, it garners substantial revenues through cesses and taxes on petrol, diesel, and oil.

These taxes serve as effective policy instruments to mitigate the adverse impacts of fossil fuel consumption and encourage a transition towards cleaner energy sources. It is also important to recognise these policy instruments as effective carbon taxes, so as to face the global challenges like CBAM effectively, and to avoid a reduction in the already slipping competitive advantage of India in many sectors.

The writer is Fellow and former head, Trade, Commerce, NITI Aayog