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Is Kyoto about more than refrigerants in China?

Distribution of 2012 CDM CERsIn the midst of shipping a few thousand TerraPasses during the holidays, we had a wonderful read of Keith Bradsher’s New York Times article on the Clean Development Mechanism (CDM), a feature of the Kyoto Protocol that allows polluters to fund emissions reduction projects in the developing world. Bradsher paints a troubling picture of some of these projects as obscenely profitable refrigerant deals architected by nefarious carbon traders over tea in their Mayfair mansions. While there is some truth to this portrayal (we’ve visited these Mayfair mansions), the lessons for American policymakers are complex.

HFC-23 is a refrigerant with very powerful effects on global warming — it’s almost 12,000 times as bad as carbon dioxide. It’s also quite easy to destroy. A small investment in process changes in aging factories can easily destroy the gas. The problem, according to Swiss consultant Othmar Schwank, is that the global carbon industry created by the Kyoto Protocol has made these small investments obscenely profitable, so much so that they are overwhelming investments in energy efficiency and renewable energy that are more valuable in the long term.

The result is that a whopping 31% of the anticipated volume of CDM credits comes from just 17 HFC projects (the Times uses a 66% number which only includes registered credits). Compare this with 6% for wind.

We’ve been mulling this over and have some hallway advice for our friends in the American policy community.

  1. This is a real issue for the US, now.
    The northeastern Regional Greenhouse Gas Initiative (RGGI) includes an escape valve at which point CDM credits may be applied. CCAR is contemplating cross border mechanisms. Even the voluntary market is likely to be influenced by the CDM-style Voluntary Carbon Standard (VCS).

  2. It takes a while for markets to get going, but their reputation is built on the first projects.
    The latest report from UNEP Risoe shows almost 1,500 projects in the pipeline. 2006 started with 554. HFC overwhelmed the early market and has eroded confidence, but its influence is already waning.
  3. When structuring a market, its all about incentives.
    Policymakers should fully expect the most profitable projects to get funded first. Frankly, given the underlying economics, we’re surprised more money didn’t go into HFC.
  4. A performance standard is harder for a reason.
    A performance standard approach to additionality makes you work harder up-front for better market structure. One drawback of a project-by-project approach is that you don’t do the hard work in advance to determine which types of projects will be judged additional and how. By reviewing each project for additionality, the shape of the market is always one step ahead of you. Before you know it, the market you have approved one by one is overwhelmingly of one project type that you never really liked.

    In contrast, the debate around a performance standard will automatically bring smart types like Mr. Schwank into the fray to show you the underlying economics and supply situation. For an example, read his remarkably prescient 2004 report on HFC projects. Setting clear criteria around the types of projects you want to see will also help the market evolve faster.

  5. Markets and policymakers learn together. America is not part of the conversation.
    1,500 projects across 25 categories. 1.6 billion tons of CO2 reductions. A $28B trading market. Thousands of professionals energized and motivated to fight climate change. Hedge funds. Promoters. IPOs. Naysayers. The rest of the world is motivating to fight climate change and America is curiously absent.
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