The EU Carbon Border Adjustment Mechanism (CBAM) is an environmental policy designed to tackle carbon leakage. Carbon leakage refers to the situation where EU producers relocate their production facilities to regions outside the EU that lack carbon pricing mechanisms or have less stringent climate policies in place.

An alternative way to obtain allowances is to receive them from the authorities for free. During the first compliance years of the EU ETS, almost all allowances were distributed to companies for free. Since 2008, the percentage of freely allocated allowances has been progressively decreasing.

As countries seek to reduce their national greenhouse gas emissions in a cost-effective manner, carbon pricing instruments are introduced in new jurisdictions and countries. The economic and financial implications for businesses go beyond the price tag that these instruments attach to their unabated emissions. There is more than meets the eye.

The European Union Emissions Trading System (EU ETS) is Europe’s primary regulatory instrument for reducing greenhouse gas (GHG) emissions. It works by setting a declining limit on the aggregate emissions it covers and by allocating an equivalent amount of tradable pollution permits to the regulated entities. These permits are called European Union Allowances (EUAs).