On 1 January 2026, the EU’s Carbon Border Adjustment Mechanism (‘CBAM’) entered its definitive regime. Now, the six sectors, i.e. importers of cement, iron and steel, aluminum, fertilizers, electricity and hydrogen owe money for the carbon embedded in their goods. Russia has challenged it at the World Trade Organisation (WTO); COP30 has made it part of international climate discussions; and more countries are negotiating special agreements with the EU.
This blog argues that the legality of CBAM will depend less on its environmental rationale and more on how its implementing rules are applied by examining Russia’s WTO challenge, focusing on the default emission values, carbon price deductions, discrimination as well as the recent changes to CBAM that may shape its outcome.
Russia’s WTO Challenge
At the WTO, Russia requested consultations in May 2025 (DS639), bringing first formal challenge to CBAM claiming its inconsistencies with Articles I, II, III, X and XI of GATT, the Import Licensing Agreement, targeting free allocation under the Emissions Trading System (ETS) and the Agreement on Subsidies and Countervailing Measures (SCM Agreement). The EU declined to enter into consultations, despite the good faith obligation under Article 4.3 of DSU, justifying its refusal in its communication to the Dispute Settlement Body (WT/DS639/2) on the ground that in the extraordinary circumstances arising from Russia’s war of aggression against Ukraine.
Following the EU’s formal refusal to consult, Russia advanced the dispute in July 2026 by active agenda under the Dispute Settlement Body. Later, even if Russia wins, the EU can appeal into the void because the Appellate Body remains paralyzed, and Russia has not joined the Multi-Party Interim Appeal Arbitration Arrangement as well.
What Exactly Is Russia Challenging?
The EU presents CBAM as the border extension of an internal burden – the ETS carbon price – and thus as a permissible adjustment of a charge equivalent to an internal tax under Article II:2(a) GATT, or alternatively as an internal regulation applied to imports under Article III. The difficulty, however, is that the ETS is not a product tax but a cap-and-trade scheme with a fluctuating carbon price. Under CBAM, importers are required to purchase and surrender certificates corresponding to the carbon emissions embedded in covered imported goods and this CBAM certificate obligation remains uncertain as is truly ‘equivalent’ to an internal tax within the meaning of Article II:2(a) or not.
As long as EU producers continue to receive part of their free allowances, imported and domestic goods are not subject to the same carbon cost. The certificate obligation follows the gradual phase-out of free allowances under the ETS because EU producers still receive most of their allowances free of charge, importers only have to surrender certificates for only about 2.5% of their embedded emissions in 2026, with the share gradually increasing to 100% by 2034, which is the EU’s main response to claims that the CBAM discriminates against imported goods.
This is precisely the basis of Russia’s claim under Articles III:2 and III:4 that the CBAM treats imported products less favourably than domestic ones. If neither of these defenses succeeds then the CBAM may be regarded as a charge exceeding the EU’s bound tariff commitments and thus, its legality will depend on the environmental exceptions under Article XX, particularly Article XX(g) on the conservation of exhaustible natural resources.
Since US-Gasoline has recognized clean air as an exhaustible natural resource, the EU can in principle rely on this defense. Therefore, the EU’s defense would depend on satisfying the chapeau of Article XX, namely that CBAM is not applied in a manner that amounts to arbitrary or unjustifiable discrimination between countries where the same conditions prevail or a disguised restriction on international trade.
Since US-Shrimp, cooperation has been an essential element in the Article XX chapeau analysis. By rejecting WTO consultations and substantive review in the climate regime at a time when the Appellate Body is dysfunctional, the EU can be viewed as preferring a scenario where no forum will be able to bind them. This weakens the EU’s position under the Article XX chapeau.
The Implementing Rules: Can the WTO Problems Become More Serious?
Default values and verification
Under Implementing Regulation (EU) 2025/2621, importers who cannot provide installation-specific, independently verified emissions data must instead use country and product specific default values. These default values are increased by a markup of 10% in 2026, 20% in 2027, and 30% from 2028. The goal seems to be to put pressure on importers to verify, but in practice the scheme places a price on the capacity of the country’s administration rather than the emissions. Therefore, a low emission producer in a country with weak monitoring or verification infrastructure may pay more than an identical producer in a country that can certify its emissions.
Carbon Price Deductions
In addition to that, under Article 9 of the CBAM Regulation, only a carbon price ‘effectively paid’ in the country of origin reduces the CBAM certificate obligation. The Draft Implementing Act published for public consultation in May 2026 has further limited this deduction by requiring the carbon pricing schemes to be binding and impose compliance obligations ‘without discrimination’, which effectively rules out the implicit costs of carbon regulation.
This also creates an inconsistency in relation to the parent regulation, as Article 9 of Regulation (EU) 2023/956 provides that the deduction will depend solely on whether a carbon price has been effectively paid, and contains no non-discrimination requirement. The introduction of this requirement via an implementing act is therefore clearly ultra vires, as it exceeded the implementing powers conferred by the parent regulation.
While the Commission might insist that it is just clarifying the definition of ‘carbon price’ in accordance with Article 3(29), excluding an entire category of schemes from the deductions not only clarifies the methodology; rather it changes the provision itself. Thus, it will depend on the Commission’s equivalence determination whether intensity based schemes including for example, India’s Carbon Credit Trading Scheme which is expected to be operational only as of October 2026, get the deduction or not.
The Commission’s approach to equivalence will show whether the requirement that a carbon price is ‘effectively paid’ is applied as an environmental standard or as a market access tool. The Commission is currently assessing South Korea’s trading system, and this will lay the precedent, so that India’s Carbon Credit Trading Scheme will be more of a challenge.
Discrimination
The treatment of fertilizers makes this even more apparent. Instead of the increasing markups, fertilizers are subject to only a 1% markup, possibly to avoid raising EU agricultural prices. The chapeau jurisprudence since US-Shrimp makes clear that environmental measures must not be applied rigidly without considering conditions in exporting countries or providing adequate due process, and the compliance ruling in this dispute has upheld the revised US measure only because it allowed programmes ‘comparable in effectiveness.’
Likewise, in Brazil-Retreaded Tyres it was held that discrimination becomes arbitrary or unjustifiable where its rationale bears no relationship to the measure’s declared objective. A system that imposes higher costs where verification capacity is weak, yet lowers them where EU consumers would be affected seems to resemble close to the discrimination WTO has previously found to be arbitrary or unjustifiable in both these cases.
Although the principle of common but differentiated responsibilities under the Paris Agreement is not a GATT rule, it can still help interpret that discrimination between differently situated countries is ‘unjustifiable’ under Article XX through Article 31(3)(c) of Vienna Convention on the Law of Treaties 1969 (VCLT). Even a formally non-discriminatory application of Article XX can thus disadvantage developing countries because countries with missing infrastructure, weak monitoring and verification systems face higher default values.
New Changes to CBAM and Their Implications for the Dispute
The CBAM scope is expanding as following its December 2025 review of the transitional period, the European Commission proposed extending the mechanism from 2028 to around 180 downstream products with high steel or aluminum content, including car parts and household appliances. On 12 June 2026, the Council agreed a negotiating position that goes even further by requiring annual reviews of the product list. Therefore, it seems that CBAM is rapidly transforming into a trade control instrument.
The Mutirao decision adopted at COP30 contains the first mention of trade measures in a COP cover decision, reaffirming in words borrowed from Article 3.5 UNFCCC that climate measures should not constitute arbitrary or unjustifiable discrimination or a disguised restriction on international trade. This is the same standard used in the chapeau of Article XX of the GATT.
In January 2026, the EU and the UK began negotiations to link their ETS with mutual CBAM exemptions in prospect once the systems are joined. In the case where the UK links up its trading system with the EU’s, both sides will be paying the same carbon price and thus, differentiating the UK is justified. However, for India it is different, as it gives India nothing new because Article 9 already lets any country deduct a carbon price that the EU has verified. So, the Most-Favoured-Nation (MFN) problem under Article I:1 of the GATT is in the negotiations themselves that if ‘effectively paid’ means one thing for one country and something else for another, when does that become discrimination between countries in the same position?
The proposed Temporary Decarbonisation Fund, which would use part of the CBAM revenue to support EU exporters, may face scrutiny under the Article 3.1(a) of SCM Agreement because it prohibits export contingent subsidies. Therefore, in attempting to deal with carbon leakage on exports, the EU might weaken its argument that CBAM is merely an environmental issue.
Concluding Remarks
The broader point is that the CBAM’s legality would depend on how it is implemented. According to the EU, CBAM would merely replicate its own climate policies at home. Yet each and every increase in the default figure, concession or exemption on a per-sector basis would make it more of a trade policy and not an environmental policy. As CBAM is being reviewed by the WTO, trading partners and COPs over the next year, possibly the emphasis would not be so much on its environmental objective but rather how its rules work.
Madhav Raj Acharya is a B.A.LL.B. Fourth Year student at Kathmandu School of Law, Nepal with Business and International Trade Law as the major subject.
PC: Observer Research Foundation
