David Hone

At the very end of May Carbon Expo was held in Barcelona. It was an excellent event, overall attendance was good and there were still quite a few exhibitors at the Expo hoping for life in the project mechanism market of the current “global carbon market”. But this is an area of trade that is clearly struggling. 

The conference also offered an opportunity for the World Bank to release a new review of carbon market activity, which showed that there is at least quite a lot, even if price development is far from the levels required to ever make any discernible difference to global emissions.

Carbon Expo consists of many events, plenary panels and side meetings and through these one of the subjects that attracted plenty of attention is the ongoing desire to see a global carbon market take shape. This seems like a rather odd desire since we have had something along these lines for the past decade under the Kyoto Protocol, but nobody really wanted to discuss that, even though it is clearly the approach that makes the most sense, is most robust in terms of compliance and has all the necessary bits and pieces actually up and running. Equally, it is withering on the vine. 

The desired alternative to a Kyoto style global market has yet to be specified, but it builds on the reality of the World Bank report which shows that there are lots of carbon market systems in various stages of development, implementation or operation and that if they could somehow be linked together a global market would coalesce. This follows from the excitement around the proposed link between the EU and Australian Emission Trading Systems.

Both the EU and Australia have called their proposed linkup a bilateral arrangement. That may well be the case, but it would have been an order of magnitude more difficult were it not for the fact that both systems were designed under the Kyoto Protocol framework, recognized the same types of offsets, counted carbon the same way etc. I discussed this back in September last year after the linkup was first announced.

So here we are in a world that has started once down the pathway towards a global carbon market, built all the required institutions and instruments necessary to run it, balked at using them but perversely still wants the market to develop. As such, discussions continue on how a global market might catalyze, with four models now in the picture. They are:

1. The creation of an international compliance unit and a standard set of offset mechanisms. This is effectively a spinoff of the Kyoto Protocol, using the CDM, but creating a new international unit to replace the AAU (the KP “glue”). Such a unit would underpin national ETSs that voluntarily opt-in to the global market. An international registry would exist to keep track of the market and manage national compliance.
2. A set of “exchange rates” evolve between national compliance units and project mechanisms, akin to currency exchange rates. This then supposedly solves the problem of different levels of national ambition, quality of offset projects and so on. The problem here is that CO2 is more like a fixed commodity type instrument, whereas currency (where exchange rates exist) is not a commodity but effectively a security (like a company share). The value of a security is set by the value of the whole that it represents (e.g. a company, a country). By contrast, a tonne of CO2 will always be a tonne of CO2.
3. Bilateral arrangements continue and linkages simply evolve over time. The challenge comes when A links with B then B talks to C but A doesn’t want to link with C. Also, some very different designs may never be suitable for linking.
4. International Measurement / Reporting / and Verification rules are expanded to cover the necessary requirements for linking. This is effectively like (1) above, but without the international unit or internationally regulated compliance.

The most robust approach exists in (1), but this is currently looking like the least likely outcome – many nations seem to be opposed to such an approach, at least for now. The opposition appears to extend from the idea of the UN managing national sovereignty in any form, such as evaluating national programmes and allocating international units against them, even though this is positioned as a voluntary opt-in process.

The exchange rate approach has instant appeal, simply because it allows the market to decide. But so far, I have not seen an explanation as to how it might actually work.

Evolution through bilateral agreement appears to be the most likely path forward, so the question remains if there is any role for the UNFCCC in such an approach. Perhaps it’s role is limited to maintaining offset mechanisms such as the CDM.

This remains a nascent discussion, with much thinking to be done.

The first full day of 400+ ppm CO2 as recorded at Mauna Loa in Hawaii last week produced an outpouring of sentiment and grief from many, but the news has seemingly passed. Unfortunately, the arrival of such a day had become inevitable. Since the early days of the Keeling Curve at 315 ppm when it became clearly apparent that anthropogenic CO2 emissions were accumulating in the atmosphere, we have counting up the ppm to this day.

Despite an early clear warning to the Johnson Administration at 321 ppm, it wasn’t long before there was a brief worry about global cooling. Then, with atmospheric chemistry growing as a discipline (probably on the back of concerns about a cold war nuclear winter), we were distracted at 332 ppm by the first major anthropogenic global concern, the hole in the ozone layer. But with a treaty negotiated and ratification underway by 349 ppm (only 17 ppm to sort that one out), it didn’t take long for the science community to remember that another big issue was lurking in the shadows.

At 352 ppm and nearly 40 ppm on from the start of the Keeling Curve, James Hansen stated to a US Congressional Committee that;

• The earth is warmer in 1988 than at any time in the history of instrumental measurements.
• Global warming is now large enough that we can scribe with a high degree of confidence a cause and effect relationship to the greenhouse affect.
• Computer simulations indicate that the greenhouse effect is already large enough to begin to effect the probability of extreme events such as summer heat waves.

But it was another 13 ppm before the Kyoto Protocol was adopted by parties to the UNFCCC and 14 ppm more before it was finally ratified. 21 ppm later and it is a shadow of its former self, but at least with the legacy of some beginnings of a global carbon market. However, it is trading close to zero!! In the interim there was a valiant attempt at a new global deal, but even that was 12 ppm ago.

Our goal to be avoided, 450 ppm, is now feeling a bit close for comfort, given we are already at 400 ppm and 300 ppm was only passed under the previous British monarch.

Not to worry, it should only be another 15 ppm before a new global deal comes into force, although after more than 3ppm of discussion, the negotiations don’t really seem to have started. So we wait again, hopeful that someone has got a plan.

Albert Einstein once said that “The definition of insanity is doing the same thing over and over again and expecting different results”. So it was that I spent the last few days in Doha, perhaps anticipating that something might just be different this time around – after all there were things to be done and a whole new agreement to be crafted by 2015.

Finally late on Saturday, COP18 came to an end. Two weeks of discussion and negotiation had barely moved the needle, so the challenge to bring the conference to a useful conclusion and at least move the agenda forward somewhat fell on the Qatari President of the COP, H.E. Abdullah Bin Hamad Al-Attiyah – which is what he did, despite the objections of some parties. At the end of it all, UNFCCC Christiana Figueres tweeted;

“Read how COP18 has opened a gateway to greater ambition and action on climate change . . . . “

Some may see this as a rather optimistic perspective on a COP that may well be remembered more for the excellent facilities provided by the Government of Qatar, rather than anything tangible that the countries were able to agree to actually reduce emissions. The outcome could be described at best as administrative. The three objectives I discussed at the beginning of the conference were delivered to some extent, although the Durban Platform did not progress as much as might have been expected, given the tight delivery timetable it has.

1. The highlight was the agreement on a second commitment period for the Kyoto Protocol, which will now run through to 2020. Most commentators made much of the fact that the agreement only included Europe and Australia, but this is a rather unfair representation of the conclusion. True, the coverage is not what it was for the 2008-2012 period, but looking at it from the reverse perspective, only Canada, Russia, Japan and New Zealand have dropped out. All of the other former Soviet states have remained, as have Switzerland and Norway. Of course the developing countries have remained, but still without commitments other than to make use of the Clean Development Mechanism. The AAU issues were largely put to rest and at least for the time being the agreement leaves the world with the internal workings of a carbon market, but not much else.
2. The LCA discussion proved to be the most fractious, perhaps because it is home to the financial flows that are now beginning to percolate through the UNFCCC. This shouldn’t be confused with the carbon market financial flows of the Kyoto Protocol and the future New Market Mechanism, but the much anticipated flow of public funds from developed to developing countries. The job of the COP was to bring the LCA to a close, which in turn would make way for a more focussed discussion on the 2015 Durban Platform agreement. But money got in the way. Many parties claimed that the work of the LCA was incomplete, largely because of the fact that the money is hardly flowing and the Green Climate Fund remains uncapitalised. The US argued that this is because the modalities of the fund have not been agreed and complained that where money had been made available, such as through the Fast Start Mechanism, no appreciation was shown on the part of the recipients. In the end, the LCA did close, but mainly through an administrative sleight of hand which relocated most of its activities to various technical groups under the Convention.
3. Finally, there was the ADP (Durban Platform). The delegates spent two weeks discussing this under two work streams, one which is looking at increasing the level of ambition up to 2020 and a second which is looking more holistically at the structure of an overarching framework. At this late stage, increased ambition through to 2020 seems like a rather pointless discussion. The energy mix for the 2020s is rapidly being cast in stone all over the world, to the extent that only relatively minor changes could now be made. This isn’t to say that we should give up, but we should at least recognise that major initiatives starting today will only bear fruit in the 2020s and 2030s, but not before then. Even a modest energy efficiency initiative could still take a decade to fully play out, given the time for political agreement, national ratification and finally implementation. Gripped by the urgency of the issue, the parties managed to agree the meeting schedule for the period between now and 2015, but failed to take matters further. That amounts to a year lost since Durban, with almost nothing to show in terms of progress. Unfortunately, even the world’s glaciers would consider the pace to be slow.

Perhaps there was a gateway opened to ambition and action, but nobody has passed through it, or seem likely to in the near future. The level of ambition also remains far short of a 2 deg.C trajectory. By contrast, the side event programme was full of national delegates, some who had come from the negotiation meetings, talking about their national programmes. Not surprisingly, the Chinese “carbon market” presentations were packed.

Now comes the sting in the tail – “loss and damage”. I suspect that this is a subject that has had the lid kept on it for some time, but it is in the open now, probably because of the claimed dissatisfaction with the level of funding and financing flowing from developed countries. The final version of the text raises the worrying prospect of the development of a mechanism to address the impacts of climate change. The following two clauses are pretty clear on the issue:

8. Requests developed country Parties to provide developing country Parties with finance, technology and capacity-building, in accordance with decision 1/CP.16 and other relevant decisions of the Conference of the Parties;

9. Decides to establish, at its nineteenth session, institutional arrangements, such as an international mechanism, including functions and modalities, elaborated in accordance with the role of the Convention as defined in paragraph 5 above, to address loss and damage associated with the impacts of climate change in developing countries that are particularly vulnerable to the adverse effects of climate change;

Subjects like this have the potential to stall the process for years, although some may argue that the current rate of progress is little better than stalled anyway. It will also get to the issue of apportioning blame, since this is the flip side of “loss of damage”. If there is blame to share, then the only pragmatic way to do it will be on the basis of cumulative emissions, since this is the root cause of the climate issue. Unfortunately nature doesn’t know anything about emissions per $ of GDP, it just sees accumulation. Given current development rates and the size of some national populations, the cumulative national emissions league table is rapidly changing. By 2020, many of the leading nations “to blame” for the state of the climate (at least on the basis of cumulative emissions) will be today’s “developing countries” (some further thoughts on this to follow in a future post).

The parties will convene in Warsaw next year, somewhere in Latin America the year after and possibly in France in 2015 – all that seemed to be agreed without too much fuss. There will be various inter-sessional meetings in the meantime, but if a deal is really going to be agreed by 2015, something remarkable is going to have to happen. We should reflect on the fact that the noisy and messy closure of the LCA was the sad end of a process that started in Bali and was supposed to deliver a global deal. It didn’t. Perhaps Einstein was right.

After a week of talks in Doha at COP18, it is difficult to draw a clear conclusion about how the conference might conclude. Certainly there is discussion along the lines I discussed last week, but progress is slow and many of the historical divisions have resurfaced, despite the apparent progress made in Durban last year with the agreement for dialogue on the basis of all nations making commitments to act. I suspect that like many of these conferences, the last moments of the second week will see a rapid push for concluding text. Time will tell.

A key agenda item for this COP is the real start of discussions within the ADP, where the bulk of the negotiations towards a 2015 agreement should take place. There really isn’t a great deal of time for this to transpire, with perhaps as few as 100 negotiating days available between now and the end of COP21 in 2015. One hundred days to change the world and the process remains in the earliest of stages of thinking about what it needs to think about. To this end a roundtable was convened on Saturday such that the ADP Chair could seek input from the NGO community. Some industry colleagues approached me and said that the business community had a dozen seats in a lunchtime session with the ADP and as Chair of IETA, I was offered one. Initially this sounded like quite an opportunity, until we got into the room and realized that this was a single two hour session with all of the NGO community, not just those from business (otherwise known as BINGOs). Seated in a huge square in an enormous room in the cavernous QNCC (Qatar National Convention Centre) were the YOUNGOs, BINGOs, TUNGOS, INGOs, RENGOs, ENGOs, CINGOs, WGNGOs, FANGOs and RINGOs (young people, businesses, indigenous people, religions, environmentalists, cities, women & gender, farmers and researchers). Still, everybody was succinct and to the point and the business representatives were able to make three key points;

1. It’s about putting a robust price on carbon. Don’t expect voluntary action to be effective (in response to a presentation by Ecofys, see below). Many businesses support putting a price on carbon, just look at the recently released Carbon Price Communiqué.
2. A carbon price can deliver scale – just look at the large impact from the relatively small CDM. One billion CERs, ~$10-15 billion in carbon finance, about $100 billion in project investment.
3. The interaction of business with the ADP is critical to a successful outcome and needs to continue.

I delivered the first point – see below (thanks to ENB for the photo), between colleagues Jonathan Grant of PWC and Thierry Berthoud of WBCSD.

The session had started with a series of presentations from invited external presenters. Abyd Karmali of Bank of America / Merrill Lynch delivered a powerful presentation showing how tailored carbon price based financial mechanisms could deliver further project activity and therefore real reductions in the run-up to 2020. This was in stark contrast to a presentation prepared by Ecofys, which argued for a series of specific activities (wedges) to bridge the gap from where we might be in 2020 in terms of emissions to where we needed to be. This included activities such as company voluntary reductions, the voluntary “greening” of the assets of the 20 largest banks, the expanded use of voluntary offsets by companies and consumers and a global ban of incandescent lamps. These alone are supposed to deliver 5 GT of reductions by 2020.

While I won’t challenge the calculations themselves, the reality of implementing these measures is highly questionable, particularly the voluntary ones. This was the modus operandi of the late 1990s and it simply wasn’t a sustainable path forward. It certainly isn’t today. Even back then, company voluntary reductions were never meant to deliver a globally coherent pathway forward, rather they were to demonstrate to policy makers the types of actions that could be initiated given the right policy signals. In the case of Shell, we even established a modest internal carbon price through a small trading system to do this, again not to deliver major change but to demonstrate the possible. It concerned me that the ADP might take this proposal seriously, enough to overlook the real work that needs to be done to deliver the types of mechanisms discussed by Karmali. Such mechanisms are already being used, albeit on a modest scale, to drive real reductions using CCS in places like Alberta, the UK and the EU.

One of the features of a COP is the side event schedule. These are presentations put on by observer organizations which run in parallel with the main negotiations. They are attended by anyone interested in the subject, including national delegates, other observers and UNFCCC staff.  Today IETA, the Enel Foundation and the Harvard Project on Climate Agreements (Belfer Center for Science and International Affairs) joined forces to put on an afternoon session to discuss “New Market Mechanisms”. So far the attendance at COP18 side events has been a bit desperate, but this one attracted a huge crowd. The room was completely full with attendees standing 5+ deep at the rear.

Rob Stavins from Harvard led off and gave a broad introduction to the work the Center was doing on international market mechanisms and made a number of observations about market design and linkage. This was further supported by a second Harvard presentation by his colleague. Two business presentations followed, one by me on a possible framework which would foster an eventual global carbon market (Establishing a Global Carbon Market) and similarly by a representative from the Italian energy company Enel. The Environment Minister from Costa Rica offered concluding remarks.

The content was solid and interesting, but the highlight was the crowd. Clearly there remains a real and vibrant interest in the use of carbon markets and carbon pricing to drive emission reductions.

So that is a bit about the week that was. The gigantic QNCC felt a bit on the empty side last week, but that is being corrected as Ministers, their support staff and more observers arrive today and tomorrow. We shouldn’t forget that this is still a complex multilateral negotiation, sometimes bedeviled by bureaucracy, mystery and intrigue. This was summed up for me when a colleague commented that he had been in one of the contact group meetings, where “they square-bracketed a semi-colon” (which means that the use of the semi-colon was still being negotiated)!!!

On to week two.

This week sees the start of the 18th Conference of the Parties of the UNFCCC, or COP18 for short, in Doha, Qatar. This should be a busy transitional COP, with much on the agenda to resolve and important steps forward being taken toward a long term international agreement. But procedural issues, agenda disagreements and fundamental sticking points could still dominate, leading to a two week impasse. Let’s hope not.

At the core of the process lie three work streams which have evolved over many years.

The oldest of these is the discussion on the Kyoto Protocol (KP), which has now been running in one form or another for most of the twenty year history of the UNFCCC. Discussion on a second commitment period (KP2) over the past years have embodied the toughest issues in the climate negotiations, such as the role of developing countries in reducing emissions, engagement with North America (neither Canada or the United States will participate going forward) and the need to put a robust price on CO2 emissions. I am a big fan of KP, despite its shortcomings. It was designed with carbon pricing as its central theme, allowed countries to trade to find lowest cost abatement pathways and through its architecture encouraged signatories to implement cap-and-trade based policy frameworks within their respective economies. The simple but clever ideas within it have not been matched since in terms of effectiveness and efficiency despite years of negotiations. Given sufficient willingness, there are clearly routes forward by which KP could evolve to become the much sought after “21st Century global agreement”, but instead it is reaching the end of its shelf life. There seems to be no resolution with North America under this banner, developing countries appear reluctant to let it be the approach to govern their much needed actions and even the country of its namesake city is unwilling to sign again on the dotted line. Australia and the EU remain as the KP bedrock, if for no other reason than to rescue the CDM and consummate their carbon market linkage with a common approach to accounting, offsets and single market currency (AAUs and CERs). The parties do need to agree on KP2, despite the lack of critical mass, and then roll forward its inherent carbon market architecture into the new grand design.

Next comes the discussion on long term cooperative action, or LCA, a workstream which appeared in 2007 at the Bali COP and is home to a broad range of developments from the Green Climate Fund (GCF), the Nationally Appropriate Mitigation Action (NAMA), the much discussed New Market Mechanism (NMM) and more recently the Framework for Various Approaches (FVA). It was meant to deliver the grand deal at Copenhagen in 2009 but didn’t and now labours on with many loose ends and partially thought through ideas which have not been implemented or even fully negotiated. Nevertheless it has been a useful testing ground for new thinking, but has not yet delivered any real mitigation action. It needs to stop now, but difficult issues remain such as the funding of the Green Climate Fund and the modalities for actually spending any money that may arrive in its coffers. These spinoffs from the LCA will need to continue under one of the Subsidiary Bodies or within the ADP (see below) discussions, but the parent discussion should be put to rest in Doha.

Now comes “the new hope”, the Durban Platform for Enhanced Action. For some, the parties at COP17 simply kicked the can 9 years down the road knowing that little new progress would be made, but for many this represents a much needed and major reboot of the process after years of making almost no progress at all on the respective roles of developed, emerging and developing economies. As Harvard’s Rob Stavins noted in his blog of January 2012;

Now, the COP-17 decision for “Enhanced Action” completely eliminates the Annex I/non-Annex I (or industrialized/developing country) distinction.  It focuses instead on the (admittedly non-binding) pledge to create a system of greenhouse gas reductions including all Parties (that is, all key countries) by 2015 that will come into force (after ratification) by 2020.  Nowhere in the text of the decision will one find phrases such as “Annex I,” “common but differentiated responsibilities,” or “distributional equity,” which have – in recent years – become code words for targets for the richest countries and a blank check for all others.

We should not over-estimate the importance of a “non-binding agreement to reach a future agreement,” but this is a real departure from the past, and marks a significant advance along the treacherous, uphill path of climate negotiations.

Although there have been some opening salvos fired in the ADP (Ad-Hoc Working Group on the Durban Platform for Enhanced Action) in various inter-sessional meetings this year, the heavy lifting for this work stream needs to start at COP18. In recent months the IEA, the World Bank, PWC and others have all made it abundantly clear that unless some truly meaningful progress is made in the sort term, the 2 deg.C goal will pass us by (it may already have) and that before we know it we will be looking at a 4 deg.C outcome, along with all its consequences. Even the timetable for the ADP, which seeks to reach agreement by 2015 for implementation in 2020 is problematic in terms of the need for immediate action, but it is what it is.

The ADP needs to define a work programme that embraces the five primary strands of action coming out of the KP and LCA, namely;

• National action defined through specific targets, goals and actions, but aligned with the overarching mitigation objective. This would also include REDD.
• An underlying carbon market infrastructure as currently embodied by the KP but adapted to the applicable framework for mitigation action. Without an evolving price on carbon in the international energy markets, mitigation action will stall. This work stream should also pick up the NMM discussion.
• A funding mechanism that can leverage private sector finance for kickstarting technologies and helping less developed economies invest in a low carbon pathway forward. This is the GCF.
• A continuation of the work of the TEC and CTCN to share knowledge and best practice arising from technology implementation.
• A robust approach to adaptation.

Recently the World Business Council for Sustainable Development resurfaced work that it undertook back at the start of the LCA, but which is highly relevant to the first of the two prospective work areas above. “Establishing a Global Carbon Market” looks at how the substance of the KP carbon market can be applied much more broadly to an evolving world of various approaches.

The above represents a tall order for two weeks work, but with some 10,000 people in tow there is certainly enough labour at hand to get this heavy lifting done. A refined single track approach will bring much needed focus back to the discussions which then paves the way for at least some hope that the 2015 goal for a new agreement can be met. In summary, the big asks for this COP are:

1. Agreeing a continuation of the Kyoto Protocol through to 2020 and then politely ushering this Grand Dame of the UNFCCC off the stage with some reverence and applause.
2. Bringing closure to the LCA work programme and shifting some key components (e.g. GCF, TEC) into the formulation of the ADP.
3. Establishing a clear work programme for the ADP, which incorporates as a priority, the foundations for a continuing and evolving global carbon market.

Good luck and success to all the delegates.

Two recent publications highlight the challenges ahead in the multilateral process that continues to seek an equitable global approach to the issue of growing CO2 emissions. But comparing and contrasting them illustrates the contradictions that exist as negotiators attempt to maintain existing structures and work within the spirit of the Durban agreements.

Two weeks ago, a major report issued by the High Level Panel on the CDM Policy Dialogue recommended a very broad range of actions for stabilizing and reversing the ongoing price collapse in the CER market (Certified Emission Reduction, the carbon unit within the CDM), with a view of re-establishing the CDM as the cornerstone of the global carbon market and thereby kicking off a further round of emissions mitigation action.

This week, the Harvard Project on Climate Agreements issued a policy brief  which outlines the shape of the new paradigm that the UNFCCC process has hopefully entered following the creation of the Durban Platform for Enhanced Action at COP 17 last December. Their ambitious interpretation of the agreement sees the Berlin Mandate effectively consigned to history (which enshrined the notion that emission reduction was effectively the responsibility of developed countries and which led to the 95-0 vote on the Byrd-Hagel Resolution in the United States Senate) and a new order emerging which results in all countries acting to manage emissions. There is no doubt that the latter interpretation is the only one that makes sense, but only time will tell if this represents the new reality. The Harvard think piece ends with the challenge;

Having broken the old mold, a new one must be formed. A mandate for change exists. Governments around the world now need fresh, outside-of-the-box ideas, and they need those ideas over the next two to three years. This is a time for fundamentally new proposals for future international climate-policy architecture, not for incremental adjustments to the old pathway.  We trust that this call will be heard by a diverse set of universities, think tanks, and advocacy and interest groups around the world.

Rescuing the CDM as recommended by the Policy Dialogue is a laudable ambition, but perhaps falls into the category of “incremental adjustments to the old pathway” rather than “outside of the box ideas”. Conversely, the Policy Dialogue proposal is attempting to stave off the collapse of the very idea of “carbon markets” by rescuing the one global example of their application. While “out of the box” thinking is certainly welcome, it is also hard to argue that we are done with carbon pricing/markets and now need something new. In fact, carbon pricing remains core to the solution.

As such, we end up with the dichotomy of needing new ideas but not wanting to see the structures of the past slip through our fingers; but should we mind that they institutionalize some of the ideas within the Berlin Mandate?

The CDM was a bold idea when conceptualized in the Kyoto Protocol, starting with the simple phrase;

A clean development mechanism is hereby defined.

But has it reached its use-by date and should it be consigned to the dustbin along with the Berlin Mandate? Unfortunately the answer is both “yes” and “no”. It does represent an era of action and financing being the responsibility of developed countries only, which is no longer a tenable paradigm within which to operate. It was designed to help developed countries meet their mitigation goals and to channel funding from developed to developing countries for the purpose of sustainable development. Yet it did demonstrate a mechanism which allowed a broader range of actors to get involved in the carbon market than those immediately impacted by the cap on allowances. This has become a design feature of more recent cap-and -trade systems, albeit with home grown offset systems.

The solution for the CDM, both to rescue the market today and to prepare it for the “out of the box” solution of tomorrow, must be to disentangle it from the Kyoto Protocol and make it available as a general offset resource under the UNFCCC, perhaps even one that any nation could use when it wants to involve part of its economy in the market without actually applying a cap to it (such as the farming sector in Australia).

Considerable resource is required to establish an offset mechanism, both in design and operation. Reinventing this multiple times around the world hardly seems like the best use of government resources, but that is what is happening. Unshackling the CDM wasn’t discussed in the Policy Dialogue report, perhaps because it then enters into the complex realm of Kyoto Protocol politics. The closest it got to this was a proposal to broaden the use of CERs.

To unlock the full potential of the CDM, all countries should be enabled to use CERs, not only those with mitigation targets under the Kyoto Protocol.

But the Kyoto Protocol represents the Berlin Mandate and, according to the Harvard Project, the new paradigm is a world without such a legacy. It also makes little sense under the accounting rules of the Kyoto Protocol to have other parties dipping into that market when their compliance obligation may be governed by another system. This leaves only the more radical approach of decoupling the CDM from the Kyoto Protocol, but then following the recommendations of the Policy Dialogue to broaden its scope and expand its use.

This also takes the CDM into the world of another discussion, that of the New Market Mechanism. Under such an approach, the CDM could migrate to become the NMM, but for all nations to use within the design of their emission trading systems.

Late last week Point Carbon reported that the Executive Board of the UNFCCC’s Clean Development Mechanism has (re)agreed to allow energy efficient coal fired power plants to be included under the mechanism. Point Carbon said:

The governing body of the U.N’s Clean Development Mechanism (CDM) has agreed to allow the most energy efficient coal-fired power plants to earn carbon credits under the scheme, causing outcry from green groups who claim the carbon market could be overrun by millions of low-quality offsets. The CDM Executive Board’s decision to lift its ban that prevented coal plants from seeking credits could allow some 40 projects, mostly based in China and India, to earn Certified Emission Reductions (CERs).

The credits are awarded to projects that cut emissions of greenhouse gases and can be used by companies and governments to meet carbon reduction targets.

. . . . .

. . . . .

The Board approved six coal plants for CDM registration before agreeing in November 2011 to suspend and review the methodology that outlines how many credits the schemes could earn, effectively stopping new projects from earning credits.

While it is always good to use a resource more efficiently, this move has potentially negative consequences for the very issue it is setting out to address, a reduction in the total emissions of CO2 to the atmosphere.

In this instance the CDM is not acting as a carbon pricing mechanism, rather it is simply incentivizing energy efficiency. In a recent paper written by a colleague (featured in a July posting), the secondary impacts of energy efficiency policy as a climate change response are explored. This particular action by the CDM Executive Board falls right into one of the problem areas.

The paper presented the argument that energy efficiency action on its own could actually result in an increase in CO2 emissions. The diagram below explains this. On the vertical axis is the cost of providing an energy service, such as electricity. At the margin, this may be driven by non-fossil provision operating within the economy, such as a wind farm or the like. On the horizontal axis is a measure of the available carbon resource base. As the price of non-carbon alternative energy rises or falls, so too does the long term availability of the fossil alternative for a given technology set. At high alternative prices, more money is available to spend on expanding the fossil resource and vice versa. As the fossil resource expands, the cumulative number of tonnes of CO2 emitted will also grow, even if it takes longer for this to happen.

Assuming a given alternative cost of providing electricity (p_non-fossil), the more efficient the power stations that burn coal, the more the electricity provider can ultimately afford to pay for the coal that is used. As more coal is used and the price rises (all other things being equal), so the resource base expands (from UC₁ to UC₂ in the figure above) and so does cumulative CO2 in the atmosphere. Further, as the CO2 issue is basically an atmospheric stock problem, this then drives up long term warming, even if the rate at which CO2 is emitted happens to fall in the short term.

From a climate finance perspective the CDM has been a successful mechanism, albeit with some significant operational difficulties. It has paved the way for carbon pricing in many countries and has been an important catalyst for change in some areas (e.g. landfill methane). But subsidizing more energy efficient coal fired power plants, while well intentioned, may in fact have negative environmental consequences. The CDM needs to act in its purest sense, which is as a carbon price in the energy system of true developing economies.

N.B. Just prior to posting this, a colleague noted that the Executive Board may have only allowed the issuance of CERS against already approved projects to proceed, rather than allowing future projects to apply by releasing the current hold on the underlying methodology. Hopefully this is the case, but in any case the argument still stands.

As Australia struggled through the ill fated CPRS legislation and finally landed with its carbon pricing mechanism, I often thought that it would be much simpler if they just joined the EU ETS. Governments don’t tend to do simple practical things like that, perhaps it makes them feel they are giving away some portion of national sovereignty or that they aren’t doing the job they were elected for (i.e. “we must invent it here” syndrome). But despite all this and having gone the very long way around to get there, Australia has, in effect now joined the EU ETS (or perhaps the ETS has joined the Australian trading system).

Last week the Australian Government and the European Commission announced that their respective emission trading systems would link up progressively over Phase III of the EU system, but for Australian entities from the start of full carbon allowance trading in 2015. This is a bold move by both parties and quite possibly one that will make others with nascent trading systems sit up and think about where they want to go. For Australia, provided the changes can be implemented by a parliament that isn’t exactly friendly towards carbon pricing (but a wafer thin majority currently is), the move cements the system into place even further, in that undoing it would likely cause some embarrassment on the international stage. For the EU, it puts the ETS back in the frame and maybe introduces some additional demand at a time of allowance oversupply, depressed prices and a consequent lack of confidence in the system. Let’s hope this move helps both sides to deliver confidence and stability in their respective systems.

A full two-way link between the two cap and trade systems will start no later than 1 July 2018. Under this arrangement businesses will be able to use carbon units from the Australian emissions trading scheme or the EU Emissions Trading System (EU ETS) for compliance under either system. To facilitate linking, the Australian government will make two changes to the design of the Australian carbon price:

• The price floor will not be implemented;
• A new sub-limit will apply to the use of eligible Kyoto units. While liable entities in Australia will still be able to meet up to 50% of their liabilities through purchasing eligible international units, only 12.5% of their liabilities will be able to be met by Kyoto units.

In recognition of these changes and while formal negotiations proceed towards a full two-way link, an interim link will be established enabling Australian businesses to use EU allowances to help meet liabilities under the Australian emissions trading scheme from 1 July 2015 until the full link is established.

Various Australian, EU and other websites cover all the details, so I won’t repeat them here. Rather, let me spend some time on a key issue that this move raises, namely the future design of any international framework via the UNFCCC (or other process). Both Australia and the EU have stressed that this is a bilateral linkage, to the extent that the allowance transactions will not be processed through the International Transaction Log (ITL), but CER transactions will be. However, there will still be a Kyoto AAU balancing at various times to ensure compliance in that system (although there remains considerable uncertainty with regards the issuance of Kyoto Second Period AAUs as there has been no firm agreement on the full nature of that period).

Despite this apparent distancing from the Kyoto based ITL, it must still be the case that the overarching Kyoto framework has helped this linkage – I might even go a step further here and say “allowed this linkage to happen”. Thanks to the UNFCCC architecture, these two systems grew up with enough harmony to make a linkage possible.  They “count” the same way, “track” the same way and “comply” the same way.  Both the systems have common offset arrangements through CERs under the Kyoto Clean Development Mechanism and the units created under the Australian Carbon Farming Initiative are also Kyoto compliant. This means we have the makings of a linked system with global reach.

This could be the primary goal of a new international framework, i.e. to provide sufficient tools, rules and mechanisms which countries can use in developing their carbon trading systems, thus facilitating linkage at a convenient time for those interested in doing so. Such a linkage framework could deliver the global market that we need, as shown in my illustration below (which by the way has been around for about 5-6 years now, so for me it is great to see that one of my linkage lines has finally been filled in!!).

The opportunity to devise such a framework now exists under the Durban Platform for Enhanced Action, which aims to see a new international agreement in place by 2015, for commencement not later than 2020. The agreement between Australia and the EU should be seen as a catalyst for the thinking behind what is to come.

Finally, as something of an aside, one of the major complaints by Australian companies has been that the current $23 fixed price and the future market floor price put the Australian price of carbon “out of line with the international price”. I challenged this notion in a recent post, but irrespective those who called for such alignment have pretty much got what they wanted, although obviously not in the very short term. There may be eventual irony in this, should the EU system go through something of a recovery in its fortunes. While every indicator today points to a continued depressed price through to Phase IV, stranger things have happened in commodity markets.

P.S. I still think that the simplest approach for Canada, which has been putting off economy wide carbon pricing legislation for years, would be to join the EU ETS.

While much of the focus in the recent UNFCCC meeting in Bonn was on the protracted discussion around agenda and chair for the ADP (Ad-Hoc Working Group on the Durban Platform for Enhanced Action), some progress was made in other meeting rooms. On the middle Saturday a workshop was held for initial discussions around the call for a “New market Mechanism” (NMM). A report out from the workshop can be found here.

So far, the discussion on a NMM has tended to focus on the crediting of mitigation activities in developing countries, such as the role performed by the CDM. The talk is often about up-scaling rather than having an initial discussion about the market conditions necessary for crediting to be effective or alternatively to ask what a market mechanism actually is. For some, the CDM can be represented as shown below. 

This is a very supply biased conversation, when in fact the full description of the mechanism must include both the creation of supply and the likely demand. The mechanism is much broader than the CDM and involves the core design of the Kyoto Protocol and the various elements within it. 

There are many definitions of “market mechanism”, but all talk about the process of the whole market rather than just a sub-part within it. Here are three;

1. Means by which the forces of demand and supply determine prices and quantities of goods and services offered for sale in a free market.
2. The use of money exchanged by buyers and sellers with an open and understood system of value and time tradeoffs to produce the best distribution of goods and services.
3. The process by which a market solves a problem of allocating resources, especially that of deciding how much of a good or service should be produced, but other such problems as well. The market mechanism is an alternative, for example, to having such decisions made by government.

As the NMM discussion matures and eventually becomes part of the ADP, a much broader discussion on the need for a viable carbon market will be necessary. This cannot be limited to a discussion on crediting mechanisms because these, if standing alone, are not market mechanisms. A working mechanism requires some means of establishing price and particularly demand, a feature not inherent to the CDM.

The assumption that demand for credits will somehow be created is arguably a flawed one. The Kyoto Protocol addressed this by assigning AAUs to certain countries and making the CER (from the CDM) a fungible instrument, thereby allowing interchange for compliance. The AAU approach created demand in countries that had compliance obligations which in turn completed the market mechanism. Nations that held AAUs tended to cascade the instrument directly into their economies or if not, a proxy (e.g. the EUA under the EU ETS). Either way, the compliance obligation remained and allowed private investors to participate in the market.

There was a certain elegance in the market mechanism design of the Kyoto Protocol, one that shouldn’t be lost in the transition to a new international agreement. While it may not be smart politics in some quarters to highlight the benefits within the KP, the NMM discussion will do well to learn from what was developed in years gone by and not throw the baby out with the bathwater.

Looking at a set of newspaper headlines earlier this week one might get the impression that nobody was quite sure whether progress had been made in Cancun or if it was another UN standoff. At least in the media clippings I had, the sense of achievement ranged from “Cancun Agreements put 193 nations on track to deal with climate change” through “Climate talks end with modest deal on emissions” to “Climate deal decades away as dysfunctional US delays cap”.

Certainly the various texts that were adopted, thanks to the diplomacy skill of the Mexican hosts, have moved the debate forward and opened up a number of new work streams. The next twelve months could see proposals for new market mechanisms, the design of a future structure to support technology transfer and the creation of a measurement, reporting and verification framework for emission reduction activities. But all of this is peripheral to the core issue of emission reduction targets, timetables and responsibility. In that regard the various texts are non specific and the issue has been largely deferred. So should we just be pessimistic about what is to come?

Much of what has been agreed has found its way out of the Copenhagen Accord and into the formal Convention by way of the AWG-LCA work stream. Importantly, the Cancun LCA Agreement, mirroring the 2009 Accord, does call for a reduction in worldwide greenhouse gas emissions so as to hold the increase in global average temperature below 2˚C and that parties should take urgent action to do this. There is even mention that 1.5˚C might be considered. But while both the Cancun LCA and KP texts urge, request and encourage both Annex I and non-Annex I parties to make reductions in pursuit of the temperature goal, neither attempt to clarify what is actually needed. This leaves the same problem going into Durban in twelve months time as was faced by delegates arriving in Cancun, i.e. what happens to the compliance based Kyoto Protocol which can only function with national targets?  Further, if it is not agreed how can there be a cooperative action agreement which in effect assumes (at least from the perspective of many developing countries) that most developed countries are covered under the Kyoto Protocol?

The fact that no real progress has been made on this question raises the spectre of failure in Durban which then results in the real collapse of the process. But there may be signs that a different outcome could prevail. Without wanting to clutch at straws, there are three areas of interest in the Cancun texts:

1. Both the LCA and KP documents take note of the various Annex I Parties national reduction targets which arose from the post Copenhagen process and similarly the LCA text refers to the non-Annex I Parties NAMA pledges from the same process. Although indirectly, it does at least provide some additional linkage between these separate negotiations.
2. As noted above there is considerable effort outlined within the LCA text to establish a number of work streams aimed at identifying and defining new mechanisms, tools and practices. Paragraph 83 of that text links the development of any new market mechanisms with the existing mechanisms under the Kyoto Protocol.
3. The LCA text invites the World Bank to serve as interim trustee of the Green Climate Fund, but subject to longer term review.

This paints the prospect of a very different way forward, but one which could have longer staying power than the entirely top down Kyoto structure. In this approach, the UNFCCC becomes the effective guardian of all the tools and practices required to manage carbon emissions under a variety of different circumstances. This includes the CDM, a Technology Mechanism and an MRV framework to name a few. It devolves the setting of targets and creation of NAMAs back to national governments but in the context of a clear science based global emissions pathway. The need to define a global 2050 target and a peak emission year is agreed in the LCA text which effectively offers a route to define that pathway (and maybe even offers the possibility of a pathway agreement at Rio+20 in 2012). Finally, it leaves the financing requirements to support all of this to the World Bank where the expertise and experience currently lies.

This is a much more devolved, less centrally managed approach and could also require new thinking on governance, but it may be more sustainable in the long term. None of this will be easy and many hurdles remain, but there is at least more room for optimism post Cancun than we all felt after Copenhagen.