China's climate opportunity

11 June 2014

Despite publicly rejecting any emission reduction commitment, China has been one for the most active proponents of emission trading over the last nine months. Jeremy Wilcox suggests why.

Beijing has, historically, been reserved on emissions management, taking the view that the developed OECD nations should take primary responsibility for reducing the emissions they have been responsible for creating. Central to this argument has been China's concern that any emission reduction commitment could undermine economic growth, a concern it shares with the USA. With China's annual GDP growth above 7% this argument is becoming difficult to sustain.

But while Beijing publicly rejects any emission reduction commitment, a position it reiterated at December's UN climate summit in Warsaw, China has become one of the most active proponents of emission trading over the past nine months, with seven pilot trading schemes now in operation, and an eighth scheme announced for later this year, with the government also announcing last July that it has agreed the design of a carbon tax scheme.

The value of China's pilot emission schemes is in their diversity. Shenzen, the first to launch last June, has adopted an emission intensity reduction scheme with quotas reviewed and adjusted annually to reflect the emission-economic relationship. This scheme reflects Beijing's current preference for medium and long-term emission intensity reduction targets and has seen appreciable price volatility with carbon trading at 28 yuan/ton at launch before peaking at almost 144 yuan in October and the falling back to around 70 yuan in March.

Beijing's scheme, which launched in November, saw opening carbon prices of 50-52 yuan with free allowances equivalent to 98% of 2010 emissions that will be reduced to an allocation of 94% this year. But it is Guangdong, the fourth scheme to launch in December, that has attracted the most interest with the city seen as a national barometer as it accounts for around 25% of China's emissions.

Guangdong was the first scheme to implement a minimum auction price with 95% of 2010 allowances provided free and the remainder auctioned. The city set the minimum price at 60 yuan and met considerable resistance from most of the 242 companies covered.

Hubei, the latest scheme to launch, is also worthy of a mention as the scheme prohibits the banking of unused allowances and allows credits from carbon offset projects in the province to be used for 10% of the compliance target.

At face value the development of emission trading schemes appears impressive for a country that has largely shunned free market economics and has a heavily regulated electricity sector. But as with most developments in China there is no certainty about how the country will progress with its emission reduction initiatives.

When announcing the taxation scheme the National Development and Reform Commission said it planned to have the scheme operating before the end of the current (12th) Five Year Plan. But few believe this timeline. Indeed the popular consensus is that a tax scheme will not be introduced until later this decade, with 2018-19 seen as the most likely date.

Indeed China's transition from a series of pilot emission schemes to a national trading scheme is not set in stone, with the government merely stating it will review the pilot schemes at the end of 2015. And there is some doubt whether a nationwide, as opposed to regional, scheme would be efficient with the old coal-fired domestic industry in the northeast, ie Beijing, likely to be short on allowances with carbon costs higher than the more modern and efficient, largely foreign investment, southeast economy around Guangdong. Although the minimum auction price in the Guangdong pilot scheme may provide an indication as to how China could develop an efficient and economically fair national market by varying the minimum auction prices across the country to reflect differing carbon intensities.

"The timing of the pilot trading schemes and the carbon taxation announcement appear to be arranged to maximise China's political clout at next year's Paris summit"

There is of course considerable logic behind any delay in national emission trading and carbon taxation until the end of this decade. With the UN climate process aiming to agree a new global climate deal to succeed the Kyoto Protocol at the Paris summit in December 2015, with the aim of the new deal to be operational January 2020, it makes little sense for Beijing to commit to new national emission targets and carbon taxation levels until a new global climate deal has been agreed.

Indeed the timing of the pilot trading schemes and the carbon taxation announcement appear to be arranged to maximise China's political clout at next year's Paris summit. With the integrity of the EU Emissions Trading Scheme impaired by the over supply of allowances and the need to backload allowances this year followed by major structural reform of the scheme, it is difficult to see how Brussels can take the lead at the Paris negotiations. This leaves the world's two major economies, the US and China, with an opportunity to lead next year's negotiations and shape a deal that best meets their economic objectives.

And with a presidential election in 2016, and with an anti-climate action Republican party looking to return to office, Obama's options for negotiating a new climate deal may be limited. China, however, faces no such political divisions and as the unofficial leader of the fast developing non-OECD economies it will have significant support in its climate negotiations.

If China is successful in negotiating a new deal that best suits its economic development plans the West can have little cause for complaint. The EU has long since lost its first mover advantage and further calls for other countries to use its ETS as an emission reduction role model will increasingly fall on deaf ears, regardless of whether its backloading plan is successful. As for the US, its historical political arrogance towards emission reduction targets and the deep-seated climate denial that pervades the country suggests that even with Obama's attempts to develop a more pro-climate economy it has little climate action integrity.

But to empower its negotiating position China first has to prove its own emission reduction integrity, and key to this are the pilot trading schemes now in operation and its commitment to a carbon taxation scheme. And the early signs are looking positive.

Jeremy Wilcox is managing director of the Energy Partnership*, an independent Thailand-based energy and environment consulting firm. 353 Supalai Premier, 9 Ratchadapisek Road, Chongnonsi, Yannawa, Bangkok 10120, Thailand. T:+66 2 163 4073 Mobile: +66 8 6099 3375

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