Emissions trading schemes rely on a carrot-and-stick approach. Companies that disgorge greenhouse gases in excess of the permits they are assigned need to buy extra in the market. Those with quota to spare can profit from being energy efficient. Recognised by the 1997 Kyoto Protocol as an effective means to combat environmental degradation, the market-based trading mechanism drew its conceptual underpinnings from Nobel laureate Ronald Coase, who argued that negotiation (enabled by well-defined property rights) is a better way to handle undesirable economic byproducts than taxation.
In its drive to see China’s carbon emissions peak before 2030 and achieve a net-zero footprint by 2060 (see WiC513), the Chinese government kickstarted a programme last month that will enable Coasean bargaining to take place on a nationwide scale. Ultimately any firm that discharged over 26,000 tonnes of carbon dioxide (or its equivalent) in any year between 2013 and 2019 will be required to join. However, in the inception phase only the thermal power sector will be compelled to participate in the scheme – although that is still significant as it makes up nearly half of the nation’s carbon discharge and 14% of the world’s total, according to data from the International Energy Agency. Players in the aluminium, aviation, cement, chemicals, petrochemicals, pulp and paper as well as steel industries are expected to join future phases of the plan.
The Chinese government said on Sunday that the online trading system for this inchoate marketplace will be up and running by the end of the first half of 2021. The announcement followed a two-day visit by Minister of Ecology and Environment Huang Runqiu to Wuhan and Shanghai, the two cities which will host the national registry and bourse respectively. Meanwhile, the first batch of 2,225 companies taking part in the scheme will focus on reporting and verifying their emissions data over the past two years – so that their initial allocation of emissions allowances can be determined.
Beijing likely hopes that its carbon market proves to be as successful as its 16 year-old counterpart in the European Union. Accounting for almost 90% of the global market value of carbon emissions permits, and the bulk of the traded volume in 2020, the EU’s cap-and-trade platform saw prices hit a record high above €33 ($40) per tonne of carbon-dioxide equivalent in 2020, while trading volumes surged by a fifth compared to a year earlier.
Last year the bloc’s power and industrial sectors cut their emissions by 14% on the year to their lowest level in three decades, estimates Refinitiv. That prompted EU leaders to adopt a more ambitious target for greenhouse gas reduction: down 55% by 2030 compared with 1990 levels, instead of 40% as previously agreed.
It won’t be straightforward for China to make similar progress – as the patchy record of its previous pilot carbon trading schemes suggests. Since 2013, eight regions and cities including Shenzhen, Guangdong, Fujian, Chongqing, Beijing and Tianjin have established their own carbon markets, enabling transactions worth Rmb5.2 billion ($800 million).
But little impact was seen on key metrics such as carbon dioxide emissions per unit of GDP, noted a research team led by Renmin University in Beijing. It cited “capacity deficits” in monitoring emissions on the part of local authorities and “irrational quota allocations”.
Some commentators says that the rules of the national programme are too lenient. “The initial compliance burden on thermal power will be limited because free allowances are allocated to power gencos based on their actual power and heat generation in 2018 with some adjustments, and compliance costs are capped at 20% above an entity’s free allowance,” explained Fitch Ratings.
“Free allocation makes it difficult for companies to conceive of the price as representative of a true cost. This is a key factor in why the regional markets have not been very active, and consequently not led to genuine price discovery,” China Dialogue, a climate news outlet, reckons.
That said, China’s national carbon trading market, if executed successfully, should prove to be the world’s largest, given the massive addressable market. Despite being the planet’s largest producer of renewable power from wind and solar photovoltaics, China is still meeting 85% of its energy needs with fossil fuels, with coal taking an outsized share of 57% (currently China is responsible for 28% of the world’s pollution, although Chinese policymakers often argue that China’s per-capita emissions – as well as its historical emissions since the Industrial Revolution – are both dwarfed by the US). To put the numbers in perspective, China’s thermal power industry currently accounts for twice the emissions of the EU carbon market, according to the Lowy Institute, a Sydney-based think tank.
Carbon prices in China are expected to climb steadily. Starting at Rmb49 per tonne on average, they will rise to Rmb71 in five years and reach Rmb93 by the end of the decade, forecasts China Carbon Forum, a non-profit organisation, after surveying 567 stakeholders in China’s carbon industry. Such an increase ought to spur more investment in renewables, as well as more focus on energy efficiency, smoothing the way for China’s low-carbon transition. By 2030 the country is targeting a 65% reduction in carbon emissions per unit of GDP from the 2005 level.
Beyond meeting its own emission pledges, China has a strong incentive to decarbonise. With the EU’s ongoing tightening of its energy labelling rules, Chinese producers will have to ensure their products are low-carbon enough to be eligible for export to Europe, making the trading of carbon offsets more important than ever.
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