An Analysis of the IMF’s International Carbon Price Floor Proposal

Turkey. Photo by Orkhan Farmanli via Unsplash.

World leaders are facing a shrinking window to enact ambitious climate policies, as nationally determined contributions (NDCs) alone will not be enough to remain below the 2C global warming threshold.

With the goal of enhancing global climate action, the International Monetary Fund (IMF) has proposed an international carbon price floor (ICPF) arrangement, developed from the global carbon price and designed to complement existing policy regimes by focusing on price floors, rather than price levels.

A new technical paper from Ma JunHe Xiaobei and Zhai Fan for the Task Force on Climate, Development and the IMF conducts an analysis of the burden-sharing effects of an ICPF arrangement, finding that, while the ICPF may be an efficient and effective means of reducing emissions, it would place additional responsibilities of emissions reductions, as well as additional economic costs, on developing countries.

The ICPF is assessed across three policy scenarios:

  • Scenario 1 sees all countries meeting their NDC pledges through carbon prices.
  • Scenario 2 examines an ICPF in line with the IMF’s proposal, with an arrangement among six large emitters (the US, European Union (EU), United Kingdom, Canada, China and India) and differentiated price floors depending on the level of development of the country.
    • It compares introducing an ICPF with current actual climate policies (Scenario 2A) and introducing an ICPF with countries achieving NDCs (Scenario 2B).
  • The third is an alternative policy regime where no international coordinated policies are in place and major advanced economies adopt carbon border taxes, similar to the EU’s carbon border adjustment mechanism (CBAM), to protect domestic industries and reduce carbon leakage.
Main findings:
  • With an ICPF in line with the IMF’s proposal, China and India together would contribute to reducing global carbon emissions by 50 percent (Scenario 2B) to 80 percent (Scenario 2A).
  • When considering the potential impact among major countries in Scenario 2A, the impact is by far the greatest for China, which is projected to reduce emissions by 33 percent in 2030, relative to its business-as-usual. India, the US and Canada could cut emissions by 24 percent, 22 percent and 13 percent in 2030, respectively. These findings reflect that China is the biggest emitter globally and has the greatest abatement potential.
  • Also under Scenario 2B, global emissions are reduced by 23 percent in 2030, while the economic cost is 1.2 percent of global gross domestic product. In comparison to all countries meeting NDC pledges through carbon prices alone (Scenario 1), introducing an ICPF enhances global action with a relatively small economic cost.
  • However, the differentiated carbon price floors would be equivalent to significant increases in NDCs – both in cost and ambition – for developing countries while the difference would be irrelevant for advanced economies.
    • In other words, if the IMF’s ICPF proposal were enacted, it could place additional responsibilities for emission reductions, as well as economic costs, on developing economies.

In all, while an ICPF arrangement, even for just six large emitters, can be an efficient and effective approach to scale up action on climate mitigation globally, the design of the IMF’s ICPF must be improved to incentivize participation from low- and middle-income countries. For example, it will be crucial to estimate decarbonization efforts of developing countries through non-price instruments and incorporate this into the ICPF’s broadly defined carbon prices. Without this consideration, it is unlikely that the ICPF would be accepted by many developing countries in practice, and given the potential abatement impact, it is essential that China and India participate in any ICPF arrangement.

Read the Technical Paper