A new round of international talks is getting under way on what policy
should follow the Kyoto
Protocol, a treaty set to expire in 2012 that established binding
greenhouse-gas emissions reductions for thirty-six countries. U.S.
lawmakers—who had in the past supported Bush administration refusals to ratify
the treaty over economic concerns—also will begin work on legislation that
would establish binding emissions targets for U.S. industries. A central
feature of Kyoto and any new global policy is expected to be a greenhouse gas
cap-and-trade program. Problems with some current trading markets offer
lessons for crafting new cap-and-trade policies.
The Kyoto Protocol established a market-based mechanism to allow developed
countries with binding emissions targets to reduce greenhouse gases such as
carbon dioxide, methane, carbon tetrafluoride, trifluoromethane, and nitrous
oxide. Under the cap-and-trade system, industries would be allocated
allowances limiting them to a certain amount of greenhouse gas emissions each
year. Most trading schemes use one ton carbon-dioxide units for sale or
convert non-CO2 gases into CO2-equivalent units for the
purposes of trading. Industries are also allowed to purchase credits that
offset their carbon output above those caps. The goal of the cap is to prevent increases in net emissions. Some facilities may find
it more economical to reduce their emissions and then sell their surplus
emission allowances as credits, while others may find it cheaper to buy
credits to offset their emissions rather than make direct reductions.
Greenhouse-gas emission credits can be purchased or sold from either a carbon
market or a project certified by the United Nations. In August 2007, Kyoto
participants with binding targets submitted reports showing whether they were able to track
emissions and results of trading before Kyoto’s enforcement period begins in
2008.
Cap-and-trade systems have been utilized in the past to successfully reduce
other types of emissions. The cap-and-trade system instituted under the 1990
Clean Air Act amendments in the United States is credited with achieving
significant reductions in
acid-rain-causing sulfur-dioxide emissions by power plants.
According to the World Bank’s 2007 report (PDF) on trading systems, a total of $30 billion in
allowances was traded in 2006. Of that total, nearly $25 billion was traded on
the EU market, about $5 billion was for UN projects, $225 million was on the
New South Wales exchange, and $38 million was on the Chicago Climate Exchange.
CDM “hasn’t been as effective or cost effective as many people had hoped,”
says Chandler.
The report shows the EU system traded more than 1.1 billion metric tons of
carbon allowances in 2006 while UN projects accounted for about 500 million
metric tons. New South Wales traded about 20 million tons and the Chicago
Climate Exchange about 10 million tons. A UNFCCC background paper (PDF) on financial flows for climate change
predicts the global demand for carbon offsets for countries obligated under
the Kyoto enforcement period of 2008 through 2012 to be somewhere between 500
tons and 850 million tons per year.
Experts say the CDM has achieved mixed results. William Chandler, senior
policy analyst for energy and climate at the Carnegie Endowment for
International Peace, says in an interview; “In some cases
they are resulting in real investment being made, particularly [in reducing]
carbon dioxide from energy use. On the other hand it hasn’t been as effective
or cost effective as many people had hoped.” According to UNFCCC, the majority
of projects in the Clean Development Mechanism pipeline focus on sustainable
energy production, including biomass, wind power, and hydropower. The bulk of
the projects are located in relatively wealthy developing nations such as
China and India. China alone accounts for more than half of the certified
emissions reductions being generated by the CDM. Raymond J. Kopp, director
of the climate and technology program at the environmental think tank
Resources for the Future, asserts that smaller countries will only start to
benefit from the CDM if the program is widened to include deforestation, not
just reforestation as it does now. Carbon that escapes during deforestation
accounts for 20 percent (FT) of the world’s carbon dioxide
emissions.
“Without the proper caps we simply don’t have an increase in carbon prices
to bring an incentive to boost investment,” says Davies.
CFR Senior Fellow Sebastian Mallaby says that the intention to turn
emissions trading into a development mechanism (PDF) has failed, noting that almost
no money goes to the least developed countries. “The reasons are partly
understandable,” Mallaby argues. “It’s easier to trade bulky industrial
offsets than to collect small tokens of progress from dozens of remote
villages. But even with that caveat, the Kyoto mechanism works badly.” Michael
Wara, research fellow at Stanford University’s Program on Energy and
Sustainable Development, says that even though developing nations, such as
China and India, are benefiting from the CDM, the mechanism has not achieved
its intended goals. He points to the billions spent to abate chemicals such as
nitrous oxide and trifluoromethane, also known as HFC-23, instead of to construct large-scale power projects (PDF), which he argues
would be a better development outcome and abate greenhouse gases over the long
term.
The first round of trading was intended (PDF) to work out kinks in the system and did
not have goals for meeting Kyoto targets. Prices for credits started fairly
high, but quickly devalued when it was learned that the European Union handed
out too many emissions allowances. The surplus meant industries had little
need to make emissions reductions or buy credits to meet their targets.
Instead, emissions from large European polluters rose slightly from 2005 to
2006. Chris Davies, environment spokesman for the EU Parliament’s Liberal
Democrats, told Britain’s Independent: “Getting the emissions trading
system up and running has been a major achievement but without the proper caps we simply don’t have an increase in carbon
prices to bring an incentive to boost investment.”
China alone accounts for more than half of the certified emissions
reductions generated by the CDM.
Some experts say despite flaws in the initial rollout, the EU trading
system has broken new ground by creating an emissions-trading regime across
multiple jurisdictions and has “provided new evidence on how different
approaches to enforcement and monitoring, allocation, and even effort and
stringency can be encompassed in a single trading program,” said a February
2007 Resources for the Future discussion
paper (PDF) on the EU trading scheme. Kopp notes that EU emissions futures
trading—where people buy credit contracts set at a certain price for the
future—is strong, which he says implies investor confidence in the stability
of the market.
The European Union is working on emissions allocations for the upcoming 2008 to
2012 enforcement period. Phase two is set to begin at the onset of the Kyoto
enforcement period for binding targets in 2008. The World Bank says the
inability to carry over surplus allowances into the next phase was a “design
flaw.” Linking the allowances from the two phases might have prevented the
collapse of the market, the bank says. The Economist argues some
companies see EU market participation as a regulatory hassle, failing to
realize the money to be made from the market. It suggests firms pay more attention to emissions trading.
Lawmakers in the United States, still debating federal global-warming
regulations, are proposing auctioning initial allowances rather than giving
them away as Europe has done.
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