Understanding Supply Chain Impact on Net Zero Costs
A new economic study challenges one of the most common assumptions in climate policy. The research shows that the biggest polluters are not always the businesses that face the highest costs when carbon is priced. In fact, companies further down the supply chain often carry a heavier financial burden, even when they produce relatively few direct emissions themselves.
This finding matters because most climate policy starts from a simple idea: tax the smokestack, and the smokestack pays. However, the reality is more complicated. Carbon costs do not stop where emissions occur. They flow through supplier networks, raising prices for materials and components. As a result, manufacturers and service providers can face steep cost increases without burning much fuel at all.
For UK businesses, this has direct implications. Companies competing for public contracts already need carbon reporting under PPN 06/21. Many are working to cut emissions across their operations. Yet this research suggests that even firms with low direct emissions may face significant cost pressure as their suppliers pass on carbon charges. Understanding where those costs actually land is essential for planning budgets, managing risks, and staying competitive during the transition to net zero.
The study comes from the Centre for Economic Policy Research. It uses a detailed model of global production to trace how carbon taxes ripple through supply chains. The findings suggest that current policy tools may be aiming at the wrong targets, or at least missing part of the picture.
How carbon costs move through supply chains
The research paper, published in August 2024, models a carbon tax consistent with reaching net zero CO2 emissions by 2050. Under this scenario, the tax would need to reach approximately $1,300 per ton of CO2 by mid-century. That is a substantial charge, and the question is who actually pays it.
Traditional thinking assumes the answer is straightforward. Heavy emitters such as steel mills, cement plants, and power stations produce the most carbon. Therefore, they should face the biggest tax bills and the steepest adjustment costs. Policy design often follows this logic, focusing regulatory effort and financial support on the sectors with the largest direct emissions footprint.
The CEPR paper argues this view is incomplete. It uses a 33-sector global input-output model to track how a carbon tax on direct emissions affects prices across the economy. The model reveals that some sectors with relatively low direct emissions experience larger price increases than the heavy emitters themselves. This happens because they rely heavily on carbon-intensive inputs from other industries.
Consider a food manufacturer. Its own energy use may be modest. However, it buys packaging, ingredients, transport, and refrigeration. Each of those inputs has its own carbon footprint. When a carbon tax raises the cost of plastic, diesel, and electricity, the food manufacturer faces higher bills across multiple parts of its operation. Meanwhile, the cement plant that produces large direct emissions may see a smaller overall cost increase because it uses fewer purchased inputs relative to its own production.
The researchers introduce a metric called Downstream Emission Centrality to capture this effect. In essence, it measures how much embodied carbon a sector pulls in through its supply chain. The paper finds that this measure explains nearly all the variation in how different industries experience price increases under a carbon tax. Consequently, direct emissions alone are a poor guide to who bears the economic burden of decarbonisation.
Welfare costs depend on policy design
The study estimates the economic cost of reaching net zero under different carbon pricing approaches. When the tax applies only to direct emissions, known as Scope 1, the welfare cost is around 0.7% compared to a scenario with no climate policy. That is relatively modest in macroeconomic terms, though the distribution of costs across sectors is uneven.
Interestingly, the paper also models a tax on embodied carbon in purchases, similar to a Scope 3 approach. Under this design, the welfare outcome improves. The model shows a 1.1% welfare gain relative to business as usual. This suggests that taxing carbon where it is consumed, rather than only where it is produced, can create better incentives and reduce distortions in the economy.
For businesses, this distinction has practical consequences. A Scope 1 tax focuses on your own operations. A Scope 3 approach looks at your entire value chain, including purchased goods and services. The latter is harder to measure and manage, but it may produce fairer and more effective outcomes by aligning costs with actual consumption patterns.
UK firms are already navigating this complexity. Carbon reporting increasingly covers Scope 3 emissions, especially for suppliers to government and large corporates. The CEPR research reinforces why this matters. If embodied emissions drive most of the cost impact, then businesses need visibility across their supply chains to anticipate price changes and identify where intervention will have the greatest effect.
Policy aims at the wrong target
The research has a clear message for policymakers. Designing carbon taxes around direct emissions alone misses much of the economic picture. Support schemes, compensation mechanisms, and industrial strategy need to account for supply chain effects. Otherwise, policy may direct resources to the wrong places, leaving vulnerable sectors exposed while subsidising those better able to absorb costs.
This has implications for how governments decide which industries need transition support. If downstream sectors face higher costs than expected, political resistance to net zero may come from quarters that do not look like obvious polluters. Manufacturing, logistics, and consumer-facing industries could all be affected more heavily than their direct emissions suggest. Therefore, building political coalitions for climate action requires a better understanding of where the burden actually falls.
The paper also suggests that pricing embodied carbon could improve both economic efficiency and environmental outcomes. By taxing carbon where it enters final consumption, rather than only where it is emitted, policy can create stronger incentives for low-carbon purchasing decisions. This approach aligns more closely with how businesses actually experience carbon costs, making the policy signal clearer and the economic adjustments smoother.
For UK businesses, this points to the importance of mapping supply chain emissions now rather than waiting for regulation to catch up. Firms that understand their embodied carbon exposure can anticipate cost pressures, negotiate better terms with suppliers, and position themselves ahead of competitors who are still focused only on direct emissions.
What the numbers tell us
Several key findings from the research are worth noting:
- The study models a global economy with 33 sectors using input-output analysis to trace carbon flows through supply chains.
- Achieving net zero by 2050 in line with Paris targets would require a carbon tax rising to approximately $1,300 per ton of CO2 by mid-century.
- Under a Scope 1 carbon tax, the welfare cost of transition is estimated at 0.7% relative to a no-policy baseline.
- A Scope 3-style tax on embodied carbon in purchases generates a 1.1% welfare gain, suggesting better economic outcomes than taxing emissions at source alone.
- Downstream Emission Centrality, a measure of embodied carbon in supply chains, explains most of the variation in price impacts across sectors.
- The paper was published as CEPR Discussion Paper 21881 in August 2024.
What businesses should consider now
This research should prompt UK firms to look beyond their own emissions when planning for net zero. Most businesses already track Scope 1 and Scope 2 emissions, covering direct operations and purchased energy. However, Scope 3 remains the hardest part of the puzzle. It includes everything bought and sold, from raw materials to end-of-life disposal.
The CEPR study suggests Scope 3 is not just a reporting challenge. It is where much of the financial risk sits. Companies with long, carbon-intensive supply chains may face cost increases that dwarf the direct impact of taxing their own fuel use. Consequently, businesses need to understand their exposure at a granular level, sector by sector and supplier by supplier.
This means improving data collection across procurement. Many SMEs still lack visibility into the carbon intensity of their purchased goods and services. Building that capability takes time. It requires cooperation from suppliers, who may not yet have the systems in place to report their own emissions accurately. Starting early gives firms a better chance of managing costs before they hit the bottom line.
There is also a strategic opportunity here. Businesses that map their supply chain emissions can identify where switching suppliers or materials would reduce both carbon and cost. As carbon pricing becomes more widespread, low-carbon procurement will shift from a compliance exercise to a competitive advantage. Firms that move first can lock in lower-cost supply arrangements and differentiate themselves in tenders that prioritise sustainability.
For those selling to the public sector, this is already happening. PPN 06/21 requires suppliers to report carbon emissions and publish reduction plans. Over time, contract awards will increasingly favour suppliers with credible decarbonisation strategies. Understanding embodied emissions is central to meeting those expectations. Our net-zero program for carbon reporting compliance helps businesses build the systems and knowledge needed to respond effectively.
Training also plays a role. Carbon accounting is becoming a core business skill, not a niche specialism. Finance teams, procurement managers, and operations staff all need to understand how carbon flows through the business and what levers are available to reduce it. SBS Academy training on Scope 3 emissions provides practical, accessible learning designed for SMEs without in-house sustainability expertise.
Where to find more detail
The original research paper is available from the Centre for Economic Policy Research as Discussion Paper 21881, titled "Supply Chains and the Industrial Incidence of Net Zero." It provides full technical detail on the modelling approach and sectoral results.
For UK-specific guidance on carbon reporting and net zero commitments, the Department for Energy Security and Net Zero publishes resources and policy updates. Businesses preparing for public sector contracts should review the government's guidance on PPN 06/21, which sets out carbon reduction requirements for suppliers.
The UK's net zero strategy, available on gov.uk, outlines the broader policy framework and sectoral pathways to 2050. This includes expected timelines for carbon pricing measures and support schemes for industries facing high transition costs. Finally, the Environment Agency provides sector-specific emissions guidance and reporting tools for businesses subject to environmental permits.