Last month, Thailand’s cabinet approved the collection of a carbon tax, the second in Southeast Asia after Singapore imposed its own carbon duty in 2019. Bangkok took this bold step right as the World Meteorological Organization confirmed that 2024 was the hottest year on record, with average temperatures at 1.55 degrees above pre-industrial levels.

Multilateral efforts to fight climate change are fracturing. According to a Carbon Brief analysis, just 13 of the 195 signatories to the Paris Agreement met the UN’s Feb. 10 deadline to make new pledges to cut emissions by 2035. Countries that skipped the assignment account for around 80% of both world economic activity and carbon emissions. And the U.S., the world’s second largest emitter of greenhouse gases, is exiting the Paris Agreement altogether.

A carbon tax is one of the most effective ways to encourage decarbonization and fund ways to mitigate the harms of climate change. Europe, which has the world’s oldest cap-and-trade system, is implementing a carbon tax with global implications.

But now Asia, accounting for some 60% of world carbon emissions, looks set to lead the next wave of progress on carbon pricing. And that means businesses in the region will need to prepare for a world where they pay for their emissions—and adjust their strategy accordingly.

Why Asia is embracing carbon taxes

The Asian Development Bank estimates that developing countries in Asia Pacific need to invest $1.7 trillion a year in infrastructure to maintain growth, tackle poverty and respond to climate change, and that the cost of mitigating climate change is $200 billion annually.

Carbon tax revenue can help meet those financing needs, which is why governments around Asia are now embracing ways to price carbon.

Japan introduced Asia’s first carbon tax in 2012 and is now upgrading its carbon pricing framework. China, Japan and Korea have also put a price on carbon through mandatory emissions trading systems for companies in certain sectors, or with emissions above a certain threshold.

By design, carbon taxes should automatically increase to achieve their goal of encouraging emissions reductions. Governments often shy away from hiking taxes, but Asian governments are likely to make that tough decision for three reasons.

First, Asia is particularly exposed to climate risk. According to the UN, the region is home to 70% of the global population at risk from rising sea levels. And one third of its total employment is in sectors hurt by climate change, like farming and fishing.

Second, carbon taxes will help Asian governments fund their climate policies, such as mitigation, R&D, and support for businesses. While Asia still relies on fossil fuels for 85% of its energy, it’s shifting faster towards renewables compared to other regions. Carbon pricing provides a direct incentive to steer energy developers away from fossil fuels and towards cleaner alternatives, like solar and low-carbon hydrogen. These options may even end up being cheaper, after the initial investment.

Third, Asia must respond to other regions using carbon pricing. Exporters to the European Union face a carbon tax in the form of the EU’s Carbon Border Adjustment Mechanism (CBAM), which is being phased in and will be fully implemented in 2026.

Europe’s CBAM requires importers of carbon-intensive products like steel from countries outside the EU and European Free Trade Association (EFTA) to pay the difference between the carbon price in the country of origin and a carbon price linked to the EU Emissions Trading System.

This means Asian exporters would effectively be paying a new EU tax, since their buyers would almost certainly pass the cost to them. Asian policymakers will need to address this potential tax leakage.

Malaysia’s pledge to tax its iron and steel sectors starting in 2026 is one pointer to how Asia’s governments will respond to these three pressures. These regulations will encourage industries to adopt low-carbon technologies, while also ensuring that any tax revenue is kept at home, rather than paid to foreign governments.

Asia has long been an engine of global economic growth thanks to its companies’ capacity for innovation and rapid adaptation. It now stands to gain greater clout to shape evolving carbon market rules and to harness the power of carbon pricing to support economic transformation.

No time like the present

With higher prices for carbon emissions a certainty, companies will need to reduce their carbon intensity today. That could mean investing in energy-efficient processes, or in new carbon capture and storage facilities.

Asian companies can look for financing from banks, asset managers and specialist or concessional capital providers. Institutions like the Monetary Authority of Singapore are starting to standardize transition finance, through frameworks like the Singapore-Asia Taxonomy for Sustainable Finance (SAT), the world’s first such taxonomy, to define the green and transition economy and provide clarity via a common language for market participants.

The International Platform on Sustainable Finance in November announced a multi-jurisdictional Common Ground Taxonomy that incorporates the SAT, building on earlier work to harmonise standards between the EU and China.

As more governments introduce disclosure regimes based on the guidance laid down by international sustainability standards bodies, we may see greater harmonisation across jurisdictions leading to more robust non-financial disclosure requirements for companies that operate globally.

As the U.S. changes direction on climate, at least at the federal level, and Europe increasingly focuses on security, Asian policymakers are picking up the baton on carbon pricing—and for good reason. Smart companies will need to be one step ahead.

Patrick Winter is the Asia-Pacific area managing partner for EY.