Climate change in trade
By Kim Sung-woo
It has been a recent trend that trade is often linked with the environment in international societies. While an increased number of WTO agreements and FTAs continued to lower cross-border tariffs, many countries also introduced non-tariff barriers to protect their own domestic industries. Under this international trend, there has been a movement to implement environment-friendly trade policies, which connect trade with the environment. In particular, climate change has been the main environmental topic frequently linked with trade due to its close relationship with industries.
Despite the international societies' continuous endeavors to respond to climate change for the past 30 years, the carbon dioxide concentration in the atmosphere has been breaking its own record every year, and abnormal climate has become more extreme than ever before. This appears to be inevitable as each country naturally puts its own interests before the world's common interests and prioritizes short-term, rather than long-term, benefits. However, as carbon emission started to be included in trade policies, there have been policies that not only support each country's own interests but also contribute to the reduction of carbon emission (i.e., the world's common interest), thereby forming a new expectation on climate response.
This environment-trade linkage has been centered on the United States and Europe (EU). To respond to the U.S. Inflation Reduction Act (IRA) which provides substantial financial support to clean energy projects, the EU announced the Green Deal Industrial Plan in February 2023, adopted the Temporary Crisis and Transition Framework, and proposed/initiated the legislative procedures for the Net-Zero Industrial Act and Critical Raw Materials Act in March 2023. This series of efforts appear to be aimed at the carbon reduction industry (e.g., clean energy projects) by providing the government's strong support for domestic investments in carbon emission reduction.
Further, the EU's Carbon Border Adjustment Mechanism (CBAM) will enter into force in its transitional phase in October 2023, which will put a fair price on carbon-intensive goods that are imported into the EU. In addition, the United States' President Joe Biden and European Commission President Ursula von der Leyen reaffirmed in March 2023 to put the Global Arrangement on Sustainable Steel and Aluminum (GASSA) at the center of Trans-Atlantic climate trade cooperation and announced that they are committed to reaching an outcome of the GASSA negotiations by October 2023 to address steel oversupply and decarbonization issues. As such, other countries are also expected to join this movement.
We also notice the impacts of this environment-trade linkage. For example, within six months of the enactment of the IRA, approximately USD 90 billion of investments were announced for environment-friendly technology projects in the United States. On the other hand, a Swedish battery manufacturer renounced, in May 2023, its earlier plan to build a new manufacturing facility in the United States to get benefits under the IRA, and redirected its investments to Germany, evidencing the effects of the EU's countermeasures to the IRA. From the perspective of carbon reduction, the United States expects a 40 percent reduction in greenhouse gas (GHG) emissions by 2030 (compared to the 2005 levels) under the IRA, and the EU targets to reduce GHG emissions by at least 55 percent by 2030 (compared to the 1990 levels, known as “Fit for 55”) through the CBAM and others.
Given its carbon-intensive industrial structure, South Korea needs to accomplish decarbonization much faster than other countries. However, as it heavily depends on exports, it is understandable that the Korean government is rather hesitant to join this international trend.
Nevertheless, considering that the United States and the EU are at the verge of a major transition to blue ocean markets, the crucial issue for South Korea would be how fast it can implement existing relevant policies, as opposed to the timing or the amount of financial supports under a new environment-trade linked policy.
In fact, there is a relevant policy whose implementation can be further facilitated.
It is a carbon pricing system, titled GHG Emission Trading Scheme (ETS), which has been in force since 2015. Under the ETS, the carbon price has been put on corporations, which cover approximately 73 percent of South Korea's total GHG emissions.
If we can send a signal on proper carbon pricing to the ETS market, and utilize the funds generated from carbon pricing to support those industries that can quickly gain global competitiveness, this feedback loop system would make it possible to not only facilitate the progress of carbon neutrality but also effectively respond to the international trend of environment-trade linkage. However, improvements in applicable regulations and support for relevant infrastructure must be provided in parallel.
The private sector must also pull its own weight to reduce carbon emissions associated with its products. As trade becomes linked with the environment more often, the amount of carbon emission is being added to the “certificate of origin” trade standard. For example, the French government announced a green industry bill in May 2023, which lists the amount of carbon emission of the electricity used and the carbon footprint of parts as subsidy evaluation criteria for electric vehicles.
Accordingly, if an electric vehicle was manufactured with (i) the electricity generated with a high fossil fuel content or (ii) carbon-intensive parts, such an electric vehicle would likely get less subsidies. In a similar vein, manufacturers of electric vehicles would need to use steel with less carbon emission. In other words, to sell more electric vehicles or steel for electric vehicles in the global markets, it would be necessary to reduce carbon emissions. Further, electric vehicles would not be the only product at issue.
Kim Sung-woo is head of Environment & Energy Research Institute at Kim & Chang.