A cyclist passes near the Tata Steel steelworks in Port Talbot, U.K., on May 6, 2018. The steel sector has been working to get ahead of potential carbon-based import fees in Europe and the U.S. Source: Matthew Horwood/Getty Images News via Getty Images

Titans of the carbon-intensive steel industry are trying to get ahead of potential tariffs as world governments weigh using tariffs to target emissions from the global industrial sector.

The European Union released a plan July 14 to transfer its economy away from fossil fuels. The plan included a proposed carbon border adjustment mechanism that would tax imports of iron and steel as well as aluminum, cement, petrochemicals and fertilizers.

That same week, the Sierra Club, a U.S.-based environmental group, released a two-page memo calling on the Biden administration to set similar carbon import fees on the same sectors. The environmental group recommended using a move out of former U.S. President Donald Trump's trade policy playbook: Citing a 1962 trade law to declare carbon tariffs necessary in order to protect national security from the impacts of climate change.

"There has been engagement from the get-go with this administration on the potential for using this tool in a way that does create good jobs and takes bold climate action, all at the same time," Sierra Club Living Economy director Ben Beachy said in a July 19 interview, noting the memo was sent to Biden administration officials.

It would be paradoxical if U.S. President Joe Biden followed Trump's lead on trade policy, but the president promised to impose a carbon-centric border fee during the 2020 campaign, although such a move could provoke a political backlash. The White House did not respond to requests for comment on the Sierra Club memo.

U.S. Special Presidential Envoy for Climate John Kerry said in May that a carbon-based tariff could be helpful for pressuring China to decarbonize at a faster pace. Jonathan Pershing, a senior adviser to Kerry, asserted July 21 that such a measure was "worth considering" while speaking before a U.S. Senate panel.

Details remain to be worked out on how to value the price of commodities that would be covered under such a system, Pershing said. But if domestic carbon emissions face more stringent environmental constraints, the Biden administration is "not looking to disadvantage domestic companies."

"That's the balance we have to seek, and there's work to be done to evaluate it," Pershing said.

However, if Democrats manage to pass climate legislation that targets domestic consumers, such as a national Clean Energy Standard, they will need to enact a policy similar to the EU border proposal in order to stop emissions from being exported overseas, according to Todd Tucker, a political scientist that served on Biden's transition team for the U.S. Commerce Department.

Without a policy directed at imports, the "net result is, on a global level, you're not reducing emissions, you're just shifting where they're produced," Tucker said.

Already, there are signs that the steel industry — a huge producer of carbon emissions that are difficult to mitigate — is growing more aggressive on climate to get ahead of potential tariffs, according to analysts.

Tariffs threaten steel titans

Steel will be one of the most difficult commodities to decarbonize in the fight to limit planetary warming to 1.5 degrees C in line with the Paris Agreement on climate change, according to the International Energy Agency. This is partially because many companies still make steel through an integrated blast furnace process in which smelters combine and purify emissions-heavy iron ore and coking coal.

This process creates challenges for policymakers trying to weigh emissions penalties based on iron and steel imports. The EU climate proposal said there could be a "general problem" with setting fees on imported articles of iron and steel products separately, noting that many products include both.

But analysts say there are signs that major contributors to emissions in the steel industry are already trying to get ahead of carbon tariffs, even as thornier policy details remain unresolved.

At least until the pandemic, the U.S. was the world's largest steel importer, according to U.S. trade figures. While China has remained the world's top steel producer, imports of Chinese steel to the U.S. have dropped as a result of tariffs enacted under former President Trump in 2018.

Still, while it remains to be seen whether the Chinese government will oppose these new proposals, there are signals that Chinese industry may be trying to get ahead of possible polluter penalties, at least from the EU, according to HSBC senior equity research analyst Jonathan Brandt. After Chinese regulators recently pledged to be carbon neutral by 2060, Chinese steel companies have curbed output and are investing billions into making their operations cleaner.

"Initially, I was skeptical [about China], but it's proven over the past few years this is something they're very serious about [to] the extent they're sacrificing economically for the sake of decarbonizing," Brandt said in an interview. "They're doing things that are not necessarily in the interest of their economy."

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In Europe and the U.S., steel companies that would be protected under these tariffs have been working toward greening their operations.

Luxembourg-based ArcelorMittal was the largest emitter of carbon dioxide in the steel sector in 2019, according to Market Intelligence data. ArcelorMittal appointed Aditya Mittal CEO in early 2021, and the new executive has put climate issues at the center of the company branding. ArcelorMittal recently signed a €1B agreement with the Spanish government to fund a new hydrogen-based iron plant and electric arc furnace steel plant.

U.S. steelmakers such as U.S. Steel Corp. and Steel Dynamics Inc. released their own lofty emissions reduction targets, with U.S. Steel announcing its first sustainable steel product line in March and Steel Dynamics outlining plans earlier in July for its electric arc furnace steel mill operations to be carbon neutral by 2050. In addition, the Washington, D.C., trade group representing iron and steel companies, the American Iron and Steel Institute, came out in favor of a carbon import fee based on carbon emissions.

Yet steelmakers still have a long way to go before low-carbon steel production occurs at a large scale, Credit Suisse analyst Carsten Riek said in a July 16 interview.

"Everybody is trying to appear green at the moment by putting big [environmental, social and governance] reports out and showing that they have the capability of producing green steel," Riek said. "What we're missing right now is real volume behind it."

Avoiding a carbon trade war

Calls for the federal government to tax incoming shipments of dirtier products are showing no sign of slowing down. On July 19, Sen. Chris Coons of Delaware, whom the New York Times recently deemed Biden's "eyes and ears in the [U.S.] Senate," released a proposal that would tax certain climate-changing imports including the goods targeted by the EU.

The Biden administration hopes to work with Coons on the proposal in the future, according to Pershing's July 21 testimony. "I think we need to do some study on it," Pershing told the Senate panel.

Supporters of the move are also rallying for Biden to not be dissuaded by the potential for legal hurdles, including a challenge before the World Trade Organization, the key global trade regulator. Rules governed by the WTO make it difficult for countries to restrict trade in any way.

If the White House explores the use of carbon tariffs, it should pay attention to the exceptions for trade actions made for environmental reasons, Tucker said.

"It's sort of ironic because almost any restriction on trade is going to violate the WTO's primary rules," Tucker said. "But if you want the best chance at defending it, it is important to be as ambitious as possible with your environmental policymaking."

The Sierra Club memo acknowledged the thorny matter of the WTO and said the U.S. and its allies should work to establish a climate-specific exemption at the trade body.

"We have less than a decade to turn the corner on climate change. We simply do not have time for countries to be challenging each other's climate policies on the basis of decades-old trade rules that predate broad awareness of climate change," the Sierra Club stated.