How better policy can support Japan’s green steel opportunity 

Key Takeaways

A Transition to Cleaner Steelmaking Can Build Resilience and Competitiveness

Japan is the third largest steelmaker in the world, producing 84 million tons (Mt) of crude steel in 2024.¹ The steel sector currently accounts for 14% of Japan’s total emissions, with coal-based blast furnace-basic oxygen furnace (BF-BOF) constituting 74% of production.² Emission-intensive steelmaking will face rising costs, as policies such as the European Union’s Carbon Border Adjustment Mechanism (EU CBAM) will put an estimated US$14 billion to $28 billion of Japan’s economic value at risk from 2026 to 2050.³

Other importers of Japanese steel, such as Australia, Canada, and the United Kingdom, are considering or actively implementing CBAMs, which would put nearly 1 million additional tons of exports per year at risk.⁴ This exposure may increase as the EU is considering extending CBAM to steel embedded in some manufactured goods. Japan’s recently enacted emissions trading system (GX-ETS) is also expected to impose additional costs in the coming years.

At the same time, demand for low-emission steel is growing globally. Estimated voluntary near-zero demand in Asia Pacific (not including China and India), Europe, and North America is about 20 Mt in 2030. Around 80% of this estimated demand will be for ore-based products, underscoring the opportunity for first mover deployment of green hydrogen-based direct reduction and electric arc furnace (H₂ DRI-EAF) capacity that can achieve the desired emission profile. Domestically, increasing adoption of Scope 3 targets among Japanese corporates — and the recent Scope 3 disclosure requirement by the Sustainability Standards Board of Japan (SSBJ) for publicly traded companies with a market capitalization over US$20 billion (with this requirement decreasing to US$6 billion starting in 2028) — signal that demand could be rising.⁵

The Japanese steel sector also faces several structural challenges, including competition from low-cost Chinese steel and declining profit margins stemming from global overcapacity. Leveraging product differentiation to capture green markets will be key to increasing competitiveness. While China is predicted to have a relative cost advantage,⁶ most of China’s hydrogen-based steelmaking is expected to serve local demand, leaving an opening for Japanese steel producers to capture this green segment in other markets.⁷ With 43 Mt of blast furnace capacity up for reinvestment in the next five years, Japanese steel producers can either reline and risk locking in coal-based production for decades, or transition to cleaner production pathways to capture growing green demand and stay competitive amid tightening carbon regulations.

In this analysis, we test the impact of Japan’s current and planned policy mix on the costs of various steel production routes from 2026 to 2050 to identify the most impactful instruments for deploying clean technologies in the steel sector.

Japan’s Green Steel Policy Mix Is Emerging in Response to Sector Transition Needs

The Japanese government has established and planned policy interventions throughout the supply chain to address the green premiums and support a sector-wide transition (details in Exhibit A1 in the Appendix). These include tax credits, capital and research and development (R&D) subsidies, carbon pricing, and other mechanisms. Most major subsidies currently focus on transitioning existing BFs to EAFs: in 2025, major steelmakers JFE and Nippon Steel received US$2.2 billion in combined subsidies for EAF expansion.⁸

An overview of the key policies modeled in this brief is shown in Exhibit 1.⁹ Fossil fuel subsidy removals have not been passed or proposed but were modeled to explore the hypothetical impact of changing fuel costs.

Exhibit 1

Expected Policies Still Leave Near-Zero Steel at a 32%–62% Green Premium in 2035

With current and expected policies, our analysis shows that H₂ DRI-EAF steel does not break even with BF-BOF production by 2050 (Exhibit 2). In 2035, when the EU CBAM is expected to operate at full force, domestic H₂ DRI-EAF production still costs 62% more than the BF-BOF route. Domestic steel production using green iron sourced from Australia costs less but remains at a 32% cost premium. This analysis assumes an optimistic hybrid case with some grid connection for domestic green hydrogen projects in Japan; the premium for domestic H₂ DRI-EAF production could increase even further, to 71%, if assuming a fully behind-the-meter green hydrogen case.

Domestic steel production with EAF using natural gas hot-briquetted iron (HBI) from the United States (NG DRI-EAF) is consistently at a lower cost than the hydrogen-based routes, but could be subject to price exposure. NG DRI-EAF steel only reduces emissions by 35% (or 23% if based on a 20-year global warming potential for upstream methane leakage), raising additional concerns around natural gas products’ ability to meet global emission standards with tightening carbon regulations in many markets.

On the other hand, scrap EAF production can undercut BF-BOF steel production costs with expected policies. However, scrap EAF cannot serve the volumes exposed to CBAM, including flat products such as hot-rolled and cold-rolled coils. Furthermore, certain steel products (e.g., most auto plates) still require input of ore-based metallics to meet specifications and safety regulations. The share of ore-based metallics in end-use steel products is over 50% for the construction sector, and over 80% for other sectors, resulting in an estimated 43 Mt of demand for ore-based metallics today (and about 56 Mt of projected demand in 2035).¹⁰

Additional policy support will be needed beyond what is currently in place to bring ore-based, low-emission steel premiums closer to buyers’ willingness to pay by 2035 and incentivize the deployment of more clean production capacity in coming years.

Exhibit 2

The impact of these individual policies on the green steel premium in 2035 is disaggregated in Exhibit 3 to show the effect of each policy.

Exhibit 3

Assuming that BF-BOF products (with incremental reduction measures like H₂ injection) and NG DRI-EAF products are not eligible, the end-use clean energy vehicle (CEV) tax credit for green steel has the largest impact, significantly reducing or completely covering the green premium by 2035. However, the CEV credit applies only to battery-electric vehicles (BEVs), plug-in hybrids (PHEVs), and fuel cell vehicles, which currently only account for 2.4% of Japan’s domestic automobile sales (0.4 Mt of total steel use). Even assuming a high 15% annual growth rate in the sales of BEVs and PHEVs, the total amount of steel use would only amount to 1.6 Mt in 2035. The second-most impactful policy for ore-based routes is the low-carbon steel tax credit. However, this impact is also conditional on products made using the BF-BOF or NG DRI-EAF route not qualifying for the credit, which is not necessarily the case under the current GX Steel internal carbon banking methodology.¹¹

Regarding capital subsidies, the Green Innovation Fund research and development (R&D) subsidy is markedly less impactful than production or end-use tax credits (resulting in a reduction of only 1% or less in the premium for ore-based routes). The Green Innovation Fund also has a separate ~US$150 million R&D fund for blast furnace hydrogen injection technology, which can only reduce emissions by 13%. The GX Promotion Act, which has issued US$1.76 billion and US$710 million to Nippon Steel and JFE for upcoming BF to EAF conversion projects, respectively, is much more impactful. As seen in Exhibit 3, the scrap-based route, with a smaller premium, benefits most from this subsidy. While support for deployment of EAFs will set up the steel industry well for transition, making targeted investments in ore-based routes is also necessary for market transformation.

Similarly, while lowering renewable electricity costs by 8% proves marginally more effective than removing existing domestic subsidies for coal and natural gas, upstream fuel subsidies (or removals of subsidies) have an overall minimal impact on reducing green premiums, as the cost of green hydrogen in H₂ DRI-EAF remains proportionally high.¹² The hydrogen contract-for-difference (H₂ CfD) scheme (US$19 billion in total funding) has no impact, since it is likely that sectors with a lower cost gap between conventional fuels and green hydrogen (e.g., trucking, shipping, and fertilizer) will outbid steelmakers in the reverse auction system, thus leaving minimal funds available for the steel sector’s hydrogen demand.

Finally, in its current design, Japan’s GX-ETS is not expected to have a large impact on the green premiums for ore-based routes, with only a 2%–3% reduction in cost premiums over BF-BOF in 2035, because of low expected carbon prices and high product benchmarks. The GX-ETS price ceiling for the 2026–2029 period (US$29 per ton of carbon dioxide, or CO₂) is roughly 68% lower than the 2025 average EU ETS price (US$83/tCO₂).¹³ Product benchmarks are estimated to be around 1.8 tCO₂/t HRC for the BF-BOF route during the first few years of implementation, meaning only ~0.1 tCO₂/t HRC will be priced. Decreasing these benchmarks to gradually cover all product emissions (including Scope 2 and 3 emissions) will be critical to incentivize a faster deployment of clean technologies.

Stronger Policy Design Could Reduce Green Premiums to Below 20%

Assuming higher carbon prices, EU-aligned GX-ETS product benchmarks, earmarked H₂ CfD funds for the steel sector, and a 10-year extension to the low-carbon steel tax credit, costs for H₂ DRI-EAF using Australian green HBI are only at an 18% premium over BF-BOF in 2035, which may be within some buyers’ willingness to pay (see Exhibit 4).¹⁴ Assuming voluntary willingness-to-pay or other end-use incentives covering this remaining ~20% premium, H₂ DRI-EAF with Australian green HBI could compete with BF-BOF. Domestic H₂ DRI-EAF still maintains a high premium over BF-BOF, at 40% in 2035. Scrap EAF production is also 16% cheaper than BF-BOF production by 2035. However, when the tax credit and H₂ CfD schemes conclude, a ~20% premium still remains for H₂ DRI-EAF made with Australian green HBI from 2040 to 2050, illustrating the need for supplementary measures that can provide long-term support for cleaner production pathways.

Exhibit 4

Recommendations

With competitive pressure from global overcapacity, tightening carbon regimes, and low-cost Chinese steel on the one hand, and opportunities to capture growing green demand on the other, product differentiation may be key to enhancing competitiveness for Japanese steel producers. Transitioning the steel sector toward cleaner production also creates opportunities for value creation along the clean steel supply chain. Current and planned policies tested in this analysis (i.e., the low-carbon steel tax credit, Green Innovation Fund, and GX-ETS) show that these policies as currently designed still leave a significant cost gap between H₂ DRI-EAF and BF-BOF production in 2050.

Although further analysis will be needed to carefully design a policy mix that is fiscally efficient and impactful, we propose several measures (Exhibit 5) that can support the deployment of some initial clean volumes to help Japan capture growing green demand and maintain access to markets with carbon regimes.

Exhibit 5
Preliminary recommendations for enabling policies

Other considerations include incorporating decreasing product-level benchmarks and an emissions cap under GX-ETS and raising the GX-ETS price floors and ceilings. Developing a clear policy framework for embodied carbon regulations beyond the upcoming life-cycle assessment mandate for buildings can also enable the construction and real estate sectors to make informed investments in low-emission products, likely opening up a significant demand segment for clean steel.

Appendices

Appendix A. Policy Details

Exhibit A1

Extended list of policies along steel supply chain

Appendix B. Modeling Methodology and Assumptions

Exhibit B1

Exhibit B2

Note: The Hydrogen CfD Scheme fund includes ¥3 trillion (US$19 billion) allocated over 15 years (US$1.2 billion per year). For hydrogen products to qualify, they must have an emissions intensity of 3.4 kg-CO₂e/kg-H₂ or lower (well-to-gate, representing a 70% reduction from gray H₂). To estimate the impact of the H₂ CfD, the authors assumed that sectors with smaller cost gaps between conventional fuels and green hydrogen would be the first recipients of H₂ CfD funding, covering the highest willingness-to-pay sector’s total demand before allocating to other sectors.¹⁷ Green demand estimates are based on sector-specific targets and/or nationally determined contribution targets. Hydrogen costs are expected to decrease as electrolyzer technology becomes deployed for various sectors, which will change the estimated cost gaps between conventional fuel costs and green hydrogen.

Endnotes