On August 5th, 2008, three days before opening of the Beijing 2008 Olympic Games, Beijing Environment Exchange (BEE) was quietly launched on Financial Street. The street is home to the headquarters of many banks, insurance companies and large state-owned enterprise (SOEs).
The strengthening links between the environment and trade, as well as BEE’s location on Financial Street, signals its growing importance. In fact, BEE resembles a department-level organization under a provincial government following a double reporting line. Specifically, it is guided by the National Leading Group to Address Climate Change and Energy Conservation and led by the National Development and Reform Commission, the Ministry of Environmental Protection and the Beijing Municipal Government. As Chairman Xiong Yan put it, BEE mainly serves as an information platform for the transaction of energy conservation and environmental protection technologies, energy-saving quotas, carbon dioxide and COD emission credits and the emission reduction amount.
In some ways, its operations resemble the Shanghai Stock Exchange, but instead of stocks and bonds, pollutants like carbon dioxide and sulfur dioxide are traded. It is not only a public platform to solve environmental problems through market mechanisms, but also a market for environmental financial derivative trading.
The concept of turning pollutants into exchange objects originated in the 1970s when an economist introduced emission credit trading. It was a different approach to environmental protection from government intervention. Take river pollution for example: the government first evaluates the maximum permissible emissions for the river then divides that figure into several emission allotments. Each allotment represents an emission credit. Pollutant-emitters must buy secondary market-tradable allotments from the government. The allotment price has to be set appropriately: high enough to prevent polluters from emitting wildly, and low enough for most polluting enterprises to survive. In this way, companies are willing to invest more in environmental protection and thus reduce emissions in the long run.
The emission credits can be traded among enterprises. Because the emission credit price on the secondary market is completely in the hands of the market, enterprises will have more incentive to invest in emission reduction. Every specific area is granted limited emission credits. The limited supply affects demand and, therefore, results in higher prices. For example, if a pulp and paper maker doesn’t have adequate wastewater treatment technology and has to discharge an additional 5,000 tons of sewage, then it must buy another 5,000 emission credits. The credits are only available in the secondary market at a higher price because those on the primary market (i.e. from the government) have already been sold out, which means this company must pay higher costs for additional emissions. In contrast, those enterprises with more advanced wastewater treatment technologies can sell the leftover emission credits and correspondingly increase their profits as a reward for emission reduction.
Emission credit trading is an important environmental economic policy in market economies. The exchange objects have expanded from original water pollutants to atmospheric pollutants. The US Environmental Protection Agency has been a pioneer in the use of this system in atmosphere and water pollution management, followed by Germany, Australia and Britain.
According to statistics, the carbon emissions for the EU in 2006 reached 1.017 billion tons. The amount traded in over-the-counter markets through brokers and that on carbon exchanges amounted to 538 million tons and 243 million respectively. Eurex is the leading carbon emission exchange with the largest trading volume, reaching EUR18.1 billion (US$23 billion) in 2006. In the carbon exchange system, the forestry sector serves as a carbon emission allotment producer because forests are a great absorber of carbon dioxide. Under such a system, the value of forestry lies not only in the felled wood but also in the value-generating trees that are growing.
This approach to solving environmental problems through markets finally led to the Kyoto Protocol and an international emission credit market. Developed countries buy emission credits from developing countries, large producers of emission allotments backed by thick forests and wide grasslands. The efforts of developing countries in pursuing emission reductions, such as investing in carbon emission reduction equipment, can also be transformed into sellable emission allotments. Thus, a global carbon emission market has taken shape.
China’s sustained economic momentum is leading to a corresponding jump in carbon emissions. China is confronted with the mammoth task of reducing its carbon emissions, slowing down the greenhouse effects, and thus fulfilling its promise to the Kyoto Protocol. The launch of BEE is a quiet step toward seeing that through. In the final analysis, environmental problems are economy-related. Since they result from market trading, they should also be solved through market trading.
Like other economic problems, market trading is proving to be more effective than traditional government intervention.