Abby L. Harvey
GHG Monitor
12/5/2014
A cap and trade system as employed by Europe and parts of the U.S., is not feasible in China, leaving the regulators of China’s pilot cap and trade programs to find innovative ways to tailor a cap and trade system to fit their unique circumstances, researchers from Resources for the Future said during a presentation hosted by RFF this week. Within China seven pilot cap and trade pilot programs are underway, each independent and unique. Knowledge gained from these programs may be used in the future in the implementation of a nationwide program. “The big question is, can a non-market or partial-market economy like China, embrace a market oriented program like cap and trade. That’s fundamental. … I think the jury is out. In some instances the regulators have clearly adapted cap and trade to the particular institutional arrangements that exist in China and in other instances it appears as if there are some gaps that are going to have to be addressed sooner or later,” Richard Morgenstern, Senior Fellow at Resources for the Future said.
Focusing on three of the seven pilot programs, Morgenstern and Clayton Munnings, Research Associate at RFF noted several ways in which a “western” cap and trade system would need to be adjusted to fit into the Chinese system. For example, China’s large state-owned enterprises do not act dependent on the market so a market based system would have little effect on them unless compliance with the system is drafted into their performance reviews, Munnings said.
Controlled Energy Market Presents Challenge
A significant challenge in implementing a cap and trade program in China is presented by state set electric prices. “Arguably the ultimate objective of a cap and trade program is to communicate a carbon price to every actor in the economy. The way that western programs typically try to achieve that is that they cover the electricity sector and generally rely on electricity producers to pass along allowance costs to consumers. In this way, theoretically, both electricity producers and electricity consumers are acting under the same carbon price and therefore reductions are achieved at the least cost,” Munnings explained. Because the electricity producers in China do not control electricity prices they cannot pass on the allowance cost to consumers. “Basically, if pilots only regulated the electricity producers the carbon price would only be communicated to one small part of the economy, the electricity producer, and not the entire economy, that includes the electricity consumers. So this arrangement leads to some inefficiencies,” Munnings said.
To address this issue, the pilot regulators have expanded the cap and trade market. “Pilot regulators chose to cover electricity producers … and consumers, so that means large industrial and commercial consumers of electricity are allocated allowances, they can trade allowances on the market and they have to retire an allowance for each carbon emission associated with their electricity consumption,” Munnings explained. “It represents a deft or clever tailoring of cap and trade to China’s controlled electricity market. It effectively communicates the carbon price to a larger portion of the economy, brings online some cheap reductions and at least partially restores the efficiency that you would expect from a western cap and trade program.”
National Policy Must Acknowledge Cap and Trade Penalties
While the pilot programs include significant financial penalties for non-compliance, in most cases these are negated by national laws, Munnings said further explaining that because Chinese law is hierarchal, the cap and trade penalties hold little weight at the level at which they are implemented. “The National People’s Congress, which is the highest body of law in China, has passed two major laws that only authorize a one-time fee of [$16,000] for non-compliance with environmental regulation. In most cases unfortunately these laws seem to overrule the non-compliance penalties encoded in the pilots because their law is inferior compared to national law,” he explained. “As the law currently stands, such a low and infrequent penalty structure almost certainly does not share strong enough incentives for firms to actually comply with cap and trade programs.”
