How to build a Eurasian emissions trading system

Across two continents, Eurasia’s major constituencies – such as the EU, China, Japan, Korea and Russia – are forging ahead with plans to develop national emissions trading systems. These work by putting a limit on overall emissions that is reduced each year. Within this limit, companies can buy and sell emission allowances. This ‘cap-and-trade' framework provides companies with the flexibility to cut their emissions in the most cost-effective way.

At this stage, such systems are segmented globally, but with time there is likely to be greater harmonization in the operation of national and regional ETS platforms. The current crisis period may well accelerate such harmonization efforts, as the most developed ETS – the one developed by the EU – is actively being replicated across major regions of the world economy, including China and potentially Russia.

In the course of 2021 we have witnessed a very important shift in the decarbonization agenda of the world economy, as all the main players have advanced greater ambitions in this area. The US has re-entered the Paris Agreement, China has declared its commitment to achieving carbon neutrality by 2060, and the EU has advanced its 'Green Deal' initiative and is further raising its climate ambitions. Also this year, China and Russia have exhibited greater ambition in launching their own emission trading systems.

Thus, there appears to be a global consensus shaping up on the need to advance the decarbonization agenda and the development of emission trading systems. The COVID-19 crisis has expedited plans to forge ahead with advancing emission trading systems as the global community is targeting a green recovery that will prioritize lower emissions and more sustainable growth in the longer term. Such priorities have been outlined both at the level of international organizations, such as the IMF, and individual countries (EU economies).

By 2021 the total number of emission trading systems increased to 24 after China launched its national ETS in January 2021. Emission trading systems regulate around 16% of global greenhouse gas emissions (see figure below). Cap-and-trade systems constitute a carbon market whose turnover reached nearly $250 billion last year. Currently, the EU’s ETS is the largest in the world, and it has proved to be an effective tool; installations covered by the system have reduced their emissions by 36% since its launch in 2005.

Given these trends, there appears to be sufficient scope to create a platform for bringing the standards in national and regional emission trading systems into greater conformity. For the region of Eurasia, this would imply the creation of several national emission trading systems compatible with the EU ETS and linking them with the respective systems of China, Japan and South Korea.

A Eurasian ETS platform would serve to link up the largest ETS system, namely that of the EU, with the system that has the greatest potential for reducing emissions globally (namely that of China). It also has the potential to provide a link between developed and developing economies in building common platforms that prioritize green development.

Environmental concerns and greater inter-operability of trading systems might be some of the areas where there is unlikely to be significant divergence in the approaches and aspirations of the global economy’s major heavyweights. Indeed, creating a Eurasian ETS platform may be a precursor to the formation of a global ETS network that would also encompass the emission trading systems of regions such as North America and developing economies.

Greater harmonization and coordination among Eurasia’s national emissions trading systems would allow for the mutual recognition of these systems, thus lowering the scope for 'green protectionism' and reinforcing the measurement, reporting and verification (MRV) mechanism across the region.

A larger market will also tend to be more liquid, which may increase its resilience to manipulation and market shocks.

Other potential benefits arising from the creation of such a platform include:

1. Improved conditions for 'green growth' across the continent, with environmental, social, and governance standards being strengthened, and sustainable development being prioritized.

2. The introduction of carbon pricing across a rising number of developing economies would increase the inclusivity of Eurasia’s green development and raise environmental standards across the region.

3. A Eurasian ETS could serve as a crucial platform for advancing partnerships between the public and the private sectors in developing market infrastructure, and bringing financial market development closer in line with the exigencies of sustainable and green development.

In the end, the importance of emission trading systems arises from the fact that this mechanism connects financial markets and climate stability. In effect, it allows markets to determine the price of carbon emissions rather than governments.

Linking Eurasia’s ETS should also provide for greater trust and confidence-building across countries, making decarbonization and the energy transition an exciting and rewarding journey. Perhaps most importantly, the ETS is predicated on companies and governments taking active measures towards establishing transparent procedures to determine the CO2 footprints across products.