Climate Change Negotiations – UNFCCC, COP, Other Conventions and Protocols

Carbon Credits and their trade

Note4Students

From UPSC perspective, the following things are important :

Prelims level : CDM, Carbon Markets

Mains level : Developed countries and thier negligence for Climate action


Carbon markets are the controversial concept dominating at COP25, the climate change conference currently happening in Madrid.

What are carbon markets?

  • Carbon markets are regulatory structures that allow, in particular, oil and gas-intensive companies or heavy industry (or, in the case of COP25, countries) to reduce their economic footprint through a series of incentives.
  • The idea behind this system is that the most polluting countries can purchase the right to pollute more from countries that have not reached their emissions limits.
  • The 1997 Kyoto Protocol turned polluting emissions into a commodity.
  • For example, the European Union Emissions Trading System (EU ETS) is the largest in the world and has been in operation since 2015.

How is the concept evolved?

  • When the world evolved the ‘clean development mechanism’ (CDM) after the Kyoto Protocol agreement of 1997 as companies in the developing world could put up projects.
  • These include renewable energy or afforestation — that helped reduce carbon dioxide emissions, and earn ‘credits’ that could be sold in the market.
  • It was expected that these credits would be bought by the developed countries that had committed to emissions cuts under the Protocol.
  • Thus emerged the CDM market, aka ‘compliance market’. Alongside, environmentally conscious entities also started buying these carbon credits (or offsets) — the ‘voluntary market’.

How do they work?

  • Some of these markets are designed for trading in carbon credits.
  • A company or country that exceeds certain carbon reduction targets can buy credits from another that does not exceed them.
  • Or, companies can ‘offset’ carbon emissions through pre-determined contributions to low-carbon projects or the purchase of green bonds.

Why are they controversial?

  • What is being negotiated in Madrid, with the implementation of Article 6 of the Paris Agreement, is how to regulate existing markets.

India’s concerns

  • Indian companies have registered 1,669 projects under CDM and earned 246.6 million credits; another 526 projects were registered under the ‘voluntary’ market and these have earned 89 million credits.
  • Thus, in all, Indian companies got roughly 350 million credits.
  • These credits go by different names under different dispensations. Under CDM, they are called ‘certified emission reductions’, or CERs.

What are they worth?

  • Like shares, it depends on the market price. At the best of times, they were selling for $25 a CER. Indo Wind, a Chennai-based wind energy company, sold some for $15 apiece.
  • Those were the days when experts estimated that India could gain even as much as ₹45,000 crore by selling the credits.
  • Today, a CER sells for 25 cents in the CDM market and a dollar in the voluntary market. An estimated 85 per cent of India’s CDM credits and about 30 per cent of voluntary credits remain unsold.
  • Ironically, the market crash comes at a time when carbon ought to be priced far higher than its historical peak. The IMF, for instance, has said that a price of $75 would be consistent with climate action ambitions.

Which countries are interested in them and why?

  • Carbon markets are very attractive for countries that have difficulty achieving the deep decarbonisation provided for in the Paris Agreement, which commits to keeping the global average temperature increase below 1.5ºC.
  • These countries are primarily Brazil, India and China.
  • Interestingly, while the US is in the process of withdrawing from the Paris accords, it also has a significant interest in an international carbon market.

Why are carbon markets key to the COP25 negotiations?

  • COP25 is trying to find a way to link the various existing carbon markets by establishing a set of rules to achieve this.
  • However, there are a number of policy challenges that make consensus difficult.
  • One of them — and one that Brazil is particularly pressing for — is whether old credits can be counted towards the current Paris goals.
  • However, there are also thornier questions, such as which projects can be offset or credited, and the need to balance the support of richer countries to help finance low-carbon transitions in the developing world without creating a mechanism.

Can this trade be seen as a new kind of ‘neocolonialism’ in which the poorest will maintain the pollution of the richest?

  • It is true that a poorly designed carbon market can be enormously inefficient, and it is a particularly difficult task for COP25.
  • There are enough examples of successful carbon markets around the world to suggest that this is not inevitable.
  • The potential for a carbon market is not only to facilitate energy transitions and decarbonisation around the world but to be a mechanism for the Paris Agreement to set more aggressive decarbonisation targets.
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