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The Consequences of the Durban COP for the Carbon Market and Climate Finance

We have a “Kyotino” – but surprisingly, key developing countries have accepted that it is enough to unlock the door to their taking comparable targets – over time.

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This remarkable and unexpectedly positive outcome of the UN climate negotiations in Durban includes some specific positive items of interest to today’s carbon market, keeps the door open to new medium-term initiatives in which the private sector must have a role to play, and should to some degree increase confidence about the determination of Governments across the world to limit carbon, and thus increase the value of low-carbon actions and investments.

Two game-changing alterations in the old UNFCCC negotiating rulebook will echo through subsequent conferences: the widening in the existing cracks in the G77&China negotiating structure into willingness of smaller and more vulnerable countries to break away and do deals with other blocs; and China’s willingness to be bound in some way to reduce their emissions from 2020, dragging some other countries with them.  Previously the indications had been that 2030 was their target (and perhaps the US’), though Brazil had seemed to be prepared to move earlier.

However there are many problematic areas: not only many important issues rolled over to the next meeting, but lingering doubts about how secure an “agreement to agree” will be in producing an outcome by 2015, and about whether the last-minute weakening of the EU’s proposed 2020 “legal framework” to “an agreed outcome with legal force” may cause problems.

And of course if the majority of scientists and economists are to be believed, the timetable is just too slow.  It is only a few weeks since the IEA demonstrated reasonably persuasively that 2017 was the last date for emissions to peak if the world is to avoid some extremely unpleasant consequences.  There is no additional ambition in the numbers used in the Durban texts.

For the market, the sentiment will help generally but is unlikely to impact much on the prices and effectiveness of either the EUETS market or the CERs which are largely driven by it.  The basic demand and supply dynamics of the EU market are not changed.  The EU’s willingness to go to 30% is still dependent firstly on other developed countries committing themselves to comparable targets, and secondly on larger developing countries contributing adequately.  The first seems unlikely since the US, Japan, Canada and Russia are not in the Kyotino (and Australia and New Zealand are only committed to consider, with tests similar to the EU’s), though comparability does not necessarily imply internationally legally binding.  The second is more likely to happen, but there is a long way to go.  

Commissioner Hedegaard may try to claim that a review of the EU 30% is now justified, but it would be surprising if another frontal assault were to win against more cautious heads in Europe.  But under an enthusiastic Danish Presidency and warmed by the feeling that the EU is once again the leader, other less frontal approaches may be reinforced.

Nor does it seem likely that anyone will be much more willing to buy CERs.  At first sight it might appear, with larger developing countries in effect signing up to an international agreement, that their post-2013 CERs might again be eligible in the EUETS.  But the formidably complex provisions in the EUETS Revised Directive do appear to rule that out.  Firstly their CERs would have to fit within the existing quantitative limits, which are quite tight.  Secondly the law specifies only Least Developed Countries as sources of post-2012 new project credits – this is not dependent on any international agreement, though it seems they would have to ratify one if it existed.  Thirdly, agreements between the EU and third countries allowing new CERs to be accepted were only to be triggered in the absence of an international agreement, and Commission officials had recently been making clear that negotiations would not start until failure at an international level was clear.  Any ratification condition, of course, could put off the go-live date of such an agreement until the eve of 2020.  

The market will eagerly await clarification from the Commission of how, if at all, Durban has changed anything here.  Pending that, it would seem unwise for developers to assume the EU is back in the demand game, outside LDCs.

However, the doubts over the continuation of the CDM are at least laid to rest, since it is no longer necessary to finish the argument about its dependency on continuing Kyoto targets, and JI has a reprieve.  If it was only that doubt which was holding new CDM projects back, they can start moving – though demand was and remains the key issue.

The rest of the COP guidance to the CDM contains some good and useful advances, methodological improvements (including digitization) and reiterated pressure for progress.  Perhaps the most important of the advances are an acceptable quantified definition of “materiality”, and conditions on which carbon capture and storage projects can be accepted into the CDM (actually both located in separate decisions).  Among the disappointments are the postponing once again of the definition of “significant deficiencies” in validators’ reports, and the formulation of an appeal process or processes.  The consequences of the withdrawal of Letters of Approval are also put off for further study.

A New Market Mechanism is included in the decision texts, which is a major step forward, though those expecting that the word “defines” might lead to some clarity about precisely what is meant will be disappointed.  The wording on sectoral approaches, and the rolling over of any discussion of aviation and shipping in this context, offer no help.  One ominous sign is wording that appears to limit the use of markets to circumstances where the mechanism achieves a net decrease or avoidance of emissions, suggesting trouble if the principle of offsetting – the only route to private sector economic value from carbon so far invented – is intended to be excluded.  Everything about this new mechanism, including how its use is to be Monitored, Reported and Verified, will have to be set out in the modalities and procedures that the Convention Working Group is charged with producing over the next 12 months.  At national level, however, a host of new guidance and rules for “peer-reviewing” emissions reduction progress by all countries puts MRV flesh on the bones of the Cancun concept of “International Consultation and Analysis” for developing countries.

Other potentially limiting conditions on CDM or new markets, such as penal levy rates or tougher supplementarity rules, seem to have been avoided.  An immense amount of design work will be necessary on the NMM; fortunately the text allows for submissions and participation of some sort from observer organisations and experts.

The role of private finance, and indeed the possible development of a market-based approach, is recognized in the development of REDD, in order to provide “results-based finance” for developing countries.  But there is still much to do, and again the work is to be carried out in time for the 2012 COP in Qatar.  Elsewhere, a new set of decisions is reached on sustainability and other safeguards for REDD schemes and on baseline accounting; and more broadly in the land-use and forestry agenda, the opportunity is taken to revise some of the accounting rules for the new Kyoto targets, and commission more work from the Subsidiary Bodies and the IPCC.

The role of the Climate Technology Centre and Network and the Technology Executive Committee and their governance are defined and established; this was expected to be a positive outcome from the COP, though doubters can still be heard wondering what the new bodies will do that is not being done already by the IEA, IRENA, GEEREF, REEEP and many other existing bodies.  

Less confidently expected was the defining of roles and governance for the Green Climate Fund, but a comprehensive decision is now in place.  Many found this a relief given that there has been so little progress on the delivery of the developed countries financial pledges at Copenhagen, but the developing countries appear to have accepted the argument that this is not strictly linked to the setting up of the Fund, and goes beyond the income it will eventually have. There is however room for disappointment in the way the GCF is made subject to the COP, which may increase its politicization, and the disappearance of any references to the private sector.

The latter point is made up for, to some extent, by the way the key text flowing from the Working Group on the Convention deals with Finance.  The new Standing Committee of the COP on finance, with its emphasis on improving coherence and coordination and its overview of finance flows, is clearly driven by a vision of a predominantly public funding world.  The paragraphs on Long-term Financing, however, start a new work programme that will assess what is to be expected from the private sector among other sources, and cite both the previously marooned report from Ban KiMoon’s Advisory Group on Financing last year and the report to the G20 Finance Ministers this year, both of which see important roles for the private sector, as key work to draw on.  But the UN friction on serious consideration of private sector elements and contributions clearly remains strong.

The UNFCCC wagon is back on the road and, in the absence of any better way to attempt to deal with the world’s climate problems, that should be celebrated.  To repeat, the most important impact for the private sector could well be improved sentiment that carbon reduction is going to be made valuable in some way, though the markets for today’s carbon units, which can of course get along pretty well now without much of a UN framework, are unlikely to be strongly affected.

In the meantime IETA and other observer organisations, with viewpoints and proposals to suggest for the way the UN deals with climate finance from private sources, need to get ready to provide a whole lot of comment and advice – some in response to direct requests, some on matters where the requests may need to be prompted.

December 2011

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