THE CARBON MARKET AND CARBON FINANCING

The Carbon Market and Carbon Financing

----Dr.Debesh Bhowmik

What is Emissions Trading?

‘Carbon trading’, or ‘emissions trading’, takes place when there is sale and purchase of:[i] ‘permits’ or ‘allowances’ to emit greenhouse gases; or[ii] ‘certificates’ that prove a certain reduction in emissions from a particular activity beyond what would otherwise have been the case (i.e. ‘business as usual’ emissions); or[iii] certificates that indicate a certain amount of actual emissions have been ‘offset’ somewhere else, through for example, carbon sequestration.

Usually, each permit, allowance or certificate is a document, often electronic, representing one tonne (1,000 kg) of carbon dioxide equivalent (‘CO2e’) that was emitted, or not emitted below business-as-usual projections for emissions. The term CO2e means that greenhouse gases other than carbon dioxide are converted to tones of CO2e, based on their relative contribution to global warming. This provides for a single, uniform means of measuring emissions reductionsfor multiple greenhouse gases.

What is the Carbon Market?

Transactions for the sale of emissions permits, reductions or offsets together comprise the ‘carbon market’, which has grown exponentially since the entry into force of the Kyoto Protocol in 2002. In fact the term ‘carbon market’ is not entirely accurate: because carbon dioxide is only one of several greenhouse gases that can be ‘traded’; and because there is not a single, unified international market for emissions reduction purchases. Rather, there are various markets in operation around the world, which can be classified as either regulated or unregulated markets and which interact with one another in different ways.

‘Regulated markets’ are emissions trading schemes set up under domestic or international law to provide a means for specified actors (often large industrial or power companies) to meet emissions reduction targets. Key examples include the European Union Emissions Trading Scheme and the New South Wales and Australian Capital Territory Greenhouse Gas Abatement Schemes. Such schemes usually provide that the actors can trade emissions reduction allowances among themselves (i.e. one company that has exceeded its emissions reduction target could buy surplus allowances from another company that has emitted less greenhouse gases than its specified target). Or it may provide for a company with an emissions reduction target to buy offsets or credits for emissions reductions achieved in some other activity, then apply these

toward meeting its own target.

‘Unregulated markets’ arise where there are private agreements to trade or offset emissions or emissions reductions among actors who may not be legally bound to meet an emissions reduction target, but who have decided to take action anyway. Sometimes these are one-off, single agreements and sometimes they are part of wider voluntary schemes, each with its own procedures. WWF recently published a guide that explains the voluntary carbon market and compares some of the big voluntary schemes in existence.

What is the Size of the Market?

In light of the fragmented nature of the market, it is difficult to describe precisely its current and

projected size. Research indicates that the entire global market was worth more than US$30 billion in 2006, three times its value in the previous year , to then over US$60 billion in 2007. The biggest part of the market is the European Union Emissions Trading Scheme. There are no clear figures on Indigenous involvement in the global market.

Generating Tradable Credits

Types of Activities that Generate Tradable Credits

Key greenhouse gas mitigation activities that can generate credits or offsets for sale include energy efficiency, renewable energy and land use and forestry activities. Other kinds of activities that may also generate credits but which are not addressed here include the management of methane released from landfill or waste sites or by livestock, and the substitution of oil, coal or diesel with gas, biofuels or other renewable energy for use in transportation or industrial processes. The first three are described in more detail below.

Energy Efficiency Projects

‘Energy efficiency’ involves reducing the amount of energy used to operate a product or to carry out a process, without reducing the quality or level of service. You might choose, for example,

a car that needs less fuel to travel the same distance at the same speed as another that uses more fuel. Related to that, energy conservation may involve reducing the demand or need for energy. Energy efficiency activities can be undertaken in industry, agriculture, electricity generation, transportation or households among others – really in any activity where an opportunity exists to use energy in a more efficient way. One example of an energy efficiency project that could attract carbon financing would be the replacement of old, inefficient light bulbs throughout a community with new light bulbs that use less electricity to give the same amount of light.

Renewable Energy Projects

‘Renewable’ energy can be used to provide electricity, heating or fuel for transportation similar

to the way we use fossil fuels for these purposes. Such sources are called ‘renewable’ because, unlike oil, gas and coal, there is not a finite amount of them in the earth. Key renewable sources include wood, waste decomposition, geothermal activity, wind and solar energy. The use of renewable sources for generating energy usually involves lower emissions of greenhouse gasesthan the use of fossil fuels does. An example of a renewable energy project would be to switch from using a diesel generator for providing electricity, to using solar panels to provide electricity.

Land Use and Forestry Projects

As plants and trees act as carbon sinks, various ‘land use and forestry’ activities can lead to a reduction in atmospheric greenhouse gas emissions. In particular, reducing the rate of, or avoiding entirely, land clearing or deforestation is one such way because these activities release carbon dioxide into the atmosphere. Another is by planting new trees to absorb more carbon dioxide. Other land management practices may also be undertaken - such as carrying out controlled burning in the early part of the dry season to prevent more frequent and intense bush fires later in the dry season. Controlled burning may not only help to reduce emissions, but may also help to control pests and weeds, maintain traditional Indigenous land management

practices and provide for employment and training opportunities.

What is Involved in Generating Tradable Credits?

Who may buy and sell credits or offsets, and the particular procedures involved in generating

credits for sale, vary considerably from one regulatory scheme to the next and from one transaction to the next within the unregulated market. Often times, the purchase of credits or offsets will take place by way of a legal agreement or contract between two or more ‘parties’. The terms of the agreement may be decided upon by the parties, however, a regulatory scheme under which a sale takes place may also require that certain terms be included in the agreement. Here are some requirements that are common in the purchase or financing of emissions reductions.

1) Additionality:

Generally speaking, tradable emissions reductions must occur in addition to any reductions that would have occurred in a business-as-usual situation - i.e. they must be emissions reductions that would not have occurred without the funded activity or project. This requirement is called ‘additionality’. For example, if a community has already replaced diesel generators with solar panels for providing hot water that uses less greenhouse gases, it may not be able to sell credits or offsets from the solar panels because any reduction in the amount of emissions was likely to occur anyway.

2) Measurable Emissions Reductions:

In light of the above, and in order to determine the precise nature and cost of a transaction, the emissions reductions or offsets must not only be additional, but they must be capable of being measured so that the exact amount can be ascertained.

3) Anthropogenic Emissions:

The emissions or emissions reductions must generally be related in some way to human activity (called ‘anthropogenic’), rather than simply being naturally occurring emissions or emissions reductions.

4) Age of the Forest or Plantation:

In the case of carbon sequestration activities (where greenhouse gas emissions are offset by an amount of carbon dioxide stored in a designated forest or plantation), the forest must usually have been planted after 1989 or some other year as designated in the agreement or rules of the trading scheme.

5) Expiration of Forest Credits:

There is sometimes a concern about the ‘nonpermanent’ nature of credits from forest-related activities - in particular, a concern that carbon dioxide offset or stored through forestry activities may not be permanent if the trees in the forest die, are burnt down or are cleared. Because of this concern, forestry-related credits may sometimes be time bound, which means that they exist for only five, 20 or 30 years, after which time they expire. In this case, the agreement may provide that the expired credits must be renewed or replaced at the end of the time period.

6) Sustainable Development:

The proposed activity should contribute to the ‘sustainable development’ of the community with in which it operates. This means that it should form a part of the wider economic, social and environmental development of the community and avoid other detrimental consequences.

Planning for a Project

Before signing an agreement, the project developer or seller of the credits will usually document a clear plan that sets out: what the project will involve; how the emissions reductions or offsets will be measured and certified; the relevant actors and stakeholders; how all stakeholders have been consulted; and what are likely to be the environmental and other impacts and risks of the project. Here are some issues to think about when developing a project plan.

1) Measuring Emissions Reductions:

For the purposes of measuring the precise amount of emissions reductions that result from any funded project (and so as to ensure that there is additionality), it is important to know the quantity of greenhouse gases already being emitted from a targeted activity, and to be able to continue measuring emissions from that activity after the project is implemented.

2) Methodology for Measuring Emissions Reductions:

There are a range of existing ‘methodologies’ for measuring the emissions that result from various daily and commercial activities. There are also organisations, government and scientific, that may be able to help communities to measure the emissions resulting from any single activity, so communities may not have to face this issue alone. Often, assistance from a partner organisation with measuring emissions will itself be a part of the funded emissions reducing project. So while this is a technical point, it does not have to be an insurmountable barrier to involvement in emissions reduction projects.

3) Wider Impact of Project:

In planning for an emissions reducing activity, it is important to consider what wider impacts the project may have on the community and its environment, both good and bad, and to try to ascertain if the project will help the sustainable development of the community.

4) Consultation:

It is important that all relevant stakeholders and community representatives are consulted during the planning of a project. Often times, the buyer and/or any third party financer of an emissions reducing project will seek an assurance that the local community has been consulted and is supportive of the project. Similarly, the local community and/or seller might wish to ensure that the potential buyer is acceptable to them.

5) Right to Emissions Reductions:

When a proposed activity, particularly forestry or land activities, are to take place on land that is not owned by the project developer, it may be necessary to clarify beforehand who would own the legal property rights to any emissions reduction credits or offsets generated. The same applies if the project developer owns the trees on the land, but not the land itself.

6) Verification/certification of Emissions Reductions:

An authorised third party may need to ‘verify’ and ‘certify’ the emissions reductions or offsets.Often times the scheme or agreement under which the activity is taking place will designate  who is entitled to carry out these procedures. In the case of transactions under regulatory schemes, these and many other issues will be decided upon by the rules of the scheme itself. For more information on the precise legal and regulatory issues associated with projects under the Kyoto Protocol’s Clean Development Mechanism.

Examples of Key Regulatory Markets

The Kyoto Protocol allows for several ‘market based mechanisms’ to assist developed countries

(Annex I parties) to meet their emissions reduction targets. ‘Joint Implementation’ allows a developed country to fund and/or run a project to reduce emissions in another developed country. The funding country can then apply the emissions reductions generated to help it to meet its own Kyoto target. Through the ‘Clean Development Mechanism’ (or ‘CDM’), developed countries may finance emissions reducing projects in developing countries that are party to the Kyoto Protocol then use the resulting ‘certified emissions reductions’ (‘CERs’) to offset their own emissions. This mechanism is design to support the sustainable development objectives of developing countries and to provide for the transfer of technology to, and capacity building in, developing countries. It is a very big part of the carbon market, being worth 12 billion Euros in 2007 - an increase in 200% from 2006 and comprising 29% (in financial terms) of the overall market. In reality, views are mixed about whether the CDM has really helped to further sustainable development and technology transfer in developing countries in a substantive way. Many Indigenous communities in particular are concerned about the potentially negative impacts of CDM related activities on their lands and livelihoods.This applies largely to Indigenous communities in developing countries not developed countries - as all CDM projects are hosted in developing countries. Types of CDM projects include: renewable energy, fuel switching (from oil, gas or diesel to gas or biofuels), projects to capture greenhouse gases released from landfill sites; energy efficiency projects; activities to reduce methane from agricultural processes and forestry-related projects, among others. The Kyoto Protocol is also flexible in that developed countries may decide how to reduce their emissions at a domestic level. In this context, a range of emissions trading schemes and other market-based mechanisms have emerged. Examples include the European Union Emissions Trading Scheme, the Swiss Emissions Trading Scheme, the New Zealand Emissions Trading Scheme and another scheme running in several North Eastern states of the United States. The US federal government, the state of California, Japan, Canada and Australia among others, are also now in the process of (separately) considering the establishment of such schemes.

The features of each of these schemes are different. In most (but not all) cases, the government places a ‘cap’ on the amount of greenhouse gases that certain factories or companies can emit over a period of several years. These companies are usually from sectors of the economy that emit a lot of greenhouse gases - like heavy industry and power generation. If a company is going to emit more emissions than its cap, it can buy extra credits from another company that has managed to beat its cap (by reducing its emissions below its cap). Another way that companies can comply is to pay to offset their excess emissions through emissions reductions activities undertaken by others. This is where Indigenous communities may most likely play

a role - through providing offsets, particularly through land management or forestry-related activities. The government entity administering the scheme will decide which activities can qualify as potential offsetting activities. Indigenous communities may often also be able to undertake similar activities through the voluntary market.

Carbon Financing Opportunities

Another key aspect of the overall development of efforts to reduce greenhouse gas emissions has been the emergence of a range of opportunities for indirect or third-party financing of emissions reduction activities. This is sometimes referred to as ‘carbon financing’. In fact, it may also include other fiscal incentives, such as tax rebates or exemptions for the installation of emissions reducing equipment, such as solar water panels. International organisations like the World Bank, the Asian Development Bank and the United Nations Development Programme, among others have established a range of funds and programmes to facilitate the creation of emissions reducing activities. These programmes generally focus on emissions reducing activities in developing countries, such that little of this international finance is currently available to Indigenous peoples in developed countries. However, financing opportunities may well exist for Indigenous communities in developed countries, through domestic grant programmes. The reduction of emissions might be just one aspect of a project designed to ensure sustainable land management, ecosystem protection, improved community health, the creation of employment or training opportunities, sustainable livestock management, or the development of a more stable community power supply, for example. When carrying out wider projects like these, it might often be worth considering whether they might have an emissions reducing component and whether that might assist with the attraction of finance.

 Impacts of Carbon Mitigation Activities on Indigenous People

Reports are mixed as to whether climate change mitigation activities are having a positive impact

on the lives and lands of Indigenous peoples. Research suggests that problems can arise when

Indigenous people are not properly consulted, nor their interests taken into account, in the development of carbon mitigation activities. There have been claims of some Indigenous people being evicted from lands to allow for the planting of trees or biofuel crops, or for the development of hydropower schemes, for example. Other commentators note that the growing demand for biofuel crops (for transporation fuel) may reduce the production of food crops and raise food prices. If instituted appropriately, climate change mitigation activities can facilitate the availability and reliability of energy, sound water resource management, a reduction in air pollution and the conservation of ecosystems, plants, animals and land of importance to Indigenous people.

Climate change mitigation activities may encourage a return to country, provide local employment or even encourage the maintenance of traditional practices, such as customary land management activities. Additionally, it is important to bear in mind that Indigenous people themselves can contribute a great deal to mitigating and adapting to climate change, given their experiences of responding to natural climatic change over millennia and given their ownership of considerable tracts of forested and wild land.