1. Some people worry that decarbonization could have negative impacts on the economy and social welfare, such as job loss caused by industrial upgrade, higher cost of carbon products, and rising inflation. How should we assess these impacts and address the problems?
Such concerns are legitimate and they have to be seriously and carefully addressed. But these negative impacts have to be replaced in the context of the most important challenge mankind has ever had to face. Should the trajectory of carbon emissions continue globally as it presently does, we are then heading towards the worst catastrophe for life on earth. The rise of temperature is already impacting the pace and scale of violent and deadly flooding and fires everywhere around the world, most recently in Belgium (Wallonia), in Canada (British Columbia), in China (Henan province), in Germany (Rhineland-Palatinate), in Russia (Yakutia), in the US (Oregon)… An evolution in conformity with the last IPCC report which states that “projected changes in extremes are larger in frequency and intensity with every additional increment of global warming”.
There is an absolute urgency to act more forcefully and more efficiently. Every year, net increase in the global stock of carbon dioxide in the atmosphere is of at least 30 billion tons. What we have to do is very clear: stop this increase and start to reverse the trend as soon as possible.
In its net-zero pathway by mid-century, the International Energy Agency considers that energy demand in 2050 should be around 8% smaller than today while serving an economy more than twice as large than today, and a 2 billion increase of world population: a very challenging scenario given the huge ongoing needs in energy of the emerging economies in the first place. In this context, focus should be on shifting demand from fossil fuel to carbon-free sources of energy.
For being effective this huge substitution effect which is absolutely indispensable to save life on earth, requires a strong incentive. It can come only from giving a significant price to carbon. For a simple reason: for producers of energy, when the price of carbon is high enough, given their lower comparative costs, less-emitting or carbon-free sources (such as renewables, hydroelectricity, nuclear…) become the right alternative. And the same phenomenon applies to industrial sectors which currently emit carbon: the market economy can therefore do the job by itself.
If the rising trend of the price of carbon is smooth and predictable, economic and social damage will be limited in the short run, and over time the ensuing proceeds can be used to alleviate the impact on the most vulnerable people. Let us keep in mind as well that, as we observe it already, those who suffer most from global warming are the most deprived. And let me add that in the longer run there is hardly any doubt that the huge amount of foreseeable investments and job creation due to this energy transition will have a positive impact on economic growth and employment.
2. China plans to realize the 2030/60 goals via market-based mechanisms starting with the national carbon market. Could you give us a brief introduction to the history of the EU-ETS, including how it was initiated and developed? What are the experiences and lessons that other countries could learn from the EU?
This orientation taken by China is the right one indeed. It is interesting for your country to take stock of the European experience.
Launched in 2005, the European market for carbon (an Emissions Trading Scheme - ETS) is a cap-and-trade system: emissions permits which are put on the market have to be bought by those who emit carbon according to their needs in their economic activities. This scheme is showing major strengths but also some weaknesses which we are presently amending.
On the positive side, it is an international market to which the 27 members of the European Union plus three neighboring countries participate. This is certainly a major achievement, given the fact that the fight against global warming has to be transborder. Furthermore, the European ETS covers the energy sector and most industries which represent about 40% of the total of carbon emissions.
But there are still important sectors such as transportation and building which remain out of its realm. In its reform made public last July, the European Commission proposed the implementation of a second ETS which would apply to these sectors representing an amount of emissions more or less equivalent to those covered by the current ETS. No doubt that in terms of efficiency, this decision goes in the right direction even though it is socially and politically more difficult to implement: this is the reason why the European Commission has been proposing the creation of a Social Climate Fund fueled by part of the proceeds of this market, to be allocated to the people most exposed to the energy transition.
Furthermore, a significant share of industries which might suffer from unfair competition from foreign firms, are presently receiving free carbon emissions allowances. Representing 43% of the total allowances covered by the ETS, they significantly weaken its impact.
3. The recent rise in carbon price in Europe has triggered discussions on the appropriate level and stability of the price.
This recent movement that pushed the price of carbon up to 60 € / ton has to be put in its historical perspective.
At the origin of the European ETS, the price of carbon was in the order of 30+ € per ton. With the Great Financial Crisis and the ensuing drop in the demand for energy, the price of carbon fell: it lost nearly 80% of its value. It started to recover in 2018 thanks to more stringent objectives in terms of carbon emissions.
After the Great Financial Crisis, due to its volatility the price of carbon lost its role as an incentive for decarbonization. As a counter example, during this period the UK government put a tax surcharge on top of the European price of carbon which at that time was applying to this country: its outcome has been the phase out of coal and a significant reduction of carbon emissions in the UK.
In the recent period, lesson has been drawn by European authorities: a Market Stability Reserve has been created to address the carbon market imbalances. It is interesting to observe that in 2020, during the Covid-19 crisis, the price of carbon did not collapse. Contrary to the past, its trend has continuously been on the rise. But the functioning of the European cap and trade system is still based on the targeting of the volume of carbon emitted by firms: the price still fluctuates. This volatility may have serious drawbacks. Over the last 12 months (from August 2020 to August 2021), its level has more than doubled. There are nevertheless other reasons for this rise, mainly oil and gas prices on international markets: as a matter of fact, the recent protests (which remained marginal) did not focus on the rise of the price of carbon.
4. In your understanding, what is the major problem with carbon pricing in Europe?
If the reforms currently in the offing are implemented, the major remaining problem of the European ETS will be variability and therefore insufficient predictability of the price of carbon over time. As we saw in the last months, energy producers cannot adapt their firms in such a short period of time to this increase which is having therefore a direct impact on the price of energy (electricity in the first place) paid by the end consumers. All the firms in the energy sector concerned need time to make the necessary investments in the production of clean energy, to implement research for new techniques to reduce the use of carbon; and public and private investors who have to put in place the new infrastructures (which can be huge when it comes to transportation or buildings…) cannot do it all of a sudden. The more predictable the price of carbon, the more efficiency we can expect from rational decision making in the energy transition.
5. How should the carbon price be regulated? Should it be allowed to keep rising, or should it be contained within an appropriate range? How to determine this range and keep the price within it?
In order to give the price of carbon its full strength as a signal for all those concerned by the energy transition, it is crucial that it remains within a limited range of volatility and that there is visibility about its level in the future. This is the raison d’être of the Task Force on Carbon Pricing in Europe which I have created precisely to promote its predictable trajectory in the European ETS.
Crucial, in my view, is the price target in the medium term. As for the trajectory, one could choose a given trend with the price contained within an appropriate yearly range. Given that this option might appear too rigid, it seems to me that the authorities in charge of the carbon market regulation should be free to adjust the price according to the demand in a manner which avoids too much volatility, but keeping its trend rising to attain the medium-term objective.
The price of carbon is a signal which gives its pace to the decarbonization process: its trend over time has therefore to be realistic both in terms of acceptability and efficiency. And the choice of the target has to be consistent with the objectives in terms of emissions reductions. I consider that in the European Union at the 2030 horizon, it should be of 100€ per ton (440 RMB): a target compatible with the goal of emissions reduction set for this date. Furthermore, many firms in the energy sector, through an internal price of carbon, have already adopted this level at this horizon in their strategies. And this 100 € level is consistent with carbon pricing objectives in other developed countries (Canada, the UK…).
6. What functions should the carbon market and carbon pricing mechanism have? To what extent can they promote carbon neutrality？What other policies should be in place to achieve carbon neutrality?
Carbon pricing has two major benefits: it is at the heart of the phasing out of carbon emissions and it can provide significant financial resources which are essential to succeed the energy transition in due time.
Over time the price of carbon is the indispensable compass to reach carbon neutrality, since in the competition between its various sources, its rise gives a major advantage to carbon-free against fossil-fuel energy. In the short run nevertheless, the apparent evolution may be misleading. In China for example, the current rebound in electricity demand is leading to a significant increase in the price of thermal coal which, despite the development of renewables and other carbon-free sources of energy doesn’t prevent coal thermic plants from booming. In the European Union we have just been experiencing the same phenomenon: with the increase of the price of carbon, short term rigidity in the supply of clean energy led not only to a rise in the price of electricity, but also to more energy produced by coal-fired plants.
This observation must not be misinterpreted against carbon pricing which impact has to be assessed in the longer run. But it puts the spotlight on the necessary complementary policies to put in place if we want to succeed the energy transition in due time. First of all, it is crucial to enhance the production of carbon free energy. In this respect, priority has to be given to foster policies in favour of the development of renewables and nuclear. We need as well to encourage R&D in all the techniques, devices and products (batteries, hydrogen…) which will be indispensable to the carbon-free world of tomorrow. All the regulations, norms and objectives which help design the environment in which mankind will have to evolve after the energy transition, have to be adopted sooner than later.
If carbon pricing can be a catalyst for most of these orientations, it has another major advantage: in the current state of climate urgency, its proceeds which can be substantial will bring a major financial contribution to help funding the decarbonization process.
An order magnitude of the funds to raise can be measured starting from the global volume of the carbon dioxide emitted every year. According to the International Energy Agency, annual CO2 emissions of energy-related and industrial processes amount to 34 billion tons. Let us assume that from now the damages caused to the planet by climate change are strictly limited to the (already disastrous) impact of carbon still present in the atmosphere. In this theoretical scenario, the removal of the equivalent of a giant cube of 25km on each of its size, would necessitate through the use of the carbon capture and storage technique the yearly dizzying amount of 3,4 trillion dollars! Should we make the bold step to phase out even a fraction of this amount, it is obvious that carbon pricing (ETS or tax) at the global level should become inescapable.
The funds coming from carbon pricing can be used to speed up the decarbonization process by helping the firms concerned to make the right investments, to alleviate the social impact of these huge economic transformations, to help the emerging economies to face the costs of the energy transition and last but not least to fund the phasing out of carbon from the atmosphere as soon as possible.
7. For countries to work together towards carbon neutrality, do we need an incentive-compatible mechanism? How can we build such a mechanism?
Climate change being a global phenomenon, contributions of all the nations on the planet are required. Given that greenhouse gas emissions are side effects of the market economy, the best device to correct these negative externalities is the market itself by giving a price to carbon. In this respect it is interesting to observe that the IMF is now pledging for a global floor to the price of carbon.
But we do not need to look for a unified price for carbon all around the world. Carbon emissions per head are significantly different, mainly between developed and emerging countries: the U.S. ratio is three times China’s. It seems to me that the richest countries in the world should aim at a higher price of carbon which would force them to accelerate the pace of their energy transition. And given the fact that they have been over time responsible for the biggest part of the piling up of carbon in the atmosphere, a fair approach would be to use part of its proceeds to help funding the costs of the energy transition in emerging countries. These countries should not be exempted from participating to the global endeavors. On the contrary, through carbon pricing, their contributions to the phasing out of carbon are indispensable, all the more so since in the coming years they will be at the origin of the major part of the increase of the demand for energy.
8. The European Parliament passed a resolution to support the introduction of the cross-border adjustment mechanism (CBAM), planning to impose a border adjustment tax to prevent carbon transfer and leakage and protect local industries’ competitiveness. However, some countries have considered this proposal to be protectionist.
In its current reform, the European Commission is planning to put in place a carbon border adjustment mechanism focused on a few sectors (iron and steel, cement, fertiliser, aluminium and electricity generation). This crossborder adjustment mechanism, which will go in parallel with the phasing out of the free allowances these sectors are now benefiting from, will prevent the so-called carbon leakage which would be detrimental to European industries which contrary to foreign competitors would have to be alone to bear the cost of its policy against climate change.
Without such a CBAM, imports of these commodities from countries without carbon prices would make domestic producers less competitive and shift consumption towards more carbon incentive production abroad.
This device on the borders must not be interpreted as a protectionist measure: it will abide by the international rules of the world trade organisation. And by the way, it will concern mainly the neighbour countries of the European Union. Europe will take into consideration the price of carbon borne by these industries in their own constituencies, and since it will not be applied before 2026, it will give time to third countries to put an equivalent levy on the firms concerned.
(1) Fragile economies taken into account, will border adjustment tax facilitate carbon neutrality around the globe? What are the positive and negative influences it might have?
Framed as it is, this European CBAM does not target other countries, but firms in some specific sectors. May I remind that EU importers will buy carbon certificates corresponding to the carbon price that would have been paid, had these commodities been produced under the EU's carbon pricing rules. Conversely, once a non-EU producer can show that they have already paid a price for the carbon used in the production of the imported commodities of these sectors in a third country, the corresponding cost will be fully deducted for the EU importer.
(2) How to design the cross-border adjustment mechanism so that it could promote global carbon reduction while preventing trade protectionism and trade wars? Are there better ways to achieve this goal?
In the industrial sectors concerned which are among the biggest emitters of carbon, the European CBAM has to be viewed as a catalyst to the creation of sectoral global level-playing fields in the spirit of the Montreal Protocol (1987). This Protocol proved that a global agreement including the firms concerned by emissions of CFCs was able to save the ozone layer. More recently, signature of the so-called Kigali amendment is intending to phase out HFCs, refrigerants with a powerful impact on greenhouse gas emissions.
Industrial sectors (steel, aluminum, cement, petrochemicals…) are composed of firms which, wherever their activities are located, are mostly international and therefore fully engaged in the international competition. For each of these sectors, it would make sense to create a global level-playing field in the spirit of the Montreal Protocol, through a global carbon market with a specific price of carbon applying to all the firms concerned. For these sectors, there is no reason for making any discrepancy among countries, be there emerging or developed.
The European CBAM, within the five years before the start of its implementation, gives us a unique opportunity to reach sectoral agreements at the global level. Should we succeed, the risk of carbon leakage would disappear and CBAM with it.
(3) In your view, how should revenue from the border adjustment tax be used? Some think all the revenue should be used to purchase negative carbon quotas from developing countries to support their carbon reduction effort and avoid misuse. Do you agree with this?
I consider that we should differentiate the receipts coming from the implementation of a price of carbon applied to all emitters, from those originating from CBAM or from sectorial approaches.
In the first case, public authorities should have margins for their allocations: either to mitigate social impacts of temporary rises of energy prices, or to accelerate the speed of greening their economies, or to help emerging countries cope with their energy transition.
As for CBAM or sectorial receipts, their objective being to lead the companies concerned to stop their emissions of carbon, the proceeds should go at least partly to these firms to do the necessary investments.
Sectoral global carbon markets would hence provide the funds to phase out the sectors’ carbon emissions: a costly plan when it comes to retrofitting plants with Carbon Capture and Storage technology: a technique under investigation in many countries, including China. Capturing and storing the carbon emitted in production process is sometimes the only way to prevent their carbon emissions, but it can cost up to 100 € (440 RMB) per ton, which I don’t see how to finance without applying a significant price to carbon.
An alternative to sectoral markets for carbon could be the implementation by the exporting country of taxes on its borders applied to the corresponding commodities produced and sold abroad. For the European CBAM, in the case of steel for example, instead of paying a tax on the borders to the EU when steel is entering its territory, the country which does not participate to a carbon market could impose a similar carbon tax applied to the steel exporter at its own borders, and use the proceeds to help the steel sector of its own country make the necessary investments. Should sectoral carbon markets exist, each country could directly allocate the receipts to the firms to this effect.
For emerging countries, if I consider that part of the proceeds of a generalized carbon pricing in developed countries should be transferred to them in order to accelerate their equipment in the production of clean energy, I don’t see why in sectoral markets a redistribution should apply since it would contradict the principle of industrial sectoral level-playing fields, the firms concerned being already emerged in the international competition.
9. Is it necessary and feasible to build a globally unified system for carbon pricing? Some have come up with an alternative solution— to develop controllable connections among different carbon markets. What is your take on this?
In theory, a unique price of carbon applied to all countries of the world, rising over time at a pace consistent with carbon neutrality seems to be the right solution. But besides being out of reach, I don’t see it as a necessity.
What we need first is a phasing out of carbon in the sectors which are the biggest emitters. And for each of these sectors, we need the right incentive which is a price of carbon or tax, differentiated according to the volume of emissions, the size of investments to undertake as well as the speed of decarbonization required. This price has to be the same for all the firms concerned globally.
As for the price of carbon applied to all emitters by each country, I repeat that what is important in my view is that it works as an incentive for decarbonization and for investing in clean energy. This means that we need a minimum price of carbon globally. But I consider that emerging countries should apply prices which are lower than in the developed ones, for the reasons I exposed already.
This is the reason why, sectoral markets apart, I have no objection to controllable connections among different carbon markets between countries which have similar levels of development as well as the same objectives for carbon pricing over time.
10. Though China has proposed the 2030/60 goals, the country now still accounts for about one third of global carbon emission. While striving to deliver its commitments in due course, China has to balance decarbonization efforts with the need to maintain economic growth and stability. What advice would you give to the Chinese government in designing and implementing related policies?
Due to its demography, the stage of its economic development and the size of its industrial sector, China is in a unique position.
The seminal Chinese concept of ecological civilization runs through the objectives and actions undertaken by Chinese authorities, not only with the pledge by President XI Jinping of carbon neutrality by 2060, but also with the many initiatives going from ambitious programs of reforestation, to investments in renewables (its installed renewables energy capacity in 2020, the first in the world, is three times the level of the U.S.) or in its nuclear capacity…, and now with its launch of a national market for carbon…
I will not dare to give any advice to the Chinese government for the design of its policies which, as you rightly point out, are subject to major economic and social constraints: it is crucial to avoid putting at risk the catching-up of living standards by stifling the use of energy, a key parameter in the development process. And during the energy transition period, the transitory increase in the price of energy can put pressure on the purchasing power, more painful for the most deprived.
This being said, I can put the terms of the equation which are well known by the Chinese authorities. Since decarbonisation consists in the first place of phasing out the production of energy emitting carbon to be replaced by carbon-free sources of energy, the core issue rests on the structure of the Chinese energy sector. The huge efforts necessary to curb its fossil fuel part are to be complemented by a big push on renewables in the first place: this explains why President XI Jinping plans to nearly triple local wind and solar capacity by 2030, with the target of the doubling its share to 25 % of Chinese power generation. Coupled with a significant increase in the nuclear fleet, one can hope that it will leave enough room for limiting the use of fossil-fuel energy.
A major issue: coal-fired plants which are emitting more than 4 billion tons of carbon annually generate the bulk of China’s electricity. They are young. It is not feasible nor economically nor socially to shut them down. This is the reason why the Chinese authorities are looking carefully at the CCS technique, notably through the pilot project of Guoha Jinjie Power. I don’t see any other way to curb carbon emissions from coal-fired plants than retrofitting them with CCS, which would need ad-hoc regulatory frameworks and financial incentives. When one looks at the fate of the major American CCS project, Petra Nova in Texas, which had to close last year because of lack of a price given to carbon in the US, one may think that the recent introduction of a national market for carbon in China is the indispensable complement for bringing the necessary financial resources to fund a large-scale deployment of CCS in the coal-fired sector. Let me remind that as it is designed, this market size is three times the European’s. Should the price of carbon be applied to all the plants concerned and rise at a level considered as socially affordable, the amount of funds available would certainly allow to start a significant programme for retrofitting coal-fired plants.
The fact that China is expected to include polluting sectors such as steel and cement in its national market for carbon is a promising orientation as well, which is in line with the requirements of the six most energy-intensive industries (petrochemicals, steel (56% of the world’s steel), aluminium (57%), cement…), to make assessments of their carbon emissions: again, using part of the proceeds of carbon pricing to make the necessary investments to retrofit the plants concerned would greatly accelerate the reduction of carbon emissions. To this effect, China is already curbing production of steel and aluminium, a welcome orientation despite its effect on the prices of these commodities which are currently rising. Wouldn’t be interesting to explore another route which would be to put a price on carbon emitters in these sectors, used to retrofit the plants. The increase in the price would then be used to directly reduce carbon emissions.
11. With COP26 in perspective, how do you see the role of China in the global endeavours to fight global warming?
The role of China is absolutely key. Given the size of its carbon emissions and the impact globally of its policy towards decarbonization, China has a leading responsibility to nudge the rest of the world to move forward through its own endeavours to save the planet.
The world is at a crossroads. The objective now is obvious: we have to take the right decisions to stop the increase in GHG globally and as soon as possible reverse the trend: a huge challenge which requires efforts made by all the nations in the world. In this respect, it is clear now that the Nationally Determined Contributions (NDCs) put in place in the milestone Paris Agreement are insufficient to curb emissions which are still dangerously on the rise. All around the world, people expect a major step forward from the Glasgow COP26.
But if it is crucial that all countries on our planet get involved, a global leadership is nevertheless needed. Priming the pump can come only from the three main economic powers and emitters together: the European Union, China and the United States. As a first indispensable step, policymakers in these three blocks have to be aware of the power of carbon pricing to decarbonize the planet, without which we won’t succeed. Two of them, the European Union through its “Fit For 55” package and China with its launch of a national market for carbon, have already proved their understanding of this necessity. As for the U.S., they must be aware that without a national price of carbon, they can hardly claim to be a leader in the fight against global warming.
A scenario which in my view could be extremely efficient and be a game changer could start, as I already pointed out, from China, the European Union and the U.S. together adopting carbon pricing policies which do not need to be aligned within identical systems with a unique carbon price: coherence and convergence should be the basic principles.
I have no doubt that a trilateral initiative where China will bring a major part would swiftly lead other countries around the world to join. Not only because they would realize the huge beneficial impacts of carbon pricing in those countries which have adopted this device, but also because they would see the great advantages they could get through the receipts for their own social and economic objectives.
