Carbon leakage in the EU ETS in relation to trade-adjusted emissions – are European emissions outsourced?

Abstract

As climate change continues to impact the world, a relevant policy to internalize the costs of carbon dioxide emissions is carbon pricing. Through the EU ETS, the EU has reduced its emissions according to traditional accounting, however the question remains whether this decrease accurately represents the emissions caused by the EU countries, or whether emissions are being outsourced through international trade. This study investigates whether production-based emissions reflect the true consequences of the increased environmental policy stringency of the union, or whether adjusting emissions for trade provides a more accurate representation. This is investigated by examining the developments of production- and consumption-based emissions per capita since the introduction of the EU ETS. The study employs a panel data analysis of 28 EU countries from 2005 to 2022, and specifically explores the sign of potential carbon leakage through increases in allowance prices of the EU ETS. It was found that in most of the countries observed, consumption-based emissions exceed production-based emissions. Their difference, net imports of emissions, remains relatively stable, comprising a growing share of consumption-based emissions, thus suggesting that emissions are being outsourced, percentage-wise. The regression analysis conducted found that net imports of emissions increase as production-based emissions decrease, potentially indicating outsourcing, but found no evidence of carbon leakage due to increased prices in the EU ETS.