MIL-OSI Asia-Pac: Guest Article: Can National ETS Help China Meet Its Climate Policy Targets?

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Source: Small Island Developing States

According to the International Energy Agency (IEA), China’s carbon dioxide (CO2) emissions from fossil fuel combustion reached 9.9 gigatonnes (Gt) in 2019, accounting for over 29% of global emissions. The US and India come next, contributing to roughly 14% and 6.8%, respectively. As the largest GHG emitter in the world, China’s climate policy has a tremendous effect on international efforts to combat climate change.

China’s climate policy targets

China’s President Xi Jinping announced the country’s first carbon neutrality target at the General Debate of the UN General Assembly (UNGA) in 2020. “We aim to have CO2 emissions peak before 2030 and achieve carbon neutrality before 2060,” he said. Further, at the Leaders Climate Summit in April 2021, China’s President pledged to phase down coal consumption by 2030, which is another important part of putting the world’s second-largest economy on a decarbonization pathway.

These targets are reiterated in China’s updated Nationally Determined Contribution (NDC) submitted days before the 26th session of the Conference of the Parties to the UNFCCC. The NDC also includes targets for gross domestic product (GDP) carbon intensity, wind and solar power capacity, as well as forest stock volume targets. Short-term climate and energy policy targets over the next five years and more long-term prospects for 2035 were elaborated in the outline of the 14th five-year plan published in March 2021, under which sector-specific and regional plans are being developed.

China’s authorities expect that a national carbon trading system will enable low-cost achievement of climate targets and accelerate the transition towards low-carbon development.

Launch of the national ETS

After years of preparation and piloting of regional emissions trading schemes (ETSs) in eight provinces, a country-wide National ETS was finally launched in 2021. At the beginning of the year, the Chinese Ministry of Ecology and Environment (MEE) released key ETS policy documents, and trading commenced in July.

The ETS encompasses more than two thousand companies in the power sector, each with annual emissions of higher than 26,000 tCO2 in any year over the period 2013-2019. It is estimated that the ETS will cover approximately 4 billion tCO2 (40% of national carbon emissions), making it the world’s largest ETS accounting for 12% of global CO2 emissions. The scope of the ETS is expected to be extended in the future to seven additional sectors – petrochemical, chemical, building materials, steel, nonferrous metals, paper, and domestic aviation.

Unlike the EU ETS, China’s system is intensity-based: allocation of allowances is based on historic output levels and carbon intensity benchmarks, measuring the amount of emissions per unit of energy generated, – rather than an absolute emission cap. China uses a bottom-up approach, whereby the sum of total allocated allowances forms a cap, which can change in line with production levels. This approach effectively means that compliant entities can increase their absolute emissions due to growth in production volumes as long as emissions per output of production decrease. Free allocation is currently used but auctioning may be introduced at a later stage.

According to current procedures, gas-fired installations will only need to surrender allowances up to the level of free allocation, while other entities are required to surrender allowances covering free allocation plus 20% of their verified emissions. Failure to submit an emissions report on time is subject to a fine of CNY 10,000 to 30,000 (USD 1,449 to 4,347), while a fine of CNY 20,000 to 30,000 (USD 2,898 to 4,347) is envisioned in case of failure to meet compliance obligations.

Role of the National ETS in meeting China’s climate targets   

Regional carbon trading systems piloted in China delivered reductions of both absolute emissions and emissions relative to output. For example, carbon emissions of entities listed on the China Emissions Exchange (Guangzhou) decreased by 12.3% from 2013 to 2019. The carbon intensity of about 250 major carbon emitters in Guangdong dropped by 21.6% in the same period.

However, opinions on whether China’s National ETS will deliver actual emissions cuts are divided. A study by the IEA and Tsinghua Institute of Energy, Environment and Economy finds that the National ETS “can cost-effectively make power sector CO2 emissions peak before 2030.” However, the study makes an assumption that benchmarks will gradually be tightened, which has not yet been promised by the Chinese regulators. Cyril Cassisa, lead author of the IEA paper, notes that even under the current design, the ETS would stimulate compliant firms to integrate carbon reduction measures into their strategies. According to a Refinitiv model, the ETS in its current form could deliver a modest reduction of 200-300 MtCO2 per year.

Other experts, though, have expressed concern that China’s National ETS is unlikely to deliver emissions reductions due to weaknesses in its current design, including its emissions intensity-based approach, the lack of an absolute emission cap, limited coverage, and soft compliance obligations. According to estimates by the think tank TransitionZero, China’s ETS was oversupplied with allowances by approximately 1.6 billion tCO2 – 17% more than needed for regulated entities under the first trading period. For this reason, experts argue that in its current design, the National ETS “will likely have no impact” on emissions.

Nevertheless, some researchers argue that the launch of the National ETS is an important and long-awaited step, even if its effectiveness could be fine-tuned in the coming years by revising its design elements and imposing more stringent requirements on participants. Yan Qin, lead carbon analyst at Refinitiv, notes that a “soft opening” of the scheme was important to enrol the largest emitters in the power generation. “You need to have the thermal producers on board, but after a few years that scheme has to be tightened,” he said.

The launch of China’s National ETS is an important step forward in the country’s climate policy, but the extent to which it has an effect on global GHG emissions will likely depend on its further revisions.

By Yuliia Oharenko, Associate, IISD Energy Program

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