The Challenge of Low-Carbon Development - World Bank Internet ...

of the Kyoto Protocol, is supposed to reduce the cost ofachieving that goal, making it easier for countries to agreeon what to do and how to pay for it. It does this by requiringdeveloped countries to limit their emissions, but allowingthem to meet that limit by paying to reduce emissions (buyingcarbon credits) abroad rather than at home. Developingcountries face no caps but can sell carbon offsets—reductionsof emissions compared with emission levels from doingbusiness as usual.There are cheaper opportunities to reduceemissions in transition and developingcountries than in developed ones.The carbon market, inspired by successful market-basedschemes to reduce acid rain, was attractive for several reasons.The atmosphere does not care where the CO 2comesfrom—the impact on climate change is the same. Comparedwith developed countries, transition and developing countrieshave cheaper opportunities to reduce emissions, theformer through replacing a legacy of energy-wasting infrastructureand industry and the latter by installing efficientnew equipment to meet rapidly growing energy demands.The carbon market can provide money and technology fordeveloping country infrastructure. Because carbon creditsare a priced commodity, developing countries can realizeprofits if they can produce them cheaply. Having a price oncarbon emissions may motivate research and developmentfor low-carbon technologies. Finally, some view the carbonmarket as a more reliable means of raising funds from developedcountries (which are historically responsible forcurrent levels of GHGs) than the competing alternative: directannual appropriations from those countries’ individualnational budgets.In contrast, the carbon market faces significant practicalobstacles. The logic of the system requires that emissionsreductions must represent a new, additional effort so thatthe developed country’s extra emissions are exactly offsetby reductions elsewhere. Otherwise, buyers and sellersmight collude and claim bogus carbon credits, and totalemissions would increase. To prevent this, an elaborateproject-by-project validation system has been set up underthe auspices of the CDM to certify the additionality of carboncredits (box 5.2).Box 5.2Carbon Offsets—A Peculiar CommodityCarbon offsets are a peculiar commodity. They are defined as the difference between the number of tons of GHGyou emit and the number of tons you would have emitted had you not been paid not to emit them. In an idealizedexample, the offer of carbon payments might induce a utility to build a geothermal power plant (with no emissions)rather than a cheaper diesel plant (which would have emitted 100,000 tons per year). The offset would thenbe 100,000 tons per year.Actual emissions can be measured with instruments, but quantifying counterfactual, business-as-usual emissionsis difficult. Both sellers and buyers have an incentive to claim offsets for a project that they were going to doanyway—projects that are not “additional.” But if many people did this, then these bogus offsets would be used bypurchasers to increase their emissions above agreed limits, frustrating the goal of the Kyoto Protocol.This is the heart of the additionality dilemma. The CDM has set up an elaborate system for determining additionalityfor each proposed project. The project proponent must argue that carbon funding is critical to project bankabilityor helps to overcome other kinds of barriers. Methodologies for demonstrating additionality are developedat some cost by the first people to undertake a specific kind of project. Then, if approved by the CDM, that methodologyis available to others, accelerating project approval. The CDM uses private third-party verifiers to validateadditionality claims and to verify annual reports of emissions reductions.In sum, the carbon offset commodity is in effect an impact evaluation, and an elaborate institutional mechanismhas been set up to conduct that evaluation. Few other development projects attract the same degree of scrutinyon impacts.However, the additionality screening process has been widely criticized as ponderous, costly, and ineffective.Environmentalists press for stricter screening, investors for more streamlined procedures. The current system maycombine the worst of both worlds: high transaction cost with substantial nonadditionality. A growing consensusviews determination of additionality as quixotic at the project level. An alternative would be to set up technologyspecificcrediting rules, creating a system akin to a feed-in tariff premium for renewable energy or energy efficiency,with higher credits for less-competitive technologies.Source: IEG.72 | Climate Change and the World Bank Group