Carbon emission trading unites polluters and protectors in looking after environment

After years of high-speed growth, China's economy has attracted considerable admiration across the world. At the same time, another fact of the economic boom has been receiving increased attention - pollution and environmental deterioration.

The air quality in Beijing and a vast part of the country's east in the past couple of years has become an issue not only for those living in Chinese, but also for expatriates and tourists in those areas.

On several days this year, Beijing's air quality has been classified as "extremely hazardous", based on readings by the US embassy. The situation has become so serious that the government has vowed to take immediate action to improve air quality in the worst affected cities.

What is more worrisome is that there are other less visible but possibly more serious environmental problems in China. The pollution in rivers, lakes, and certain marine territories has not only affected the quantity and quality of produce, but has also led to villages and regions suffering concentrated cases of certain diseases.

Water pollution and landfill have also led to land degradation, which jeopardizes food safety and human health.

As the Chinese economy reaches that of middle-income countries, its government and people have become more concerned with how to protect and restore the environment. To be fair, environmental problems are difficult for all countries to solve and are an international issue.

Because of lower production costs and insufficient penalties, many companies and concerns are not motivated to take necessary measures to reduce pollution, particularly carbon emissions. Indeed, there is often "excessive production" of pollution.

There is also a shortage of private providers of environmental protection services because they are also not encouraged by low returns on their investment.

Both polluters and protectors must be seen to be benefiting as much as society as a whole in doing the right thing.

The Chinese government not only faces the problem of limited resources, it also faces the spillover from areas beyond its governance, which further complicates global and regional environmental protection challenges.

To address such problems, economists and policymakers have tried to come up with novel ways that rely more heavily on market forces.

Carbon emission trading is one such innovation. According to its designers, the concept of emissions trading borrows from that of property rights, where determining the original property rights is not as important as the subsequent trading of those rights.

Once the polluter, protector and government are given certain rights at the start of the trade, each party can express their opinion and influence by buying from or selling to other parties the right to emit pollution.

Instead of simply appropriating a quota of emissions, the government can actively participate in the pricing of pollution and pollution protection. If the government and an environmental protection agency wish to reduce pollution, they can buy the right to pollute from the polluters. Such a purchase would in turn push up the price of the right to pollute and increase the cost of pollution.

Polluting companies would then face the consequences of market forces. In light of the rising cost of emission rights, they would have a choice. To maintain its regular amount of pollution, the company would have to pay higher prices to acquire the emission rights and see the cost of its pollution increase or, as is more likely, it may find that prospect too expensive and reduce its pollution levels, and thereby help the environment.

With the pledge from the Third Plenum of the 18th Chinese Communist Party Congress, China has voiced its strongest resolution to further unleash the power of market forces. With its deteriorating environment, new financial instruments may prove to be the tools the government needs for the public good and that of the environment.

The author is a faculty fellow at the International Center for Finance, Yale University; and deputy director of the Shanghai Advanced Institute of Finance, Shanghai Jiaotong University. The views do not necessarily reflect those of China Daily.