Carbon markets aim to provide incentives for polluters to reduce emissions by allowing firms to trade the right to emit. In the EU and California, this has involved putting an absolute cap on emissions, which is reduced over time.

However, China has generally resisted setting absolute emission caps in its climate pledges, instead opting for intensity-based targets to cut emissions per unit of GDP. While the precise methodology for the cap-setting in China’s national carbon market has not yet been released, government sources have indicated it will take a similar approach.

Therefore, it appears China will use a rate-based limit for its ETS. This would see a limit put on the amount of CO2 allowed per unit of output. Each power company would be allocated a certain number of credits, depending on how much electricity it produces. If it emitted less than this set quota, it could then sell that surplus to another firm.

This would reward firms for producing less emissions per unit of output, rather than less emissions overall, which could help alleviate political worry about constraining economic growth. But it would mean that even if power producers become more efficient, emissions could in theory still rise, if power production increases overall.

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