Li Jin, PHD, is a Senior Economist and the Assistant General Manager at the Shanghai Environment and Energy Exchange. She has been integral in designing the financial products for carbon allowances and emission reduction credits in the Shanghai carbon market. ChinaCarbon.net.cn sat down to speak with Li Jin about the current state and the future of emissions trading in Shanghai, and the role SHEEEX plays in it.
CC.net.cn: Hello Li Jin, glad to have the opportunity to speak with you. To start off, could you introduce Shanghai Environment and Energy Exchange (SHEEEX) and its functions in the carbon market?
Li Jin: The history of SHEEEX can be traced back to 2008 when the international carbon trading market was developing rapidly. The domestic environment and energy trading market had not yet started and there was no orderly trading platform for these instruments. On August 5, 2008, the National Development and Reform Commission and the Shanghai Municipal Government formally approved the establishment of SHEEEX, which launched the first environment and energy trading platform in China.
By 2011, after more than three years of development, SHEEEX began facilitating transactions involving a variety of CDM project credits, voluntary emissions, energy financing contracts, carbon emissions inventory, and low carbon technology property rights. On December 23, Shanghai Environment and Energy Exchange officially converted to Shanghai Environment and Energy Exchange Corp and enrolled ten central and local enterprises and institutions as shareholders. They included the State Power Grid, Clean Development Mechanism Fund Management Center of the Finance Ministry, Baosteel Group, China Huaneng Group, Shenergy.
With the release of milestone policies like the ‘Regulations for management of Chinese voluntary greenhouse gas emissions reduction trading activities’, and the “Interim measures for management of carbon emissions trading” among others, the domestic carbon market we see today began to gradually take shape. Being pioneers in this field, SHEEEX wholeheartedly participated in designing the Shanghai pilot carbon trading system, and officially started facilitating the trade of emissions allowances and CCER credits as well as supporting other related businesses.
CC.net.cn: What measures has SHEEX taken or plans to take to make carbon trading in Shanghai successful? What are the biggest obstacles for achieving this goal?
Li Jin: SHEEEX has always been researching and developing innovative financial products. We have launched various ground-breaking carbon financial products such as CCER pledge loans, financing carbon trading firms, and setting up carbon trusts and funds. We did this in order to build bridges among the regulated entities, asset management companies and financial institutions, while actively exploring business models that fit all these parties.
In this regard, we have achieved several objectives and, of course, we have also faced a number of obstacles. After all, any innovation means a breakthrough from the initial system; it’s not always an easy thing to do. I think many of the complications are intrinsic to the carbon market itself. First of all, the current lack of liquidity in the carbon market results in the absence of a multi-game environment which in turn places difficulties in the valuation of the financial carbon products.
Another obstacle we have to overcome concerns carbon financial derivatives, which is a fresh and emerging concept in China. Moreover, carbon finance itself is a cross-border business. It demands that participants possess the basic knowledge and abilities to make use of such financial products which undoubtedly is a new challenge for carbon trading entities that were only a few years ago exposed to the idea of a carbon market.
We at SHEEX understand that accumulation of experiences and ascension of the consciousness requires a nurturing process. Thus we actively and frequently carry out capacity building workshops and training sessions. This allows traders to understand the carbon market and realize that trading carbon as a commodity allows them to minimize costs in various ways. We are pleased to see more and more companies have realized the value of carbon assets. In the end, by creating awareness and dissipating knowledge, we wish to ensure that every stakeholder can maximize the benefits provided by our financial products and services. This is vital in making the carbon market a big success.
CC.net.cn: Shanghai emissions allowances have been trading at very low prices. Some attribute this to an oversupply in the market. Do you agree with this viewpoint?
Li Jin: I consider this a product of economic transformation in the national environment rather than a simple case of oversupply. We underwent a macroeconomic decline in growth last year. Enterprises covered by the Shanghai ETS, especially the large-scale industrial enterprises, were strongly impacted. This resulted in a sluggish demand for carbon allowances since the expected level of emissions did not occur. In such scenarios prices naturally decline.
I believe that Shanghai’s carbon allowance price index truly and fully reflects the current trend of adjustments in the economic structure and transformation of the industrial sector.
As an exchange, we are reluctant to intervene artificially. We have always adhered to the principle of letting the market mechanism play its role in price regulation and adjustment.
CC.net.cn: On the same note, Shanghai CCERs have seen much better liquidity and higher prices in the secondary market than emission allowances. What are the reasons for CCERs performing better in Shanghai?
Li Jin: Firstly, SHEEEX’s rules designed for transaction of CCERs are more flexible and lenient in regard to price and trading volume requisites. Thus, the transaction cost is relatively lower, and many organizations chose to trade CCERs in Shanghai.
Secondly, We should give our thanks to the professional institutions that are involved in the Shanghai ETS, including advisory companies, inventory agencies, third-party verifiers, brokers, and other related organizations. They work together with the exchange and bring a lot of passion to provide services of high quality. All the while they are helping to connect the supply side with the demand side, and project owners with the investors. They also assist in achieving information symmetry as far as possible by conveying basic knowledge of carbon trading and the latest policies to the enterprises. That is why the Shanghai CCER market is currently at a relatively better level.
In addition, CCERs is a nationally circulated financial instrument. In the 2015 compliance year, Shanghai ranked as the top market for offsets with the largest amount of CCERs being used for compliance, which reflects Shanghai is widely open and acceptable to CCERs.
CC.net.cn: SHEEX announced recently that it would create a futures market for SHEAs in September. What was the main reason that made the exchange decide they would establish this product in China?
Li Jin: As I said above, we work together with professionals in the market to provide a better quality of service to all participants. We develop services that meet the financing needs of some enterprises and increase the investment channels for other companies. Carbon forwards can enable both transacting parties to lock up the price of carbon credits through forward contracts which can eliminate the price risk on both sides and make use of financial derivatives to stimulate the market liquidity.
Strictly speaking, we may not claim to be the quickest in churning out innovative financial products but each time we design a financial product we put a lot of thought into developing comprehensive rules and standards for it. At the same time we set up standardized formats for every contract to include provisions of strict risk control measures. Therefore the enterprises don’t need extra resources to dwell on the risks they may face and hence benefit from lower transaction costs.
CC.net.cn: Could you let us know how the forward contract market would function in Shanghai ETS? Will you be looking at how other carbon markets trade forward contracts?
Li Jin: Our forward contract product for carbon will be designed according to predetermined standards and the core elements of any agreement will already be fixed. After two parties reach an agreement and a price is quoted, the allowances will be delivered via the Shanghai Clearing House (SHCH). SHCH thus acts as the counterparty during any forward contract transaction and will fulfill the intermediary functions to guarantee that all transactions are completed as per the agreement.
If one of the parties cannot deliver the stipulated amount on time, SHCH will themselves supply the corresponding allowances to purchasers and then recover the allowances from the sellers in accordance with the provisions of the contract. Since SHCH is a member of the Global Association of Central Counterparties with corresponding abilities to control delivery risks, the possibility of contracts defaulting is greatly reduced. This may make our carbon allowance forward contract product unique.
In addition, carbon allowance forward contract is a cross-border product; we have repeatedly consulted the relevant regulatory authorities to seek advice hoping to do the best in terms of product compliance and risk management. As an international financial center, Shanghai takes advantage of the multi-level capital market system to develop carbon finance derivatives. Shanghai has highly developed financial risk control, and is well experienced in market supervision and management, which effectively guarantees the stable operation of financial innovation systems.
CC.net.cn: Have you considered what would happen to the SHEAs already available in the market? Would they also be eligible for future contracting?
Li Jin: Of course, our carbon allowance forward contract is based on the existing carbon allowance as the basic object. The spot product and forward contracts are designed to work in tandem with each other.
CC.net.cn: The national ETS is expected to be launched next year. How do you see this impacting the Shanghai carbon market in the medium term? It has been reported that NDRC seeks to tighten CCER compliance eligibility regulations, what’s your view about it?
Li Jin: The launch of the national market will amalgamate the various pilots and cover even more jurisdictions. It will be largest carbon market in the world, hence the authorities are carefully considering all the supporting policies and regulations at the moment. Meanwhile, all the standing pilots, like the Shanghai carbon market will become more mature and efficient.
But on the other hand, like other industries, emerging markets always exist with risks, especially in CCER transactions which are significantly affected by policy decisions. The national carbon market may not have the capacity to digest all the CCERs issued, especially because of the associated risks. However, I think that this is the charm of a carbon market, that is to say, there are both risks and opportunities in the market. The exchange is determined to make the national market a success and we will do everything in our capacity to aid this objective.
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