What impact does European climate policy have on German foreign direct investment? Monthly Report – September 2024
Published on 9/16/2024
What impact does European climate policy have on German foreign direct investment? Monthly Report – September 2024
Article from the Monthly Report
The European Union first made a binding commitment to reduce greenhouse gas emissions in the 1997 Kyoto Protocol. 1 In 2005, it introduced the European Union Emissions Trading System (EU ETS) as an essential element of its climate policy. Since then, the EU ETS has undergone multiple reforms. Major changes came into force in 2008, 2013, 2021 and, most recently, in 2023 as part of the Fit for 55 package. The EU ETS is based on the cap and trade principle. The European Union sets caps for greenhouse gas emissions (cap), and the Member States issue corresponding tradeable emissions allowances (trade). Over time, the caps are reduced and consequently the number of permits to emit greenhouse gases. Under these conditions, allowance prices have intermittently reached €100 per tonne of carbon equivalent amid sometimes strong volatility, and stood at around €70 per tonne at last count. Given rising emissions costs, individual issuers of greenhouse gases are faced with the choice of reducing their emissions by investing in lower-emissions technologies, acquiring allowances or closing production sites within the scope of the EU ETS that are no longer competitive. They may then potentially relocate production to regions where emissions are cheaper (carbon leakage).
Enterprise-specific data on foreign direct investment and greenhouse gas emissions allows an analysis of whether European climate policy has an impact on German enterprises’ outward foreign direct investment decisions. A Bundesbank analysis empirically examines whether the reforms that entered into force in 2013 and 2021 had demonstrable effects on foreign direct investment decisions. So far, there is no significant evidence to suggest that German enterprises responded to stricter emissions legislation by increasingly relocating production to countries with less stringent climate policies. However, even before the reforms, enterprises with comparatively high greenhouse gas emissions had a disproportionately large presence in non-European countries. Moreover, since 2014, enterprises that mainly operate within the European Economic Area (EEA) have reined in their greenhouse gas emissions more strongly than firms in the same sector with high levels of foreign direct investment outside the EEA.
An internationally coordinated climate policy aimed at broadly uniform emissions prices could prevent multinational enterprises from using their foreign locations to produce under comparatively milder emissions standards. However, a globally coordinated price for emissions appears politically unrealistic. As the second-best solution, the EU could employ economic policy measures in response to international differences in carbon prices, which distort competition. One such measure is the carbon border adjustment mechanism, which was introduced in October 2023. It is also important to provide enterprises with a stable framework on their road to climate-neutral value creation. To this end, the EU and Germany’s Federal Government should formulate clear milestones that leave enterprises sufficient scope to carry out the transformation under their own responsibility. The completion of the capital markets union could benefit smaller and innovative enterprises, in particular, by making it easier for them to access risk capital.
1 European climate policy
European climate policy aims to implement the legally binding international treaties of the UN Climate Change Conference at the European level. These are mainly the result of the Kyoto Protocol, which was adopted in 2005, and its successor, the Paris Agreement, which entered into force in 2018. 2 European climate policy is based on two pillars which together aim to ensure that, by 2050, emissions of man-made greenhouse gases do not exceed greenhouse gas absorption in the territory of the EU. The first pillar is the EUETS, which covers manufacturing, electricity generation and intra-European aviation plus, since 2024, maritime transport. The second pillar is based on European effort sharing. It applies to all sectors that are not subject to the EUETS. Under this pillar, the EU sets out mitigation targets for each Member State, which national governments must implement under their own responsibility.
The EUETS was introduced in all EEA countries in 2005 and has been continuously reformed since then. The first reform package, which launched phase 2 and entered into force in 2008, mainly provided relief for industry compared with phase 1. For instance, it has since then been permissible to offset emissions in the EEA against emissions reductions in third countries. In April 2009, the European Commission adopted further substantial reforms of European emissions trading. These entered into force in 2013 and heralded phase 3 of the EU Emissions Trading System (EUETS phase 3). These reforms involved significant changes: 1.) Since 2013, a cap on greenhouse gas emissions has applied throughout the EEA for the first time. 2.) Emissions allowances are subject to a diminishing cap and must, by default, be bought through auctions. In previous years, enterprises were for the most part allocated allowances free of charge. 3.) Since then, relief for particularly emissions-intensive sectors has no longer been based on the historical emissions of the individual plant. Instead, the most efficient production facilities in the sector serve as the benchmark. 3 In addition, with phase 3, European emissions trading was widened to include not just carbon dioxide emissions but also other greenhouse gases such as nitrous oxide. Their climate impact is converted into carbon equivalents. The terms greenhouse gas emissions and carbon emissions are used interchangeably from now on. A further reform package was adopted in 2018 and culminated in phase 4 (EUETS phase 4). One major innovation introduced as part of phase 4, which entered into force in 2021, is the 2.2% annual reduction in allowance issuance since that year. Previously, this annual reduction factor had been 1.74%. 4 The latest reforms were adopted in April 2023 as part of the Fit for 55 package. They incorporated maritime transport into the existing EUETS and established a separate emissions trading system for the buildings sector and road transport as well as the carbon border adjustment system for imports from countries outside the EEA, which is described below. 5
Prices for emissions allowances rose dramatically in 2021 from around €30 initially to more than €80 per tonne at the end of the year. This suggests that the innovations have had a binding effect and have significantly increased the effective cost of greenhouse gas emissions. In addition to the reduced supply, factors are likely to have been the recovery of the European economy in 2021 following the sharp slump in 2020 and the resulting increase in demand for emissions allowances.
2 Debate on attractiveness of locations and German foreign direct investment
The European Union aims for the transition to a green economy, the European Green Deal, to be effected primarily through market-based mechanisms. This implies that the price of greenhouse gas emissions will have to rise noticeably over the next few years. The price of allowances to emit greenhouse gases are unlikely to come back down until low-emissions technologies are available on a large scale and at low cost. However, if prices are not raised globally, or if they are raised by less elsewhere than within enterprises’ own jurisdiction, there are incentives for them to relocate their production abroad and to manufacture there at a still high or even higher intensity of emissions. This is especially true of energy-intensive enterprises that emit above average amounts of carbon. However, the targeted reduction in greenhouse gases will then only take place within the scope of European climate policy and not globally. European climate policy would be less effective or, in the worst case, even counterproductive (carbon leakage).
Previous studies on the question of whether European climate policy has influenced German enterprises’ decisions on where to locate production and changed Germany's direct investment relations with other countries do not yield clear results. Koch and Basse Mama (2019), for instance, find no evidence to support the theory that the introduction of emissions trading in the EEA countries in 2005 encouraged German foreign direct investment in countries outside the scope of these rules. Böschemeier and Jochem (2024), however, find that the effective cost of carbon emissions abroad is indeed a criterion when choosing where to locate direct investment enterprises, especially for firms with high energy costs and high competitive pressure.
3 Impact of European emissions trading on German outward foreign direct investment
The manufacturing sector accounts for a major share of German greenhouse gas emissions, is not necessarily tied to Germany as a location and may be sensitive to changes in the global carbon price structure. In 2023, the manufacturing sector accounted for 16% of German greenhouse gas emissions. It thus took third place among the economic sectors. The energy sector emitted most greenhouse gases (30%), followed by transportation (22%). The buildings sector accounted for 15% of German greenhouse gas emissions, while agriculture was responsible for 9%. 6
A look at the regional distribution of German outward foreign direct investment shows that countries outside the EEA have attracted more German equity capital in the manufacturing sector in recent years. At the end of 2005, the share of equity capital in manufacturing that was invested outside the EEA stood at 52%. At the end of 2022, it was 68%. 7 On a geometric average of the years 2005 to 2022, the volume of equity capital that German direct investment firms in the manufacturing sector invested in non-EEA countries rose by 10% per year; the corresponding growth rate in EEA countries was only 5%. These figures could point to a gradual relocation of German industrial capacity, though this cannot simply be attributed to European climate policy. In actual fact, decisions on foreign direct investment are made based on a whole range of considerations. In order to make statements about causal relationships, it is therefore necessary to examine how individual enterprises react to specific changes.
Detailed datasets that extend up to the end of 2022 allow an analysis at the level of individual German enterprises of the extent to which the EUETS has already influenced the level and structure of German foreign direct investment in third countries. The study evaluates the global greenhouse gas emissions of German enterprises at group level. 8 This means that the emissions of all corporate units within the group worldwide are recorded and aggregated. This information can be linked to the Bundesbank’s Microdatabase Direct investment (MiDi). This allows an analysis to be carried out at the level of individual German enterprises as to whether the current cap on the volume of permissible emissions in the EEA has already changed the level and structure of German foreign direct investment in third countries.
The introduction of the EUETS and subsequent reforms of the emissions trading system have so far had no demonstrable impact on German firms’ outward foreign direct investment. However, even at the time the EUETS was launched, manufacturing groups with high greenhouse gas emissions were already more strongly represented with affiliates in non-European countries than enterprises with comparatively lower emissions. 9 It appears that energy-intensive enterprises already had a preference to produce in countries with lower energy prices before the EUETS was initiated. It is also conceivable that these enterprises built up production capacities abroad early on in anticipation of the EUETS. On balance, the adjustments made in 2008 tended to make the EUETS less onerous, so they are unlikely to have provided an additional incentive to relocate production. According to empirical studies conducted by the Bundesbank, the reforms of the EUETS in 2013 and 2021 did not induce any significant response in terms of German outward foreign direct investment (see supplementary information “How do reforms strengthening the EU Emissions Trading System affect German foreign direct investment?”). 10
Supplementary information
How do reforms strengthening the EU Emissions Trading System affect German foreign direct investment?
The following analysis explores the direct impact of the EUETS on German outward foreign direct investment (FDI); it finds no significant evidence that European climate policy has already led to enterprises relocating production to countries outside the EEA. The introduction of the EUETS and subsequent reforms are not yet having a noticeable effect on German FDI. That said, particularly emissions-intensive firms were already holding higher FDI stocks in non-EEA countries when emissions trading began than enterprises with lower greenhouse gas emissions.
This exercise builds on two sets of microdata that are linked in a way that sheds light on entrepreneurial decisions at the German group level. The first dataset is the Bundesbank’s Microdatabase Direct investment (MiDi), which provides data on German enterprises’ stocks of outward foreign direct investment. The estimation uses the equity capital of German firms in all areas of economic activity whose foreign affiliates are active in manufacturing. This metric provides the clearest indication if firms relocate their production to avoid emissions or investment costs. The MiDi database also provides information on the German parent company’s turnover. This variable is used to control for the size of an enterprise. The second dataset is the ESG database operated by Institutional Shareholder Services (ISS), which contains data on greenhouse gas emissions at the group level – that is, aggregated across all corporate units worldwide. The analysis uses Scope 1 emissions in terms of carbon equivalents of all the greenhouse gases recorded. 1 The exercises presented below exploit two samples (2011‑14 and 2019‑22), each for 82 countries and 22 areas of manufacturing activity.
The study distinguishes between German enterprises with higher than average and lower than average emissions. The base year for grouping enterprises by emissions intensity is 2012 – that is, the year before the 2013 reform entered into force and phase 3 of the EUETS began. In a first step, all enterprises with foreign affiliates in manufacturing are considered as a whole and classified to a group with higher than average or to a group with lower than average emissions. 2 In a second step, this distinction is made separately for each two-digit economic activity in NACE 2. The various areas of activity differ significantly in terms of their mean greenhouse gas emissions. If the focus of interest lies on the different adjustments comparable enterprises have made in response to European climate policy, it can be worth conducting a sector-specific analysis.
A panel regression is used to test whether enterprises whose carbon emissions are higher than average generally have higher FDI stocks than those with comparatively low emissions. The analysis only considers FDI stocks (\(fdi\)) in non-EEA countries because the EUETS is in force throughout the EEA, meaning that the same framework conditions as in Germany are in operation there. Furthermore, it explores whether the FDI stocks increased in the first two years of phase 3 of the EUETS (\(post_{2012}\)) compared with the two years beforehand and whether enterprises with high levels of carbon intensity (\(high\)) particularly stood out in this regard. This could provide indications that production might have been relocated owing to higher costs.
The estimation is carried out in the form of a panel estimate with fixed effects that capture all the sector-specific developments on the German side. Two-digit NACE 2 codes are used to classify enterprises to different areas of activity. Moreover, the exercise controls for the size of German enterprises as measured by their annual turnover (\(turnover\)). To account for possible serial correlation, a variance-covariance matrix with clusters is estimated across each individual enterprise.
The estimation equation of the analysis reads as follows:
where \(i\) = enterprise, \(j\) = economic sector of the German parent company and \(t\) = time. The variables \(fdi\) and \(turnover\) are fed into the estimation as logarithms, while \(high\) and \(post_{2012}\) are binary variables that can take a value of zero or one.
Enterprises with comparatively high greenhouse gas emissions held significantly higher outward FDI stocks in non-EEA countries during the 2011‑14 observation period, but the reforms of phase 3 of the EUETS had no impact on this. That can be deduced from the results presented in the upper left-hand corner of Chart 2.4. These results demonstrate that the observed FDI stocks of German enterprises did not change significantly in the years after the EUETS entered phase 3, and apply to high-emissions and low-emissions enterprises in equal measure.
Further reforms in phase 4 of the EUETS were adopted in March 2018 and entered into force on 1 January 2021. These notably envisaged stronger reductions in the volume of emissions permitted each year. Following the approach outlined above, the estimation examines whether this adjustment left a mark on German outward FDI in 2021 and 2022 compared with 2019 and 2020.
Emissions-intensive German enterprises were holding higher than average amounts of equity capital in non-European countries both in the years before and after the start of phase 4 of European emissions trading. As with the phase 3 reforms eight years previously, the new rules governing allowance trading have had no significant effects (see top-right hand corner of Chart 2.4).
Classifying enterprises by greenhouse gas emissions within their respective economic sector produces a somewhat different picture. Ranking enterprises within their particular activity enables us to compare firms facing similar challenges as the energy transition unfolds. This exercise begins by breaking down manufacturing enterprises by economic activity based on their two-digit NACE 2 code. After that, a distinction can be made within these activities between enterprises with above average greenhouse gas emissions and those with below average greenhouse gas emissions.
This sector-specific perspective reveals that there was no demonstrable difference between high-emissions and low-emissions enterprises in terms of FDI in non-EEA countries between 2011 and 2014. While the relevant coefficient is positive again in this estimation, the dispersion across the FDI stocks of the individual enterprises within an area of economic activity was so high that it is not possible to draw any statistically significant conclusions (see the lower left-hand corner of Chart 2.4). In this analysis, the general increase in German outward FDI in non-EEA countries after 2012 is now slightly positively significant, but this development was unrelated to the emissions intensity of individual enterprises.
Following the introduction of phase 3 of the EUETS, enterprises engaged primarily in the EEA reduced their greenhouse gas emissions by more than those with high outward FDI stocks in non-EEA countries. Unlike in the four-year period either side of the introduction of phase 3 of the EUETS, higher than average greenhouse gas emissions within an area of economic activity in the 2019‑22 observation period correlated significantly with higher than average outward FDI stocks in non-EEA countries (see the lower right-hand corner of Chart 2.4). A comparison of the underlying microdata shows that this shift was driven by different developments in greenhouse gas emissions during phase 3 of the EUETS: enterprises with high FDI stocks within the EEA reduced greenhouse gas emissions by more than those with high FDI stocks in non-EEA countries, especially from 2016 onwards.
Empirical studies suggest that European emissions trading may have caused firms within the EEA to reduce their greenhouse gas emissions. Overall, German enterprises have continually reduced their greenhouse gas emissions since 2015. By contrast, the greenhouse gas emissions of German firms with direct investment locations in the manufacturing sector rose steadily until mid-2018, only then experiencing a marked decline (see Chart 2.5). This discrepancy is solely attributable to firms with high foreign direct investment outside the EEA. Firms that operated predominantly within the EEA with their affiliates were already emitting less greenhouse gas from 2016 onwards compared with previous years. One possible explanation could be that they increased their investment in emissions-reducing technologies. In this context, it is important to bear in mind that developments in greenhouse gas emissions were driven substantially by only a few large companies.
This finding suggests that European climate policy is capable of reducing greenhouse gas emissions within its area of jurisdiction. Other studies investigating the greenhouse gas emissions of individual firms participating in the EUETS confirm this hypothesis. Colmer et al. (2024) estimate that the EUETS caused the affected French firms to reduce their greenhouse gas emissions by around 15% – without cutting their production at the same time. Böning et al. (2023) come to a somewhat more critical conclusion. While the authors confirm that companies that fall within the scope of the EUETS cut their greenhouse gas emissions in relation to the volume of goods produced, they also find evidence of some carbon leakages, as this reduction was counterbalanced by an intensification of emissions outside the EU.
Future capacity relocations by German enterprises due to international divergences in emissions costs cannot be ruled out. 11 When phase 4 of the EUETS was launched, the available emissions allowances became so scarce that the price for emitting one tonne of carbon rose to over €50 for the first time in May 2021, thus becoming a relevant cost factor. However, production relocations also entail costs and are not always feasible for each and every production process. The incentives for taking such a step are therefore likely to diminish to the extent that innovative technology helps to reduce emissions cost-effectively.
4 Climate policy and international competitiveness
Theoretical considerations suggest that a European climate policy that makes carbon prices higher than in the rest of the world could affect the international competitiveness of firms located here. This would be the case if, in other parts of the world, the external costs of climate change were not internalised to the same extent, or indeed at all, enabling firms outside Europe to produce at lower cost.
The best solution for limiting greenhouse gas emissions worldwide is a coordinated climate policy aimed at establishing a uniform carbon price in as many countries as possible across the globe. 12 This is the objective of the annual United Nations climate conferences. Such a policy would also help to maintain the competitiveness of firms producing in Europe. It could prevent greenhouse gas emissions from being relocated to places where they are not priced at all, or only to a limited extent. In today’s geopolitically fragmented environment, however, it is questionable whether negotiating global carbon prices is possible.
As a second-best solution, the EU therefore decided to impose a carbon price on imports from countries outside the EEA. This is implemented via the carbon border adjustment mechanism (CBAM), a tool intended to protect domestic producers from potential emissions-related competitive disadvantages in relation to foreign suppliers and, at the same time, provide incentives for them to keep their own production in the country. The CBAM entered into force in October 2023, but allows a transitional period. This is deemed necessary because the CBAM entails extensive reporting requirements for importers, which pose serious challenges for small and medium-sized enterprises in particular. 13 Only from 2026 onwards will certain energy-intensive products be subject to gradual carbon pricing in line with their embedded emissions upon importation into the EEA. 14 However, in accordance with the statutes of the World Trade Organization (WTO), a prerequisite for this measure is that the relevant industries in Europe no longer receive any emissions allowances free of charge. The Regulation does not contain any provisions on exports from the EEA to third countries that must compete with suppliers not subject to comparable costs. 15 Consequently, the CBAM does not entirely eliminate the incentives for relocation. 16
Supplementary information
Higher domestic carbon prices in the EMuSe model can contribute to raising imports of emissions-intensive intermediate inputs.
The environmental multi-sectoral (EMuSe) model developed at the Bundesbank (Hinterlang et al. (2023)) can be used to visualise the impact of a carbon pricing regime introduced in Europe with and without a carbon border adjustment mechanism (CBAM) on imports of intermediate inputs. The results can provide indications of whether German enterprises are using foreign direct investment (FDI) to produce more emissions-intensive intermediate goods abroad before importing them, thus potentially circumventing comparatively high emissions costs in Germany. The multi-region version of the model developed by Ernst et al. (2023) is used here to explore this question.
EMuSe is a three-region macroeconomic model with a multi-sector production structure. In addition to key economic variables such as output, consumption and investment, it includes climate-related variables like carbon emissions. The three regions covered by the model are Germany, Europe (excluding Germany), and the rest of the world (excluding Europe). 1 It is calibrated in line with Hinterlang (2024). Eleven economic activities are modelled on the production side. 2 These vary in terms of their size, their use of capital, labour and intermediate inputs, and their emission intensities during production. Firms are able to buy emissions abatement technologies in each period and do so depending on the carbon price and abatement costs. As a result of the high global carbon emissions and thus the mounting level of carbon in the atmosphere, climate change causes damage that reduces productivity. Carbon pricing is the main instrument of market-based climate policymaking. It can be introduced either directly via a carbon tax or indirectly by setting the total volume of permissible emissions (see also Deutsche Bundesbank (2022, 2024)). We simulate two policy scenarios in the model:
Europe imposes a carbon price.
Europe imposes a carbon price plus a carbon border adjustment mechanism. That includes a carbon border adjustment tax levied on imports from the rest of the world, while exports are exempt from the carbon price. 3
Based on NGFS (2022), our assumption here is that the carbon price increases roughly 25-fold over the 2020 carbon price up to the year 2050, before declining again and remaining constant at 13 times its original level (Net Zero scenario). The carbon price applies throughout Europe to all economic activities. Border adjustment taxes are levied at the domestic carbon price on the estimated emissions content of imports from the rest of the world.
If Europe introduces carbon pricing, all European regions suffer aggregate economic losses initially. They do recoup those losses over time, however. Chart 2.6 shows the effects on selected variables in the three regions. These losses come about because production costs increase and products become more expensive relative to those from the rest of the world. Higher prices reduce real income and demand, because consumption falls. At the same time, emissions decline as a result of the increased carbon price. As a consequence, the economic damage diminishes worldwide because global productivity goes up. The rest of the world, where carbon is not priced, benefits over the medium to long term from falling emissions and positive trade effects. Some of the carbon emissions cut domestically are relocated abroad (carbon leakage). In the short term, however, the income effect prevails because value added falls slightly in the rest of the world as well.
A carbon price has a particularly negative impact on the comparatively carbon-intensive activities that also fall within the scope of the EU Emissions Trading System (EUETS) (see Chart 2.7). These include energy (B, C19, D) as well as certain manufacturing (CETS) and transportation (HETS) activities. The carbon border adjustment mechanism changes the trade effects only marginally, given that the resulting relative price increase for foreign goods is rather small. It reduces carbon leakage but does not prevent it (see also Ernst et al. (2023) for a detailed discussion). Domestic carbon-intensive activities benefit more than clean activities from the carbon border adjustment mechanism.
Imports of intermediate inputs rise over the medium to long term as a result of the carbon price. This is because domestic products become more expensive in relative terms, meaning that they tend to be purchased abroad. Hence, in as far as German enterprises build up production capacities abroad to carry on sourcing certain intermediate goods cheaply (from abroad instead of domestically as hitherto), German FDI rises as a result of the carbon price. This is notably the case for emissions-intensive activities such as energy (B, C19, D) and manufacturing activities that fall within the scope of the EUETS (CETS). Imports of intermediate inputs are seen to decline in the short term as aggregate output is lowered by the higher carbon prices. Demand for intermediate inputs declines accordingly across the entire production range, and thus in absolute terms. 4 But because imports of intermediate inputs fall less strongly than output, their percentage share increases already in the short term. From around 2050, output picks up again on the back of productivity gains made possible by the reduced damage caused by emissions. Furthermore, consistent with the NGFS’s Net Zero scenario, we assume that the carbon price follows a downward path after 2050. At the same time, the ratio of imports of intermediate inputs to output declines because the uptake of domestic intermediate inputs rises again.
The carbon border adjustment mechanism reduces and delays this effect because it makes intermediate inputs from the rest of the world more expensive by imposing a levy on imports. For domestic enterprises, this reduces the incentive to source intermediate products from abroad. However, owing to the increase in the cost of imports, the carbon border adjustment mechanism causes an additional distortion: because product prices go up overall, real income and output both go down. Nor can the mechanism fully offset the competitive disadvantages even if, as assumed here, exports are exempted from carbon pricing because, as hitherto, carbon pricing is limited to goods and services that are brought to market in Europe or produced there. For this reason, the effect of the carbon border adjustment mechanism on macro aggregates is comparatively small.
The Bundesbank’s EMuSe model can simulate the effects of carbon pricing and the CBAM. Since the CBAM did not enter into force until October last year and also allows transitional periods, it is not yet possible to empirically evaluate its effects on economic activity and greenhouse gas emissions. These can be simulated, however. To achieve this, the Bundesbank uses its environmental multi-sectoral (EMuSe) model. It can map various regions (here: Germany, Rest of Europe, Rest of world) and sectors and illustrate the impact of rising carbon costs on greenhouse gas emissions and key economic indicators. 17
The model finds that, viewed in isolation, rising carbon costs in Europe lead to a decline in global greenhouse gas emissions, but adversely affect international competitiveness here. According to the simulation, this will lead in the medium term to firms importing more intermediate goods instead of producing them domestically. The model does not capture whether firms acquire these goods from their own foreign affiliates or from third-party suppliers.
The CBAM is able to address this loss of international competitiveness effectively; in its current form, however, it does not fully compensate for the competitive disadvantages faced by European firms. This is because – unlike in the simulation presented here – exports from the EEA fall within the scope of the EUETS and compete on the world market with products from third countries. The CBAM is less effective than a globally coordinated climate policy in limiting worldwide greenhouse gas emissions, too. Outside the EEA, the costs of climate change are left largely unaccounted for; here, only products manufactured in the EEA tend to become more expensive.
Framework conditions that encourage innovation in low-emissions technologies are crucial to effective climate policy. 18 Carbon pricing is itself likely to have certain incentivising effects on innovation, from which the model abstracts. Other factors such as swift approval procedures and a clear economic policy strategy are also key in ensuring planning certainty for firms. Above all, particularly innovative start-ups are also likely to benefit from advances in the European capital markets union, which promises improved access to European venture capital and reduced reliance on non-resident investors, especially from the United States. 19
5 Conclusion
To date, European climate policy has not yet led to widespread relocations of energy-intensive production abroad by domestic firms. Nonetheless, there are indications that international groups reduced greenhouse gas emissions more sharply within the EEA than in countries outside the scope of the EUETS. Should carbon pricing remain significantly higher in Europe than in the rest of the world on a lasting basis, this could create incentives for increased relocations of particularly emissions-intensive production processes to countries with less ambitious climate policies.
An internationally coordinated climate policy would counteract such circumvention. However, efforts to persuade as many countries as possible to make binding commitments have met with considerable difficulties. It is therefore questionable whether this route alone will be sufficient to achieve the objectives set out at the international climate change conferences in Kyoto and Paris.
The CBAM is a suitable tool for avoiding carbon leakage, but it is less efficient in terms of achieving global climate targets. This is because, ultimately, only goods brought to market in the EEA are subject to carbon pricing. Furthermore, European producers would remain at a disadvantage on the world market, as they would have to compete with suppliers not obliged to compensate for greenhouse gas emissions. Finally, the CBAM entails a not insubstantial bureaucratic burden for European importers, as they have to provide comprehensive declarations of imported goods.
From a regulatory perspective, policymakers at the German and European levels should strive to facilitate innovation in green technologies by ensuring suitable framework conditions and thus incentivise investment from both international and domestic sources. Ideally, costly subsidies could then be avoided, and private capital could be mobilised instead. The prerequisites for this are planning security, swift approval procedures and a deep, harmonised capital market.
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