Pros and Cons of Replacing Grandfathering by Auctioning for Heterogeneous Enterprises in China’s Carbon Trading

To provide some experience and lessons for China's emission trading scheme (ETS), this article assess the performance of carbon trading pilots from the perspectives of abatement effectiveness and economic efficiency. By developing an emission decision-making model and an asymmetric permits auction model, it is found that replacing grandfathering by auctioning may avoid the occurrence of emitters' adverse selection and improve the ETS's effectiveness. However, for heterogeneous enterprises, auctioning may not achieve social optimality, which renders the ETS inefficient. To correct the inefficiency, two macro-regulation tools are discussed. As a result, the auction with macro-regulations is an alternative efficient market-based instrument for China ETS.