stringent. With all eight sectors included, the China ETS will cover roughly half of the country’s CO2 emissions, with an estimated 6 000 firms participating (Pizer and Zhang, 2018).

The China ETS follows a different design than that in the European Union and systems used in the United States. Allowance allocation and standard setting are based on output and technology, using sectoral benchmarks, with free allowance allocation in the initial phases. There is no fixed cap in place, with output-based allocation being instrumental in creating extensive data networks for cap setting in later stages. As administratively set prices in China’s power sector limit the possibility for cost pass-through, the ETS is also going to include indirect emissions from electricity consumption.

In its current form, the China ETS resembles a tradeable performance standard (TPS) with technology-specific intensity standards. Since subcategorisation creates incentives for intratechnology efficiency improvements, but does not stimulate technology switching, which can lead to less cost-efficient emission reduction outcomes (Pizer and Zhang, 2018), the number of fuel standards will be limited, with higher stringency for coal than for gas-fired power plants. Contrary to a cap-and-trade system, which puts a positive price on all CO2 emissions, a TPS only prices emissions surpassing benchmark levels, which can result in lower carbon prices. However, in the long term, the objective of China’s ETS is to cap national CO2 emissions and achieve emission reduction targets for all eight sectors in line with China’s Ecological Civilisation vision. Low carbon prices and free allocation are likely to be features only in the initial ETS phases in the next few years, with the potential for the TPS to be replaced by a cap-and-trade system after China’s emissions have peaked, which it aims to achieve before 2030.

The development of China’s ETS is, furthermore, set to follow reforms that are planned for the electricity sector, as alignment between both is critical to an effective functioning of the ETS. Whereas China’s ETS policy is nationally determined and applicable to all regions, electricity sector reform is developed and implemented at provincial level. This division in jurisdictional authority can pose added complexities when provinces opt for electricity sector designs that have different outcomes on the incentives for electricity generators (low-carbon and carbonintensive generation) and consumers under a carbon pricing system. This will be a key area for China to focus effort on once electricity sector reforms are being implemented and the ETS is maturing.

Sources: ICAP (International Carbon Action Partnership) (2018), ICAP ETS Map, https://icapcarbonaction.com/en/ets-map. NDRC (2017), Contruction Plan for the National Carbon Emission Trading

Market www.ndrc.gov.cn/gzdt/201712/W020171220577386656660.pdf.

Pizer and Zhang (2018), “China’s new national carbon market”, NI WP 18-01, Nicholas Institute, Durham, NC, https://nicholasinstitute.duke.edu/publications/chinas-new-national-carbon-market.

Retail markets and distributed energy resources

Retail pricing reform

Driven largely by the many changes described in this report, reforms in retail rate design are being pursued in many jurisdictions (IEA, 2016a).40 At the same time, advances in information

40 The discussion in this section is taken from IEA (2017a).

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and communications technology (ICT) have lowered the transaction cost of communicating prices for energy and other utilities more dynamically, which opens opportunities for introducing more cost-reflective pricing structures with higher levels of granularity.

A growing number of end users now have an alternative to grid supply, and they use retail tariffs as a reference to make investment decisions. As the cost of distributed energy resources (DER) continues to decline, uptake will continue to rise.

At low penetrations, this effect is likely to have marginal impact on retail prices (LBNL, 2017). As DER uptake continues, however, this situation raises questions about distributional fairness among different end users, and may lead to a spiralling uptake of DER as grid supply price increases continue to improve the economics of self-supply.

In addition, sector coupling will link economic signals from other sectors with those of the electricity sector, and make it possible to meet a certain energy service using various sources. For example, customers may choose between using electricity (via efficient heat pumps) or natural gas for heating, or they may choose between electric or internal combustion engine cars. This increases the need for a level playing field between the different resources, whereby energy services are priced similarly and are subject to similar taxes and levies.

Finally, DER may provide system services that are not captured at all in current tariff design. This creates a need not only to consider reform of retail tariffs, but also of valuation frameworks for DER more broadly. Both aspects will be discussed in turn.

When approaching retail pricing reform, a number of relevant trade-offs and distinctions need to be made. End customers – especially residential and small commercial – often do not have the expertise and/or the interest in navigating a complex pricing structure that may expose them to wholesale market risk. However, making it possible for retailers and aggregators to access the differences in value of electricity by time and location can be critical for unlocking the full contribution of DER.

Degrees of granularity for retail tariffs

As DER generation options become cheaper, retail prices should be designed to provide fair and appropriate incentives to both network users and DER (IEA, 2016c). With modern ICT systems and emerging valuation methodologies, it becomes possible to calculate in greater detail the actual value of a given kilowatt hour (kWh) of electricity consumption at a specific time and place. The deployment of smart meters makes it possible to communicate this value to end users and use data measurements at more regular intervals to apply them in the billing process. Price signals that accurately capture the impact on overall system cost give a stronger incentive for demand shaping when and where this is most valuable to the power system.

Retail prices can be refined along three dimensions (Figure 22). First, to indicate the supplydemand balance throughout the day, tariff design may move from a single, flat tariff to various degrees of time dependency. Real-time pricing, the most advanced form of time-based pricing, has been applied in Spain since 2014, although consumers can opt out and subscribe to other supplier or contract structures (IEA, 2016d).

In addition, demand charges can reflect the contribution of an individual customer to overall generation and network costs. The precise characteristics of electricity consumption, such as the timing and magnitude of peak electricity demand, will influence the timing and location of grid planning and reinforcement.

The third dimension relates to the geographical location of consumption. The cost of delivering power to end users depends on transmission and distribution losses, and on the occurrence of congestion and voltage-related network constraints (Schweppe, 1988). The options for

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41 Under net energy metering, banked kWh credits may eventually expire. When this occurs, they are deemed “net excess generation” and are typically credited to the customer at a predetermined rate, usually set between the avoided utility wholesale energy cost and the retail electricity rate.

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