Green Finance

13.01.2021

China’s Carbon Neutrality Pledge: A New Development Agenda

LOH, Christine

China’s pledge on September 22 to achieve carbon neutrality by 2060 was a major piece of good news for the world. Not only that, on September 30, China also called for biodiversity protection. Both announcements were made at the UN, signifying China will work within multilateral systems.

The carbon neutrality commitment did not come out of the blue. Government think tanks, universities, and research institutions have been working for years to establish what China needs to do. It is now ‘show time’. Much more will be up for debate, and more decisions made, in the coming years now that the timeline and the absolute reduction target have been set.

The Chinese authorities have been planning for change since former Premier WEN Jiabao’s famous criticism in 2007 that China’s economic path was “unbalanced, uncoordinated and unsustainable”. In 2012, China’s ruling party amended its party constitution to add “ecological progress” as a new pursuit. This gave the party as a whole, and party officials, clear direction that they have to put the environment on equal footing with economic growth.

In 2013, the Chinese government issued the “Ten Measures to Fight Air Pollution”, which was followed in subsequent years by similar mandates on water pollution and soil pollution. Watershed protection and management has become a key pursuit, as has repairing polluted lands and restoring biodiversity. China has also launched various pilot schemes; one concerning emissions trading, as well as other trials that will shape policy in the foreseeable future, such as ecosystem value accounting.

China’s constitutional mandate

By 2018, the government was ready to amend the national Chinese Constitution. By adding “ecological civilization” as a constitutional mandate, the country’s political and policy frameworks were in place to put ecological health alongside economic and social developments.

It should not be overlooked that the People’s Bank of China published the ground-breaking report, Establishing China’s Green Financial System, in 2015. This was one of the earliest comprehensive reports in the world by a central bank on why and how to reform the financial system in order to raise capital to achieve environmental goals. Significantly, this report was prepared together with the UN Environment Program, which meant China absorbed high-level international thinking in how to “green finance”.

Green finance has become a shorthand description of directing capital towards zero-to-low-carbon projects and environmentally sustainable projects. The capital needed is enormous, as much of the world’s economic activities are powered by high-carbon fossil fuels, which are the primary cause of global warming.

The green transition needs to be policy-led, which means governments must play a decisive role. China’s way is to set mandatory targets within a legally enforceable regulatory framework which penalizes companies if they fail to meet their targets. By contrast, environmental regulation in free-market economies relies more on market incentives to achieve decarbonization goals. In either case, it is recognized that the market alone cannot turn the ship around without clear and consistent policy and incentives.

A multidisciplinary challenge

Indeed, green finance is one aspect of a multidisciplinary challenge, since it relates to a large range of actual investments across many sectors of business and markets. The policy reforms that are called for both nationally and internationally require efforts to internalise negative environmental externalities, reward such internalisation, and adjust risk perceptions to boost green investments.

What does “internalizing externalities” mean?  Infrastructure projects, such as renewable energy or waste-to-energy projects, involve long timeframes with multi-year projections of environmental impacts. At present, there is inadequate expertise built into the financial services industry to make such assessments.

Assessments of green investments are still largely based on threshold financial rates of return. To mobilize large amounts of capital for green investment, governments and professionals need to find a way to augment these financial returns by incorporating non-financial or societal returns into total returns, such as lower climate change risks, reduced pollution, improved public health, and so on. There is a lot of innovative work to be done here. Environmental, Social and Governance (ESG) disclosure by listed companies is an example of an emerging trend to show investors how a company is managing such risks, including climate change-related risks.

China’s preparations for adopting and implementing ecological civilization policies are well-documented, although the significance of this may not be fully understood by market participants. Within this context, China played a significant role in shepherding the Paris Agreement through the UN process in 2015 – the multilateral treaty for the countries of the world to avoid dangerous climate change by limiting global warming to below 2°C, and to pursue efforts to limit it to 1.5°C. In 2016, as the host country for the G20 governments, China made green finance the key topic of discussion.

China’s new carbon neutrality pledge means it is looking at moving towards the 1.5°C limit – a very aggressive target for a country that is the world’s largest carbon emitter. The14th Five Year Plan (2021-25), which is in gestation, will kick-start the early steps to achieve that goal. Indeed, every succeeding plan will chart the way towards carbon neutrality.

A fast transition

Essentially, China must replace coal with natural gas during a fast-transition away from high-to-lower-carbon fossil fuels, and then replace natural gas with renewable and nuclear sources. It must also develop new energy sources, such as hydrogen and bioenergy. China has to transform its electricity and industrial sector within the next 40 years. This is nothing short of a total economic and social revolution, since about 58% of China’s energy comes from coal.

How much will it cost? According to a report released by a climate change think-tank at Tsinghua University after the pledge was announced, it could cost RMB174 trillion (about US$26 trillion) in total. The cost for transforming the energy and electricity sector is estimated to cost RMB138 trillion from 2020-50, or 2.6% of GDP annually.

After lining up the decarbonization pathway in the next decade, China must reduce carbon emissions at 8% to 10% per year from 2030 onward. These are huge numbers by any measure. In order to greatly reduce petrol and diesel for vehicles, China will have to electrify transport at the same time, as well as practice a “circular economy” in production so that resources are reused and recycled.

Hong Kong has its work cut out. It can shift from being an international finance centre to being Asia’s green finance hub. Going forward, Hong Kong has to digest and follow the relevant developments in China, as well as internationally, understand the respective regulatory Asian systems, and provide the intellectual and human resource talents to serve the “brown to green transition”.

This requires the workforce to understand “sustainability 101” not only in science, engineering and nature conservation, but also in finance, accounting, planning, design and construction, professional services, and public administration.

The younger generations are attracted to the environment and they want to innovate to dematerialize their lifestyles towards experiential richness and well-being. China’s new development agenda viewed through the lens of decarbonization offers a path worth pursuing by all.  

China pledged to become carbon neutral before 2060 during the UN General Assembly on September 22, 2020 (Source: UN News)