A new study on the world’s first-ever market for trading particulate emissions, which are tiny particles that can impact human health, revealed that employing the market mechanism helped reduce pollution by 20-30 per cent in an industrial cluster in Surat.
Published in the May issue of the Quarterly Journal of Economics, the study saw researchers compare the emissions performance of participating plants with those complying with the business-as-usual pollution standards. It covered 162 plants, predominantly in the textile sector.
Plants which were part of the market mechanism reduced emissions significantly more than those under conventional regulation and had permits to cover their emissions 99% of the time, the study found. On the other hand, plants outside the market failed to meet pollution norms for nearly a third of the study period of almost two years.
The study builds on the idea of emissions trading, which has been in operation in Europe since 2005 and in China since 2021, and has at times been criticised. We explain.
What is an emissions trading scheme, and how does it work?
An emissions trading scheme (ETS) or market is a regulatory tool to cut greenhouse gas emissions, while providing industries with financial incentives to comply with norms and to get them to invest in cleaner technology.
Under ETS, regulators set a cap or a limit on the total emissions load that can be released into the air. Instead of enforcement through fines or show-cause notices, industries are given emissions permits or allowances, which can be traded among them to meet compliance. This lends the name ‘cap-and-trade’ to emission markets.
Each permit allows industries to release a specific quantity of pollution into the air, such as a kilogram of particulate matter pollution or a ton of carbon dioxide. Plants with pollution-reducing technology save their permits and sell them to those who might need them to make up for their compliance gap. This way, plants with fewer resources get time to gradually shift to cleaner technology, while complying with a cap, and others earn through trading.
Minimum floor price and maximum ceiling price are usually set by regulators to maintain stability and to keep the scheme attractive. Regulators can also tighten the cap based on pollution monitoring data. Industries that breach emission caps are penalised, usually on a per tonne cost basis. In some instances, they also have to surrender their permits.
To ensure emissions reduction, regulators tighten emission caps and issue fewer permits as the ETS matures. This can ensure that industries find it more cost-effective to use cleaner technologies, rather than buying scarce and expensive permits.
And what are some criticisms of emissions trading?
Emissions markets have operated in the United States, Europe and most recently, China. At times, they have been criticised for flaws in their design, which have undermined the intent of cutting emissions. One of the key criticisms has been over-allocation of permits.
French publication Le Monde’s Right to Pollute investigation into the European ETS revealed in 2023 that the regulators had issued surplus permits, thus keeping their prices low. This meant industries did not invest in cleaner technologies sooner to cut emissions. The investigation also found insufficient regulatory oversight, affecting the transparency of the market’s actual impacts.
Another major criticism, especially in the United States, has been the lobbying influence of fossil fuel companies to delay the tightening of emission caps and to get free permits, essentially offering a way for industries to pay and pollute. In China, the national carbon market was criticised for using emissions intensity (emissions per unit of output) rather than an absolute emissions cap.
Keeping the emissions cap high also affected communities living around the plants covered under such markets, a 2018 study on California’s cap-and-trade system, published in PLOS Medicine had found. Carried out between 2011 and 2015, the study revealed that plants regulated under the market were situated predominantly in economically disadvantaged areas, and their emissions, in fact, rose in the initial period.
What did the Surat study find?
The Surat-ETS was introduced in 2019 across 342 highly polluting industries to control fine particulate pollution emitted due to the use of solid fuel sources, such as coal and lignite, and liquid sources such as diesel.
It is the world’s first ETS pilot to control particulate pollution and India’s first for any pollutant. The scheme was designed and developed by the Gujarat Pollution Control Board (GPCB) along with researchers from Abdul Latif Jameel Poverty Action Lab (J-PAL), Energy Policy Institute at the University of Chicago (EPIC) and Yale University.
These were the important steps followed in the Surat ETS:
- 01
Cap
A total load or mass of suspended particulate matter was set at 280 tons of particulate emissions per month. This initial cap was based on assumptions that the plants would run at the maximum available capacity and produce emissions at maximum concentration. Once data from continuous monitoring was evaluated, the initial cap was tightened and revised downwards to 170 tons per month.
- 02
Permits
Each permit was equal to 1 kg of particulate matter emission, and these permits were only valid during one compliance cycle, which lasted four to six weeks. They expired at the end of each compliance period. GPCB issued 80 per cent of the permits for free, in proportion to a plant’s capacity and past emissions. The remaining 20 per cent were sold in auctions.
The rationale behind issuing free permits early is rooted in making the scheme attractive and preventing additional costs of buying permits from the get-go. As a scheme takes root, the volume of free permits is reduced, putting a premium on the purchase of permits and polluting the environment.
- 03
Auctions, trading and price
A uniform price auction happens at the beginning of each compliance period through price discovery, which sees participation of both buyers and sellers. Based on the number of permits available in each compliance window, buyers and sellers quote their bid price and bid quantity, thus leading to the discovery of the permit price. As with any market, demand and supply help decide the permit price. Trade also happens in a continuous market following the opening trades.
Permit prices are limited to between Rs 5 per kg and Rs 100 per kg, as the floor and ceiling price, respectively. This ensures that the permit prices do not drop so low that it is easier to pay and pollute, while a ceiling price ensures there’s no price inflation for permits. Companies also get time to sell or buy permits equal to their emissions in a ‘true-up’ period, or a time extension to avoid penalties.
- 04
Compliance
At the end of a compliance period, industries with sufficient permits to meet their emissions targets are said to comply. In the Surat study, plants posted a bond known as an Environmental Damage Compensation Deposit before the market began. Plants with insufficient permits were fined twice the ceiling price for every unit of emissions above their permits, the study stated. This fine is deducted from the bond.
Why are emission trading markets used?
In India, pollution monitoring and enforcement work in a command-and-control system. Under this system, regulators at the central and state levels, such as the Union Environment Ministry, the Central Pollution Control Board and state pollution control boards, spell out rules to regulate and enforce pollution norms. If industries fail to comply with them, they face hefty fines, shutdowns and even bureaucratic red tape, in some instances.
However, given the vast number of industries and limited manpower, pollution monitoring and compliance can be expensive and are often inefficient. Also, with uniform norms, industries with varying resources have the same compliance burden with little flexibility. This gives an advantage to larger plants, along with more negotiating power.
Emission trading schemes attempt to address these monitoring and enforcement gaps by bringing in more flexibility, offering incentives for compliance rather than taking a one-size-fits-all approach.
An emissions trading scheme (ETS) or market is a regulatory tool to cut greenhouse gas emissions, while providing industries with financial incentives to comply with norms and to get them to invest in cleaner technology. (Representational/Pixabay) 
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