In the last three years, negotiations over a successor agreement to the Kyoto Protocol have focused on increasing the number of projects in countries that have received limited flows of carbon finance from the CDM. At the 16th Conference of Parties (COP 16) to the United Nations Framework Convention on Climate Change (UNFCCC), parties agreed to establish a loan scheme to support the CDM in host countries with fewer than 10 registered projects (UNFCCC, 2010) and now, it is in operational phase. More recently, the EUETS, the world’s biggest buyer of certified emission reductions (CERs) of CDM, has announced that after 2013 the only credits eligible for compliance for Phase III of its emission trading scheme (EU-ETS) from 2013 up to 2020 will be sourced from least developed countries (LDCs) as well as from third countries with concluded agreements. In a similarly motivated development, the World Bank has also announced in COP17, its plan to launch a new fund called the Carbon Initiative for Development (Ci-Dev) that aims to provide LDCs with financial and capacity-building opportunities for better access to CDM projects.
For LDCs, these are extremely promising development, however, it is equally surprising to note that CDM has not succeeded in the environment of most low income countries. What could be the best plausible explanation for this poor performance of LDC in carbon finance?
Based on the experiences of SNV in LDCs, We believe that the current emission reductions programmes of LDCs have several significant barriers which could be considered as plausible explanations for the poor performance of LDCs in carbon finance. These barriers mainly include institutional capacities & its rules, investment conditions, quality & quantity of emission database or monitoring of emission reduction projects, pro-poor (micro-scale) natures of mitigation opportunities, which are largely scattered in project (e.g., domestic biogas, improved water mill, improved cookstoves) and multi-stakeholder involvement in carbon finance projects.
The LDCs generally have limited administrative capacity on climate finance project management. Because of this, moving from a conceptualization stage to the credit generation is a more time taking process. To reduce this opportunity cost, there is an urgent need for human capital and training; but both tend to be in short supply in LDCs. In country like Nepal, thanks to the technical team of the World Bank and SNV Netherlands Development organization, who have been supporting the relevant agencies (mainly Alternative Energy promotion Centre) in carbon finance activities and there is remarkable results in domestic biogas sector in the last two years.
Project risk for investors is an important barrier in LDCs. Political and economic risks can act as a disincentive for project developers. Civil unrest and violations of contract are among the factors cited as contributing to the increase uncertainty about CDM projects in LDCs. These risks become all the more significant because financial rewards are spread out over long crediting periods. The longer time means there is a greater chance that political, economic or social turbulence will cut off resource flows. Besides, for investors, size of a project and volume of carbon credits is very important. The average number of issued CERs from LDC projects is only 0.02% in total (162,141: 4 LDCs in Asia-Bhutan, Cambodia, Lao PDR and Nepal; 105,678 and only one LDC in Africa –United Republic of Tanzania; 56,463) and the average number of credits from non-LDCs dominates 99.98%. Therefore, interests of private investors in LDCs are relatively poor.
There are limited funds available for LDCs to bear the initial finance and maintenance costs of carbon project. CDM projects require significant upfront investments on alternative technologies that can be recouped from the purchase and issuance of CERs. However, for poor communities the initial outlay of financing can frequently be beyond their means. The lack of financial institutions and limited collateral to get a loan is a related hurdle. The need for training to operate and maintain alternative technologies can also place an additional burden on LDCs.
I would like to pose here with two arguable questions, why has CF in domestic biogas projects enjoyed relatively more success in LDCs and secondly, what opportunities are there to further propagate?
We understand the key success factors for CF in domestic biogas is that the benefits of biogas go beyond the GHG reductions. Though tangible benefits of CDM projects came to biogas projects in Nepal or Cambodia, it was also evident that project promoters are having clear picture of various benefits, for instance, prior to the biogas CDM project in Nepal, a cost-benefit analysis was conducted to assess the benefits of replacing conventional cooking and heating system such as fuel wood and kerosene. The analysis found that some of the largest benefits of the projects are its social co-benefits. These included that the project would free up money otherwise spent on fuel wood for cooking and heating, and convert waste of the biogas plant bio-fertilizers. Hence, CDM is expected to improve livelihoods first and mitigate carbon second. Besides, for the poor household, biogas digester (facility) is an inevitable asset to live a dignified life –free from indoor air pollution and using fuel wood collection time for economic activities.
SNV believes a similar approach can be possible for (real) improve clean cookstoves and improved water mills. These two mitigation technologies have significantly high development and equity aspects, which are necessary for poor LDCs. We can be hopeful that the modest increase in the number of project experiences in LDCs and recent success cases like in Nepal will be useful for these new mitigation opportunities.
Nevertheless, LDCs should also consider coming up with effective market mechanism, which will be appropriate for LDCs. A serious attempt is necessary; to innovate business models for carbon crediting in low income countries based on the existing experiences with the CDM and development assistance activities. On this front, the Carbon Initiative for Development (Ci-Dev) is an important innovation to help the poorest countries, benefits from carbon market instruments to support their development goals, including improving energy access. Particularly, the mutually supportive components of Ci-Dev viz., the readiness fund to develop capacity and knowledge to pilot new market mechanism; financing fund to support early stage project financing by providing advance payment for future carbon revenue and lastly, the carbon fund to purchase credits.
However, the Ci-Dev needs to be linked with a future NAMA approach for LDCs. The current programmatic approach of compliance market shall be calibrated to fit with the NAMA mechanism, perhaps, which should also include multi-country/regional programme development approach. SNV has been critically exploring the multi-country programme approach, which will not only reduce the transaction cost but also helpful to minimize the project registration/issuance time frame for participating countries from LDCs categories. The development of multi-country programme shall be technology specific and/or based on the commonalities of interest of LDCs to enhance access to energy. This will also create an enabling environment for possible technology transfer and regional expertise to participating countries, which can also create a platform for technical discussion, sharing lessons learned and best practices, and grant funding for technical assistance to support the programme in totality (this will also reduce bureaucratic procedures of ODA).
Indeed, introducing a new market mechanism with NAMA and multi-country programme approach will be difficult and there could be many challenges like coordinating and managing entities, DNA’s agreement and disagreement. But, it does not matter how slowly we go with this new market approach while resolving those challenges, so long as we do not stop.
One best precautionary measure for adopting a new carbon market approach could be the introduction of impact and performance based payment scheme and carbon crediting. Impact based scheme consists of direct payments for the measured and verified impacts of a programme. Impact based payment will be more efficient in letting market forces and private sectors to identify the least cost options. And, hence the MRV system will play a bigger role in this market domain.
It is anticipated that crediting of activities under the new mechanism will be similar to the standardized baseline approach for crediting baselines. However the baseline would be set below the predicted business-as-usual level, in effect establishing a sort of intermediate target. Different sectors and different types of activities can be expected to apply different methodological approaches. Unlike the current CDM, countries might only be eligible for this mechanism if they pledge a sort of a no-lose target. This target, however, would certainly not translate these pledges one-to-one in the crediting baselines but be considered when defining them. The advantage of this approach is that it is relatively flexible in enabling private sector involvement since it allows for different crediting models (sub-sector, per technology etc.).
Of course, to successfully emulate this new market mechanism in LDCs, I believe that there is an urgent need to make an assessment of capacity building to manage the new processes proposed NAMAs/market mechanism. This assessment should outline where human resources could support the public sector, particularly the DNA. In addition, I find it increasingly important to build synergies with countries with similar carbon finance development experiences so that there could be knowledge exchanges and know-how between countries with similar needs in similar circumstances. In this regard, Nepal and Cambodia might serve as an important intermediary for other LDCs in Asia. Much of this knowledge transfer can be focused on recent CDM reforms, which could potentially help LDCs such as PoAs, standardized baseline, fast track registration additionality, scoping study for regional NAMAs or multi country PoAs.
To sum up, as stated in the recent Carbon Trading magazine, the carbon market (especially the EUETS) faces three problems. First, due to the economic crisis, the market will likely to be long until at least the end of the Phase –III (2013-2020). Second, there is no shared long-term carbon vision for most of LDCs as well as to the other market players (EUETS needs to make a long term carbon vision). A third issue is the overall trust placed by participants in the market: over recent weeks, market players have been increasingly calling for action from European Authorities.
I believe, in finding a path forward, one point is clear; since the EUETS and UNFCCC does not face a short term problem, but rather long –term concerns, the solution should be focused on the long term, and not a QUICK FIX. And, I am sure, this pragmatic approach will able to generate real expectations for carbon market!