Under the Kyoto Protocol, developed countries committed to certain quantitative emission reduction targets may fulfill their commitments by purchasing offset credits, known as carbon credits.  There are three mechanisms in which credits are developed and traded.  Article 17 of the Kyoto Protocol stipulates that a portion of these quantitative targets, called assigned amount units (AAUs) may be tradable among the developed countries through emissions trading (ET).  Article 6 stipulates that project that reduces greenhouse gas emissions in developed countries can generate offset credits called emission reduction units (ERUs) that are tradable among developed countries.  Article 12 stipulates that emission reductions in similar projects in developing countries can also generate offset credits when the reductions are certified through the clean development mechanism (CDM), thus generating certified emission reductions (CERs).

These mechanisms have established the so-called carbon markets.  Albeit volatile, it is at present a thriving set of markets of more than $100 billion per year.  But many players, private and governments alike, have expressed their concerns that the current system — especially that of the CDM — is less than effective or efficient.  Their concerns range from governance issue (e.g. the EB appear to have made arbitrary decisions unaccountably), bureaucracy and efficiency (project approvals take a long time to finish), capacity (members of the EB are on a marginally part-time basis, and some of them are elected based on political reasons rather than technical capability), and more.

Similarly, CDM as we know it is a project based mechanism that needs to be adjusted if and when it is to survive the fundamental changes that will happen to the entire international agreement post 2012, including to expand the market by including new sectors and technologies, new modalities, and simplification of the mechanism.  The following are the issues on the table.  Guys, sharpen your pencils for Barcelona, please.

LULUCF in the CDM.  The inclusion of Land Use, Land-Use Change, and Forestry (LULUCF), as the issue is known by its awkward abbreviation, in the Kyoto Protocol and especially under its clean development mechanism (CDM) was admittedly half-hearted.  The Europeans were among the staunch opponent of anything forest to be included in the Protocol, largely due to strong pressure from their NGO constituencies.  As a result, the definition, eligibility, and the conditions in which it can be implemented under the CDM and eventually marketed are almost unworkable.  Worldwide, only a tiny number of LULUCF-CDM projects registered by the CDM Executive Board.  None of which, for example, are in Indonesia.

Current LULUCF CDM only allows afforestation, reforestation, and a concoction of revegetation, forest management, cropland management, and grazing land management as defined in decision 16/CMP.1.  In the next (and possibly subsequent) commitment periods, new modalities are suggested to be included, namely reducing emissions from deforestation and degradation of forests (REDD), restoration of wetlands, sustainable forest management and other sustainable land-management activities, and soil carbon management in agriculture.  Accounting of emissions from harvesting of forests where and when they occur has also been addressed as improvement appears to be needed.

Due to the  issue of non-permanence (i.e. carbon sequestration projects will only temporarily store carbon in forests as carbon reservoirs), the units used for LULUCF forestry are also usable temporarily, either for a short period (tCER, for “temporary” CER) or a longer period of 25 years (lCER, for “long-term” CER).  There are three options currently on the table.  The first one is to have it to remain as it is (i.e., temporary).  The second option is to have permanent unit akin to other CERs, with host countries responsible in the event of reversals.  The third one is also to have permanent unit but through insurance, cancellation of units from buffers, cancellation from reserves, and excemption of non-permanence in case of low-risk project activities.

Under the CDM, the use of offset credits from forestry projects is also currently restricted to 1 percent of the developed countries’ emissions.  It has been requested that this restriction is to be lifted.

Carbon Capture and Storage.  The use of coal and other fossil fuels as sources of energy are the biggest culprit of climate change.  But their utilization may remain unavoidable.  In addition to keeping it not eligible (as preferred by Brazil), an option on the table are either to straight-forwardly make it eligible (possibly with limitations of use such as only two projects per region), or make it eligible conditional to the following issues having been addressed: non-pemanence, including long-term permanence; measuring, reporting, and verification (MRV); environmental impacts; definition of project boundaries; issues of international law; issues of liability; the potential for perverse outcomes (e.g., it actually encourages the expansion of the utilization of fossil fuels); and safety.

Nuclear.  At present, countries are encouraged to refrain the use of nuclear technology under the CDM.  While this is not a straightforward clause to exclude the technology, it is not seen as one that allows it either.  This issue is being reopened, understandably with strong and tedious conflict.  Japan, for example, supports the option to allow it where most European countries are against it.  Some others are of the position that only new facilities are allowed, defined as those constructed since January 1, 2008.

The methodology currently employed under the CDM is to establish baselines specially used for the specific project under consideration, with the exception of the baseline established for power plants connected to the grid (ACM0002), which, once established for the grid, can be used by any new power plant projects connected to that grid.  This has been considered too cumbersome and inefficient.  Hence, in addition to opt for no decision, the option is that standardized, multi-project baselines can be established for project activity types by establishing parameters, including benchmarks and procedures that are either mandatory or optional.  The EB will keep continual review and to report annually on which project types the standardized baseline applicable.  The standard parameters and procedures, for example, are suggested to be based on similar projects in the last five years, in the relevant sectors in similar social, economic, environmental, and technological circumstances, and are the top 10 or 20 percent for their category.  There should be no double counting allowed in this standardized baseline.

Some project types are apparently deemed more preferable than others.  The following are the ways these preferences can be reflected in the negotiating text.

Project with Positive Co-Benefits.  For developing countries, CDM is first and foremost a mechanism to foster sustainable development, as stipulated in the dual-purpose of CDM under Article 12 of the Kyoto Protocol.  Nevertheless, developing countries insisted that what “sustainable development” entails is up to the developing countries to define.

This time around, there are requests to provide internationally applicable definitions of co-benefits (shying of redefining sustainable development benefits) and to provide incentives for these projects (or project types).  For projects that demonstrate strong co-benefits, there is a suggestion to allow for exemption from or postponement until issuance of payment of the registration fee and the share-of-proceeds for administration and adaptation; faster timelines; and simplified modalities and procedures.  Co-benefits are referred to as, and designated operational entity (DOE) to validate, energy efficiency, technology transfer, environmental services, poverty alleviation, economic growth, social benefits, and human and institutional capacity.

Multiplication and Discount Factors.  There has been concerned that some project types have “unfairly” large potential CER generation.  Still, one CER is always issued equal to one ton or emission reduction verified.  Project types involving reduction of fluorinated and nitrous oxide gases are especially highlighted, although large hydropower plants are also of concerns.  For such project types, there is a suggestion to discount the amount of CERs issued correlating with the amount of reduction resulting from such project types.

Similarly, there are also projects that apparently are more preferred than others, such as renewable energy, energy efficiency, and small scale but highly sustainable projects.  Additionality argument for such projects, however, is cumbersome as incentives provided by the carbon assets are marginal.  CERs for these project types may be multiplied.  In total, however, the resulting amount of multiplied and discounted CERs may not exceed the actual total emission reductions.

Regional Distribution and Access.  It has been of concerns to many countries that projects are not “fairly” distributed across the globe.  More than three-quarters of the CERs in the world are potentially produced by projects in four countries alone, namely China, India, Brazil, and Mexico.  China alone controls more than half of the world’s CDM market.  In contrast, Africa as a whole control only about one percent.  As such, there is a call to rectify this “inequity” through policies akin to affirmative action to allow better access to underrepresented countries.

There is a suggestion to deem renewable energy or clean fossil energy projects under 5 MW or energy efficiency of less 20 GWh as additional automatically.  For small island and African countries, there is a call to increase the threshold for projects characterized as “small scale.”  Additionally, for projects in these countries there is either exemption from or postponement until issuance of payment of the registration fee and the share of proceeds for administration and adaptation.  Upfront financing of validation, verification, and certification should be provided through loans paid for upon the issuance of the CERs.  Some suggestions also include regional quotas, and stipulation that some certain percentage of total CERs should come from least developed countries.

The Bali Action Plan stipulates that developing countries are to take nationally-appropriate mitigation actions, also known for its handy abbreviation, NAMAs.  There are suggested to be three types of NAMAs, namely unilateral NAMAs, financed NAMAs, and “creditable” NAMAs.  Unilateral NAMAs are those that are developed and implemented unilaterally by developing countries without any involvement of developed countries.  There are discussions, however, that unilateral actions are not relevant under this international agreement as they are unilateral actions anyway.  Some others, however, are of the opinion that there may be benefits from registering unilateral actions to demonstrate developing countries’ contributions to mitigating climate change.  Financed NAMAs are those that are developed and implemented with (financial) assistance by developed countries.

Creditable NAMAs are those that may be of stronger nature, and are measurable, reportable, and verifiable, and in turn generating offset credits for use by developed countries.  Creditable NAMAs are suggested due to the following conditions: that there is a need to incentivize NAMAs; public sources of funds are limited; and there are already experiences with market mechanism through CDM.  The crediting of specific NAMAs is subject to the authority and guidance of the COP and is supervised by a dedicated body constituted by the COP (or, as some suggest, the CDM EB).  Criteria and standards for creditable NAMAs need to be established, obviously, building upon current methodologies for the CDM.

While CDM may receive the overwhelming portion of the call to reform, there are adjustments that are requested from the two other mechanisms, namely JI and ET.  The following are the issues on the negotiating table.

Consistency: LULUCF and SOP.  There is a call for some consistency of approaches for LULUCF, that procedures that are applicable in CDM should be applicable in JI mutatis mutandis.  Similarly, consistency is also sought for the share of proceeds taken out of CDM to be extended also to JI and ET, especially that for adaptation.  The percentage to be levied have been suggested to be 0.5, 2, or 8 percent.

Nuclear in JI.  As in CDM, there is a question as to whether nuclear power technology is applicable for JI or not.

Banking and Borrowing in JI.  Banking refers to the use of credits that are unused in one commitment period to be used in the subsequent ones.  Borrowing refers to the use of credits from the subsequent ones to be used in current commitment period.  The options for banking are as follows: no restriction between first and second commitment periods; no restrictions beyond the second commitment period; or banking beyond the second commitment period is limited to a certain amount.  Similarly, there is a suggestion to limit borrowing of credits to a certain maximum amount.

Commitment Period Reserve.  In addition to the option of no decision, there could be a decision to allow for a commitment period reserve in the amount that 90 percent or less of most recent inventory.