As I wrote at National Review yesterday, China’s newly debuted Emissions Trading Scheme (ETS) is less than meets the eye.

Here are the major takeaways:

  1. The plan does not set a hard cap on emissions.
  2. The plan grants permits free-of-charge, rather than auctioning them.

Here’s a bit more depth:

China’s ETS grants emissions allowances to 2,200 companies that operate coal- and natural-gas-fired power plants across the country. The scheme builds on regional programs in 7 areas, including Beijing and Shanghai.

The ETS is limited to the electric sector and will cover facilities that generate 40 percent of the country’s greenhouse gas emissions.

Allowances are based on facilities’ carbon intensity and on historic power production, rather than on absolute volumes of emissions.

The plan does not place a firm cap on emissions, even though it is ostensibly a cap-and-trade program. The nominal cap will be adjusted based on actual production of electricity each year.

Trading launched on July 16, 2021 at around 50 yuan ($7.72). By August 20, allowances were being traded for less than 50 yuan. These prices are similar to those of the Regional Greenhouse Gas Initiative in the United States, but far below those in the European Union ETS, which exceed €50 at this time.

China’s ETS might bend its emissions curve ever so slightly, but because of its design it will in no way reduce emissions in the near term.

Another challenge for China’s system’s success will be the country’s struggle with corruption—a societal feature that tends to be exacerbated when the state takes economic primacy. According to Transparency International’s 2020 Corruption Perceptions Index, China ranks below 77 other countries, including places such as like Cuba and Belarus.

Relatedly, China has a recent history of failing to enforce environmental standards, such as the 1987 Montreal Protocol. According to atmospheric-circulation analysis conducted in 2018 by four independent modeling groups, chemical plants in eastern China have been generating the compound trichlorofluoromethane, a chlorofluorocarbon the Montreal Protocol bans.

The journal Nature says the findings were “the culmination of years of scientific sleuthing,” but China’s government “disputes that there is enough evidence to pin the recently discovered spike in emissions on China,” according to Nature’s David Cyranoski.

In climate policy enforcement, China’s regional pilot programs for emissions trading have been plagued by records falsificationAnd reports have already emerged of companies attempting to game the new national ETS. Further, the maximum fine for noncompliance or falsifying information is a modest 30,000 yuan ($4,6353), effectively setting an upper bound that a company would need to pay under the system.

While some environmental activist groups, such as the Environmental Defense Fund, have cheered the new program.

The reaction from serious analysts has been tepid.

Carbon Brief’s Hongqiao Liu, for example, says, “Unlike other ETSs, the Chinese scheme does not currently put a fixed cap on emissions, nor promises a declining cap over time. Therefore, it is not guaranteed to cut carbon.”

Yan Qin, economist and lead carbon analyst at Refinitiv, says, “The current design, this intensity-based target that you allow emissions to increase, that is not very helpful.”

Jane Nakano and Scott Kennedy, of the Center for Strategic and International Studies, say, “On one hand, the intensity-based approach would allow Chinese economy to continue to grow while managing CO2 emissions. On the other hand, relying on the intensity reduction but not capping emissions, either at a fixed level or declining over time, would not guarantee overall emissions reduction even if it led to improved energy efficiency. Also, an ETS has limited room for success if the emissions it allows are not significantly lower than the emissions currently in place even if the aforementioned factors worked well. The International Monetary Fund estimates that the price of carbon credits will need to reach around $50/ton to effectively drive down carbon emissions in China. Given China’s current and forecast rates of economic growth, there is good reason to doubt that China’s focus on intensity will satisfactorily facilitate a rapid energy transition.”

With that said, it is the case that the scheme establishes the bureaucratic infrastructure that would enable a meaningful program to be implemented in future.

The steps that would make this program meaningful would be to establish a hard cap on the electric sector (if not the entire economy), to auction permits rather than give them free-of-charge, and to stiffen the consequences for noncompliance.

China may someday take those steps. For now, its economy will continue to grow based on the power provided by coal and (increasingly) natural gas.

China’s coal use will be sticky. According to International Energy Agency data, more than half of the emissions from China’s coal-fired power plants in 2018 came from facilities under ten10 years old. Natural gas use, meanwhile, has doubled in ten years.

China’s 14,093 gigatons of GHG emissions in 2019 represent a 25-percent increase over the last decade. Today, China is responsible for 27 percent of global greenhouse-gas emissions, more than all of the world’s other advanced economies combined. By 2030, the International Monetary Fund expects that China’s portion will reach 32 percent.

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