Article 6: The importance of the corresponding adjustment

With COP26 behind us and the Article 6 rule book complete, attention should turn to operationalising Article 6 and particularly the transfer process that is detailed in 6.2 but applies to 6.4 units when they are created. There is real enthusiasm for getting 6.4 up and running, but there is also concern about the environmental integrity and inherent ambition associated with the units created. The ambition discussion emerged at the time of the Paris Agreement and is embodied in 6.4(d) which requires delivery of an overall mitigation in global emissions. That in turn has resulted in an automatic 2% retirement of  all 6.4 units that are created.

With a focus on ambition, we therefore might expect greater scrutiny over the selection of projects, the baselines chosen and the verification process. Certainly these were important aspects of the process surrounding the Clean Development Mechanism of the Kyoto Protocol (CDM). But Article 6 functions differently to the CDM, with one critical extra requirement – the corresponding adjustment. I have described this in several earlier blogs, but in short it functions as shown in the chart below;

In the example country A attracts inward investment for an avoided emissions wind project and exports 100 units to country B, which needs to reach net-zero emissions but has no further local abatement opportunities to call on. Under the transfer provisions of 6.2 country A adjusts its nationally determined contribution (NDC) accounts by 100 units as a corresponding adjustment for the sale, but then must take enhanced domestic action to maintain its net zero emissions NDC goal. In the example this comes in the form of additional natural sinks for which it has abundant potential. The difference with the CDM is that the last step would not have taken place.

The important action here, other than the investment that delivers energy infrastructure to country A, is the corresponding adjustment and the subsequent domestic actions it triggers. It is perhaps more important than a focus on the project itself.

Project verification leading to the issuance of emission reduction units (ERU) focuses on numerous factors, but the stringency of the chosen baseline was always important in the CDM. A generous baseline, for example arguing that the national alternative to wind was coal when in fact natural gas was the more likely outcome, would mean more reduction units being issued and a potentially larger carbon trading income for the project. But it also meant more units being sold into the international market, possibly undermining global ambition.

In the Article 6 process, a generous project baseline may result in an ‘own goal’ of sorts. When a project is set up under Article 6.4 it creates an economic incentive for the project in the form of carbon unit income, but at the same time it creates an economic liability for the host country due to the additional domestic actions that must be taken to balance the NDC. How governments ultimately deal with this liability remains to be seen, but allowing excessive credit issuance will likely be a non-starter as this will simply deepen the national liability to balance the sale made.

For quantified NDCs the corresponding adjustment rule is as follows;

Each participating Party with an NDC measured in t CO₂ eq shall apply corresponding adjustments pursuant to paragraph 7 above, resulting in an emissions balance as referred to in decision 18/CMA.1, annex, paragraph 77(d)(ii) of the annex to decision 18/CMA.1, reported pursuant to paragraph 23 of this guidance, for each year, by applying corresponding adjustments in the following manner to the anthropogenic emissions by sources and removals by sinks from the sectors and GHGs covered by its NDC consistently with this chapter and relevant future decisions of the CMA:

1. Adding the quantity of ITMOs authorized and first transferred, for the calendar year in which the mitigation outcomes occurred pursuant to paragraph 7 above;
2. Subtracting the quantity of ITMOs used pursuant to paragraph 7 above for the calendar year in which the mitigation outcomes are used towards the implementation and achievement of the NDC, ensuring that the mitigation outcomes are used within the same NDC implementation period as when they occurred.

The above offers a very transparent approach to the adjustment, but of course not every country will have a quantified NDC. Where the basis of an NDC is policies and measures, then the rule shifts;

. . . to the anthropogenic emissions by sources and removals by sinks for those emission or sink categories affected by the implementation of the cooperative approach and its mitigation activities and by those policies and measures that include the implementation of the cooperative approach and its mitigation activities . . . .

1. Adding the quantity of ITMOs authorized and first transferred, for the calendar year in which the mitigation outcomes occurred, pursuant to paragraph 7 above;
2. Subtracting the quantity of ITMOs used pursuant to paragraph 7 above for the calendar year in which the mitigation outcomes are used towards the implementation and achievement of the NDC, ensuring that the mitigation outcomes are used within the same NDC implementation period as when they occurred.

Emissions accounting and corresponding adjustments on the above basis is more challenging than via explicit carbon budgets and may not be purely quantitative in nature in that a qualitive decision will need to be made in defining the scope of the categories and activities affected. Over time we may see Article 6 being a catalyst for change in NDC structure, with countries that wish to attract project investment and engage in ERU export shifting to quantified NDC and the transparency that they bring. This gives greater certainty to receiving countries that the transaction has not somehow increased global emissions. Ultimately that puts the world on course for more rigorous carbon budget management, which is where we need to be to meet the goals of the Paris Agreement.

Arguably the environmental integrity of Article 6 sits more with the corresponding adjustment than with the project itself and its verification. Provided the adjustment is transparent and the change is balanced by other actions by the host country, then the integrity of the project is less important than would otherwise be the case. It may transpire that receiving countries accept units more on the basis of how the corresponding adjustment is executed than on the precise baseline and emission reductions achieved by the project. It also means that verifiers may need to shift their approach from local analysis of a project to a broader look at the NDC, its reporting and the way in which the host country counts emissions.