After a four-year trial in seven pilot markets in China, a nationwide carbon-trading market is scheduled to make its debut in 2017.

As of September 2016, the cumulative transaction volume has exceeded 120 million tons and trade value totaled more than 3.2 billion yuan. As the national market comes into being, China will become the world’s largest carbon market.

“The key to a carbon market is to achieve survival of the fittest through a market mechanism, so enterprises that conserve energy profit, whereas those that do not, pay the price,” said Qi Shaozhou, a professor from the Economics and Management School at Wuhan University.

Lan Hong, deputy director of the Ecological Finance Research Center at Renmin University of China, said that the introduction of technology to conserve energy and reduce emissions requires capital. If there is no carbon market, emission reduction means increased costs. Small businesses will not be able to afford upgrades, while large businesses will also be reluctant, Lan said.

However, Lan said the scale effect of the carbon market is conducive to implementing new technology, which in turn can spur lower-cost and higher-quality emission reductions.

According to the National Development and Reform Commission, the market will at first be restricted to firms in eight sectors: petrochemicals, chemicals, building materials, steel, ferrous metals, papermaking, power generation and aviation.

Qi said these sectors are struggling with overcapacity, so the carbon-trading scheme is aimed at eliminating backward production capacity, thus transforming and upgrading industrial structure.

In addition, the upgrade in heavy-emission industries will have a spillover effect, said Fu Jingyan, a professor from the Institute of Resources, Environment and Sustainable Development Research at Jinan University, adding that the green production in large enterprises will promote the formation of a green supply chain, eventually leading to the green transformation of society as a whole.

It is predicted that the national carbon market trading volume could be expanded to 4 to 5 billion tons in the future while the value is expected to reach some 100 billion yuan. There is no existing experience or model China can learn from to build such a large carbon market.

In June 2013, China’s first carbon market was officially launched in Shenzhen, followed by Shanghai, Beijing, Guangdong Province, Tianjin, Hubei Province and Chongqing. It signaled the beginning of energy conservation and emission reduction in practice.

Thanks to differences in the geography, development levels and industrial structures of the seven pilot markets, Fu said the trials have revealed significant differences in performance across regions in terms of the sectors involved, quota allocation and auction volume.

For example, Guangdong Province put in place a quota auction system, whereas Chongqing applied the quota self-declaration system, Fu noted. “These differences offer valuable lessons for the establishment of a national carbon market.”

“We have gained some experience in policy design, market operation, capacity building, and management via pilot schemes,” said Qi. Under the rigid total quotas, the quota structure is divided into initial annual quota, additional quota, and government reservation so that on top of controlling emissions of existing facilities, there is room and flexibility in government regulation to take new capacity for economic growth into account, Qi said.

Amid China’s industrialization and urbanization, the road toward a carbon market is bound to be bumpy given that the nation relies heavily on coal, and carbon emissions have not reached the peak. The main challenge is inactive trading.

In the pilot market, trading participants have similar levels of emissions, so they are either all selling or buying quotas, which underscores the necessity of a nationwide carbon market, Lan said. “Only when discrepancies exist among participants will the market appear to be vibrant,” Lan noted.

Qi said the management of a national carbon-trading market must follow five principles: fairness, efficiency, transparency, boundaries and incentives.

The establishment of a national carbon market needs to take a step-by-step approach, Fu said. In the process, it is also vital to introduce carbon financial derivatives, such as forwards, futures and risk-hedging instruments, while expanding the pool of market participants to better realize price discovery, reduce transaction costs and avoid market risks.

Moreover, Fu said that China should implement ecological compensation with Chinese characteristics and apply it to the carbon market so that the benefits can be shared by all sectors of society.