India has let the world know of its approach towards climate change through the Prime Minister’s announcements of climate change commitments at the Glasgow COP26. It’s a very bold and laudable step by a country that has only been responsible for 4 per cent of global emissions but has a huge need to grow its economy with low-cost energy. This is the first time India has taken climate targets in terms of absolute emissions, bracketing it with the developed countries of the world.

The European Union Emission Trading Scheme (EU ETS) has been the cornerstone of the EU’s policy to combat climate change and its key tool for reducing greenhouse gas emissions cost-effectively. It is the world’s first major carbon market and remains the biggest one so far. EU ETS has shown that Cap and Trade is the better policy choice to combat climate change. Designing appropriate national policies will be the prime requirement to support achievement of such goals.

Global experiences have shown that an effective market mechanism is one of the most cost effective and self-sustaining components of a suite of policies designed to achieve climate change goals. India needs to develop Carbon Pricing Instruments. Carbon pricing can take the form of Carbon Tax or Crediting, or a Carbon Emission Trading scheme ~ a cap-and-trade system that depends on government allotments or permits. Carbon pricing is the instrument that captures the external costs of greenhouse gas (GHG) emissions that the public must pay, such as damage to crops, healthcare costs from heat waves and droughts, and loss of property from flooding and sea level rise, and ties them to their sources through a price, in the form of a price on the carbon dioxide (CO2) emitted.

A price on carbon helps shift the burden for the damage from GHG emissions back to those who are responsible for it and who can avoid it. A carbon price provides an economic signal to emitters and allows them to decide to either transform their activities and lower their emissions or continue emitting and paying for their emissions.

Carbon pricing is a valuable instrument in the policy toolkit to promote clean energy transition. It can help to mobilize the financial investments required to stimulate clean technology and market innovation, fuelling new, low-carbon drivers of economic growth, and investments in lowcarbon technological innovations that foster multilateral co-operation and create synergies between energy and climate policies.

Through ETS, it is possible to achieve Climate Change mitigation objectives in terms of emission reductions at the lowest cost. It would incentivise technology innovation for lowest cost technology and processes to enable businesses to be more sustainable. ETS could be a more effective and potent tool to combat economic fluctuations. Finally, with worldwide spread of Emission Trading schemes, large opportunities would be presented to stakeholders for further benefits. Emissions trading involves tradeable units that are used to represent emissions or emissions savings. It can take the form of a cap-and trade ETS or a crediting mechanism.

In an ETS, emissions are capped at a predetermined level and the market establishes an emission price necessary to meet that cap. The main policy lever available to regulators is to control the volume of emission allowances. This is formulated as a cap and translated into emission allowances that are released to the market either free or at a charge. Mandated participants must acquire emission allowances equal to their determined emissions over a compliance period and surrender these back to the system administrator. In crediting mechanisms, emission reductions relative to a baseline or target are credited, which can be for specific projects, sector performance, or the result of policies.

The price of credits is determined by demand/supply balance. Crediting may occur at the project or the programme level or involve the development of sectoral or policy-based approaches. It is an important mechanism for enabling financial and technology transfer and can be an effective tool for stimulating the growth of the low carbon economy. Actors may purchase credits either for compliance (targets within the system) or voluntary purposes.

For carbon taxes the key difference is that the price of emissions is set by policy makers rather than by a market mechanism. The price level determines the level of economically viable abatement and the emissions result that is achieved. The main routes for carbon pricing are emissions trading, crediting and carbon taxes. The choice of approach will be important for the government looking to create a carbon price indicator to drive emissions abatement within a sector or multiple sectors of the economy (e.g., industrial, commercial, residential, agriculture, transport).

Emissions trading options, crediting and carbon taxes can each be costeffective and efficient ways to realise emissions reductions. A carbon tax allows regulators control over the price of carbon emissions; however, they shall have less direct control over the emissions reductions that are actually achieved. It creates a fiscal liability for the emission of GHG, and the taxed entities may either incur the liability or reduce it by investing in abatement measures. In the same way as for emissions trading, regulated entities are incentivised to abate emissions where it is cheaper than the carbon price, but not where it is more expensive.

A carbon tax creates a stable price signal for investment in emissions abatement, in so far as the tax rate is known and can be relied upon not to change. Parameters need to be factored in to decide the right instrument for our country and these include: * Stakeholders Adaptability, ease of use and understanding of the stakeholders for each one of the instruments. * Infrastructure and adaptability to existing infrastructure. While Carbon tax can be easily programmed to utilize existing infrastructure, Emission Trading needs market infrastructure.

* Monitoring and reporting. ETSs and carbon taxes require the establishment of robust systems for monitoring and reporting of emissions, and use of emission reductions credits to ensure compliance. * Verification: Both instruments create the requirement for high-quality confirmation of determined emissions, such as third-party verification. This may require access to a pool of suitably qualified and experienced independent and accredited verifiers. * Priority Sectors that need to be targeted and Priority development objectives for our country will also drive policy decision.

Considering the various variables, existing market infrastructure of India’s mature commodity trading markets like NCDEX (as futures contracts), which is already trading Carbon Credits, we are well set to adapt to any similar system if started in India. Under the Kyoto Protocol, India’s carbon trading market bagged the second highest transacted volumes in the world by generating 30 million carbon credits in the recent past. As such it is suggested to that the best approach for our country to achieve rapid decarbonisation would be to start an Indian Emissions Trading Scheme (Indian ETS), as a key financial instrument to benefit investment flow in technology and to stakeholders.

Emissions trading systems create incentives to reduce emissions where these are most cost-effective. Various global jurisdictions have shown increasing interest in emissions trading systems as a policy instrument to achieve climate change mitigation goals Emissions trading, also known as ‘cap and trade’, is a cost-effective way of reducing greenhouse gas emissions. To incentivise firms to reduce their emissions, government sets a cap on the maximum level of emissions and creates permits, or allowances, for each unit of emissions allowed under the cap.

The key components of a GHG Cap and Emissions Trading Scheme (ETS) are: Cap: The cap is a limit on the total GHG emissions for obligated participants covered by the system over a given period. Emissions allowances are created that represent, normally, one ton of carbon dioxide (tCO2) or ton of carbon dioxide equivalent (tCO2e). Cap & Trade: A cap-andtrade programme can work in many ways, but as a basic, the government issues a limited number of annual permits that allow companies to emit a certain amount of carbon dioxide.

The total amount permitted thus becomes the “cap” on emissions. Companies are taxed if they produce a higher level of emissions than their permits allow. Companies that reduce their emissions can sell, or “trade,” unused permits to other companies. The enabling structure for an Emissions Trading Scheme consists of three main elements, which are system design and framework, institutional infrastructure and a legal basis for the system. Thus, an ETS is structured with certain key elements, such as sector and GHG coverage; the cap; allocation of allowances; a monitoring, reporting, and verification (MRV ) regime; compliance and enforcement regulations, and flexible measures that support participants or nonparticipants in managing costs and improving the robustness of the system in the case of unforeseen events such as economic downturns.

India has well-developed complementary infrastructure including fully developed technology within the country to implement ETS with minimal additional infrastructure inputs. It however requires a detailed framework for allocation methodology, implementation, compliance enforcement and legal aspects. Government can consider various relevant aspects to plan and implement an Indian Emission Trading Scheme for the entire Industry to achieve required Climate Change and Net Zero by the targeted year ~ 2070.

While Government may take time to implement a comprehensive Indian ETS, it is suggested that a pilot ETS for Hydrogen Offset Trading Scheme can be started under the National Hydrogen Missions soonest. This is because the low carbon Hydrogen Industry is just getting started and as such it would be easier to initiate the scheme.

Emission Trading Scheme is an increasingly popular market mechanism that harnesses market forces to address climate change by creating financial incentives for companies to lower their emissions by switching to more efficient processes or cleaner fuels. In this way, the overall environmental goal is achieved in the most flexible and least-costly way to society. Placing an adequate price on GHG emissions is of fundamental relevance to internalise the external cost of climate change in the broadest possible range of economic decision making and in setting economic incentives for clean development.

(The writer is Chairman, Expert Appraisal Committee (Industry – II), Ministry of Environment, Forest and Climate Change, Government of India. He can be reached at jpglobalconsultinggroup@gmail.com The views expressed are
personal)