Construction materials sector, including cement and steel will likely come as the first target in 2022 in a bid to expand China’s carbon market coverage and increase the cost of emission.
After years of pilot trading in eight provinces, since 2013, China launched its national Emission Trading System (ETS) on 16 July 2021. China’s national ETS was still in the early stage. Its carbon price is still too low to effectively curb emissions, with some observers casting doubt on whether its national ETS can make a big difference in the country’s decarbonisation effort, according to Bank of America (BofA) analysts Miao Ouyang and Helen Qiao, in a recent note.
“One major concern often cited is the low carbon prices/emissions costs compared with many other markets. Clearly, for the national ETS to play a more effective role, the costs of emissions need to rise gradually and substantially,” said BofA analysts.
Since the launch in July 2021, the total trading volume of China’s national ETS hit 185 million tonnes, with the carbon price currently around RMB58 ($9.14) per tonne. As comparison, the carbon price of South Korea’s Korea ETS was $27.64/tonne while at the long established European Union (EU) ETS, the carbon price stood at about $28/tonne.
For the initial phase, the national ETS includes 2,162 power plants across the country. Combined, they are responsible for 4.5 billion tonnes of carbon dioxide emissions annually or almost half of China’s total amount. China’s national ETS, which accounts for 7.4% of global greenhouse gas emissions, overtook EU ETS as the world’s largest emission trading market.
Expanding the coverage is one of the steps that Beijing will need to do to develop its carbon. Industrial sector, which is the second largest source of carbon emission in China accounting for 28%, would be the next target to be included in the national ETS.
Under the country’s 14th Five-Year Plan from 2021 to 2025, the government plan to include the top eight emitters into the national ETS. The sector are chemicals, petrochemicals, iron and steel, non-ferrous metals, building materials, paper, power and aviation.
Other steps to make the national ETS to function, BofA said, is by reducing the amount of free allowances allocated while increasing the share needed to be purchased, the government could lift carbon prices to discourage emission.
“The regulators must also establish a monitoring, reporting, and verifying emissions data to enforce rules and penalising non-compliant behaviours,” said the analysts.
According to BofA, the penalty for non-compliance in China’s national ETS is mild. The national ETS sets a 20% cap on the obligation for heavy carbon emitters, as a purpose to mitigate their burdens. Power plants that have emissions above 20% of their freely assigned allowance only need to buy 20% from the market at a relatively low-cost to meet the shortfall. Penalty for non-compliance or forged information is only a maximum fine of RMB30,000.
In comparison, regulated entities must pay an excess emissions penalty of EUR100 per tonne of carbon dioxide and the names of non-compliant operators are also made public under the EU ETS.
Emission trading derivatives
China’s national ETS should also develop an emission trading derivatives market.
“By allowing trading of derivatives contracts based on emissions allowances and offsets and involving more market participants (e.g., financial institutions), it could enhance the transparency (by providing forward information) and liquidity of an ETS,” BofA analysts said.
More than 90% of the transactions in the EU ETS are associated with derivatives.