For an effective carbon market

New Delhi: As India prepares to roll out its own national compliance-based carbon market, Centre for Science and Environment (CSE) has prepared a clear roadmap to help it along. India’s finance minister Nirmala Sitharaman had announced in the Budget of 2024-25 that a plan and appropriate regulations will be put in place for the transition of hard-to-abate sectors from a Perform, Achieve and Trade (PAT) mode to an Indian Carbon Market (ICM) mode. CSE released its proposed roadmap as part of its new report titled, ‘The Indian Carbon Market: Pathways towards an effective mechanism’ at a global webinar.

India has pledged to meet its Nationally Determined Contribution (NDC) targets by 2030, and aims for net-zero emissions by 2070, in line with the United Nations Framework Convention on Climate Change (UNFCCC) guidelines. To meet these ambitious goals, the country has set out on a pathway to develop and launch its own national compliance-based carbon market.

Formation of the Indian Carbon Market (ICM) had been announced under the Energy Conservation (Amendment) Act of 2022. More recently, The Carbon Credit and Trading Scheme (CCTS) was notified in July 2023, with an aim to reduce GHG emissions.

CSE director general Sunita Narain said: “The upcoming Indian Carbon Market scheme should kick start with a large coverage of the country’s emissions. A single nation-wide carbon market scheme for carbon-intensive sectors should be brought in to ensure effective implementation and avoid any complexity. For this scheme to be effective, it also needs to ensure a high carbon price, data integrity and transparency.”

CSE’s report has analysed four Emission Trading Schemes (ETS) in use worldwide: the European Union Emission Trading System, the Korean ETS, the Chinese ETS, and the Surat ETS. India’s Perform, Achieve, and Trade (PAT) scheme, which specified energy reduction targets over three-year cycles, has also been assessed as it sets the base for the upcoming Indian Carbon Market scheme.

Says Nivit Yadav, programme director, industrial pollution, CSE: “The PAT scheme was initiated with the good intention of increasing energy efficiency in industrial sectors, but faced several shortcomings in implementation. Our analysis shows it has achieved marginal emissions reduction, which is not enough as India attempts to travel towards decarbonisation, especially in the hard-to-abate industries.”

In its PAT assessment, CSE has analysed emissions reductions in the power, steel and cement sectors. Says Parth Kumar, programme manager, industrial pollution, CSE: “We have found that in 2016, the Indian steel sector emissions stood at 135 million tonne (MT) of CO2 while it managed to reduce an average of only 2.5 MT of CO2 emissions per year between 2012 and 2020 (as per BEE data) -- the sector reduced a mere 1.85 per cent emissions in a year.

Similarly, the cement sector’s reduction was less than 1 per cent, while the power sector managed to cut down 2.3 per cent of its overall CO2 emissions of 2016 over a span of 6 years. Our analysis has highlighted the challenges in the PAT scheme, which include excess availability of ESCerts, lenient targets and delayed compliance. The newly proposed Carbon Credit and Trading Scheme (CCTS) which aims to build on PAT’s framework, needs to address these shortcomings.”

New challenges for proposed scheme?

Low price of carbon credit and low market liquidity: Several global carbon markets have initially faced low carbon prices and market liquidity – India’s PAT scheme had also faced the challenge of low pricing and excess availability of certificates.

Unambitious target setting: So far, the PAT scheme has faced criticism for its goal-setting, which was perceived as lacking ambition: this has led to overachievement of targets and an oversupply of ESCerts, leading to a poor market price. Dependence on the PAT scheme: “This is one of the biggest challenges, as CCTS is going to transition from PAT.

This dependence might limit its potential and its selection of obligated entities, which can make the scheme less effective and delay the decarbonisation efforts,” says Kumar. Running both schemes parallelly can create confusion within the sector and companies. Currently, there are plans for entities completing their PAT cycle to receive CCTS targets, which might not be the best way to shortlist entities for the scheme. This does not give a clear signal to achieve maximum emission reduction from CCTS.

No revenue generation: Currently, the scheme does not have a clause for revenue generation. ETS schemes around the world have a way of generating revenue through auctioning allowances which are then allotted to modernisation, supporting of new entrants and small business, affected communities, and for financing decarbonisation.

Data quality: Data quality issues have been reported in the Chinese and Surat ETS, especially data frauds in China ETS. The PAT scheme suffers from data transparency concerns. The smaller industries in CCTS will have a hard time producing data for their raw material and fuels, which are usually sourced from informal markets.

Absence of a market stability mechanism: Market stability mechanisms play a crucial role in ensuring stability through holding and releasing credits into the market in case of unexpected external events. Currently, the Indian Carbon Market has not come out with any detailed proposed for any such mechanism. Non-imposition of penalties: Penalties under the PAT scheme are hardly imposed. Even if penalties are strict, the whole purpose is lost if regulators won’t levy them on entities.

What does CSE recommend?

Ensure a stable, high carbon price: To do this, it is essential for the upcoming carbon market to set ambitious targets, establish market stability mechanisms, set up a high floor price and implement sizable penalties effectively. Voluntary credits should be limited to less than 5 per cent and should be of high integrity.

Ensure data quality and improved transparency: To avoid data fraud as seen in the Chinese ETS, India must consider introducing heavy penalties and rigorous monitoring cycles for the obligated entities -- China has done it in its 2024 regulation. It is also essential to build the capacity of carbon verifiers, involve multiple agencies in this job, and increase their numbers to ensure smooth data collection and MRV. It is essential to share reporting data in the public domain, which would then shield the data from manipulation.

The current Indian carbon market model lacks revenue generation mechanisms -- it is crucial to devise methods to generate revenue from the scheme, which could fund MSMEs. A system (technological and financial) needs to be developed to support the MSME sector under CCTS to create a level playing field for them.

To address the significant contribution of the power sector to greenhouse gas emissions and to ensure effective progress towards India’s NDC targets, it is imperative to include the power sector in the carbon market scheme. The sector’s continuation under the PAT scheme might not be enough for the future needs of decarbonisation.