The Carbon Leakage Problem: Why Ethical and Long-term Risk Consideration is Crucial

All has been quiet on the federal climate legislation front for a while now. As I begin to review some trade implications of climate change, I am encountering articles that discuss the "carbon leakage" problem and their treatment under the proposed climate laws. If American firms are subject to climate regulation, while other countries do not have similar law, the former cannot compete with the latter in the market. American competitiveness will therefore be undermined. Almost all climate Bills acknowledge that to combat competition loss, several energy and emissions-intense manufacturing units may move abroad. Senators recognize that neutralizing the negative impact on competitiveness is crucial for gaining support for their proposed laws. So, these Bills incorporate cost diffusion measures, including trade measures such as imposition of higher tarriffs on goods manufactured in an energy-intensive manner. Of course, this raises a host of concerns, not least among them, administrative burdens, potentially regulating countries such as China that are excluded under the Kyoto Protocol, and compatability with international trade law, particularly WTO law.

So, how do we resovle this legal tension? Some law review articles make significant suggestions for achieving WTO compatability, but the magic bullet remains evasive. What we may need to do at this point is perhaps turn to companies that could potentially move and ask them to reach down to their ethical side, as well as think through the issue from a long-term perspective. The ethical aspect requires corporations to engage in problem solving. Many corporations by now acknowledge that climate change is a grave common concern. As a step further, they should consider working with the government to minimize the economic impact through a series of internal measures, as opposed to shifting production to countries without adequate emissions control. Of course, such voluntarism and self-restraint is easier to ask for than to grant. But, then it may be easier to arrive at the decision if a business considered the long-term impacts.

While no one can predict with absolute accuracy the exact time and form that climate change will take, it is fairly well-established that impacts will include disruption of infrastructure and other structures that support the economy. As several economists have pointed out, such disruption can result in high costs not only to individuals and states, but also to businesses. For those businesses that may decide to move out, their decision would not only mean that they may contribute to negative impacts to the economy. It also means that they may find themselves in locations and situations of vulnerability. Since most countries without emissions control and competitive conditions are likely to be located in located countries, and since many of these countries are vulnerable to climate change, it is likely that companies setting up shop abroad will expose themselves to higher risk. In the long run, the manisfestation of such risk could result in complete loss of ability to compete.

Further, if historical evidence is any indication, companies and their products could be rejected under certain conditions, particularly where the reach of law is limited. This may increase competitive risk of a kind that cannot be easily mitigated since it could affect branding.

Finally, to address the competition problem, even if American firms stay put, we have to first consider which firms these might be, whether they do not present such competition threats at present (even absent climate law), and whether they have the technological know-how to compete with American firms. If the latter is the case, then American firms may already be at a disadvantage and it may not be affected by a climate law.

So, while the carbon leakage problem is legally vexing, a more business-like approach could alleviate some of the concern to some extent. Of course, law-makers cannot rest on such assurances unless companies take such an ethical and long-term view of the issue. That, however, is where the dialogue of carbon leakage should take place. 

--DB--