Carbon Tax Assets for Carbon Tax Liabilities: Using CBAM to Increase Climate Finance

Abstract

This paper proposes that credits representing emissions reductions – referred to here as ‘carbon tax assets’ – be recognized as an effective carbon price by border carbon adjustment policies such as the EU’s Carbon Border Adjustment Mechanism (CBAM). This would allow exporters to deduct the monetary value of such credits from their CBAM dues and create a new class of carbon tax assets to match CBAM ‘carbon tax liabilities’. This approach aims to increase global climate finance by establishing a market for carbon tax assets generated from carbon mitigation projects in developing countries, thereby presenting a ‘carrot’ for developing countries affected by the CBAM ‘stick’. We show how valuing the carbon tax assets in monetary terms, rather than CO₂ tons, could maintain the EU’s competitive level playing field and avoid carbon leakage while also creating benefits for developing country trading partners. More broadly, by turning the CBAM into the major source of demand for carbon assets, this proposal could make the EU a standard-setter for carbon finance globally and support the environmental integrity of carbon markets such as Article 6 of the Paris Agreement. Finally, we discuss the economic, legal, and environmental challenges to this proposal and suggest next steps for implementation.