Deputy director of Department of power engineering development
Head of Department
of economic security in FEC
The authors of the article are considering the possibility of introducing a hydrocarbon tax in Europe. The article analyzes the consequences and risks of such a step for the Russian economy, as the main supplier of energy resources to Europe. The authors also propose a set of measures to reduce the negative impact of the hydrocarbon tax on the Russian economy.
Keywords: Europe, climate agenda, hydrocarbon tax, greenhouse gas emissions.
This year, plans of the EU to introduce cross-border carbon regulation have become one of the hottest economic news even coronavirus pandemic hasn’t managed to suppress. A noble cause of taking care about the climate of the planet can be easily reduced to protectionist measures aimed to support European enterprises. Even at first sight mechanisms under discussions contradict a whole series of international norms and rules. Europe’s largest importing partners have argued against the ‘carbon tax’. As for the Russian enterprises, plans of the European Union can result in hundred billion dollar fees every year which in turn will affect safety of the Russian FES.
The National Security Strategy and the Energy Security Doctrine ratified by the President of Russia pay special attention to economic development and provision of economic safety for Russia. Building up international efforts to implement the climate policy and accelerate the transition to a green economy is directly called the foreign challenge for energy security in these document.
In the framework of the climate agenda related to implementation of the Paris Agreement, the European Union announces extremely ambitious goals for reduction of the volume of greenhouse gas emissions.
In 2019, the European Commission introduced the Green Deal, a set of measures that, according to its developers, would allow Europe achieving carbon neutrality, i.e. a balance between emissions and greenhouse gases, by 2050. Essentially, it’s about a new largescale growth area of the EU and significant changes in the structure of its economy that involve not European enterprises only, but importing partners from abroad as well, since one of the most debatable mechanisms of the Green Deal is introduction of cross-border carbon regulation.
For example, the cost of a hydrogen iron reduction technology is 5 times as high as the cost of a traditional one, but it allows European countries avoiding dependence on imported coal that can’t be extracted on the territory of the EU in a cost-efficient way.
Essentially, introduction of cross-border carbon regulation is an element of pressure on economic sovereignty of countries – trade partners of the EU, since it forces them to accelerate introduction of similar carbon regulation models using fiscal and restrictive mechanisms.
The ‘carbon tax’ on products imported to the European Union is designed to support European producers and increase the competitiveness of their products that have lost their price appeal because of refusal to use traditional energy carriers. At the same time, a decision on turning to more expensive energy sources and reducing material intensity of the EU’s economy was determined with a political objective to stop using resources, production of which was becoming economically unprofitable on the territory of the EU, because critical dependency and a need to import those resources from competing jurisdictions arose. Such an approach can result in a loss of price advantages of products made with the use of traditional energy sources. These measures will be a priori discriminatory by their nature for Russian export-oriented economic sectors, such as (heavy machine building, metallurgy) and oil and gas industry causing significant financial losses. Therefore, to ensure stability of our economy in general and to provide certain economic conditions for FES operation in the context of the EU’s plans for a ‘carbon tax’ are a priority now.
It should be noted that at the moment there is a system of quantifying greenhouse gas emissions and the Emissions Trading System (EU ETS) in place on the territory of the European Union which is extended to the most energy-consuming industries to drive reduction of carbon intensity of the economy.
Essentially, cross-border carbon regulation is
an element of pressure on economic sovereignty of countries – trade partners of the EU.
Parameters for introduction of cross-border carbon regulation are still worked out. At the moment, official public consultations are held that are to be over by October 28, 2020. The European Commission is expected to make a decision on introduction of carbon regulation in Q2 next year. Cross-border carbon regulation is supposed to be integrated into the European Climate Law which is to be adopted in summer 2021. Regulation might come into force to the full extent in 2025–2030.
Possible forms of cross-border carbon regulation that are currently discussed on international venues are application of EU ETS requirements to importers, introduction of a custom duty with a rate to be applied to the volume of greenhouse gas emissions caused by production of goods, or a consumption tax for foreign products. Meanwhile, two latter forms are the most likely to be used. It is worth noting individually that the volume of greenhouse gas emissions to be considered can include both direct industrial emissions and indirect energy-related emissions (emissions caused by generation of energy used to produce goods delivered to the territory of the European Union). The projected price of these emissions is supposed to be based on a level of the current prices at the EU ETS (currently about 20-30 euros per a ton of СО2e).
Positions of Stakeholders
Preliminary consultations held by the European Commission have shown dissimilarity of stakeholders’ positions on all aspects of cross-border carbon regulation, including forms and terms of its introduction, as well as goals, regulation mechanism, industrial coverage, and areas where collected money should be used.
The suggested initiative also serves the economic interests of some member states of the European Union which complicates the search of a consolidated solution.
Even before official consultations some controversies appeared on the international level. Opinions on potentially protectionist and unilateral nature of approach were expressed by government officials from the USA and China. In particular, Wilbur Ross, Minister of Trade of the USA, warned that the country would take countermeasures against the European Union in case the suggested cross-border ‘carbon tax’ was protectionist by nature.
According to Russian experts, carbon regulation mechanisms can’t be called anything but protectionist ones. Suggested focus on fiscal measures will mean that the EU’s importing partners will have to pay for carbon, and the price will be comparable with one in the European market. Under circumstances where international financial institutes restricts the access of Russian companies to low interest credits and long term investments, while there are no tax concessions in the internal market to drive large-scale ‘climatic’ investments, to calculate the carbon footprint of exported products correctly is a vitally important issue for Russia. Such a calculation should take into account to the fullest extent possible not only greenhouse gas emissions caused by the process of production of exported goods, but also related projects on compensation of СО2 emissions implemented on the territory of our country.
It’s required to ensure ‘climatic neutrality’ of our products.
Compensatory projects can be an important business area for Russia considering the global nature of climatic issues and Russia’s potential in field of forest restoration and preservation of boreal forests. Meanwhile, a relevant draft of the European Climate Law doesn’t imply using cross-border offset projects to compensate for emissions in the EU. These projects must be implemented on the territory of the EU. It means, nowadays federal authorities involved in shaping the Russian climate policy, those who represent it on international venues, have to increase efforts on adoption of branch-wise methods of calculating the carbon footprint of products considering both direct and indirect emissions, as well as results of implementation of compensatory projects. Besides, it’s getting more and more important to ensure introduction of the Russian verification and validation system aimed at calculating the reduction of greenhouse gas emissions integrated into the international system as soon as possible. It’s necessary to advocate the interests of Russia at negotiation venues in the framework of the Paris Agreement for the result of Russian compensatory projects to be fully subtracted from the carbon footprint of domestic products.
Introduction of cross-border carbon regulation should be considered in a general context of the Green Deal program aimed not only at reduction of greenhouse gas emissions, but at decreasing the EU’s dependency on supply of energy resources from non-member states. A particularly unfortunate format of carbon regulation mechanism for energy carriers can cause additional pressure on consumers in the European Union, especially in combimnation with other elements of the Green Deal (primarily, with climate regulation). In its turn, it will affect all levels of consumption of Russian energy resources in European markets. Also, it should be taken into account that the Green Deal pays much attention to the growth of ‘environmentally friendly gases’ in the EU. According to some forecasts by ENTSOG (the most aggressive though), a share of gas imported to Europe will be reduced by 10–20% due to the transfer of the European energy to ‘green’ hydrogen received from water electrolysis when using wind and solar power. Negative effects for countries that export traditional energy carriers are obvious.
The European Commission expects to receive €5-14 bln annually in 2021–2027 from application of cross-border carbon regulation. The ‘carbon tax’ is stated as one of sources to fund a large-scale (about €750 bln) plan of financial aid to steer the European Union out of economic crisis caused by the coronavirus pandemic.
According to the Institute of Economic Forecasting of the RAS, financial losses of Russian exporters will amount to €2.8-3.6 bln per year (with a price of 20–25 euros for a ton of СО2e considering direct emissions only) as a result of the cross-border carbon regulation introduced by the European Union. However, it should be taken into account that this analysis includes a wide range of goods, including those within the scope of providing free quotas in the European Union. Introduction of cross-border carbon regulation for a narrow line of products seems the most realistic option.
Cross-border carbon regulation can be integrated into the European Climate Law which is to be adopted in summer 2021. Regulation is expected to start in 2025–2030
Thus, cumulative annual costs of Russian exporters will be about 1 bln euros. It will significantly change the current level of actual fiscal load for sectors that have fallen under this regulation (metallurgy, energetics, chemical industry).
If the basis for calculation of fee in the framework of the cross-border carbon regulation includes indirect energy-related emissions as well, the discriminatory nature of the regulation toward Russian products can be reinforced because of structural specificities of the Russian power supply system.
Compliance with standards of international law
According to some experts, introduction
of a ‘carbon tax’ in the EU doesn’t comply with the WTO rules and creates a threat of double taxation. It’s critical to note that the European Commission considers possible introduction of cross-border carbon regulation based on point 2, Article II of the General Agreement on Tariffs and Trade (GATT) of 1947, according to which import duties equivalent to an internal tax may be imposed.
Meanwhile, the European Union ignores the fact that a part of point 5, Article 3, of the UN Framework Convention on Climate Change directly states the norm that doesn’t allow using any measures aimed at combating climate change to restrict international trade. We can also see a contradiction to point 1, Article XI of GATT (1947) in accordance to which protectionist tariffs may not be imposed, and discrimination for imported goods unlike domestic goods is prohibited, as well as application of any other hidden restrictions of international trade.
On the part of the EU, there can be attempts to rationalize introduction of the cross-border carbon regulation with statements of Article XX of GATT that allows a contracting party to take measures related to exhaustible natural resources if these measures are taken at the same time with restriction of internal production or consumption.
In this regard, it should be noted that Article XX of GATT is unique by its nature in terms of its application (it’s actually called General Exceptions), because it’s determined with two-tier restrictions in the framework of which the following conditions need to be fulfilled:
- a necessity to take exclusive measures, including those related to conservation of exhaustible natural resources, if these measures are taken simultaneously with restriction of internal production or consumption;
- these measures should not become means of random or unjustified discrimination between countries where the same conditions prevail, or a hidden restriction of international trade.
Thus, the order of applying exceptions provided for with Article XX of GATT is a complicated, highly elaborate procedure that requires preparation of a significant evidential base to prove that the suggested measure is aimed at conservation of an exhaustible natural resource (in the context of this discussion the term can be used by the EU to refer to climate) and enables protection of human life and health, as well as protection of animals and plants from a negative effect of the climate change.
On the level of international interaction it is necessary to challenge introduction of cross-border carbon regulation in the framework of bilateral negotiations with the European Union, as well as in the format of respective international and supranational structures (WTO, Paris Agreement, etc.) Also, possible coordination of efforts on preventing introduction of cross-border carbon regulation with states that express their negative positions regarding adoption of the measure (UAE, Qatar, Saudi Arabia and others).
The volume of greenhouse gas emissions can include both direct industrial emissions and indirect energy-related emissions.
Their cost can be based on the price at EU ETS (20-30 euros per a ton of СО2e).
We consider it important for participants of international negotiation venues to promote consistently a thesis about significance of climate change policy mechanisms, discussed in the framework of Article 6 of the Paris Agreement that serve as a basis of international cooperation in field of climate change prevention. Article 6 of the Paris Agreement regulates issues of financial and non-financial interaction between countries when implementing projects to reduce wastes and increase greenhouse gas absorption.
In case cross-border carbon regulation the cross-border carbon regulation is implemented, the Russian industry will face the following key challenges to protect its interests:
- world-scale recognition of data provided by Russian manufacturers about carbon intensity of their products (the volume of greenhouse gases emitted during production calculated per unit of output while compulsorily consideration to compensatory events);
- an opportunity to implement projects on reduction and absorption of greenhouse gas emissions to compensate for carbon intensity of products;
- defining and recording carbon intensity by kinds of products for each certain supplier;
- exemption from payment in case products meet the EU benchmark set for greenhouse gas emissions of goods of a similar category;
- adjustment of the fee for products that don’t reach a benchmark level, but reach average indicators of greenhouse gas emissions in the European Union for a similar category of goods;
- establishment of a transition period for the carbon tax in respect to importing partners;
- providing equal conditions for Russian suppliers and European manufacturers in terms of providing free quotas for greenhouse gas emissions.
To solve the abovementioned problems it’s required to work out Russian branch-wise methods of assessment of the product carbon intensity and ensure their recognition on the international level, as well as to accelerate adoption of the draft of legislation ‘On State Regulation of Greenhouse Gas Emissions and Introduction of Amendments to Certain Legal Acts of the Russian Federation’. These actions will allow shaping a necessary regulatory framework to implement projects on reduction of emissions and increasing absorption of greenhouse gases. In the framework of this work the Ministry of Energy of the Russian Federation is currently designing a method to allocate electrical energy from the electric power system all suppliers (producers) deliver it to, which allows defining indirect greenhouse gas emissions of any production facility.
Another key issue is to design Russian methodological instructions for determination of the volume of greenhouse gas absorption. Our country still doesn’t have a unified method that could estimate the existing potential of the absorption capacity all ecosystems of the country have credibly enough. The existing methodological instructions serve as guidelines and take into account only absorption of ‘controlled forests’ (i.e. the forests with immediate forestry management) without considering the capability of forests located on agricultural lands, lands of the Ministry of Defense of the Russian Federation and lands of settlements to absorb carbon as well. Also, the abovementioned document doesn’t take into account a capability of other biomes, such as meadows, farm lands and water bodies to absorb carbon.
According to the Ministry of Energy of the Russian Federation, to minimize potential consequences of introduction of cross-border carbon regulation it’s worth analyzing all the national projects to design a set of measures aimed at adaptation of the Russian economy and FES in particular to the application of cross-border carbon regulation by the EU.
It’s critical to note that performance of related sectors of the economy, particularly, industry, health care service, defense and others, directly depends on stable performance of FES. Another fact to consider is that 51.8% of the total greenhouse gas emissions falls to FES in Russia. Thus, it’s worth considering the idea of creating a Competence Center based on the Ministry of Energy of the Russian Federation to design unified approaches for regulation of greenhouse gas emissions. Operations od such a center should involve the Ministry of Industry and Trade, the Ministry of Construction, the Ministry of Transport and the Ministry of Agriculture.
A special emphasis should be made on the following. A special role in the Climate Doctrine of the Russian Federation is given to increasing energy efficiency in all sectors of economy as a measure to ensure reduction of greenhouse gas emissions and increased absorption with absorbers and accumulators. In FES it is achieved, among others, through increasing production efficiency and consumption of heat and electrical energy.
Considering EU’s plans for introduction of cross-border carbon regulation, the work on optimization of FES performance the Ministry of Energy of the Russian Federation started as early as in 2014 to reduce fuel consumption for electrical supply is getting more and more relevant. It allows reducing a negative effect of electrical power plants on the environment, including reduction of greenhouse gas emissions. Optimization of the load of generation equipment with an increased share of electrical energy production in a combined cycle; support of modernization of fixed assets at electrical power plants and improvement of FES energy efficiency have already resulted in establishment of stable dynamics for reduction of emissions. Thus, a level of pollutant emissions caused by FES decreased by 19.6% in Russia in 2019 against 2014, and a level greenhouse gas emissions decreased by 6.48%. Special attention should be paid to the fact that it happened in the context of growing volumes of heat and electrical energy production while keeping a share of coal consumption in the fuel balance of the Russian energetics the same.
In conclusion, it should be noted that the unfolding geopolitical situation is a new challenge for the economic safety of FES and, therefore, for the national security of our country. We need to implement some events, including ones on international venues paying special attention to increasing energy efficiency and environmental friendliness of FES. Then such a challenge will not be a threat, but a possibility that enables to develop new areas. We’d like to note that for implementation of suggested initiatives joint efforts of all federal bodies of executive authority are required with active involvement of industrial, expert and academic communities. The Ministry of Economic Development, the Ministry of Energy, the Ministry of Industry and Trade, the Ministry of Natural Resources, the Ministry of Agriculture and the Ministry of Foreign Affairs must synchronize their efforts to respond to challenges and threats the Russian Federation currently faces in field of climate.