How will sectoral coverage affect the efficiency of an emissions trading system? A CGE-based case study of China

This study contributes to the existing literature on optimal carbon mitigation policy by quantifying the impacts of various sectoral coverage options for the emissions trading systems (ETS) used to achieve China's Intended Nationally Determined Contribution (INDC) targets for the Paris Agreement on climate change. The CHEER model, a computable general equilibrium (CGE) model of China with detailed representation of electricity and other energy intensive sectors, as well as a complete CO2 emissions accounting module and carbon market, is used in this study. Results show several important findings. First, China's INDC targets can be achieved through an economy-wide ETS at an economic cost of 2.1% of real GDP by 2030. Second, including only the eight sectors proposed for initial implementation of the ETS in China is likely to result in a much larger mitigation cost than the economy-wide approach, estimated to be as high as 10.5% of 2030 real GDP. Thirdly, this study further indicates that the mitigation costs can be reduced to 3.3% of real GDP in 2030 if other energy-intensive sectors, accounting for additional 24.8% of total emissions, are included in the ETS. As a result, not all sectors are required to get close to the first-best mitigation option so long as critical sectors are not excluded. In addition, the temporal dimension of mitigation costs and air pollution co-benefits under different sectoral schemes of China's ETS gives policy-makers a degree of short-run flexibility in terms of phasing in additional industries over time.