Guangdong Pilot Emissions Trading Scheme Report ( ) Sun Yat-sen University, Research Center of Low Carbon Technology and Economy ICIS China

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1 Guangdong Pilot Emissions Trading Scheme Report ( ) Sun Yat-sen University, Research Center of Low Carbon Technology and Economy ICIS China Guidance from: Guangdong Development and Reform Commission, Division of Climate Change

2 Sun Yat-sen University, Research Center of Low Carbon Technology and Economy Research Center of Low Carbon Technology and Economy of Sun Yat-Sen University, an interdisciplinary research institute established in 2011, is a team who plays an important role in low carbon development policy-making for Guangdong. The center is a green development-oriented institute, devotes itself to study on mitigation and adaptation to climate change, 3E (energy-environmenteconomy) coordinated development theory. In the meantime, the center engages itself in policy, plan and criteria research and making, and in electronic information system for low carbon development. It provides services including strategic consultations and technology supports for government, enterprise and the public. The center has more than 30 staffs, and has undertaken a series of projects on provincial pilot of low carbon development, ETS allocation plan, MRV system construction, low carbon development plan, carbon emissions peak prediction, etc. It has published dozens of research reports, academic papers and books, and developed the greenhouse gas emission database, carbon emission reporting and verification platform, low carbon knowledge platform. It also has the ownership of more than 10 patents and software copyrights. Please visit our website for more information: Address: 135 Xingang Rd. W., Sun Yat-sen University, Guangzhou Postal code: Telephone: Fax: ICIS ICIS is the world s leading commodities markets information provider and a subsidiary of Reed Elsevier. Our aim is to give companies in global commodities markets a competitive advantage by delivering trusted pricing data, high-value news, analysis and independent consulting, enabling our customers to make better-informed trading and planning decisions. We have more than 30 years experience in providing pricing information, news, analysis and consulting to buyers, sellers and analysts. With a global staff of more than 800, ICIS has employees based in Houston, Washington, New York, London, Montpellier, Dusseldorf, Karlsruhe, Milan, Mumbai, Singapore, Guangzhou, Beijing, Shanghai, Yantai, Tokyo and Perth. ICIS provides research and price forecasts in the European Union carbon market and United Nations Clean Development Mechanism emissions-credit program. The company has quickly established a strong reputation for carbon market analytics and price forecasting. ICIS s products include weekly and monthly updates/reports, carbon allowances price forecast, in-depth analysis of the carbon market and development etc. We currently cover: EU-ETS, Californian-ETS, Chinese-ETS, Korean-ETS and CDM. Please visit our website for more information:

3 Table of content 1 Guangdong Carbon Emissions Trading Scheme Review Background Development progress Policies, laws and regulations Management structure Market participants Report verification Management of allowances Status of completion of compliance obligation Market operations Systems construction International cooperation Mechanism innovation Effects of Guangdong ETS Remarkable results in carbon emissions reduction and meeting the province s emissions target Promote the elimination of outdated production capacities and optimize industrial structure Improve companies carbon awareness and strengthen carbon management capability Enhance Guangdong s influence in international carbon markets Actively explore the building of carbon inclusive system and carbon finance Unique Characteristics of Guangdong ETS Imbalanced regional development and wide sector coverage Provincial and municipal two-level management, integration of government, industry and research China s largest ETS in terms of size and trading volume First Chinese pilot ETS to implement carbon allowances auction.. 12

4 3.5 Using auction revenue to set up China s first low carbon development fund First Chinese Pilot ETS to include new entrants Active consideration on carbon market linkage and the first to open up carbon market Pre-allocated allowances to adapt to economic fluctuations Simultaneous allocation of allowances to both power producers and users Attract financial capital and innovative trading methods Explore on carbon inclusive system and encourage low carbon lifestyle Experience from Guangdong pilot scheme Preparing for the National ETS Problems encountered and solutions Design of Guangdong carbon trading mechanism 19 5 Results and analysis of the survey on compliance companies in Guangdong ETS Overview Analysis of sector situation and trading behavior Management of company s carbon allowances Risks that compliance companies face Carbon allowances management for compliance companies Case study 34

5 Being the largest pilot carbon emissions trading scheme (ETS) among the seven Chinese pilot schemes, Guangdong ETS officially launched trading on December 19 th Since then, it has achieved outstanding results in the first carbon allowances compliance year which ended on July 15 th Guangdong s second compliance year began in August 2014 as planned. In this report, we will look back into the two-year developing phase and one-year operating phase of the Guangdong pilot ETS, summarizing the work achievements, characteristics and experiences, as well as present the overall situation and essence of the pilot scheme, in order to provide practical reference and experience for the construction and development of the National ETS. Sections 1.1 to 5.1 were primarily written by Sun Yat-sen University, Research Center of Low Carbon Technology and Economy while sections 5.2 to 6.3 were primarily written by ICIS. Being the largest pilot carbon emissions trading scheme (ETS) among the seven Chinese pilot schemes, Guangdong ETS officially launched trading on December 19 th Guangdong Carbon Emissions Trading Scheme Review 1.1 Background Countries all over the world have been highly concerned with global climate change and are taking actions to tackle it. On the one hand, climate change as a scientific fact has been confirmed repeatedly. The Fifth Assessment Report issued by the United Nations Intergovernmental Panel on Climate Change (IPCC) in March 2014 clearly stated to limit the rise of global average temperature within 2 C. On the other hand, countries from all over the world are strengthening their work on tackling climate change. The 21 st Conference of the Parties on United Nations Framework Convention on Climate Change (COP21) that will be held in Paris in December 2015, is expected to achieve a legally binding agreement applicable to all contracting parties. Green and low-carbon developments gradually become the direction and trend of global economic development and a key area in industrial, science and technology competitions. Every country is now accelerating its strategies and policies on green and low-carbon development. China also attaches great importance on the control of greenhouse gas (GHG) emissions and lowcarbon development. In the Joint U.S.-China Statement on Climate Change announced by leaders of both sides in Beijing on November 12 th 2014, China plans to reach carbon dioxide (CO2) emissions peak by around 2030 and will try to realize it as early as possible. Earlier, the State Council has also set the CO2 emissions per unit of output as a binding target and has broken down the target to all provinces (autonomous regions and municipalities directly under the central government). Among them, Guangdong was given the highest reduction target. For a long time, Guangdong mainly relies on administrative measures to promote energy saving, emissions reduction and ecology protection, and have achieved significant outcomes. At the same time however, it has paid an enormous administrative cost, leaving very small space for the using of further administrative measures in the promotion of green, recycled and low carbon development. Carbon trading, as one of the most important innovations to control GHG emissions, allows the government to distribute tradable carbon emissions allowances to compliance companies, setting their allowable emissions and compliance obligations while giving them freedom to choose the way they fulfil their obligations in emissions control. This results in a reduction of overall cost in achieving the target of energy saving and emissions reduction. The promotion of ETS was one of the major reforms in the Third Plenary Session of the 18 th Central Committee of the Communist Party of China; it meets the requirement of the acceleration in the development of ecological civilization, the implementation of compensated use of resources, and the establishment of market mechanism in energy saving and emissions reduction. In 2011, the National Development and Reform Commission (NDRC) published the Announcement on the Development of Pilot Carbon Emissions Trading Schemes, listing Beijing, Tianjin, Shanghai, Chongqing, Hubei Province, Guangdong Province and Shenzhen as pilot regions for carbon emissions trading, so as to explore the feasibility of establishing a nation-wide market mechanism for promoting energy saving and emissions reduction work. In 2014, the Reform Office of the Central Government has included the publication of the management plan for National ETS and its related work as one of the 13 key reform tasks led by the NDRC that must be completed in China attaches great importance on the control of greenhouse gas (GHG) emissions and low-carbon development. In the Joint U.S.-China Statement on Climate Change announced by leaders of both sides in Beijing on November 12 th 2014, China plans to reach carbon dioxide (CO 2) emissions peak by around Guangdong has accumulated vast experience from its recent years of research, experiment and development. 1

6 Interim Measures on Carbon Emissions Trading Management (the 17 th Decree of NDRC) has set a macro regulation for the establishment of a unified National ETS. As an effective mechanism to reduce GHG emissions, carbon trading is being systematically rolled out in China. Guangdong, as the largest Chinese pilot ETS, has accumulated vast experience from its recent years of research, experiment and development. 1.2 Development progress On September 7 th 2012, the Implementation Plan for Pilot Carbon Emissions Trading Scheme of Guangdong Province was printed and issued by Guangdong provincial government. On September 11 th 2012, the opening ceremony of the Guangdong pilot ETS and the China Emissions Exchange (Guangzhou) was successfully held. Vice president of the NDRC, Mr. Xie Zhenhua, Deputy-Secretary of the Provincial Committee and Governor of Guangdong Province, Mr. Zhu Xiaodan, member of the Provincial Standing Committee and Standing Vice Governor, Mr. Xu Shaohua, were present at the ceremony. On November 26 th 2013, the First Allocation of Carbon Allowances and Work Plan in Guangdong Province (Trial Version) was printed and issued by the Guangdong DRC. On December 16 th 2013, entrusted by Guangdong DRC, China Emissions Exchange (Guangzhou) organized Guangdong s first carbon allowances auction. On December 19 th 2013, the launching ceremony of Guangdong pilot ETS was held in Guangzhou by the provincial government. Vice president of the NDRC, Mr. Xie Zhenhua, and Standing Vice Governor, Mr. Xu Shaohua, were present to grace the ceremony. On January 15 th 2014, Guangdong provincial government published the Interim Measure for the Management of Carbon Emissions Trading in Guangdong Province, which took effect on March 1 st On July 15 th 2014, compliance companies completed their 2013 compliance obligations. An overall compliance rate of 98.9% was achieved, with 99.97% allowances surrendered. On August 18 th 2014, Guangdong DRC printed and issued the Allocation Plan for 2014 Carbon Emissions Allowances. 1.3 Policies, laws and regulations In January 2014, Governor of Guangdong Province, Mr. Zhu Xiaodan, signed the No.197 Government Decree and published the Interim Measure for the Management of Carbon Emissions Trading in Guangdong Province (hereinafter referred to as the Management Measure), which provides a programmatic and high-level requirement on the development of the Guangdong pilot ETS. The Management Measure is a normative document on the establishment and implementation of carbon emissions management and trading system of Guangdong. With the Management Measure as a foundation, Guangdong DRC printed and issued the Implementation Details on the Management of Carbon Emissions Allowance of Guangdong (trial version), Implementation Details on the Reporting and Verification of Company Carbon Emissions Information of Guangdong (trial version), and at the same time, other normative documents were also printed and issued, such as Guidance on the Reporting of CO2 Emissions Information of Company (Unit) of Guangdong (trial version) and Verification Standard of Company Carbon Emissions of Guangdong (trial version). These documents and regulations, alongside the earlier published Rules of Carbon Emissions Trading in Guangdong, have gradually formed a comprehensive, complete and efficient carbon emissions management and trading system that has Guangdong characteristics. In January 2014, Governor of Guangdong Province, Mr. Zhu Xiaodan, signed the No.197 Government Decree and published the Interim Measure for the Management of Carbon Emissions Trading in Guangdong Province which provides a programmatic and highlevel requirement on the development of the Guangdong pilot ETS. 2

7 Diagram 1-1:Guangdong carbon trading policies and regulations 1.4 Management structure The provincial government and party committee attach great importance on carbon trading work. Due to the fact that carbon trading is part of the work on addressing climate change, a multi-level carbon trading management mechanism has been established under the management framework of addressing climate change, in order to safeguard the healthy operation of carbon trading and carbon emissions management at the organizational level. As a result, an overall, coordinated and well-organized support has been made available to the front-line work and every department and unit can fully play their parts and achieve the required synergy. Set up a working group for provincial addressing climate change and energy saving. The working group organizes meetings on the implementation of the national low-carbon work in Guangdong province, and provides general coordination and guidance on the review of provincial work on addressing climate change and low-carbon development which includes carbon trading. The working group is led by Governor Zhu Xiaodan. Establish joint meeting on the implementation of national low-carbon pilot work at the provincial level. It reviews the annual work with an emphasis on national low-carbon pilot work at the provincial level, deploys and promotes the national low-carbon pilot work at the provincial level, with Standing Vice Governor Xu Shaohua as the first convener. Set up working group responsible for the coordination of provincial pilot carbon emissions trading scheme. The coordination team is responsible for the research, coordination, and plan for the major work in the pilot ETS in Guangdong. Li Chunhong, Director of Guangdong DRC serves as the team leader, with the full support from the provincial Finance Department, Economy and Information Committee, Quality Inspection Bureau, associations of various industries, etc., for the implementation and promotion of carbon trading work. A multi-level carbon trading management mechanism has been established under the management framework of addressing climate change, in order to safeguard the healthy operation of carbon trading and carbon emissions management at the organizational level. Set up the Division of Climate Change. Approved by the provincial government and party committee, the Division of Climate Change, established by Guangdong DRC, is responsible for the organization, coordination and supervision of the provincial carbon emissions management. 3

8 Apply provincial and municipal two-level management mechanism. Guangdong DRC carries the general responsibility of carbon trading work while municipal DRCs are responsible for the carbon emissions assessment of newly established companies, organization of company carbon emissions reporting, inspection of emissions report and providing guidance and support for the company allowance management work, etc. Set up a working group for provincial carbon emissions management and trading. Personnel are transferred from universities and relevant institutions to work in the group and participate in the research and design of the ETS. The group is also responsible to put into effect the allowance allocation, emissions reporting, verification, trading, as well as to monitor carbon trading operations and other relevant work. Diagram 1-2:Management structure of Guangdong ETS 1.5 Market participants Article 23 of the Management Measure points out that trading participants of Guangdong ETS are compliance companies, new entrants, as well as other organizations and individuals who meet the requirements. Compliance companies. In the first compliance year, there were 184 companies from four industries: Cement, Power, Steel and Petrochemical, whose CO2 emissions exceed 20,000 tonnes either in 2011 or 2012 (or whose energy consumption exceeds 10,000 tonnes of standard coal Market participants include, compliance companies, new entrants, other organizations and individuals. 4

9 equivalent). In 2014, a slight adjustment was made resulting in 193 compliance companies being enrolled and these include new entrants which have been in operation for over a year. New entrants. In 2014, there were 18 newly planned and constructed (including reconstruction and expansion) fixed-asset investment projects from the Power, Steel, Petrochemical and Cement sectors within the Guangdong administrative region, which are expected to complete and start production in with annual CO2 emissions of over 20,000 tonnes (or annual energy consumption of more than 10,000 tonnes of standard coal equivalent). Expand ETS coverage in appropriate time. Currently, Guangdong is researching on how to calculate carbon emissions for sectors such as Ceramics, Textile, Non-ferrous metal, Chemical, Papermaking, buildings, and transportation. In the first half of 2015, reporting and verification work on the historic carbon emissions data of key companies (and facilities) in newly covered sectors will be carried out, in order to figure out the new total allowances and allocation methods, and to include these sectors in Guangdong ETS. Other organizations and individuals. In order to promote active trading, there is a need to explore the financial services required to support carbon emissions trading, and to encourage individuals and organizations/institutions which qualify to participate in the trading of carbon allowances. 1.6 Report verification Established a high-quality verification system. Guangdong has established a complete carbon emissions reporting and third-party verification system and has successfully organized the reporting of historic emissions data of over 200 compliance companies and the reporting of 2013 emissions data of 184 compliance companies. Besides, 16 third-party verification organizations have been publicly selected; more than 200 inspectors from these organizations have been trained and started verification work with companies. Upon completion of the first round of verification, experts are invited for a joint review and discussion on the verification reports. Based on the results of the discussions, questionable companies are required to undergo a second verification to ensure the accuracy of the carbon emissions data reported. The successful establishment of a verification system not only laid a good foundation for companies to complete their compliance obligations, but has also trained a group of professional third-party organizations in the province, and supported the development of energy saving and carbon reduction service industry. 1.7 Management of allowances The total allowances consist of three parts: compliance companies allowances, new entrants allowances and allowances for market adjustment. New entrants allowances and allowances for market adjustment are also collectively known as the allowances reserve. Guangdong is the first pilot ETS to publish its total allowances and allowances under each category. See the table below for the detailed allowances structure. Guangdong has established a complete carbon emissions reporting and thirdparty verification system and has successfully organized the reporting of historic emissions data of over 200 compliance companies and the reporting of 2013 emissions data of 184 compliance companies. Table 1-1: Allowances allocation for 2013 and 2014 (unit: 100m tonnes) Year Total Allowances For Compliance Companies Allowances reserve Sub total For new entrants For market adjustment Planned auction volume

10 Auction and free allocation a combined allocation method. Out of the seven pilot ETSs, Guangdong is the first pilot ETS to organize auctions as part of its allowances allocation. Based on the specific requirements of GHG emissions control work of the province and taking into consideration the situation of emissions control target, economy and industry development of each year, Guangdong took a bold step and adopted an allocation method that combines both auction and free allocation. Auctions are held once every quarter. Allocation method based on the characteristics of the different sectors. For Guangdong s allowances allocation, the province adopts the principle of encouraging advanced sectors yet at the same time looking after backward sectors. The allocation method also takes into consideration the level of difficulty in benchmarking, availability of relevant data to determine the allocation methods for the enrolled four sectors. In general, Power, Cement and Steel sectors use benchmarking while Petrochemical sector uses grandfathering. Out of the seven pilot ETSs, Guangdong is the first pilot ETS to organize auctions as part of its allowances allocation. 1.8 Status of completion of compliance obligation Guangdong adopts an annual compliance obligation system. Within the compliance period, compliance companies are required to submit carbon allowances (or CCERs up to 10% of the emissions) equivalent to the actual emissions of the previous year verified by Guangdong DRC, to offset their emissions for the previous year. Good compliance performance in the first compliance year. During the first compliance period, 182 companies submitted the required allowances via the registry system to fulfil their compliance obligations. There were only two private companies who were non-compliant. An overall compliance rate of 98.9% was achieved, with 99.97% allowances surrendered. In general, Guangdong s carbon emissions management has been good and orderly, the carbon trading market has been stable and smooth, majority of the compliance companies have also completed their compliance obligations. Diagram 1-3:Guangdong compliance cycle During the first compliance period, 182 companies submitted the required allowances via the registry system to fulfil their compliance obligations. There were only two private companies who were non-compliant. An overall compliance rate of 98.9% was achieved, with 99.97% allowances surrendered. 1.9 Market operations Guangdong pilot ETS is the first in terms of market size and trading volume. In the first compliance period, the trading volume of Guangdong carbon market reached 12.31m tonnes, amounting to CNY732m. Of which, a total of 11.12m tonnes of allowances were auctioned, amounting to CNY667m; a total of 1.19m tonnes were traded in the secondary market, amounting to CNY65.32m. In general, the market is operating smoothly. As of January 13 th 2015, Guangdong ETS has an accumulated traded volume of 15.22m tonnes (via both auctions and secondary market), accounting for approximately 50% of the total traded As of January 13th 2015, Guangdong ETS has an accumulated traded volume of 15.22m tonnes (via both auctions and secondary market). 6

11 volume for all seven Chinese pilot ETSs. The total traded value is CNY814m, accounting for approximately 60% of the total traded value of all pilot ETSs. Auction market has been active while secondary market activity has room for improvement. Carbon allowances auction has played a key role in the carbon trading market of Guangdong. Guangdong has the largest carbon allowances auction platform in China. In 2013, 90% of Guangdong s total traded volume and 91% of the total traded value comes from the auction market. As compared to the auction market, the secondary market has been quiet with extremely low trading volumes Systems construction Actively promote the construction of three major information systems. The three pillar systems that form the Guangdong carbon trading information system include, compliance entities carbon emissions reporting and verification system, carbon allowances registry system, carbon allowances trading platform. These systems support emissions report verification, allowances management and allowance trading. With the information systems support, Guangdong s capacity in carbon emissions management and trading management has greatly improved. Through the information systems, the market is able to publicize instantaneous trading information, price, volume, etc. while providing risk control, monitoring and supervision on trading activities. It also further enhances data accuracy, fairness in trading and management transparency, ensuring a healthy and sustainable development of the carbon market in Guangdong. Diagram 1-4: Three pillars of information system 1.11 International cooperation Actively seeking opportunities for international exchange and cooperation. Guangdong actively explores and promotes the establishment of regional carbon markets, for example, research on the possible linking with Shenzhen ETS, strategic partnership with Hong Kong Emission Exchange to explore Guangdong-Hong Kong voluntary emissions reduction trading and the establishment of carbon inclusive system, etc. In addition, Guangdong observes and learn the ETSs in the European Union (EU) and the United States (U.S.), and uses carbon trading as the medium to establish regular exchange mechanisms with United Kingdom (U.K.), California and EU, Guangdong actively explores and promotes the establishment of regional carbon markets. 7

12 in order to further enhance its international influence. Guangdong already has tens of carbon trading related projects supported and funded by UK-China Strategic Prosperity Fund (SPF), US Energy Foundation and other international organizations Mechanism innovation Further explore carbon allowances auction mechanism. Auctioning of carbon allowances is in accordance with the spirit of compensated use of resources promoted by the central government and it is a mature practice in international carbon markets. In 2014, a total of five carbon allowances auctions were organized in Guangdong, indicating that this way of allocation has been generally understood and widely accepted by companies. Starting from 2014, Guangdong has been actively improving the auction mechanism, allowing eligible institutional investors to participate in auctions, and steadily increasing the proportion of auction allowances (as compared to free allocated allowances) for specific sectors. The auction market has been active, with an overall trend of demand outstripping supply. Explore the inclusion of new projects into carbon emissions management. Guangdong is in the stage of economic transformation, which demands not only continuous optimization of existing economic capabilities but also accelerate the replacement of outdated production with new and advanced production technologies. Therefore, Guangdong has included new projects under the national and provincial plans into the scope of allowances management and has creatively proposed the method of realizing overall emissions reduction for existing capacities and controlled emissions management for increasing capacities this will be a meaningful exploration for the cap setting for developing countries or regions. In 2014, a total of five carbon allowances auctions were organized in Guangdong, indicating that this way of allocation has been generally understood and widely accepted by companies. Actively explore carbon finance. Guangdong is researching on establishing a provincial lowcarbon development fund using the revenue generated from the carbon allowances auctions. This fund will be mainly used to support energy saving and carbon reduction work undertaken by compliance companies, attract more social capital to the field of low-carbon development, as well as to stimulate the multiplier effect of financial resources through market operations. The carbon fund is expected to start operation in the first half of 2015 at the earliest. Meanwhile, derivative products related to carbon trading/finance are being explored and created, innovative products such as carbon trading overdraft account and using carbon allowances as collateral for financing. Guangzhou University City Huadian New Energy signed a financing agreement of 150,000 tonnes of allowances, financing of CNY50m with Shanghai Pudong Development Bank. The first batch of CNY5m has been dispatched. Research and explore carbon inclusive system. To raise awareness on green, low-carbon, environmental protection, to encourage low-carbon lifestyle and consumption behaviour, Guangdong is researching on the work plan of carbon inclusive system. This system mostly relies on some urban households, small and micro-sized companies, from their way of living and operations such as water\electricity\gas consumption, etc, and gradually expand to other areas such as transportation and daily consumption, etc. By combining incentives and constraints, it promotes active carbon reduction activities taken by involved individuals and companies to gain carbon emissions credits. The linking of these credits to the carbon trading market is also under research. Currently, the design and development of related emissions reduction verification methodologies and the information service platform for both personal computer (PC) and mobile terminals have been completed. The execution of low-carbon inclusive campus and places of interest are also in plan. The overall plan for the pilot carbon inclusive system is in the stage of seeking public opinion, after which it will be submitted to the provincial government for approval. 8

13 2 Effects of Guangdong ETS 2.1 Remarkable results in carbon emissions reduction and meeting the province s emissions target The carbon emissions reduction of compliance companies has been remarkable. Carbon emissions from the first batch of enrolled compliance companies accounts for approximately 60% of Guangdong s total emissions. By conducting energy saving and capacity improvement projects, establishing internal energy management systems, etc, compliance companies have achieved considerable results in emissions reduction. In 2013, the four major sectors enrolled in Guangdong ETS have achieved reductions in carbon emissions per unit output of between 2% to 10%. Aid the province in achieving phased emissions target. According to preliminary calculations, from 2011 to 2013, Guangdong s progress in terms of achieving its energy intensity target was 70.77% completed, and in terms of carbon intensity target was 73.95% completed. Periodic targets within the 12th Five Year Plan target have been well achieved with significant contribution made by compliance companies. From 2011 to 2013, Guangdong s progress in terms of achieving its energy intensity target was 70.77% completed, and in terms of carbon intensity target was 73.95% completed. 2.2 Promote the elimination of outdated production capacities and optimize industrial structure Allocation using benchmarking increases the carbon emissions costs for companies with outdated production capacities. Benchmarking is the main method of allowances allocation in Guangdong. The total emissions from compliance companies that used benchmarking to allocate allowances account for 70% to 80% of the total emissions for Guangdong ETS. Benchmarking is setting a standard/benchmark based on the sector s advanced or average levels. It has the advantage of encouraging advanced companies and punishing outdated companies. By imposing higher emissions costs to outdated companies when completing their compliance obligations, it will force these companies to drive technological transformation, to further eliminate outdated production capacities by market optimized resource allocation. Speed up the completion of Guangdong s target of eliminating outdated production capacities. The first batch of enrolled sectors include Power, Cement, Steel and Petrochemical, of which, Cement and Steel sectors are the key sectors that are required to eliminate outdated production capacities during 12th five year period. In 2014, the outdated and excess production capacities Guangdong has eliminated include, 2.5m tonnes of steel making, 3.53m tons of cement production, 15,000 tonnes of copper smelting, 210,000 tonnes of paper manufacturing, 600,000 standard pieces of leather, 175m meters of printing/ dyeing and 590,000 kva of lead battery. The elimination of outdated production capacities met the 12th Five Year Plan target one year in advance, partly due to the effects of carbon trading. By imposing higher emissions costs to outdated companies when completing their compliance obligations, it will force these companies to drive technological transformation, to further eliminate outdated production capacities by market optimized resource allocation. 2.3 Improve companies carbon awareness and strengthen carbon management capability Continuously strengthening of companies awareness on carbon allowances and carbon assets. Guangdong intentionally takes the opportunity of carbon trading as a tool to promote the system of compensated use of resource. Unlike in the initial phase of EU ETS where companies received all free allocation, Guangdong ETS implemented an auction mechanism right from the start. Since the start of carbon trading, carbon allowances have been one of the key considerations in a company s decision making process. New projects will also have to consider purchasing carbon allowances. Companies also show strong willingness to carry out emissions reduction projects. Companies are also paying more attention to carbon emissions reduction and carbon trading. Companies knowledge on carbon allowances auction and carbon management are also improving. 9

14 Companies gradually strengthening their carbon management and trading. Most compliance companies have set up their carbon management departments, set up internal management systems for carbon emissions reporting and trading, released internal documents on carbon asset management and reserved finances in the budget dedicated for carbon trading. Companies also start to consider the carbon profits or cost reductions in new investments in technological improvements. Motivated by carbon trading, companies are improving their internal carbon management systems. 2.4 Enhance Guangdong s influence in international carbon markets Guangdong ETS is the world s third largest carbon market, after EU ETS and Korean ETS, and hence, it has attracted much international attention since the start of the market. Through the emissions trading scheme, Guangdong has continuously increased its international influence and has established regular policy exchange and dialogue mechanisms with countries or regions with more advanced ETSs such as the EU, U.K., California, etc. Guangdong has also received support from some international foundations such as the US Energy Fund, Global Strategic Prosperity Fund (SPF) by British Ministry of Foreign Affairs. In addition, Guangdong is actively attracting and cooperating with world-leading technical teams. It has co-founded the China-UK CCUS Centre (Guangdong) and brought in the Carbon Capture, Use and Storage (CCUS) technology from UK s Carbon Capture and Storage (CCS) Research Centre and Scotland s CCS Centre. 2.5 Actively explore the building of carbon inclusive system and carbon finance Explore carbon inclusive system and build a low-carbon society. In order to create a lowcarbon society involving people from all walks of life, and to transform the idea of low-carbon lifestyle, consumption and production into reality, Guangdong is exploring the establishment of a low-carbon inclusive system by setting up a public platform based on carbon credits, which aims to build a low-carbon chain in the society. Citizens who practice green consumption and low-carbon transportation in their daily life will benefit from a system like this. In comparison, those who lack social responsibility and indulge in extravagant consumption will be required to bear a certain part of the environmental clean-up cost. Currently, the design and development of related emissions reduction verification methodologies and the information service platform for both personal computer (PC) and mobile terminals have been completed. The execution of low-carbon inclusive campus and places of interest are also in plan. The provincial government of Guangdong takes the lead in coordination and promotion, with voluntary participation from municipal governments who will propose work plans based on their own situations to the provincial government for approval before implementation. The campaign starts from encouraging households to conserve water and electricity, as well as reduce the use of private cars for commuting. Guangzhou University City Huadian New Energy signed a financing agreement of 150,000 tonnes of allowances, financing of CNY50m with Shanghai Pudong Development Bank. Introduce carbon finance to reduce company s compliance cost. A series of innovative carbon financial products with Guangdong characteristics have been developed as a result of collaborations between China Emissions Exchange (Guangzhou) and well-known financial institutions from China and abroad, such as Shanghai Pudong Development Bank. Two financial products are the carbon trading overdraft account and using carbon allowances as collateral for financing. Guangzhou University City Huadian New Energy signed a financing agreement of 150,000 tonnes of allowances, financing of CNY50m with Shanghai Pudong Development Bank. The first batch of CNY5m has been dispatched. In the later stages, more innovative carbon financial products and businesses such as carbon allowances custody and futures trading will be rolled out, with the purpose of promoting more flexible carbon asset management methods and to provide hedging tools for companies, so as to introduce more liquidity and activity into the carbon market. 10

15 3 Unique Characteristics of Guangdong ETS Based on Guangdong s current economic, social and industrial development situation, as well as the status of the province s carbon emissions and administrative management system, alongside the local and overseas ETSs experiences Guangdong has gained, Guangdong has made a number of breakthroughs and innovations in designing an unique Guangdong ETS. This will provide valuable experience for the building of the National ETS. Below are some characteristics of Guangdong pilot ETS: 3.1 Imbalanced regional development and wide sector coverage Regional development in Guangdong province is imbalanced. In terms of the level of development in China, among Guangdong s 21 prefecture-level cities, six of them are considered developed, 13 of them are below the nation s average and some regions are as backward as the least developed provinces in China. At the same time, Guangdong has a wide range of sectors. The differences among the sectors and in the sector itself are wide, this include differences in profit levels, technology, growth, etc. These differences in Guangdong are similar to that of China as a whole which also has huge regional differences and a diverse sector coverage. In view of this situation, Guangdong pays extra attention during the design phase of allowances allocation, report verification and other ETS-related mechanisms. Guangdong took into consideration the practical situation when setting benchmarks, have different free allocation ratios for different sectors and designing different levels of reporting system so as to solve the problems caused by regional and sector differences. 3.2 Provincial and municipal two-level management; integration of government, industry and research Due to Guangdong s vast area, with numerous administrative regions/cities and various sectors, there is a certain level of complexity and challenge in the management of the compliance companies and to ensure fairness of the carbon market. To ensure the development and smooth operation of the Guangdong ETS, the province has undertaken the following measures: Set up a steering work group. Set up a steering work group for addressing climate change and the joint meeting of national low-carbon pilot work at the provincial level, both led by the provincial governor. This will provide organizational support for a coordinated deployment on energy saving and emissions reduction work. Apply the provincial and municipal two-level management mechanism. Include the municipal DRCs into the system of carbon allowances allocation and emissions reporting to fully encourage active participation from them, hence promoting compliance rate and ensuring the quality of carbon emissions reporting. Due to Guangdong s vast area, with numerous administrative regions/cities and various sectors, there is a certain level of complexity and challenge in the management of the compliance companies and to ensure fairness of the carbon market. Establish research and management platforms widely shared by decision-makers, research institutions, compliance companies, universities and industry associations. A carbon emissions management and trading work group was set up comprising of members from related universities and institutions; a carbon allowances review committee was set up comprising of government departments, subject matter experts, industry associations and compliance companies; a carbon allowances assessment committee was set up comprising of industry associations, research institutions, compliance companies, etc. In addition, Guangdong has trained a batch of research, verification and trading institutions with practical experience that can further strengthen the technical support for the carbon trading market. 11

16 3.3 China s largest ETS in terms of size and trading volume The total carbon allowances of Guangdong ETS in 2013 was 388m tonnes; this figure reached 408m tonnes in 2014, which is more than twice the size of Shanghai ETS, six times that of Beijing ETS and 10 times that of Shenzhen ETS. Globally, the size of Guangdong ETS is just behind that of EU ETS and Korean ETS which started in January As of January 13 th 2015, Guangdong ETS has an accumulated traded volume of 15.22m tonnes (via both auctions and secondary market), accounting for approximately 50% of the total traded volume for all seven Chinese pilot ETSs. The total traded value is CNY814m, accounting for approximately 60% of the total traded value of all pilot ETSs. 3.4 First Chinese pilot ETS to implement carbon allowances auction Carbon allowances auction mechanism raises company s carbon awareness and motivates them to participate in the carbon market. Guangdong is the first pilot ETS that make use of the auction mechanism to allocate allowances, and it has been proven that the auction mechanism is beneficial to the energy saving and emissions reduction efforts in Guangdong. Firstly, an auction mechanism provides a price signal to the market, facilitating the government to regulate the market if needed, to ensure the smooth operation of the carbon trading market. Secondly, it helps compliance companies faster and better understand that emissions come with a cost and the awareness that resources come with a compensation. Thirdly, auctions add to the cost of emissions, hence it should encourage more input in technical innovation from compliance companies, which will then also enhance their competitiveness and accelerate their energy saving and emissions reduction work. The total carbon allowances of Guangdong ETS in 2013 was 388m tonnes; this figure reached 408m tonnes in 2014, which is more than twice the size of Shanghai ETS, six times that of Beijing ETS and 10 times that of Shenzhen ETS. 3.5 Using auction revenue to set up China s first low carbon development fund Make use of the low carbon development fund to fuel further carbon emissions reduction. When it comes to the use of funds from auction revenue, Guangdong insists on the principle of from carbon, for carbon. The auction is likened as the master switch and reservoir to the nurturing of the carbon trading market. Guangdong s low carbon development fund will be mainly used to support energy saving and carbon reduction work undertaken by compliance companies, attract more social capital to the field of low-carbon development, as well as to stimulate a multiplier effect of financial resources through market operations. The carbon fund is expected to start operation in the first half of 2015 at the earliest. Guangdong s low carbon development fund will be mainly used to support energy saving and carbon reduction work undertaken by compliance companies. 12

17 Diagram 3-1:Structure of Guangdong low carbon development fund 3.6 First Chinese Pilot ETS to include new entrants Reduce emissions from companies with existing productions and control emissions from companies with growing productions. In terms of allocating allowances, Guangdong has creatively proposed the method of realizing overall emissions reduction for existing capacities and controlled emissions management for increasing capacities. By applying the existing capacitiesincreasing capacities model, new projects under the national and provincial plans are included in the scope of carbon management. The carbon emissions assessment report of a new project must pass a strict review and the project must have purchased the required number of allowances in the auctions before being awarded its free allocated allowances. This way, two goals can be achieved at the same time: 1) to limit the total emissions of existing compliance companies, 2) to control the increased emissions from new projects during the 12 th Five Year Plan period. From a macro perspective, this provides a reasonable amount of space for development and maximizes the role of ETS in promoting low carbon development. From a micro perspective, this enables a more reasonable, forceful and feasible allowances allocation plan, and hence serve as a good example for the cap setting for developing countries or regions. Focus on major emitters, four major sectors included. In the early stage of the pilot ETS, Guangdong focuses on sectors that have huge emissions and low risk of carbon leakage. The initial identified four sectors are: Cement, Power, Steel and Petrochemical. It is planned to include Ceramics, Textile, Non-ferrous metal, Chemical, Papermaking, buildings, and transportation in an appropriate time. This plan fits the industrial structure and carbon emissions distribution of Guangdong; it lowers the difficulty and cost of management while accumulating experience for future improvement and development of the ETS. In the early stage of the pilot ETS, Guangdong focuses on sectors that have huge emissions and low risk of carbon leakage. The initial identified four sectors are: Cement, Power, Steel and Petrochemical. 3.7 Active consideration on carbon market linkage and the first to open up carbon market In the process of establishing the ETS, Guangdong continuously expands its overseas communication and cooperation to raise its global influence. It also keeps a close relationship with the NDRC, experts and other Chinese pilot ETSs. In addition, Guangdong has built research and cooperation mechanisms with U.K., California, US Energy Foundation and other foreign 13

18 governments and Non-Governmental Organizations (NGOs). In the development of a regional market, Guangdong actively researches on the linking of Guangdong-Shenzhen ETSs and will push forward the linkage in an appropriate time. Strategic partnership with Hong Kong Emission Exchange has been signed to explore Guangdong-Hong Kong voluntary emissions reduction trading and the establishment of carbon inclusion system, etc. Guangdong is the first Chinese pilot ETS to fully open up to foreign-registered institutional investors. After several rounds of communication with the People s Bank of China and the Administration of Foreign Exchange, institutional investors registered abroad can now open RMB NRA accounts in Guangdong, as well as process all related documentations. It well supports the expansion of Guangdong s international influence in carbon trading. Guangdong is the first Chinese pilot ETS to fully open up to foreignregistered institutional investors. 3.8 Pre-allocated allowances to adapt to economic fluctuations Guangdong implements a cap on total emissions and trading of carbon allowances, also known as cap-and-trade. Without comprising on achieving the emissions target and a gradual reduction of carbon intensity, Guangdong has implemented a pre-allocation mechanism to provide flexibility in the management and trading of carbon allowances. While ensuring that the sector s carbon intensity is gradually decreasing, Guangdong will take into consideration the fluctuations of the macro economy when making adjustments to the pre-allocated allowances based on actual production, so as to mitigate problems of severe over or under supply of allowances faced by compliance companies due to natural economic fluctuations. Adjustment of allowances will come from the allowances reserve, hence, it will not result in an overall increase in allowances. 3.9 Simultaneous allocation of allowances to both power producers and users Due to the fact that the power market has been lagging behind in terms of market reform and the price of electricity is still under the government s control, the price of electricity cannot reflect the increased environmental cost (i.e. the cost of carbon allowances), which makes end-users of the electricity become insensitive to the price of allowances (which only affects the power producers). Therefore, unlike the common practice in other countries, Guangdong allocates allowances to both power producers and users. On the condition of minimizing double-counting, both power companies and end-users are allocated allowances. This way, emissions are controlled in both the supply and demand of electricity, which is an important case-study for the National ETS. Guangdong allocates allowances to both power producers and users Attract financial capital and innovate trading methods Guangdong actively seeks innovation in carbon finance, and has created a fast green financing mechanism, providing companies with services such as mortgage, financing, etc. A wide variety of carbon financial products. In Guangdong, two financial products, the carbon trading overdraft account and using carbon allowances as collateral for financing, have been launched. Guangdong launched China s first carbon mortgage using carbon products (i.e. carbon allowances and CCERs) as collateral, and the money borrowed could be used to purchase carbon allowances or fund energy saving and emissions reduction projects without affecting the company s cash flow. Guangdong and Shanghai Pudong Development Bank co-launched China s first carbon trading overdraft account. These accounts can only be used for carbon allowances auctions or trading of carbon allowances. Compliance companies get access to short-term financing from these overdraft accounts. In addition, Guangdong and Shanghai Pudong Development Bank are planning to launch China s first carbon allowances linked bond ultra-short bonds with carbon interest and the excess carbon allowances of the company will become the bond s floating interest income. This will revitalize a company s carbon assets. In the later stages, more innovative carbon financial products and businesses such as carbon allowances custody and futures trading will be rolled out. 14

19 A quick channel for carbon financing. China Emissions Exchange (Guangzhou) has completed China s first on-line financing tool for carbon trading. Based on the financing models of traditional commodities, China Emissions Exchange (Guangzhou) has created channel for quick financing, enabling companies to get funds from banks for carbon trading as well as use carbon allowances as mortgage to increase the company s cash flow Explore on carbon inclusive system and encourage low carbon lifestyle At the moment, other Chinese pilot ETSs only center around industrial emissions, imposing control on companies emissions or emissions reduction projects. None of the pilots include emissions reduction from people s daily life. To create a low carbon society involving the entire population and to complete the society s low carbon chain by adding people s lives, as well as transforming low carbon life/consumption/production and ideas into action, Guangdong is the first pilot ETS to propose the system of carbon trading inclusive system in China. The system sets the target at encouraging companies, units and individuals outside the scope of the ETS to engage in low carbon activities. It uses the tools of governmental public finance and market stimulus, and relies on a unified carbon inclusive information service platform and scientifically converts low carbon activities into carbon emissions reductions that can be used to exchange for services, product discounts or rewards. This way, it will guide and motivate the whole society to practice low carbon development, living and consumption. Currently, the design and development of emissions reduction verification methodologies for common low-carbon practices, the information service platform and mobile terminals APP have been completed; the execution of low-carbon inclusive campus and places of interest are also in plan. The overall plan for the pilot carbon inclusive system is at the stage of seeking public opinion, after which it will be submitted to the provincial government for approval. The provincial government of Guangdong takes the lead in coordination and promotion, with voluntary participation from municipal governments who will propose work plans based on their own situations to the provincial government for approval before implementation. The campaign starts from encouraging households to conserve water and electricity, as well as reduce the use of private cars for commuting. 15

20 4. Experience from Guangdong pilot scheme Preparing for the National ETS 4.1 Problems encountered and solutions Problem 1: Inefficient management at provincial level due to dispersed distribution of sectors and compliance companies Guangdong is a vast province that covers four major regions, Pearl River Delta, the Eastern Guangdong region, the Western Guangdong region and the Northern Guangdong region. There are over 200 compliance companies located in 21 prefecture-level cities in Guangdong. Power companies alone are distributed over 17 cities such as Guangzhou, Zhuhai, Shantou, Foshan, Shaoguan, Heyuan, Meizhou, Huizhou, Shanwei and Dongguan, etc. Such dispersed geographic distributions caused barriers in guiding and managing compliance companies directly at the provincial level. Solution: Build carbon emissions management mechanisms at both provincial and municipal level Given the dispersed distribution of compliance companies, Guangdong government established a two-level provincial-municipal emissions management mechanism. At the provincial level, Guangdong DRC has the overall responsibility for Guangdong s carbon trading issues, while at the municipal level, municipal DRCs are responsible for new companies carbon emissions evaluations, carbon emissions reporting, providing necessary support to companies carbon management, etc. Given the dispersed distribution of compliance companies, Guangdong government established a two-level provincial-municipal emissions management mechanism. Problem 2: Imbalanced regional development and gaps between sectors and compliance companies Imbalanced regional development. In terms of the level of development in China, among Guangdong s 21 prefecture-level cities, six of them are considered developed, 13 of them are below the nation s average and some regions are as backward as the least developed provinces in China. How to balance the differences among the regions based on the principle of common but differentiated responsibility has become a pressing issue needed to be solved for Guangdong pilot ETS. Gaps between sectors and compliance companies. Guangdong has numerous sectors that are very different from each other in terms of profits and development trends. Even within the same sector, compliance companies have differences such as, their function in the industry chain, production processes, technologies, emissions monitoring, development stages, production scales, etc. Failure to consider these differences could lead to higher and unreasonable emission costs for companies. Solution: Adopt measures customized for specific regions and sectors Objective differences among sectors and companies were taken into consideration when designing and adopting Guangdong s current allowances allocation methods and carbon emissions reporting rules. Allowances allocation methods: Firstly, the geographical distribution and emissions cost tolerance of the different sectors should be put into consideration when providing a solution for the differences among the regions and sectors. For instance, compliance companies with lower profits in underdeveloped regions could have higher emissions benchmarks (i.e. being allocated with more allowances), and hence lower pressure on emissions reduction. The reverse holds for compliance companies with higher profits in more developed regions. Secondly, create multiple benchmarks based on production raw material, scale, production processes, etc., to narrow the gaps within sectors and to ensure that the benchmarks are The geographical distribution and emissions cost tolerance of the different sectors should be put into consideration when providing a solution for the differences among the regions and sectors. 16

21 good representations of the advanced processes/technologies. In order to ensure fairness across sectors, more allowances would be allocated to petrochemical companies that emit additional carbon emissions due to oil products upgrade. Carbon emissions reporting: The emissions reporting guidelines provide various calculating methods for compliance companies with different monitoring capacities to reduce reporting costs. For large companies with complete and effective monitoring systems, the actual emission factors of the raw materials are used, and the measurement of emissions will be accurate to the level of emitting facility or equipment. For small companies with inadequate monitoring system, default emission factors are used (not actual emission factors) to calculate companies total carbon emissions. Problem 3: Companies willingness to take responsibility for their emissions and their awareness of carbon assets needs to be enhanced Even though compliance companies have gone through many trainings since the start of the Guangdong carbon market, companies willingness to involve in energy saving and emissions reduction activities, and their awareness on active carbon assets management are still weak. This is mainly reflected in the following three aspects: A number of compliance companies still trade only for the purpose of completing their compliance obligations. Nearly half of all compliance companies participate in carbon trading just for compliance purposes. A few companies are even reluctant or refuse to complete their compliance obligations. Carbon assets awareness needs to be enhanced. Carbon assets have not yet received sufficient attention in some companies. In these companies, there is a lack of independent carbon assets management department, proper internal carbon management and trading system and a dedicated budget for carbon trading. Poor understanding of the intrinsic value of carbon assets. Most companies regard carbon trading as a stumbling block to the company s development and they often do not see the intrinsic value of carbon assets which may bring about business opportunities. Moreover, they do not have a clear understanding of carbon assets as a financing tool in exchange for capital and technologies, and are also unclear of the energy conservation subsidiaries available. Solution: Introduce carbon allowances auctions, establish carbon fund, implement a reward and penalty system, all these to raise companies awareness and to motivate them Make use of carbon allowances auction to motivate companies: Carbon allowances auction is a significant innovation in Guangdong pilot scheme. Allowances auction is in accordance with the compensated use of resources promoted by the central government and it is a mature practice in international markets. This also provides valuable experience for the other pilot ETSs and upcoming National ETS. Actual experience has proven that allowances auction does play a positive role in Guangdong ETS. Compliance companies awareness on carbon trading have increased and many companies have set up carbon asset departments, established internal carbon management systems, and nearly half of all compliance companies have related funds available for carbon trading. Carbon allowances auction is a significant innovation in Guangdong pilot scheme. Make use of the low carbon development fund to fuel further carbon emissions reduction. During first compliance period, allowances auction revenue reached CNY667m, which will be used to set up a low carbon development fund to realize its potential as a master switch and reservoir to the nurturing of the carbon market. On the one hand, while attracting public investments and funding for the low carbon industry, to promote pilot carbon finance projects and to expand low carbon investments. On the other hand, low carbon development fund will assist compliance companies in energy conservation and low carbon technology R&D and investments, so as to effectively make use of the auction revenue (that were collected from the compliance companies) and continuously fuel the carbon trading market. This is also an important move for Guangdong to be a role model, and to provide valuable 17

22 experiences, for the National ETS. The carbon fund is expected to start operation in the first half of 2015 at the earliest. A balance between costs and benefits, encourage companies to improve their emissions monitoring. Though the emissions reporting guidelines and requirements result in monitoring costs for the companies, it can also produce direct benefits (such as a reduction in emissions) which then effectively offset the companies cost. This will promote better emissions monitoring and more accurate emissions reporting. This cost-benefit mechanism can be reflected by the following: Default emission factors normally adopt the upper range values, therefore when companies use actual emission factors (which are normally lower than the default emission factors), the emissions companies report will be lower, which will then in turn motivate the companies to engage in more accurate emissions monitoring and reporting. Improve incentive mechanism and severely punish companies that violate the regulations. Guangdong has established an incentive and penalty mechanism. Besides the standard punishments such as, deduction of allowances, fines and public announcement, Guangdong is the first Chinese pilot scheme to include compliance companies emissions management and trading information into the provincial social credit management system and national financial credit system. Guangdong is also the first pilot to release the names of the non-compliant companies. It also gives priority to compliance companies in applying for low carbon related funds. In addition, Guangdong has carried out research on priority listing compliance companies into the direct power supply pilot, created third party verification and consultant agencies blacklist, non-compliant companies are prohibited from applying for government funds, personnel responsible for carbon in state-owned compliance companies will be evaluated, etc. Guangdong has gained a lot of experience in executing administrative penalty for carbon emissions management, hence providing valuable experience for the National ETS. Guangdong has established an incentive and penalty mechanism. Besides the standard punishments such as, deduction of allowances, fines and public announcement, Guangdong included compliance companies emissions management and trading information into the provincial social credit management system and national financial credit system. Problem 4: Economic cycles resulting in unpredictable and undesirable mismatch of allocated allowances and emissions The production of companies is largely influenced by the macro economy environment, the development of the industry and volatility of economic development, etc., resulting in relatively huge changes in companies production and emissions. If allowances are allocated purely based on historic emissions or production, it will result in an undesirable mismatch of allocated allowances and emissions. When the economic conditions are good, companies production increases, allowances then become scarce resulting in high carbon price. When the economy is good and production increases rapidly, there will be a shortage of allowances among the compliance companies. When the supply of allowances is lesser than the demand, carbon price will go up resulting in higher emissions cost for companies which may even cause businesses to fail. This will also weaken Guangdong companies competitiveness and hinder the development of Guangdong s economy. When the economy experience a downturn, companies production decreases, there will then be a surplus of allowances resulting in low carbon price. When the economy slows down, companies will have a surplus of allowances. With the supply outstripping the demand, it will cause the carbon price to fall and it will be difficult for companies to trade in the carbon market, resulting in the carbon market not being effective in reducing carbon emissions. Therefore, it is necessary to develop an allowances adjustment mechanism in response to economic volatility, to avoid the mismatch of allocated allowances and emissions. Solution: Post-adjustment of allowances to mitigate economic volatility Post-adjustment of allowances based on actual production. For companies that use the benchmarking method, more allowances can be allocated to the company (according to the benchmark level) when there is an increase in production; conversely, allowances can be taken back from the company when there is a decrease in production. This adjustment of allowances will be coming from the allowances reserve, hence it does not affect the overall cap of the ETS. By doing so, it can minimize the undesirable mismatch of allocated For companies that use the benchmarking method, more allowances can be allocated to the company (according to the benchmark level) when there is an increase in production; conversely, allowances can be taken back from the company when there is a decrease in production. 18

23 allowances and emissions due to economic volatility, and hence adequately reduce companies pressure yet at the same time ensure a healthy, stable carbon trading market. 4.2 Design of Guangdong carbon trading mechanism After thorough preparation and research, Guangdong province has established five core mechanisms (cap on total allowances mechanism, allowances allocation and adjustment mechanism, MRV mechanism, market trading mechanism, incentive and penalty mechanism) and four supporting systems (policy and regulation system, organizational management system, information system and market supporting services system) for the carbon trading market. This has resulted in a healthy carbon trading market and allow the market to realize its function of lowering emissions cost. Guangdong will further explore on carbon finance and carbon inclusive system. Guangdong province has established five core mechanisms and four supporting systems for the carbon trading market. Diagram 4-1: Structure of Guangdong carbon trading (1)Five core mechanisms Cap on total allowances mechanism Combination of bottom-up calculation and top-down verification. Guangdong used a combination of bottom-up calculation and top-down verification approach to set the cap for Guangdong ETS. This is based on the GHG target set for Guangdong in the 12 th Five Year Plan, combined with Guangdong s plan for industrial development, also considering compliance companies historic emissions, technological level, emissions reduction potential, etc. Double control on the total allowances and the composition of the total allowances. The total allowances consists of three parts: compliance companies allowances, new entrants allowances and allowances for market adjustment. Based the double control on the total allowances and the composition of the total allowances, the cap identified for 2013 is 388m tonnes and for 2014 is 408m tonnes. This ensures an absolute decrease in emissions for existing facilities while allowing for emissions increase for new entrants. Allow companies to use the CCER offset mechanism. In order to reduce companies compliance cost and to promote ecological protection and better coordinated regional development, Guangdong allows compliance companies to use Chinese Certified Emissions Guangdong used a combination of bottomup calculation and topdown verification approach to set the cap for Guangdong ETS. 19

24 Reduction (CCER) or emissions reductions verified by Guangdong authoritative body to offset compliance companies actual emissions. The upper limit set on the use of CCER or allowable emissions reductions is set at 10% of emissions. The CCERs used must satisfy the conditions set by the Guangdong DRC. Allowances allocation and adjustment mechanism Set up benchmarking methods and historical methods based on the sectors characteristics. With regards to allowances allocation, Guangdong has adopted a mixture of benchmarking and grandfathering. The selection of allocation method will be based on factors such as the production process, characteristics of the product, availability of data, etc. Benchmarking is applied to: Power sector s coal/gas-fired pure power generation plants, Cement sector s cement clinker and grinding process, Steel sector s long process production. Grandfathering is applied to: Power sector s cogeneration plants and generation units utilizing multiple resources as fuels (coal gangue and shale oil etc.), Cement sector s mining process, micro-grinding and special cement (e.g. white cement) production, Steel sector s short process production, and Petrochemical sector. With regards to allowances allocation, Guangdong has adopted a mixture of benchmarking and grandfathering. Table 4-1: Guangdong allowances allocation method Sector Benchmarking method Historical method Power Pure generation units Cogeneration and multi resources generation units Cement Steel Cement clinker production, grinding process White cement, mining, other grinding processes Long process Short process and others Petrochemical Continuously reduce the proportion of free allocated allowances. In 2013 compliance period, compliance companies have been allocated 97% free allowances. In 2014 compliance period, the free allocation for the Power sector was reduced to 95%, with the proportion of free allocation for the other sectors remaining the same. The proportion of free allocation is expected to reduce continuously. Introduce pre-allocation mechanism, adjust allocated allowances based on actual production. To ensure a smooth running of the carbon pilot scheme, adjust for economic volatility, avoid negatively affecting the economy due to energy saving and emissions reduction efforts, striking a balance between absolute emissions and emissions intensity targets, a post-allocation adjustment to compliance companies allowances will have to be implemented. However, the adjustment of allowances have to come from the allowances reserve and not result in an exceed of the system s cap. Guangdong s 2014 allowances allocation plan allows for an allowances adjusting mechanism. Compliance companies using benchmarking will receive a pre-allocation at the start of the compliance period. At the end of the compliance period, the Guangdong DRC will determine the final allocation based on the companies actual production. The additional issuances or claw-back of allowances will be done via the carbon allowances registry system. After the planned adjustment, if a company is still unsatisfied with the number of final allocated allowances, the company can raise a case with the Guangdong DRC. If it is a common issue or problem such as the allowances calculation methodology, companies can raise these issues to the sector evaluation team. Guangdong DRC will then make the appropriate adjustments based on the team s evaluation. 20

25 Monitoring, Reporting, Verification (MRV) mechanism To ensure the accuracy and reliability of carbon emissions data provided by the companies and to have the carbon emissions data of the entire province, Guangdong has established and implemented carbon emissions reporting system and verification system. The reporting guidelines is the foundation to reporting and verification. Guangdong carbon emission reporting guidelines has a two-tier structure: one tier having guidelines applicable to all sectors, another tier containing guideline applicable to specific sectors. Guidelines include, the style of report content, definition of key terms, emission factors, etc. This two-tier structure is to avoid problems due to differences in reporting across sectors. The report is split into three levels: company, emitting facility, emitting equipment. For large companies with complete and effective monitoring systems, the actual emission factors of the raw materials are used, and the measurement of emissions will be accurate to the level of emitting facility or equipment. For small companies with inadequate monitoring system, default emission factors are used (not actual emission factors) to calculate companies total carbon emissions. When reporting historic emissions, companies with no/incomplete historical emissions data can use the default emission factors to calculate; when reporting actual emissions, companies can choose to use actual emission factors if there is a proper data collection mechanism in place. Default emission factors normally adopt the upper range values, therefore when companies use actual emission factors (which are normally lower than the default emission factors), the emissions companies report will be lower, which will then in turn motivate the companies to engage in more accurate emissions monitoring and reporting. With regards to the submission of emissions report, companies will have to submit both electronically (via Guangdong CO2 emissions reporting platform) and in hardcopy. Municipal DRCs play an important role in coordinating the submission of emissions report. Companies carbon emissions data will have to be verified independently by third-party verification agencies to ensure accuracy, authenticity and reliability. Agencies in Guangdong carry out verification at the expense of the government. To ensure the accuracy and reliability of carbon emissions data provided by the companies and to have the carbon emissions data of the entire province, Guangdong has established and implemented carbon emissions reporting system and verification system. Diagram 4-2: Company carbon emissions reporting and verification system 21