China signals opening of Carbon Market to financial institutions

China is signaling a potential shift in its national carbon market that could reshape trading dynamics and bring in a new class of participants. A recent State Council policy document, published on April 21, encourages financial institutions to take part in carbon trading, a move that analysts say could address persistent liquidity concerns in the system. The full text of the policy can be found in the official announcement (link in Chinese).

Since its launch in 2021, China’s emissions trading system has been limited largely to compliance entities, with trading activity often clustered near annual deadlines.

Yan Qin, a carbon market analyst at ClearBlue Markets, said the new signal from policymakers is the clearest yet. “The statement from the State Council’s high-level opinions sends the strongest-ever signal so far and it might be able to push both the financial regulator and ETS regulator to implement this for CEA (carbon emission allowance) trading,” she noted.

Allowing financial institutions into the market could alter trading patterns and improve price formation. “Permitting financial institutions to participate will likely boost market liquidity and help smooth out the current pattern of trading surges that typically occur just before the year-end compliance deadline,” Qin said. She added that intermediaries could help smaller firms participate more effectively, supporting broader market expansion.

Market preparation appears to be underway. Regulators have circulated a draft list of eligible institutions, while some firms are already setting up carbon trading desks. According to Qin, “more diversified participants will for sure improve price discovery and market efficiency.” She also pointed to possible parallel reforms, including allowance auctions and the eventual introduction of carbon futures.

Even so, China is expected to proceed cautiously. “I expect that the regulator will initially adopt a prudent stance, implementing rigorous market supervision and imposing position limits,” Qin said, reflecting the scale and policy sensitivity of a market covering more than 8 billion tons of emissions.

The development comes at a pivotal moment globally. The European Union’s emissions trading system has acted as a catalyst, even though there is pressure to limit its scope, while its Carbon Border Adjustment Mechanism is now operational, raising the stakes for export-oriented countries.

At the same time, disruptions such as the blockage of the Strait of Hormuz are accelerating efforts to diversify away from fossil fuels. Against this backdrop, China’s gradual opening of its carbon market suggests both convergence with international systems and a distinct approach shaped by domestic priorities.

source: carbon herald

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