Proposals for effective carbon pricing – leakage and linkage considerations
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Putting a price on carbon represents an important way for governments to drive emissions reduction, needed to achieve the goals of the Paris Agreement. The goal is to discourage the use of carbon dioxide–emitting fossil fuels to protect the environment.
As a result, carbon pricing is gaining momentum globally, with over 70 carbon pricing systems in existence and studies showing that 80% of countries have expressed interest in using international market mechanisms to meet their climate targets. This broad range of carbon pricing systems has created a fragmented international climate policy landscape, compounded by administrative complexity.
As local and regional carbon pricing instruments are being put in place, there is a growing risk of shifting emissions outside the countries that take action to mitigate emissions domestically. Several countries and regions, which have led change on carbon pricing, have introduced measures or are planning to do so to mitigate the risk.
Recognising the growing concern around the risk of leakage, ICC provides guidance for governments and policymakers to support the development of effective carbon pricing policies that allow countries to increase cooperation – which can ultimately lead to increased climate ambition. ICC is convinced that international cooperation is essential to develop a consistent and coherent international approach built on broader principles for effective emission reduction.Such an approach is key to creating a global framework that better facilitates cross-border trade, investment and economic growth.
This report, launched at the margins of COP28 in 2023, analyses the effect of carbon pricing on inflation and aims to determine whether higher carbon prices accelerate inflation and if so, for how long. It also considers the role of monetary and fiscal, as well as carbon pricing as part of a policy mix to mitigate inflationary shocks.
This 2022 report carefully assesses select carbon pricing case studies from Canada, New Zealand, the European Union Emissions Trading System, Indonesia and South Africa through the lens of the foundational ICC Carbon Pricing Principles. It does so with a view to determine key design features and their significance for governments seeking to implement new carbon pricing mechanisms or improve existing measures.
The foundational ICC Carbon Pricing Principles, released in 2021, propose core principles and recommendations to help policymakers design carbon pricing policies within effective climate policy frameworks for implementation at national, regional and international levels. The principles should form an essential part of national and international carbon pricing approaches including the development of market-based instruments under Article 6 of the Paris Agreement.
Browse the ten principles
Carbon pricing is an approach to reducing carbon emissions that uses market mechanisms to pass the cost of emitting on to emitters. The two principal carbon pricing mechanisms are carbon taxes and Emission Trading Systems (ETS). The goal is to discourage the use of carbon dioxide–emitting fossil fuels to protect the environment, address the causes of climate change, and meet national and international climate agreements.
Carbon leakage is considered a result of asymmetrical and fragmented carbon policies, price differences, sector coverage and the resulting carbon cost. Carbon leakage occurs when businesses transfer their production to other countries with laxer emission constraints. If emissions are shifted to another jurisdiction with less stringent decarbonisation policies, carbon leakage can undermine a country’s unilateral efforts to reduce its emissions and the effectiveness of carbon pricing.