China’s national emission trading system (ETS) turned one year old on 16 July. The world’s largest ETS in terms of covered emissions is seeing price rise steadily. In addition to addressing challenges, including those identified by respondents to Refintiv’s 2022 Carbon Survey, the market is eyeing expansion and the inclusion of new industrial sectors during 2022-23.
- During its first year of operation, more than 2,000 companies in the power sector participated. This included obligatory results from power generators.
- Price increased steadily, up 20 percent from the launch of trading. The market value of China’s ETAs is now 8.5 billion CNY (~€1.2 billion) with nearly 194 million tonnes of China Emission Allowance (CEA) transacted.
- Refinitiv’s 17th annual carbon market survey provides insight into key challenges for the ETS and areas for expected expansion. Policy clarity and opaque data lead the challenges, while new benchmarks, regulatory focus, and expansion to additional industry sectors and investor groups are key areas of focus for 2022-3.
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One year ago, on 16 July 2021, China’s national emission trading system (ETS) kicked off trading at the Shanghai Environment and Energy Exchange (SEEE).
This national carbon market, which involves more than 2,000 companies in the power sector participating in the market throughout the year, was built upon China’s ten years’ experience from eight pilot ETSs in operation.
Only power generators currently have a compliance obligation, but the scope will expand in the coming years with all industrial sectors likely to be added.
China’s national ETS – the world’s largest in terms of covered emissions – marked its first-year trading anniversary, with the price rising steadily, a historic moment.
- As of 16 July 2022, the market value of China’s national ETS has reached 8.5 billion CNY (~€1.2 billion), with nearly 194 million tonnes of CEA (China Emission Allowance) transacted.
- The price of national carbon emission allowances (CEA) has soared from 48 CNY/t (~€6) to a maximum of 61 CNY/t (~€9), and the price has fluctuated from 58-60 CNY/t (~€8-9), up 20 percent since the launch of trading.
- According to respondents to Refinitiv’s 2022 carbon market survey, key challenges including opaque fundamental data and MRV issues have affected the current market liquidity. However, with the market becoming more mature, the liquidity will be higher.
- In 2022, the second year of China’s march towards ‘dual carbon’ goals, the market is eyeing expansion and further design revisions, as the start of a new era.
National ETS performance in the first year of trading
An important tool in China’s climate policy, China’s national ETS is helping the country to achieve its climate pledge after more than 10 years of preparation.
In its first trading year, China’s ETS has closed the market at 58.24 CNY/t (~€8) on 15 July 2022, the last trading day before its one-year trading anniversary.
The first compliance period of China’s national ETS ended on 31 December 2021 and was in line with expectations.
A total of 179 million tonnes of China Emission Allowances (CEAs) changed hands over the 114 trading days in 2021, with a high compliance rate of 99.5 percent. (This compares with EU ETS’s sub-80 percent compliance rate in 2005, its first year of trading – this will be discussed in more detail in a subsequent blog.)
The carbon emissions allowances closed the year at 54.22 CNY/t (~€8), up 13 percent from the opening price of 16 July 2021.
In H1 2022, a total of 15 Mt of China Emission Allowance (CEA) has traded in the market, with prices ranging from 55-60 CNY/t (~€7-8), including listed and OTC bulk trade.
Though this price level is just a fraction of the current EU ETS price of around €80/tCO2 and has raised doubts about the China ETS’s impact in driving emission reduction, the allowance price is rising steadily.
With China marching towards ‘dual carbon’ goals, the national market is eyeing expansion and further design revisions. The national market will become more mature and marks the start of a new era for pushing China’s decarbonisation.
Key challenges ahead
According to the results of Refinitiv’s 2022 survey, the largest challenges for China’s national ETS are data quality and MRV (Monitoring, Reporting and Verification) issues.
Nearly half of the respondents chose opaque fundamental data as the most important challenge for ETS operation.
This result is corroborated by evidence from China’s Ministry of Ecology and Environment, which held 31 working groups from October through December 2021 to investigate firms’ compliance reports.
Their findings show that most of the 2,000 compliance entities in the national ETS had some type of data issue related to emissions MRV. This delayed trading until H2 of 2021: the government pushed back the distribution of allowances by two months and ordered provinces to double-check their historical emissions reports.
Nearly half of Refinitiv 2022 survey respondents mentioned MRV and technical issues as the most urgent problem for China’s national ETS, specifying the absence of information.
This could reflect the state of existing ETS policies, which are still mostly in “draft” or “trial” stage, or marked “for consultation purposes”. With no law in force, penalties for data fraud remain limited.
These key challenges have affected the current national market’s liquidity. However, with the market becoming more mature, the liquidity will become higher and push the China national ETS to another level.
Evolution: eyeing expansion and expecting design revisions
Looking ahead, 2022 will be a year of progress toward China’s dual carbon targets. The sheer size of emissions covered in the ETS underpins its significance.
It is expected to cover 60 percent to 70 percent of China’s total emissions when both power and industry sectors are included.
Even if the current ETS price level is not enough to significantly impact investment decisions, the benchmarking exercise, and emissions reporting and verification are good steps forward.
Furthermore, despite its design flaws, the ETS is a tool for China to use as leverage in discussions with the EU concerning the Carbon Border Adjustment Mechanism currently under discussion by European lawmakers.
There is much to expect in 2022 as China’s national ETS enters its second compliance period:
- The Ministry of Ecology and Environment will likely release new, stricter benchmarks for the market.
- The State Council is expected to finally approve the ETS regulation which will lift the ETS policy framework higher in the regulatory hierarchy.
- There will be additional progress in expanding carbon trading to financial investors and the introduction of carbon derivatives trading, in either late 2022 or 2023.
- The expansion of the ETS to more industry sectors will continue and will include data collection and benchmark setting.
Our survey respondents believe that the iron and steel sector’s production is most likely to be included next. Building materials (including cement) and non-ferrous metals are also considered highly likely.
We may also see the national ETS gradually introduce auctioning of allowances and reduce free allocation.
As in the European carbon market, the revenues from auctioned allowances could be used to fund investments and innovation in low-carbon technology.
How can China’s national ETS be improved?
Building up an ETS is not an easy task. The EU ETS experienced significant downturns, starting with a three-year pilot period in 2005–2007, which was immediately followed by the 2008–2009 financial crisis when prices remained in single digits for several years due to heavy oversupply.
The EU ETS finally took off in 2017 when the market reform debate began.
This pathway tells us that sturdy long-term climate goals and tighter rules for handing out allowances in the ETS will help the carbon price to discover its true intrinsic value and reflect abatement costs.
Experiences from the EU ETS’s success will guide the China ETS to get on track more quickly incentivise decarbonisation in the power and industry sectors.
At present, China’s national carbon market does not include financial products such as futures and derivatives. Because it is crucial to involve more carbon products to discover the marginal cost of carbon in China nationally, regionally and under the scope of industry level – which helps the sectors to decarbonise at the lowest cost – there is capacity to enhance the market, while also anticipating exciting new achievements.
A new era of China’s national ETS is on its way.