Carbon Trading Schemes Depend on the Force of Law

There are several hurdles that must be overcome before a worldwide carbon emission trading system can become viable, according to experts who spoke last week at the World Resources Institutes Sustainable Enterprise Summit in Washington, D.C.

Ongoing attempts to create voluntary greenhouse gas emission trading markets are being undermined by a lack of consistency that would come from well-developed rules. There are two primary types of emissions trade occurring so far: awarding of credits for baseline reduction projects and trading under a cap-and-trade scheme.

The baseline-and-credit system awards credits to companies that reduce emissions through the Kyoto Protocols Clean Development Mechanism and Joint Implementation provisions. These allow companies to offset emissions through investment in non-emitting technologies. Companies are awarded credits based on the amount of emissions reduced below business-as-usual levels.

The cap-and-trade system, on the other hand, allows companies to trade emissions credits that are allotted based on a predetermined emission cap. Companies that exceed their targets can sell credits to companies that may not be able to meet theirs.

Although there has been some increase in trading, the market will not be truly viable without market-wide trading rules, consistent pricing, and standardized verification methods, according to the summit participants. “The success of the market really hinges on the ability to develop rules of the game,” said Janet Ranganathan, a senior associate with WRIs Sustainable Enterprise Program. Veronique Bishop, principal finance specialist with the World Banks Carbon Fund, agrees on the need for consistent pricing, but believes that, “We are light years away from that.”

What these experts are calling for is a worldwide regulatory regime to bring about the viability of emissions trading. In the absence of a real asset, there can be no “voluntary” markets with both buyers as well as sellers. Emissions trading markets only work when artificial scarcity is created through regulatory fiat and all emitters are required to participate. Otherwise you have a lot of sellers, but few if any buyers.

Indeed, Ranganathan fingers the U.S.s rejection of the Kyoto Protocol for the weak trading market. “The U.S. would have been the major buyer in the Kyoto Protocol had it ratified [the treaty],” she said. “The fact that it has withdrawn now casts doubt over carbon prices, and low carbon prices can create dysfunctions in the market, ultimately undermining the potential environmental gains.”

Robert Routliffe, manager of greenhouse gas emissions trading at DuPont, said that low participation is a “characteristic of any voluntary market. Its hard to get folks to spend money.” Developing carbon trading schemes is a “big, capital-intensive” process, which presents a major obstacle for most companies. Nor would the cost be lessened by mandatory controls (Greenwire, March 17, 2003).