Industry

While the CBAM does not include CDR explicitly yet, there are a strong rationale for including it and several different ways it could be included.  

 The CBAM is intended to mirror the conditions that European Economic Zone actors experience when they emit carbon and fall subject to the EU Emissions Trading System (ETS). Assuming the EU-ETS includes permanent CDR within its scope to enable participants to reduce net emissions in 2030 at the earliest, a case can be made to integrate removals in the CBAM to make the two mechanisms work under the same rules. This would require clear rules on MRV mechanisms, with removals limited to hard-to-abate sectors. The CBAM could integrate CDR within its scope first, as it gradually phases in starting 2026.   

CDR could be included either directly or indirectly within the CBAM: 

1. By authorising importers to buy durable removals to compensate a share of the embedded emissions and reduce their CBAM obligations. A clear mention of this measure could be made in Article 7. This addition could be done in accordance with the forthcoming CRCF by clearly specifying that only permanent removals are allowed. 
2. By recognising CDR as a way to reduce a product’s overall embedded emissions, therefore reducing the product’s net-direct emissions. For example, a steel-making factory in a non-European country could buy durable CDR credits in its country of operations to reduce the product’s emissions. 

The revenues generated by the CBAM will go to the general EU budget. Since the CBAM covers many hard-to-abate sectors that will likely continue generating GHG emissions in the long term, it could be argued that some of the revenues generated by the CBAM could be used to incentivise/support CDR development/deployment. A share of the revenues could be used to finance the Innovation Fund.  

Including CDR within the CBAM does come with some risks. Among others, it could enable greenwashing and disincentivise decarbonisation along value chains. While the CBAM itself might not contain the tools needed to tackle these two risks, other EU legislations could help address these risks. Greenwashing will likely be prevented by the Green Claims Directive, whilst the EU-ETS incentivises European companies to reduce their emissions.  

Whether CDR could be used to circumvent the CBAM or not should be clearly defined, and if yes, clear eligibility criteria should be created and agreed upon. Effectively, only high-quality removals should qualify, and priority should be given to reducing embedded emissions in the first place. EU policymakers still need to discuss and agree on the methodologies related to embedded emissions accounting, which could provide some opportunities to promote a stringent and robust approach to CDR under the CBAM. For example, indirect emissions could be reduced or even negated if BECCS is allowed in the methodology. 

CBAM in perspective 

The CBAM is not only considered an essential tool to achieve the EU’s climate objectives but also serves to ensure the EU’s industrial competitiveness with the rest of the world. However, while it puts European production on a level-playing field with imported products, European exports are currently still at a disadvantage. How this issue is tackled remains to be seen, as carbon leakage could still occur if a company shifts its share of European production going to the rest of the world outside of the EU.  

Other geographies are also engaging with similar ideas. The United Kingdom is currently going through a public consultation as to whether it should introduce a CBAM. Interestingly, one of the questions asked pertains to whether carbon credits should be used to offset emissions. The United States is currently reviewing the “Clean Competition Act”, which would create a CBAM for the USA. California has already put in place a system similar to the CBAM regarding electricity imports in some situations, and Canada is considering adopting a border carbon adjustment mechanism. 

As one pillar of a larger Green Deal Industrial Plan, the NZIA is meant to strengthen and support the EU’s capacity to reach its climate goals. It ensures Europe seizes the potential to be a world leader in the global net zero industry in the context of strong support for net zero technologies coming from different parts of the world, such as the United States’ IRA.

(Strategic) net zero technologies

The NZIA proposes key developments for net zero technologies. Two main aspects of the definition are particularly relevant: (1) the definition is not technology-neutral, it identifies key areas to be addressed, and further lists a family of eight strategic net-zero technologies, which benefit from even faster permitting, priority status, and in some circumstance of overriding public interest, and (2) net zero technologies must be at least Technology Readiness Level (TRL)  8. CDR is not explicitly listed as a strategic net zero technology, and the TRL 8 requirement would exclude most CDR methods. However, if based on TRL only, some could fall under the definition of ‘innovative net zero technologies’, e.g., some forms of direct air capture are considered TRL 7. This flaw of the proposal could be addressed by co-legislators by adding carbon removal in the definition of net zero technologies and in the related annex.

CO₂ injection capacity target to incentivise CO₂ storage infrastructure

The NZIA proposes a 50 million tonnes per year of CO₂ injection capacity in the EU by 2030. The act rightly identifies the lack of storage capacity as one of the largest bottlenecks for CO₂ capture investments. One of the key aspects of the act is the transparency of CO₂ storage capacity, including the obligation for member states to make publicly available data on sites that can be permitted on their territory, as well as reporting on CO₂ capture projects in progress, and their needs for injection and storage capacity. The NZIA clarifies that CO₂ injection capacity will also be available to accommodate CDR, but provisions are not proposed to ensure the shared CO₂ infrastructure can efficiently be used to accommodate both CCS and CDR methods. A comprehensive and coordinated approach to carbon management that considers both CCS and CDR is needed to ensure that limited CO₂ storage capacity is used effectively to reach the EU’s climate neutrality targets. The target will need to be continuously reassessed to meet the storage needs in the EU, especially beyond 2030. Furthermore, separate provisions to ensure adequate transport infrastructure should be foreseen. The European Commission estimates that about 550 million tonnes of CO2 may need to be captured annually by 2050 to meet the net zero objective.

Oil and gas producers’ responsibility to develop the EU  CO₂ injection capacity has the potential to be a world-leading initiative

The NZIA Article 18 introduces an innovative obligation on oil and gas producers to take responsibility for building EU CO2 storage infrastructure subject to the EU’s injection capacity target. This obligation could introduce an element of producer responsibility for fossil fuel producers in a similar way as producers of packaging, car tires, and other products are required by law to take responsibility for the environmental footprint of end-of-life disposal. If confirmed, this provision would also allow the development of open carbon storage sources by mapping and hosting transparent, open data on carbon storage resources, much of which is held today by private companies. Critical details of this obligation, such as how different sources of CO₂ for storage are prioritised or barred, which entities, beyond oil and gas producers, are required to build the CO₂ infrastructure, and the procedures to determine their location remain open and need further attention.

Fresh funding is needed

The proposal establishes new initiatives, such as the “Net Zero Europe Platform”, that will discuss the financial needs of the net zero strategic projects and could be key in advising how the financing of these projects can be achieved. Beyond this, the NZIA is anchored in already existing funding mechanisms such as Innovation Fund, InvestEU, Horizon Europe, Important Projects of Common European Interest (IPCEI), the Recovery and Resilience Facility, and Cohesion Policy programmes. Clarity on new and additional funding will be key, as bigger goals will require bigger means that can support the variety of CDR methods at different TRL stages.

Update to the ETS

The ETS was revised as part of the Commission’s ‘Fit for 55’ package, which aims to introduce new or improve existing legislative tools for achieving the EU’s target of reducing net GHG emissions by at least 55% below 1990 levels by 2030. The proposed changes to the ETS include:

• Increased ambition to reduce emissions by 62% in the sectors covered by the ETS by 2030  and reduction of the cap by 4.3% per year in 2024-2027, and by 4.4% in 2028-2030.
• End of free allowances for sectors covered by the Carbon Adjustment Mechanism (CBAM) in 2026-2034.
• Phase-out of free emission allowances for aviation (25% in 2024, 50% in 2025 and 100% from 2026).
• Inclusion of maritime shipping in the ETS.
• Creation of a separate ETS for the building and road transport sectors, applying to the distributors that supply fuels for combustion. A new Social Climate Fund will direct part of the revenue from the auctioning to support vulnerable households and micro-enterprises.
• Increase in the Modernisation Fund and Innovation Fund.
• Strengthening the market stability reserve (MSR), the mechanism to help prevent excessive carbon price fluctuations.

Support for CDR through the Innovation Fund

Although the EU ETS is designed to incentivise emissions reductions as opposed to carbon removals, money raised through auctions of emission allowances under the ETS are reinvested into the EU’s Innovation Fund, which provides a source of funding support for technology-based CDR methods among other low-carbon technologies.

For more information on the link between CDR and the Innovation Fund, see here.

Should carbon removal be integrated into the EU ETS?

The inclusion of carbon removal (with permanent storage of captured carbon) in the EU ETS is subject to a nascent and growing debate in the EU policy ecosystem, in anticipation of the announced Commission report. Integrating negative emissions into the ETS would allow participants to offset a portion of their emissions by purchasing carbon removal credits. This, in turn, could create a potential long-term market for CDR.

Including removals in the EU ETS could have a number of benefits. As the ETS allowance cap is steadily reduced over time, integrating negative emissions would create additional market liquidity and decarbonisation options for hard-to-abate sectors. It would therefore help to satisfy demand for removal credits or allowances from hard-to-decarbonise sectors like aviation and would allow for carbon removal credits to be easily integrated into existing market infrastructure and trading platforms.

Carbon removal project developers and investors would gain greater confidence that there will be sustainable long-term demand for carbon removal credits. It would also allow removal projects to benefit from the carbon price. However, the price differential between the cost of CDR and the EU ETS carbon price will be a key consideration. The EU ETS would only incentivise CDR solutions within a certain range of the ETS price. This could be sufficient for some approaches such as BECCS (cost at scale  USD 15 – 400/tCO₂) and waste-to-energy with CCS, but additional incentives would be needed for direct air capture given its higher price point (cost at scale USD 100 – 300/tCO₂) – although this is expected to change as technologies improve and costs of different methods decrease. Complementary incentive mechanisms such as Carbon Contracts for Difference (CCfDs) could bridge the gap between the actual cost of certain CDR methods and the EU ETS carbon price to drive the investment needed. The Commission is considering CCfDs as part of the overall agreement on the revision of the ETS Directive.

However, it is imperative that the potential inclusion of carbon removal credits in the EU ETS does not undermine the incentive for emitters covered by the ETS to decarbonise, or the urgency with which they should do so. One option to address this risk would be to limit access or quantities of removals to specific sectors that are harder to decarbonise and more likely to have residual emissions.

Another important consideration is the impact that any inclusion of CDR in the EU ETS would have on the integrity of the market. Developing robust monitoring, reporting and verification (MRV) standards would safeguard the integrity of the ETS. The introduction of these standards is underway under the EU’s CRCF legislation.

An alternative approach might be establishing a separate, regulated negative emissions market. This separate market could later be linked with the EU ETS after the differential between CDR and ETS prices has been reduced and CDR technologies have a demonstrated track record at scale.

The EU ETS & other markets

The EU ETS was the world’s first international emissions trading system when it was set up in 2005. It has since inspired the development of emissions trading in other countries and regions, including most recently the UK and China. The potential role of the UK ETS as a market for CDR has been explored through a call for evidence published by the UK ETS Authority in 2022, the outcome of which is expected in 2023. In 2017, the EU and Switzerland signed an agreement to link their emissions trading systems. The agreement entered into force on 1 January 2020, and the link became operational in September 2020.

Together with the ETS and LULUCF, the ESR is one of the three central pieces of EU climate legislation, which steer efforts to reduce total greenhouse gas emissions by 55% in 2030 below 1990 levels as outlined in the European Climate Law. All three have been revised to increase ambition and ratchet up the 2030 target through the ‘Fit for 55’ package and negative emissions will potentially be able to play a role in each of them.

A key aspect of the ESR is the flexibilities of countries to reach their targets more efficiently. These flexibilities are intended to decrease a country’s burden, and give the ESR some characteristics of a carbon market:

1.Temporal and international flexibilities:

• Banking: If a country’s GHG emissions are lower than its annual allocation under the ESR, it may use part of its surplus in the following years and until 2030;
• Borrowing: If a country’s GHG emissions are higher than its annual allocation under the ESR, it may borrow from the following year’s allocation (up to 7.5% of the annual allocations from 2021 to 2025 and up to 5% from 2026 to 2030);
• Trading: Countries may buy or sell allocations to meet their annual targets (up to 10% of their annual allocations from 2021 to 2025 and 15% from 2026 to 2030).

2. Sectoral flexibilities:

• ETS and ESR: Nine Member States’ allowances (with national reduction targets above the EU average and their cost-efficient reduction potential, and Malta) may make use of a limited percentage of ETS emissions to reach their ESR reduction targets;
• LULUCF and ESR: Countries may use a constrained number of net carbon removals in the LULUCF sector to meet their emission reduction targets under the ETS.

Under the proposed amendment of the ESR, the total net carbon removals, which may be considered for reaching ESR targets, may not exceed 225 Mt CO₂e across all Member States. Previously the maximum was 280 Mt CO₂e. The quantity of net carbon removal was also determined and limited for each Member State individually. To avoid emission reduction deterrence, the new proposal also foresees additionally capping the use of carbon removals under the ESR in two time periods, the maximum allowance equally split between 2021-2025 and 2026-2030.