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With cap and trade plan, China adopts emissions policy that couldn’t get through U.S. Congress

Chinese President Xi Jinping at the start of a meeting with United Nations Secretary-General Ban Ki-moon at the start of a meeting on the sidelines of a plenary meeting of the United Nations Sustainable Development Summit and on the eve of the General Debate of the UN General Assembly in New York, New York, USA, 26 September 2015. EPA/JUSTIN LANE
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China may be the world’s largest greenhouse gas producer, but Chinese President Xi Jinping is likely to make his new commitment to introduce a nationwide cap and trade program to limit greenhouse gas emissions a centerpiece of his speech at the United Nations General Assembly Monday morning.

But far from the television lights of New York, the effectiveness of an emissions trading system, now being used by seven Chinese cities, will hinge on how the system is designed and implemented. Emissions trading has had a mixed track record in the European Union. And the rollercoaster year in China’s own equity markets raises questions about whether a market in greenhouse gas permits there can be any more stable and transparent.

“On the surface, Communist China has the opportunity to create a far more economically efficient emissions reduction effort than the command and control regulations which the supposedly free market U.S. has adopted,” said Paul Bledsoe, an energy consultant and former Clinton White House official on climate. “But whether China can accomplish the transparency needed to instill market confidence is an open question.”

Transparency – or lack of it – has been the major issue in China’s own pilot programs. In a government-created market, the rules government lays down for emissions levels and which emissions are targeted are critical. But people who have advised the Chinese government say the lessons from the pilot programs will make the nationwide plan stronger.

“In the short term I don’t think it will be the major way China reduces emissions,” Song Ranping, climate expert at the World Resources Institute, said in an interview. “The main drivers will be other policies like energy efficiency policies and renewable energy policies. But over the long term, an emissions trading scheme does have the potential to be the main driver of carbon reductions.”

The cap and trade scheme for controlling pollution was pioneered in the United States to reduce power plant emissions of sulfur dioxide and nitrogen oxides, which cause acid rain. Under the Clean Air Act of 1990, the government established a mandatory cap on emissions and allowed companies the flexibility to figure out how to comply. The power companies ended up cutting emissions sharply and at much lower cost than anticipated. By 2013, sulfur dioxide emissions plunged 80 percent to a level well below the statutory requirement.

But Europe’s cap and trade program for greenhouse gas pollution has failed in many respects. Launched in 2005, it covered 13,200 facilities, responsible for about half the European Union’s emissions. But the cap was set too high and was easily reached, especially after the 2009 recession and with lingering economic weakness in Europe. Carbon emission permit prices collapsed from around $40 per metric ton of carbon to single digits. Recently prices have crawled back up to about $10, still providing companies little incentive for cutting greenhouse gas output. The system currently has a glut of more than two billion emissions permits.

In 2006, California adopted legislation setting up a carbon trading scheme, but it took a few years before the details could be ironed out. It aims to reduce emissions to 1990 levels by 2020, an 18 percent reduction from projected business as usual levels. It is still early going for the plan, but permit prices have been fluctuating between $15 and $20 a metric ton of carbon in the power sector.

During Obama’s first year in office, the House of Representatives adopted a complicated cap and trade plan known as the Waxman-Markey bill, but the plan died in the Senate after an aggressive lobbying campaign led by oil and coal companies. It was never brought to the Senate floor for debate or vote. Many experts also cited the plan’s complexity and its assumption that technology developments would help firms comply.

China’s own pilot projects in emissions trading have been varied. Guangdong’s is the biggest and only one to auction some emissions permits, providing the government there with extra revenue. Shanghai is the only one requiring domestic airlines to buy permits, something Europe has been looking to do but which has run into vociferous objections in the United States. And Shenzhen and Tianjin both allow individual investors and financial institutions to trade emissions permits, boosting trading volume – and possibly price volatility. Over the last six months of 2013, Shenzhen’s carbon price fluctuated from 28 renminbi to 130 renminbi ($4.50 to $20).

Unlike many Chinese cities, Beijing and Shenzhen have small industrial sectors and large service economies. So in order to increase the percentage of emissions covered by their trading systems, both Beijing and Shenzhen have required key service firms to join the schemes. Beijing is the only pilot that requires annual absolute emission reductions for existing facilities in the manufacturing and service sectors. By this year, companies in Beijing will receive allowances for just 94 percent of their average emissions between 2009 and 2012, according to Song.

The pilots carry some important lessons for a national program in China. “Since electricity prices are heavily regulated in China, power plants cannot pass their carbon costs on to consumers through electricity prices,” Song wrote last year . “This policy therefore provides little incentive for demand-side electricity management.”

“These cities know that if they are going to have credibility that the underlying currency needs to be solid,” said Christopher James, a principal in the China programs of the Regulatory Assistance Project, a group of former U.S. Environmental Protection Agency regulators and former public utility commission members.

James says that China’s President Xi’s announcement of “green dispatch” requirements was just as important as the cap and trade scheme. The “green dispatch” system will give non-carbon producing renewable energy projects top priority on the electricity grid even if that means cutting back on electricity produced with fossil fuels, usually at cheaper prices.

Currently, all Chinese power generators are required to run 5,000 hours a year, regardless of economic or pollution costs. Thus a new efficient coal plant runs now more than an old, costly, highly polluting coal plant, said James. “From a grid operation viewpoint, I guess it’s pretty simple but it does not at all result in dispatching the most economic units first or reward efficiencies,” he said. He said several percent of the capacity of wind projects in northwest China were not connected to the grid.

From 2006 to 2010, China closed down 72 gigawatts of inefficient coal plants – equal to three times the capacity of New England’s electricity grid. Under the 12th five year plan, China has shut down an additional 40 gigawatts, but many remain.

The new green dispatch rules also will make room for new renewable projects, which China has vowed to double. While building coal plants at a breathtaking pace, for the past six years China has also been the world’s largest investor in renewables and other clean power sources and it is now number one in installed wind and soon will be for installed solar photovoltaic panels too.

Once considered a laggard on climate issues, China has been frequently cited by American politicians and corporate executives as evidence of the futility of actions designed to limit greenhouse gases elsewhere. Now, however, China might not be so easy to use an excuse for inaction in the United States, Obama administration officials and others said.

Carol Browner, former climate adviser to Obama and Environmental Protection Agency chief under President Clinton, said in an e-mail that “with China’s commitment, opponents of climate action here in the U.S. are running out of excuses, unfortunately not as quickly as the earth is running out of time.”

But Chinese leaders have been motivated not only by President Obama’s relentless pressure for international action on climate change, but also by domestic anger over the severe bouts of conventional air pollution in China, much of it smaller than 2.5 micrometers, particularly harmful for respiratory illnesses.

“It merits mention that success with the emission trading system can be a one-two punch helping to lower both CO2 and PM2.5-the latter the main source of the crippling pollution in Chinese cities,” said Jennifer Turner, director of the China Environment Forum at the Woodrow Wilson Center. “The air pollution problem is a big motivator for Xi to push this and the cities to try to implement the emissions trading system — along with all the other regulations and rules coming out on air pollution.”