The New Carbon Order: How China Responds to the EU Carbon Border Adjustment Mechanism

The New Carbon Order: How China Is Responding to the EU Carbon Border Adjustment Mechanism

Introduction

Since the EU Carbon Border Adjustment Mechanism (CBAM) was formally adopted in March 2023 as part of the "Fit for 55" package, it has evolved from a climate policy tool into a variable reshaping global trade and industrial competition. For China—both the world's largest greenhouse gas emitter and the most important trading partner of many economies—CBAM brings not only pressure on export costs, but also a round of institutional adjustment centered on carbon accounting, carbon pricing, and carbon governance capacity. The report "The New Carbon Order: China's Response to Europe's CBAM," published by the Center for Strategic and International Studies (CSIS) on June 15, 2026, and written by Ilaria Mazzocco and Ray Cai, provides an analytical framework for understanding this process.

I. Industry Background: Carbon Costs Are Being Written into Trade Rules

To understand the significance of CBAM, one must first understand its mechanism design. CBAM is the first tool of its kind at the international level, and its policy objective is to prevent "carbon leakage"—that is, the EU's own emissions reduction achievements being offset by the transfer of production to non-EU countries with higher emissions intensity. The core logic of the mechanism is that exporters, when entering the European market, need to pay costs for the emissions embodied in their products, unless those emissions have already paid a corresponding carbon price in the producing country.

The institutional timeline is relatively clear:

• 2019: CBAM was first proposed as part of the EU's European Green Deal;
• March 2023: The European Council formally adopted it as part of the "Fit for 55" package;
• Current stage: EU importers must annually declare the greenhouse gas emissions embodied in six categories of products and submit a corresponding number of CBAM certificates. These six categories are cement, fertilizers, electricity, steel, aluminum, and hydrogen;
• Q1 2026: The CBAM certificate price is €75.36/tCO₂;
• From 2027: The certificate price will instead be calculated using the weekly average auction price of EU ETS allowances;
• 2028: CBAM's coverage is expected to expand, with the impact on large exporting countries and carbon-intensive emerging economies (such as China and India) becoming more significant.

The ingenuity of this design lies in the fact that it does not directly require other countries to establish carbon markets; instead, through price signals at the trade stage, it provides other jurisdictions with incentives to establish "credible carbon pricing and carbon governance systems compatible with the EU's strict standards." This incentive has not been ignored in China—China operates its own carbon emissions trading system, whose design partly references the European model.From a broader energy transition perspective, CBAM marks a structural convergence of climate policy and trade policy: carbon emissions are no longer merely an accounting item for environmental departments, but are beginning to become a pricing variable affecting product competitiveness, industrial layout, and cross-border capital expenditure. This is both an external condition that China's energy system needs to adapt to and a new constraint on the global decarbonization pathway.

II. Current Developments: From Passive Pressure to Proactive Benchmarking

The core judgment of the CSIS report is that the two carbon markets of China and Europe are unlikely to achieve formal linkage in the foreseeable future, but China's carbon governance path may, over the medium to long term, converge with Europe at the institutional level. Such convergence is not a product of political will, but an economic reality determined by deep bilateral trade relations.

At present, the observable trends are concentrated at three levels:

First, the expected expansion of China's ETS. China's national carbon emissions trading system was designed partly by reference to the European system; expanding its coverage is a precondition for carbon price signals to be transmitted to more industrial sectors. For CBAM-covered sectors such as steel, aluminum, and cement, the gap between the domestic carbon price and the EU carbon price directly determines the scale of CBAM certificate payments.

Second, stronger enforcement of carbon emissions reporting and standard-setting. The operation of CBAM rests on a premise: the embedded emissions of imported products can be accurately measured and verified. This means exporting countries must possess internationally acceptable monitoring, reporting, and verification (MRV) capabilities. The report particularly emphasizes that China's credibility in compliance, monitoring, and enforcement is related both to the success or failure of its carbon governance efforts and to the international community's confidence in its path.

Third, supporting measures at the local level. The report mentions that localized initiatives have emerged in China aimed at supporting sectoral emissions reduction targets and helping enterprises respond to domestic and international carbon governance requirements. The significance of such arrangements lies in connecting the macro-level carbon pricing system with firm-level compliance capacity—for the many small and medium-sized exporting enterprises lacking carbon accounting capacity, this link is often the main source of actual costs.

It is worth noting that the report frames this development from the perspective of U.S. policy as a warning: deeper institutional convergence between the EU and China could make future transatlantic coordination more complex, and may even leave the United States outside a sizable “carbon adjustment trade bloc.”

III. Implications for the Energy System

On the surface, CBAM is a trade tool, but its transmission pathways reach deep into multiple segments of the energy system.

The power sector and cross-border electricity trade. Electricity is explicitly included among the six categories of products covered by CBAM, which means that emissions intensity accounting for electricity trade, green electricity certification, and the emissions factor system need to align with EU standards. For economies that are advancing power market reform and expanding the share of renewable energy connected to the grid, this constitutes an additional requirement for the power system's metering and certification infrastructure.

Industrial electrification and process route selection. Steel, aluminum, cement, and fertilizers are typical hard-to-abate sectors. When carbon costs are internalized into export prices, the economic ranking of process routes changes: the relative attractiveness of electrification, scrap steel recycling, energy efficiency improvements, and low-carbon reduction processes rises. This change will ultimately feed back into the structure of electricity demand—the shift of the industrial sector from fuels to electricity is the most difficult and most critical part of the energy transition.

Hydrogen energy industry. The inclusion of hydrogen within CBAM coverage directly amplifies cost differences among different hydrogen production pathways. For project developers planning green hydrogen capacity and export-oriented hydrogen-based products (such as green ammonia and green steel), the existence of carbon border costs creates both pressure and a source of price advantage relative to high-carbon routes. But whether this advantage can be realized depends on whether the project can provide verifiable proof of low-carbon attributes.

Coupling of carbon markets and electricity markets. The direction of China's ETS expansion means that carbon price signals will increasingly enter the marginal cost calculations of power generation and industrial enterprises. The institutional linkage between the carbon market and the electricity market—allowance allocation methods, cost pass-through mechanisms, and the treatment of free allowances—will determine the extent to which carbon prices truly influence investment decisions.

Linking energy security with industrial competitiveness. The report points out that changes in carbon governance are reshaping China's energy system and have broad implications for the trade agenda, competitiveness in frontier technology fields such as artificial intelligence, and its role in global governance. In other words, carbon governance capacity is becoming an infrastructure-type competitiveness.

Pathways to achieving carbon emission reduction targets. If CBAM successfully drives major emitting economies to establish credible carbon pricing and accounting systems, its impact will go beyond trade—it may change how national-level emission reduction targets are implemented, shifting from administrative decomposition to price-signal-driven.

IV. Challenges

Accounting and data credibility. The number of CBAM certificates depends on declared embedded emissions. If exporters cannot provide actual measured data compliant with EU standards, the accounting methodology they face may be unfavorable to them. Therefore, the quality of MRV system development directly determines the distribution of CBAM costs.

Difficulty of aligning two carbon pricing systems. The Chinese and EU carbon markets differ in allowance allocation methods, price formation mechanisms, covered sectors, and stringency of compliance. Institutional convergence is a gradual process, during which companies need to respond to two sets of rules simultaneously, with compliance costs being added rather than replaced.

Policy uncertainty. The switch in pricing mechanism in 2027 and the expansion of coverage in 2028 mean that companies' current compliance arrangements may soon need to be restructured. For long-cycle, capital-intensive energy and industrial projects, the predictability of rules is just as important as the stringency of the rules themselves.SMEs and supply-chain transmission pressure. Carbon costs are initially borne by direct exporters, but they are transmitted upstream along the supply chain. Suppliers in the mid- and upstream of the industrial chain, lacking direct external communication channels, are often the link least able to obtain compliance resources.

The build-out cycle for monitoring and enforcement capacity. The report stresses that the credibility of China’s compliance, monitoring, and enforcement is a core variable. Establishing such capacity involves measurement equipment, third-party verification bodies, data platforms, and personnel training, and its build-out cycle is typically longer than the cycle for issuing policy texts.

The risk of fragmentation in global governance. If carbon border adjustment becomes a normalized tool of major economies while accounting methodologies and carbon price levels differ, the global trading system may split along carbon rules, increasing cross-border friction costs for energy and industrial investment.

V. Future Outlook: The Direction of Evolution over the Next 5–20 Years

The institutionalization of carbon governance will continue to deepen. The key observation point for the next five years is not whether the Chinese and EU carbon markets link, but the degree of institutional convergence between China’s carbon governance and Europe’s, and whether its compliance, monitoring, and enforcement systems can gain international trust. The report argues that such convergence reflects the economic reality of deep bilateral trade relations.

Carbon costs will enter long-term capital expenditure decisions. For power, steel, aluminum, cement, fertilizer, and hydrogen projects, the carbon price is no longer merely a variable cost during operation, but an input variable for siting, process routes, and technology choices. This will change the default framework for investment appraisal in heavy-asset industries.

The demonstration effect may go beyond China-EU bilateral relations. The report notes that if China, in responding to CBAM, successfully establishes a credible carbon governance system, its experience may provide a reference for other countries—even the United States—in designing and implementing similar policies. More broadly, China’s response may reveal how carbon tariffs and external regulation drive domestic reforms in major emitting economies.

Trade bloc formation presents both risks and opportunities. Convergence between the EU and China on carbon institutions may complicate transatlantic coordination or exclude the United States from a large carbon-adjusted trade bloc. Conversely, it also provides a window for other economies to reassess their own carbon pricing paths.

The investment logic of the energy transition will be revalued. When carbon border costs are incorporated into cash flow models, the value of low-carbon capacity is determined not only by domestic subsidies or voluntary procurement, but by access qualification to enter high-carbon-constrained markets. This will change the financing conditions and risk pricing for renewable energy, energy storage, grid upgrades, and low-carbon industrial projects.

In the long run, carbon accounting capacity will take on infrastructure attributes. Like power grids, energy storage, and hydrogen pipeline networks, a credible emissions data system is a foundational condition for the operation of the energy system. Whoever first establishes internationally accepted accounting and verification capacity will gain an institutional advantage in the next stage of competition in clean energy and low-carbon industry.

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ConclusionThe real impact of CBAM lies not in how many tons of carbon emissions it taxes, but in that it transforms “carbon” from an environmental accounting item into a pricing variable in trade and industrial competition. For China, the process of responding to CBAM is essentially a systemic upgrade of governance capacity in its energy system and industrial system: carbon market expansion, standardization of emissions reporting, strengthened enforcement, and the development of local supporting mechanisms together form components of this upgrade. The success of this process depends both on the rigor of institutional design and on the credibility of compliance, monitoring, and enforcement—and the latter is precisely the ultimate basis on which the international community judges whether a country’s carbon governance path is reliable.

For the global energy transition, the significance of this case lies in that it provides a window for observation: whether external regulatory pressure can effectively drive domestic reform in major emitting economies. The answer is not yet settled, but the path is beginning to emerge.