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School Of Sustainability
Carbon Pricing Strategies and Implementation
in India: A Comprehensive Overview

BY
LAGNAJEET TRIPATHY
UBSD21007

3rd Year B.Sc. Sustainable Development ( Hons.)

Subject: Environmental Legislation and Policies

Faculty Mentor: Prof. Aradhana Basu
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Abstract
Climate change poses severe threats to the planet, causing disruptions in ecosystems, livelihoods, and
nations. To address this, many countries, especially those in the G20 and committed to the Paris
Agreement, are adopting carbon pricing as a cost-effective strategy to mitigate greenhouse gas
emissions. This involves adding a price tag to emissions that lead to hazards like floods, sea-level rise,
droughts, and more. The focus is on integrating carbon pricing into domestic policies, reforming
existing energy-related subsidies, and enhancing climate risk disclosure. India, despite its heavy
reliance on coal for energy, is making strides in solar power generation, with increasing success and a
commitment to the "One Sun, One World, One Grid" policy. However, a significant portion of India's
energy needs is still met by coal, and plans for new coal-based power plants are underway. The
nation's NDCs under the Paris Agreement emphasize a collaborative approach using both coal and
solar power. To support the transition to renewable energy, India has implemented measures such as
the "coal cess," Renewable Energy Certificates (REC), and the Perform-Achieve-Trade (PAT) scheme.
However, these measures do not directly relate to CO2 equivalent but focus on energy efficiency,
renewable energy promotion, and making coal consumption more expensive. The EU ETS
demonstrates that a direct link between CO2 equivalent and carbon pricing significantly reduces the
carbon content of power systems. Carbon pricing proves to be a powerful incentive for shifting
investments, production, and consumption behaviour’s, driving technological innovation and reducing
emission-related costs. By quantifying market externalities, carbon pricing enables decision-makers to
assess climate change risks and opportunities effectively. Establishing a carbon price is crucial for
internalizing the external costs of emissions and creating incentives for clean development. It provides
flexibility and cost-effectiveness in achieving environmental goals, linking emissions' costs to
responsible entities. Governments, businesses, and investors worldwide are recognizing the pivotal
role of carbon pricing in transitioning to a decarbonized economy. The diverse forms of carbon
pricing, including carbon taxes, emissions trading systems, and offset mechanisms, should
complement other supportive policies to address the urgent climate challenge effectively. Article 6 of
the Paris Agreement recognizes that Parties can voluntarily cooperate in the implementation of their
NDCs to allow for higher ambition in mitigation and adaptation actions: Articles 6.2–6.3 of the Paris
Agreement cover cooperative approaches where Parties could opt to meet their NDCs by using
internationally transferred mitigation outcomes (ITMOs). ITMOs aim to provide a basis for
facilitating international recognition of cross-border applications of subnational, national, regional and
international carbon pricing initiatives. Articles 6.4 establishes a mechanism for countries to
contribute to GHG emissions mitigation and sustainable development. This mechanism is under the
authority and guidance of the COP serving as the meeting of the Parties to the Paris Agreement
(CMA). It is open to all countries and the emission reductions can be used to meet the NDC of either
the host country or another country. The mechanism is intended to incentivize mitigation activities by
both public and private entities.
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Introduction
As climate change is taking a deadly turn baking the planet followed by disruption of ecosystems, the
livelihood of people, many nations and local governments are putting a price tag on the greenhouse
gas emissions which are the cause of hazards like loss of property due to floods and sea level rise ,
droughts, coastal erosion, forest fires, damage to crops , healthcare costs from heat waves and
droughts. In commitment to the Paris Agreements and especially countries of the G20 use carbon
pricing as a cost-effective manner to reduce emissions in the atmosphere. The main focus is to add
carbon pricing to domestic policies and subsidies supporting non- renewable and polluting sources of
energy such as coal, petroleum and natural gas through reforming existing policies, extending
corporate climate risk disclosure, developing a sustainable finance taxonomy, supporting greenhouse
gas monitoring followed by reporting and verification. The increasing success in generating electricity
through solar in India can be seen as now the prices of generating electricity through coal is higher
than of solar. Apart from this the ‘ One Sun, One World, One Grid’ policy under the Modi government
aims to export solar electricity to more than 100 countries. Currently in India till now more than half
of the energy needs are fulfilled by coal with a planned 75GW of new coal-based power plant
installation by 2025 with no policies to stop building new coal-based power installation, to phase out
the existing one or to stop financing them. India’s NDC’s (Nationally Determined Contributions)
under the Paris Agreement is mostly driven by the collaborative usage of both coal and solar powered
energy sources. It is seen that India is working on to increase its share of non-fossil fuels in its
electricity generation capacity, reduce the emission intensity of the economy, create carbon sinks by
increasing forests and tree cover. With increasing population and economic growth, the energy
demand in India is going to triple than the current rate. To support the transition from emission
intensive to renewable sources of energy some steps are taken in India such as the ‘coal cess’ or Tax
on coal production , the Renewable Energy Certificates (REC) which limits the use of fossil fuels and
encourages clean energy distribution across companies, the Perform- Achieve- Trade (PAT) scheme
which is focused to reduce the energy usage per unit of output in energy intensive sectors such as
thermal power, aluminium, cement, fertilizers, iron and steel, pulp and paper textiles and chlor-alkali.
All the current measures brought in India does not emphasize to bring a direct relation to CO2
equivalent. The schemes focus on energy efficiency, renewable energy and making coal consumption
more expensive which are not carbon dominated but focus on providing an incentive towards
decarbonisation. According to the EU ETS( Emission Trading System) a direct link with CO2
equivalent and a carbon price helps in decreasing the carbon content of the power systems
significantly. Implementing carbon pricing serves as a powerful incentive that prompts shifts in
investment, production, and consumption behaviour’s, ultimately fostering technological innovation
to drive down the costs associated with emissions abatement measures. This approach proves to be
highly effective and cost-efficient in reducing emissions, especially when integrated into a well-
designed set of policies. By putting a price on carbon, decision-makers gain a valuable tool for
assessing the risks and opportunities associated with climate change, thus quantifying market
externalities. Moreover, the revenue generated through carbon pricing can be strategically utilized to
address distributive impacts or to incentivize and support low-carbon innovation and investment,
contributing to a more sustainable and resilient future. Carbon pricing functions as a tool to account
for the external costs associated with greenhouse gas (GHG) emissions, encompassing the expenses
borne by the public due to effects like crop damage, healthcare expenditures from extreme weather
events, and property loss caused by floods and rising sea levels. It links these costs to their origins
through a price mechanism, typically in the form of a carbon dioxide (CO2) price. By doing so,
carbon pricing shifts the responsibility for emissions' damage back to the entities responsible,
providing an economic signal that allows emitters to choose between transforming their activities to
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reduce emissions or continuing emission and paying for the associated costs. This approach achieves
the overarching environmental goal in a flexible and cost-effective manner. Establishing an
appropriate price on GHG emissions is crucial to internalizing the external costs of climate change in
various economic decisions and creating incentives for clean development, fostering investment in
clean technology and market innovation for low-carbon economic growth. There is a growing
consensus among governments and businesses regarding the pivotal role of carbon pricing in
transitioning to a decarbonized economy. Governments utilize carbon pricing as part of their climate
policy toolkit to decrease emissions and generate revenue, especially in budget-constrained economic
environments. Businesses employ internal carbon pricing to assess the impact of mandatory carbon
prices on their operations, identifying climate risks and potential revenue opportunities. Long-term
investors leverage carbon pricing to analyse the potential effects of climate policies on their
investment portfolios, enabling them to reconsider investment strategies and allocate capital toward
low-carbon or climate-resilient activities. Carbon pricing manifests in various forms. The State and
Trends of Carbon Pricing series and the Carbon Pricing Dashboard primarily focus on direct carbon
pricing instruments, such as carbon taxes, emissions trading systems (ETS), and carbon crediting
mechanisms, which directly incentivize emission reduction. However, certain jurisdictions, including
Argentina, Mexico, and Uruguay, have implemented carbon taxes with varying rates across fuels.
While termed "carbon taxes," these policies, with non-uniform carbon prices, align more closely with
the definition of indirect carbon pricing and have been historically included in the State and Trends
Reports. Carbon pricing exhibits diverse forms and structures. In the State and Trends of Carbon
Pricing series and on this website, carbon pricing denotes initiatives that explicitly assign a price to
greenhouse gas (GHG) emissions, expressed as a value per ton of carbon dioxide equivalent (tCO2e).
Emissions trading systems (ETS) offer certainty regarding environmental impact while maintaining
flexible prices. On the other hand, a carbon tax ensures a fixed carbon price in the economic system,
irrespective of uncertain environmental outcomes. Other notable forms of carbon pricing include
offset mechanisms, results-based climate finance (RBCF), and internal carbon prices established by
organizations. To effectively decarbonize economies and achieve substantial greenhouse gas emission
reductions at a reasonable cost, it is imperative to implement a comprehensive array of carbon pricing
approaches. These should complement other supportive policies and regulations, given the scale and
urgency inherent in addressing the climate challenge.

Key Words
Climate Change, Greenhouse Gas Emissions, Paris Agreement,G20,Carbon Pricing, Emission Trading
System (ETS),Carbon Tax, Nationally Determined Contributions (NDCs),Coal Cess, Renewable
Energy Certificates (REC),Perform-Achieve-Trade (PAT) Scheme, Carbon
Equivalent,Decarbonization,Sustainable Finance Taxonomy, One Sun, One World, One Grid, Carbon
Price, Marginal Abatement Cost, Explicit Carbon Pricing, Cap-and-Trade Schemes, Emission
Reduction Credits

Literature Review and Case studies

Different Approaches to Carbon Pricing
Various approaches exist to determine the most suitable carbon tax rate, typically based on the policy
objectives and goals of the tax regime within a specific jurisdiction. One approach involves the
abatement approach, where the tax rate is determined by the desired level of carbon emission
reduction a country aims to achieve. Alternatively, the social cost of carbon approach assigns a dollar
value to the damages incurred from emitting each additional metric ton of greenhouse gases. Another
method is the revenue approach, where the tax rate is influenced by the revenue considerations of the
regulating authority. Additionally, a benchmarking approach links the tax rate with rates in
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neighbouring jurisdictions, trading partners, or competitors. Carbon pricing mechanisms operate

under the assumption that profit-making firms will continue reducing emissions until the marginal
abatement cost is lower than the social cost of carbon. The marginal abatement cost for an entity
represents the cost of reducing each additional unit of emission, influenced by factors such as the pace
of low-carbon technological innovation, compliance costs, and the ability of firms and consumers to
substitute low-carbon products for high-carbon ones. On the other hand, the social cost of carbon for
an entity reflects the economic value associated with an additional unit of greenhouse gas in the
atmosphere. Various policy instruments, categorized as explicit or implicit carbon pricing strategies,
can be employed to establish a carbon reduction pathway. These instruments include carbon tax, cap-
and-trade schemes, emission reduction credits, clean energy standards, and fossil fuel subsidy
reduction. Each approach contributes to shaping an effective strategy for pricing carbon, aligning with
the broader goals of environmental sustainability and emission reduction.

Explicit Carbon Pricing

Explicit carbon pricing is typically mandated by the government, establishing a set price on the carbon
content. It functions as a crucial market signal, directing both producers and consumers toward
cleaner methods of production and consumption. This, in turn, fosters a more economically efficient
pathway for carbon mitigation. Implementation of explicit carbon pricing can take different forms,
including carbon taxes or an ETS (emission trading system or cap-and-trade), which holds emitters
accountable for their emissions. Alternatively, mechanisms like carbon credits create a reward system
for entities actively reducing their carbon emissions. Companies may also employ internal shadow
pricing as a guide for investment decisions. Depending on their design, these approaches offer a range
of benefits, including the generation of government revenues, the promotion of green industries and
job creation, stimulation of low-carbon investments, improvement of energy efficiency and security,
and enhancement of air quality.
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Source: World Bank: States and trend of Carbon pricing

Carbon Tax
A carbon tax establishes a fixed price on carbon, specifically on greenhouse gas (GHG) emissions
measured in CO2 equivalent, with the quantity of emission reduction determined by market forces.
The primary aim is to elevate the cost of fossil fuels, creating an incentive for investments in fuel-
switching strategies and energy-efficient technologies. This tax can be applied at various stages in the
product cycle of fossil fuels, including upstream (production/extraction point), mid-stream
(distribution point), or downstream (consumption point). Design considerations for carbon taxes
encompass factors such as pricing, emission coverage, the point of taxation, allocation of generated
revenue towards general public spending or specific emissions-reducing activities, and cross-
boundary harmonization beyond the tax jurisdiction. It is crucial to periodically review and refine the
tax design. However, gauging the market response to the price signal, particularly in terms of
emission reductions, proves challenging and requires ongoing assessment. Carbon taxes have the
potential to yield significant fiscal revenues, and the effectiveness of this instrument hinges on the
amount and utilization of tax revenue. Through the reduction of existing distortionary taxes on labour
and capital, carbon taxes can mitigate the impact on low-income households and offset some of the
social costs associated with the policy. It is advisable to allocate a portion of the revenue to support
research and development efforts focused on climate-friendly technologies and other sustainability-
linked programs. This multifaceted approach enhances the overall impact and effectiveness of carbon
taxation.

Emission Trading System

In the cap-and-trade model, the government establishes emission limits (caps) for various sectors
during a specific compliance period, and allowances are either auctioned or allocated based on
specified criteria. This approach often involves a hybrid combination of freely allocating emission
allowances and conducting auctions within emissions trading system (ETS) markets. While the
volume of emissions is regulated, market dynamics determine the price through the interplay of
supply and demand. Throughout the compliance period, companies with lower abatement costs can
sell their allowances in secondary markets to those with higher abatement costs, facilitating emissions
reductions at the least possible cost. Ultimately, at the compliance period's conclusion, companies
must surrender allowances to the government. Several factors must be considered in the design of this
system, including the emission cap's size and level, sectoral coverage, the cap's scope, point of
taxation, whether allowances should be freely distributed or auctioned, revenue distribution and
management, monitoring and verification of emissions and allowances, cost containment measures,
and the impact on international competitiveness. Similar to carbon taxes, revenues generated from
selling allowance certificates contribute to fiscal revenues and can be utilized to reduce distortionary
taxes or finance investments in clean-tech programs. However, free allocation of allowances poses the
risk of "grandfathering," transferring wealth equivalent to the allowance's value to existing firms. In
ETS, high or volatile allowance prices can compromise policy effectiveness, leading governments to
implement cost containment measures to prevent emission costs from fluctuating excessively,
ensuring economic stability and firm competitiveness. These measures include offsets, banking and
borrowing of allowances, safety valves, price collars, and market stability reserves. Offsets enable
regulated entities to offset their emissions with credits from measures outside ETS coverage, linking
cap-and-trade systems with emission-reduction-credit systems. Banking and Borrowing provide firms
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with flexibility by allowing the transfer of allowances across different time horizons. Safety valves act
as a price ceiling, offering additional allowances at a predetermined trigger price. However, this may
result in aggregate emissions surpassing the emission cap. Price collars combine safety valve ceilings
with price floors, ensuring a minimum price for auctions. Cost Containment Reserve (CCR) is a
volume-based measure that transfers unallocated allowances to a reserve, adjusting market circulation
based on predetermined thresholds. While these containment measures enhance mitigation cost
certainty, careful planning is necessary to avoid undermining emissions quantity certainty.

International Crediting Mechanisms/ Baseline and Credit

system
As per Article 6 of the Paris Agreement (or Article 12 of the Kyoto Protocol), developed nations
committed to emission reduction targets, known as Annex B Parties, have the option to acquire
certified emission reduction (CER) credits from developing countries. Each CER credit corresponds
to one tonne of CO2 and serves as an offset mechanism in cases where these developed nations
encounter challenges in meeting their Kyoto targets. This system allows emitters to obtain credits by
successfully reducing emissions below the prescribed limit, subsequently enabling them to trade and
sell these credits on the global market. This approach is commonly known as the baseline and credit
system, introducing flexibility into an international cap-and-trade mechanism. The Clean
Development Mechanism (CDM) acts as the standardized international emissions offset instrument,
overseen by the United Nations Framework Convention on Climate Change (UNFCCC), facilitating
global-scale trade. Despite the CDM's role, the increasing popularity of the carbon credit market has
seen the emergence of various independent (such as the Gold Standard, Verified Carbon Standard) and
domestic standards (like the California Compliance Offset Program, Australia Emissions Reduction
Fund, Republic of Korea Offset Credit Mechanism) that have gained prominence and come to
dominate the market.

Internal Carbon Prices

Businesses across the globe are increasingly recognizing the pivotal role of incorporating climate-
related risks and opportunities into their risk assessment frameworks. Many view carbon pricing as an
effective instrument for guiding capital allocation and investment decision-making in the face of
evolving environmental considerations. To proactively shield against potential future shocks, assess
exposure to climate-related physical and transition risks, and anticipate forthcoming government
regulations related to carbon pricing, corporations and organizations are voluntarily adopting internal
carbon pricing measures. This typically involves employing shadow carbon pricing, where a
hypothetical cost for carbon is assigned to each ton of CO2 emissions. This approach enables the
identification and integration of climate-related risks and opportunities into a company's overarching
long-term strategies. Furthermore, it guides processes related to capital allocation and investment
decision-making by relying on an implicit price derived from the offsets necessary to achieve internal
carbon neutrality objectives.

Implicit Carbon Pricing

Command and Control Regulations
Traditional environmental policy relies on technology and performance-based standards to regulate
emission levels and safeguard environmental quality. Technology-based standards mandate firms to
employ specific energy-efficient processes, equipment, or procedures, without stipulating fixed targets
for emission volume reduction. On the other hand, performance-based standards set permissible levels
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of pollutant emissions or allowable emission rates, granting regulated entities flexibility in choosing
emission reduction methods. However, due to higher costs and inadequate incentives for the
development and adoption of environmentally and economically superior technologies, these
standards-based approaches have inherent limitations in scope and impact. The integration of market-
based instruments into the policy framework can address these limitations, enhancing effectiveness
and promoting cost-effective outcomes.

Clean Energy Standards

A Clean Energy Standard (CES) presents a technology-neutral and market-driven approach aimed at
incentivizing the power sector's transition to low or non-emitting energy sources. This policy requires
industrial and commercial power consumers to fulfil a designated percentage of their energy needs
through clean energy, intending to diminish reliance on fossil fuels. As carbon pricing often faces
political challenges, clean energy standards emerge as a pragmatic and economically viable substitute
for carbon pricing in the electricity sector. Companies surpassing the clean energy standard
benchmarks can earn energy-saving certificates, creating a tradable asset on the energy exchange. This
mechanism resembles an Emission Trading System (ETS), leveraging market principles to efficiently
and cost-effectively reduce the energy intensity of high-carbon-emitting sectors.

Eliminating Fossil Fuel Subsidies

Numerous countries offer substantial subsidies to fossil fuels as a means of supporting their
developmental goals and growth initiatives, particularly in regions where progress and innovation in
the renewable sector lag behind. However, a phased reduction of these fossil fuel subsidies emerges as
an effective strategy to establish an optimal fuel price, concurrently fostering incentives for energy
efficiency and the adoption of fuel-switching technologies. This approach aligns with the
implementation of an explicit carbon price. Often labelled as a "government failure," fossil fuel
subsidies exacerbate market failures. There has been a growing consensus over the years on the
necessity to phase out such subsidies, with an emphasis on redirecting support to benefit low-income
populations. Acknowledging the adverse impacts of inefficient fossil fuel subsidies, a G20 Leaders'
summit in 2009 highlighted the potential for significant economic and climate benefits through
reform. Inefficient subsidies were recognized for encouraging wasteful consumption, compromising
energy security, hindering investments in clean energy sources, and undermining global efforts to
address the challenges posed by climate change.3

Implicit Carbon Pricing in India

1. Perform, Achieve and Trade (PAT) Scheme
Introduced in 2012, the PAT scheme (Perform, Achieve and Trade) is the flagship initiative of
the Bureau of Energy Efficiency (BEE) under the Ministry of Power, Government of India.
Bearing resemblance to market-based emission trading systems (ETS), the scheme targets
energy-intensive industrial units, termed designated consumers (DC), setting Specific Energy
Consumption (SEC) reduction targets over a three-year cycle. Units surpassing these targets
earn Energy Saving Certificates (ESCerts) as incentives, each equivalent to one metric tonne
of oil (MTOe). DCs falling short can purchase the deficit in ESCerts from overachieving
units, tradable on the Power Exchange Indian Limited (PXIL) and Indian Energy Exchange
(IEX). Non-compliance results in penalties. As of March 2020, six PAT cycles covered 1,073
DCs across sectors, contributing to 63% of energy efficiency savings in 2018-2019, projected
to avoid 70 million tonnes of CO2 by March 2023. However, concerns exist about the PAT
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scheme's effectiveness due to issues like equity, lenient targets, high transaction costs, low
EScert trading prices, and rising energy prices potentially incentivizing savings even without
the scheme. The monitoring framework focuses on energy saved rather than directly
addressing CO2 reduction, prompting questions about its ambition and long-term impact. An
analysis by the Centre for Science and Environment raised issues about the disparity between
the value of one ESCert (INR 700) and the required investment (INR 4,020) for reducing
energy equivalent to one tonne of oil.

2. Emission trading scheme on an air pollutant, i.e.,

respiratory solid particulate matter (RSPM)
Presenting an innovative approach, a groundbreaking emission trading scheme has been
introduced, focusing specifically on respiratory solid particulate matter, marking the world's
first particulate trading system. Successfully piloted in industrial clusters within the states of
Gujarat, Maharashtra, and Tamil Nadu, this initiative aims to depart from traditional
command and control regulations. Drawing inspiration from the EU-ETS model, the scheme
establishes pollution targets based on ambient air quality standards for designated areas,
issuing tradable permits subject to verification and compliance evaluations. A continuous
emission monitoring system (CEMS) forms a pivotal component, ensuring real-time data for
baseline setting and verification purposes, thereby mitigating challenges associated with spot
checking and potential misinformation from third-party auditors. For instance, the Surat ETS
underwent a two-month mock-trading phase before its official launch in September 2019,
fostering stakeholder support and capacity building. Permits, with 80% allocated for free and
the remaining 20% auctioned via the Gujarat Pollution Control Board, incentivize industries
to invest in pollution-curbing technologies. Overachieving targets enables profit generation
through the trading of emission permits on the National Commodities and Derivatives
Exchange. Preliminary assessments of the pilot program indicate a 29% reduction in
particulate matter, increased average industry profits, and reduced costs for particulate
emission reduction. However, the long-term impacts and benefits of the pilot program await
further observation.

3. Carbon Cess
In 2010, India implemented a carbon cess through an excise duty on coal, lignite, and peat,
aiming to generate revenue for the National Clean Energy Fund dedicated to supporting
clean-energy projects and research. However, from the fiscal years 2010–11 to 2017–18, only
35% of the collected funds were directed to the Fund, with nearly half remaining unused. In
2017, the carbon cess was abolished with the introduction of the GST Compensation Cess.
The revenue collected through this new mechanism was then earmarked for compensating
states for any revenue losses under the Goods and Services Tax (GST). GST now
encompasses CO2-emitting products like coal, kerosene, naphtha, lubes, and LPG, except for
five petroleum products (petrol, diesel, natural gas, ATF, and crude oil), which remain subject
to excise duties and VAT. Although the consumption of coal and the high excise and value-
added taxes on petrol and diesel are not explicitly termed carbon taxes, they are seen as
implicit carbon taxes. However, the tax rates do not align with the carbon footprint of the
fuels, thus failing to send accurate price signals to both producers and consumers to
encourage reduced consumption and a shift towards low carbon-emitting energy sources.
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4. Renewable Purchase Obligations (RPO) and Renewable

Energy Certificates (REC)
In India, specific entities, including electricity distribution companies (DISCOMS), open
access consumers, and captive power producers, are obligated to procure a certain percentage
of their electricity from renewable energy (RE) sources, a requirement known as Renewable
Purchase Obligations (RPO) mandated by the Electricity Act (2003). Each state's State
Electricity Regulatory Commission is responsible for determining the minimum RPO. Due to
the intermittent nature of RE sources, meeting RPO targets through direct procurement of
green power can be challenging for obligated entities. To address this, they have the option to
purchase Renewable Energy Certificates (RECs) on national energy exchanges like the Indian
Energy Exchange (IEX) and Power Exchange of India Limited (PXIL). This allows them to
fulfil their RPO targets without physically procuring RE-generated power. RECs play a vital
role in overcoming geographical disparities in renewable energy production, encouraging
electricity generation from RE sources beyond state RPO limits. Despite the potential
benefits, weak enforcement and compliance with RPO regulations pose persistent challenges
to India's goals of expanding renewable energy production and procurement.

5. Excise taxes on Diesel and Petrol

Over time, India has transitioned from a regime of carbon subsidization to a notable carbon
taxation system. While there isn't a direct carbon tax on fuels such as petrol and diesel, these
products face substantial excise duties and Value Added Tax (VAT). As of May 2020, India
held the world's highest taxes on petrol and diesel, constituting over 69% of the pump price
for both fuels. However, these elevated taxes primarily stem from the revenue needs of the
central government rather than environmental considerations, lacking alignment with the
carbon footprint of the fuels. Consequently, the distorted price signals resulting from these
taxes have failed to effectively encourage users of diesel and petrol to transition toward low
carbon-emitting energy sources.

Explicit carbon pricing in India

Despite India's ambitious climate commitments at COP26, the country's growing economy is expected
to drive increased fossil fuel consumption, leading to a corresponding rise in greenhouse gas (GHG)
emissions. Projections indicate that India's energy and industry-related CO2 emissions may more than
double from 2020 to 2050, with the share of fossil fuels in primary energy decreasing only slightly
from 72 percent to 69 percent. Without additional policies and disruptive technological changes, GHG
emission intensity may not decrease relative to current levels due to economic growth. Carbon
pricing, if tailored to India's unique emerging and development framework, could serve as a valuable
tool in a portfolio of instruments to mitigate and adapt to climate change. Despite the potential
benefits, carbon pricing faces challenges due to its 'Pigouvian' nature, with diffused benefits and
concentrated costs. Political, economic, and cultural dynamics contribute to scepticism among
citizens, making it challenging to garner necessary political support for systemic changes. Carbon-
intensive industries and households may resist policies that impact their profits and disposable
incomes. Effective policy formulation, context-specific approaches, and robust communication
strategies can help overcome these challenges. While India has employed various approaches to price
fuels, such as subsidies and administered and market pricing, weak enforcement and low prices
undermine the effectiveness of these instruments. Carbon pricing, with a direct link to CO2
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equivalent, can establish a common carbon currency, provide a clear price signal, create fungibility of
credits across schemes, and offer strong incentives for decarbonization. The Energy Conservation
(Amendment) Bill, 2022, emphasizes the potential for near-term carbon pricing strategies in the form
of a carbon tax and an emission trading mechanism. These strategies align with India's Nationally
Determined Contributions (NDC) under the Paris Agreement and its 2030 climate commitments from
COP26, offering a pathway to address emissions and contribute to global climate goals.

1. Carbon Tax
India has shifted from a regime of carbon subsidization to a significant carbon taxation
system, although the approach to fuel pricing lacks uniformity. Taxes on products like petrol
and diesel are influenced by social, political, and revenue considerations rather than carbon
content or emission rates. For instance, imported natural gas is priced differently than
domestically produced natural gas. The tax rates on fuels such as coal, with a larger carbon
footprint, are lower than those on natural gas with a lower carbon footprint. While coal is
included in the Goods and Services Tax (GST) base, high-polluting fossil fuels like petrol,
diesel, and crude oil are excluded. However, they are subject to high excise duties and VAT,
varying across states but unrelated to carbon emissions. The existing legislative framework
under the GST allows for addressing these discrepancies by incorporating all fossil fuels,
setting uniform tax rates, and introducing an additional levy based on carbon emissions. This
approach aligns with international practices, offering exemptions in certain sectors or
scenarios. A gradual increase in carbon tax, linked to emission reduction goals, can contribute
to fiscal revenues, improved tax-GDP ratios, and funding for environmental projects. Revenue
recycling is crucial, as demonstrated by examples from various countries, ensuring wider
acceptability and compliance. To promote efficiency and equity, the tax design should
incorporate metrics related to forest cover, renewable energy, fossil fuel replacement, and
more, with political communication playing a pivotal role in driving compliance. The
experience of Australia highlights the importance of effective communication in sustaining
wider acceptability and compliance in carbon taxation.

2. Emissions Trading System (ETS)

India's Perform, Achieve and Trade (PAT) Scheme, designed for designated consumers (DCs)
with specific targets, provides a robust foundation to transition into a comprehensive
emissions-based cap-and-trade system. A phased approach, involving simulations or pilots,
similar to Mexico and China's experiences, could facilitate the evolution of a fully functional
Emissions Trading System (ETS) market. India has previously shown commitment to
exploring cap-and-trade schemes, partnering with the World Bank's Partnership for Market
Readiness (PMR) and implementing market-based mechanisms in the Waste and MSME
sectors. The PAT Scheme and the Renewable Energy Certificate (REC) scheme have received
attention, and efforts like the World Resource Institute's carbon market simulation and the
emission trading scheme on Respiratory Solid Particulate Matter (RSPM) indicate progress.
India's federal structure allows for ETS pilot programs across states with inter-state trading,
enhancing cost-competitiveness and efficiency. The current PAT Scheme covers 1,072
designated consumers in 13 sectors, but an effective ETS should aim for broader coverage,
encompassing more sectors and industries above a certain threshold. Defining ambitious
emission reduction targets, either absolute or intensity-based, over specified time frames is
essential. The conversion of Energy Saving Certificates (ESCerts) into carbon-denominated
allowances based on carbon intensity benchmarks is proposed for trading purposes.
Incorporating price containment measures, such as establishing a price corridor, a Cost
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Containment Reserve (CCR), banking and borrowing allowances, and using offsets, enhances
flexibility and predictability. However, these measures require careful planning to avoid trade-
offs that might impact overall efficiency and target realization. Establishing a robust GHG
emissions inventory and a Monitoring, Reporting, and Verification (MRV) system is crucial,
necessitating capacity-building efforts by governments. Rigorous quantitative modelling and
analysis based on data collected from pilot projects are imperative for the success of the ETS
scheme.

Results and Discussions

Share of greenhouse gas emissions subject to a positive price by instrument, 2018-2021 In

total, 54.7% of GHG emissions in India are subject to a positive Net Effective Carbon Rate
(ECR) in 2021, unchanged since 2018. India does not levy an explicit carbon price. Fuel
excise taxes, an implicit form of carbon pricing, cover 54.7% of emissions in 2021,
unchanged since 2018. Fossil fuel subsidies cover 2.5% of emissions in 2021, unchanged
since 2018.

Average effective carbon prices by instrument, real 2021 EUR, 2018-2021 In 2021, fuel
excise taxes amounted to EUR 13.16 on average, up by EUR 3.48 (36%) relative to 2018.
Fossil fuel subsidies have decreased to an average of EUR 0.17 per tonne of CO2e, down
89.5% since 2018.
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Average effective carbon prices (left axis) and GHG emissions (right axis) by sector, 2021
Net effective carbon rates are highest in the road transport sector, which accounts for 8% of
the country's total GHG emissions. The Net ECR is zero or negative in the buildings,
agriculture & fisheries and other GHG emissions sectors. Together, these sectors account for
36.2% of GHG emissions.

Future Perspectives
The importance of carbon pricing in India is Increasing in a fast rate. Various states and union
territories are adopting various implicit and explicit methods and strategies to bring an effect on their
emission reduction schemes. The introduction of ‘ GREEN CREDIT’ in COP28 by India is another
great effort to bring a significant change in India’s NDC’S . India is also encouraging other countries
to adopt schemes which can have a physical change in a countries carbon sink. Various tree plantation
drives in India , beautification schemes , ecosystem restoration and other activities which can bring a
significant change in a countries effort to reduce carbon emissions. The future perspective of carbon
pricing in India is increasingly significant. Carbon pricing is expected to become a mainstay of the
global climate policy architecture, and designing domestic carbon policies that align with global
policy trends will hold India in good stead in an increasingly decarbonising future. India has already
implemented implicit carbon pricing mechanisms, such as the Perform Achieve Trade (PAT) scheme,
which incentivizes energy efficiency in energy-intensive sectors. However, the effectiveness of such
schemes has been questioned due to issues of equity, high transaction costs, low trading prices of
energy saving certificates (EScerts), and rising energy prices. The Reserve Bank of India has also
suggested that India needs a carbon pricing system to grow green finance. However, due to its
regressive nature, the carbon tax may need to be accompanied by complementary redistributive
policies. Moreover, introducing carbon pricing is perceived as a less disruptive approach to generating
revenue, albeit one that necessitates careful consideration, including dealing with potential political
complexities. India may need to adopt carbon pricing due to mounting global pressure and the
potential impact of carbon-related trade barriers. In conclusion, while there are challenges to
implementing carbon pricing in India, it is a crucial tool for managing greenhouse gas emissions and
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promoting a transition to a low-carbon economy. Therefore, it is expected that carbon pricing will
play a significant role in India’s future climate policy.

Conclusion

The Energy Conservation (Amendment) Bill, 2022, signals the Indian government's openness to
exploring the necessity of a formal carbon market for achieving carbon neutrality. Both the Goods and
Services Tax (GST) regime and the Perform, Achieve and Trade (PAT) scheme offer a well-
established framework that India can utilize to develop a robust carbon pricing system incorporating
both a carbon tax and an emission trading system. However, recognizing that carbon pricing alone is
not a comprehensive solution, the effectiveness of such a system can be enhanced by complementary
measures. A balanced policy portfolio, encompassing carbon pricing, fossil fuel taxes, renewable
energy subsidies, technology and performance-based standards, as well as investments in green
technologies and revenue recycling to safeguard vulnerable communities, should form the foundation
of a cost-effective and equitable carbon pricing policy design. While India need not replicate Western
policy frameworks, examples from developing economies like the Republic of Korea, China, and
South Africa demonstrate that carbon pricing can be a potent tool for achieving significant carbon
reduction and meeting national climate targets. Amid ongoing discussions about a potential Climate
Club, there is a consensus within global climate policy groups to include carbon pricing as a pivotal
element in international climate policy. The current leadership of the G20 Troika, represented by
Indonesia, India, and Brazil, presents a unique opportunity to advocate for a global carbon pricing
framework that incorporates redistributive mechanisms and aligns with the principles of Common but
Differentiated Responsibilities (CBDR) and the Just Transition Declaration. As carbon pricing
emerges as a cornerstone of global climate policy, formulating domestic carbon policies and pre-
emptive strategies that align with global trends will position India well in an increasingly
decarbonizing future. The low-carbon energy transition presents both significant opportunities and
challenges for India, an economy heavily reliant on coal. India has established an advanced tendering
mechanism for renewable energy installations, particularly in solar energy, leading to remarkable
investment growth. Despite meeting targets, three economic instruments introduced by India in the
energy transition lack sufficient incentive effects. To better prepare the Indian economy for this
transition, four 'no regret' policies are proposed: transforming current market-based instruments into
carbon-priced instruments, expanding disclosure of climate-related risks, adopting a comprehensive
sustainable finance taxonomy, and aligning MRV (Monitoring, Reporting, and Verification) rules for
voluntary carbon markets with international standards. While these proposals may not establish an
intersectoral carbon pricing scheme, they would support its future development. Additionally,
incorporating climate considerations into power generation is essential for driving the low-carbon
transition and addressing the continued reliance on coal. Implementing these proposals would not
only contribute to strengthening the implementation of India's Nationally Determined Contributions
(NDC) but also enhance its engagement with global financing institutions and carbon markets.
In conclusion, carbon pricing is emerging as a pivotal tool for India in its pursuit of a sustainable,
low-carbon future. Despite the challenges, such as potential economic impacts and the need for
complementary redistributive policies, the benefits of carbon pricing, including revenue generation
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and environmental conservation, are significant. As India continues to grow and industrialize, the
implementation of carbon pricing will be crucial in balancing economic development with
environmental sustainability. However, careful planning, robust policy design, and effective
implementation will be key to ensuring the success of carbon pricing in India. As the world moves
towards a more carbon-conscious future, India’s approach to carbon pricing will undoubtedly play a
significant role in shaping its environmental and economic trajectory.

References
The World Bank- https://carbonpricingdashboard.worldbank.org/what-carbon-pricing
OECD- https://www.oecd.org/tax/tax-policy/carbon-pricing-india.pdf
The World Bank- https://www.worldbank.org/en/news/feature/2022/05/17/what-you-need-to-
know-about-article-6-of-the-paris-agreement
European University Institute- Policy Brief- Towards more resilience on carbon pricing in
India- https://cadmus.eui.eu/handle/1814/69676
Science Direct- https://www.sciencedirect.com/science/article/pii/S1040619023000581
Observer research Foundation- https://www.orfonline.org/expert-speak/pricing-carbon-trade-
offs-opportunities-india