Carbon Market 101Climate Change, CDM & Carbon Trading

Immanuel Edward. J.AClimate Change/Sustainability Advisory

HMR Environmental Engineering Consultants

AgendaIntroduction

– Climate Change & its impact– Response to mitigate Climate Change– Kyoto Protocol’s Financial Mechanism– UNFCCC’s Institutional Framework

CDM – CDM Project Cycle– General CDM Project requirement– Eligible Projects – CDM Cost

Carbon Trading- Concept of Emissions Trading - Global Carbon Market - EU – ETS- CER Supply & Demand- CER Pricing

- EUA price & Impact on CER Price- CER Transaction Models- CER Delivery Structure- CER Price Trend

Basics of Climate ChangeThe Greenhouse Effect

Sou

rce:

The

Pew

Cen

ter

Rep

orts

CO2 Levels in the Atmosphere

Earth’s temperature

Climate Change Signals• Global average surface temperature has increased by

0.6 ºC over the 20th century• 67% of glaciers in Himalayas have retreated in the past

decade

IPCC Third Assessment Report projections for 2100

– Temperature rise of 1.4 - 5.8ºC – Sea level rise of 9 - 88 cm

This projected temperature rise is greater than that experienced in the last 10,000 years !!!

IPCC : Intergovernmental Panel on Climate Change

Impact of Climate Change

Response to Mitigate Climate Change

1954

1979

1992

1988

1997

2005

Objective of UNFCCCStabilization of greenhouse gas concentrations in

the atmosphere at a level that would prevent dangerous anthropogenic interference with the

climate system

Such a level should be achieved within a time-frame sufficient :

• to allow ecosystems to adapt

naturally to climate change

• to ensure that food production is

not threatened and

• to enable economic development

• to proceed in a sustainable

manner

PrinciplesThe Parties should protect the climate systems on the basis of:

• Equity

• Common but differentiated

responsibility

• Respective capabilities

The Kyoto Protocol

• Adopted at 1997 UNFCCC’s Conference of Parties 3 (COP3) in Kyoto, Japan, the Protocol

– defines quantified GHG emission reductions for Annex 1 countries as a reduction from their CO2 emission level by at least by 5.2% over 1990 base level, by the end of first commitment period (2008 – 2012)

– Introduces three flexible market mechanisms which can be used by parties and private firms to fulfill their reduction obligations • Joint Implementation, or JI (Article 6)• Clean Development Mechanism, or CDM (Article 12)• International Emissions Trading (Article 17)

• Entered into force in February 16, 2005 (after the ratification of Russia)

Joint implementation

Kyoto Mechanisms

• Overall target - at least

5.2% reduction below 1990

levels in net anthropogenic

emissions* of Annex I

countries by 2008-2012.

• No targets for developing

countries

Emissions Trading: Article 17

Annex I countries Annex I countries

Allowances allocated by Annex I Govts. to Emission Intensive

Industries

Allowances

Allowances

Allowances allocated by Annex I Govts. to Emission Intensive

Industries

Within an Annex I country and between Annex I countries

Allowance based mechanism

Joint Implementation: Article 6

Annex I countries Annex I countries

ERUs removed from the national budget

Implement projects or carbon sequestration

ERUs

Investment

Project based mechanism

Clean Development Mechanism: Article 12

Developing countries Developed countries

Low cost of emission reduction

High cost of domestic emission

reduction

CERs

Resources

Achieve SD, TT, Investment

Meet ER targets in a cost effective way

Guiding principles

Project based mechanism

Carbon Credits• Emissions trading (among Annex I countries)

– Assigned Amount Units (AAUs)

• Joint Implementation (between Annex I countries)– Emission Reduction Units (ERUs)

• Clean Development Mechanism – CDM (between Annex 1 and non-Annex 1 countries)– Certified Emission Reductions (CERs)

UNFCCC’s CDM Institutional Setup

CDM Executive Board

PP : Project Promoter

DOE : Designated Operational Entity

EB : Executive Board

COP/MOP : Conference of Parties / Meeting of Parties

DNA : Designated Operational Entity

CER : Certified Emission Reductions

Key Players in CDM ProcessKey Players

CDM Executive Board (CDM-EB)

Comprises 10 members from KP parties, meets no less than 3x a year. Tasks: recommendations on modalities and procedures to COP/MOP, approve or disapprove recommendations by branch bodies (Meth Panel, Small-scale WG, A/R WG, Registration Issuance Team, Accreditation Panel)

Project Participant (PP) Can be (1) a private or public entity (based in host country, usually the one in charge of implementation), or (2) a party that has ratified the Kyoto Protocol

Designated National Authority (DNA)

MECA

• Set up by the Party of the KP• Issues the Letter of Approval (LoA) with which the DNA confirms project’s contribution to sustainable development• Approval procedures up differ among countries• Unilateral CDM = one LoA

Designated Operational Entity (DOE)

Auditor accredited by the CDM-EB, whose key tasks are to (a) validate and request registration for a CDM project activity and (b) verify , certify and request issuance of CERs.

How to Indentify a CDM ProjectCDM Project Requirements

• Project implemented in developing nations – Non-Annex 1

countries

• Project should result in net CO2 Emission Reduction (real,

Measureable, Verifiable)

• Contribute towards sustainable development of the nation

• Annex I public funding for CDM to be additional to ODA

and financial obligations

• No nuclear projects in CDM

CDM Project Requirements….

• Establishment of a credible emissions baseline

• Project should establish Additionality

• Contribute towards Sustainable Development of the Host Country

• Concept of CDM, Emission reductions and Carbon revenue should be incorporated in the Planning stage of the project

CDM Prior Consideration

• Within 6 month from the project start the DNA and UNFCCC must be informed

• EB49 annex 22: The project participant must inform the Host Party DNA and the UNFCCC secretariat in writing of the commencement of the project activity and of their intention to seek CDM status. Such notification must be made within six months of the project activity start date and shall contain the precise geographical location and a brief description of the proposed project activity, using the standardized form F-CDM-Prior Consideration.

Baseline

Emissions

Time

Emissions from a green / new project

Baseline emissions (most Plausible scenario/existing project)

AdditionalitySTEP 0: Claiming credits for project with start date prior

to date of registration – if not applicable go to step 1 directly

CDM consideration proved: Pass

STEP 1: Identification of alternatives consistent with current laws and regulations- If proposed CDM project only alternative left: NON-ADDITIONAL (NA)

More than one alternative: Pass

STEP 2: Investment Analysis CDM financially attractiveSTEP 3: Barrier Analysis

No barriers: NA

CDM financially not attractive

STEP 4: Common Practice Analysis – credibility check- If similar activity observed with no essential difference: Project NA

CDM faces Barriers

No similar activity or similar activities present but difference in circumstances

STEP 5: Impact of CDM registration - If CDM benefits have no impact: Project NA

Typical ProjectsRenewable Energy Hydro, Wind, Biomass, Bagasse, Geothermal, Tidal

Waste Heat Recovery Cement, Steel/ Metal, Coke Ovens

Waste Management/Methane Recovery

Waste Water Management, MSW Management, Fuel Pellets, Power generation, Use as Fuel

Transportation LPG, NG, Biodiesel, Pipeline, Railways Shift

Process Change Fertilizer CO2 Recovery, Nitrous Oxide (N2O)Destruction, Refrigerant: HFC Abatement, Aluminum: PFC Control

Energy Efficiency Efficient Generation (Efficient Machinery, T&D Loss Reduction, Fly ash in Cement)

Industrial Fuel Switch Coal to LPG, Natural Gas, Biomass

LULUCF Afforestation and Reforestation

Project Scale• Small-Scale CDM (SSC) project categories

– RE projects up to 15 MW– Energy efficiency projects reducing energy consumption by

up to 60 GWh/yr– Other project activities that reduce emissions less than 60

ktCO2eq

CDM Transaction Cost

% Cost (until CER issuance)PDD (assumption, indicative) 34%DNA fee 19%Validation (assumption, indicative) 20%Registration 5%Sub-totalMonitoring Cost (assumption) 6%Verification Cost (assumption) 8%Adapation Fee 8%

Total (until 1st CER issuance) USD 200,000

Emissions Trading

Carbon Market Theory

Global Carbon Market at a Glance

Transaction Volumes and Values, Global Carbon Market, 2008 and 2009

Source: World Bank, and Bloomberg New Energy Finance and Ecosystem Marketplace for data on the voluntary market

Source: WBCSD/WRI GHG Protocol, 2005

ETS - Scopes

Emissions limit after trading (60tCO2)

Emissions limit after trading (40tCO2)

-10

50

+10

Units sold

Units bought

Company 1

Company 2

Carb

on

dio

xid

e/

GH

G e

mis

sion

s

Emissions limit before trading (50tCO2)

50

Source: UK Emission Trading Group

How Emission Trading works?

Company A can reduce 1000 tons CO2e at $2/ton = $2000

Company B can reduce 1000 tons CO2e at $6/ton = $6000

Company A - Seller Company B - Buyer

1000 tons CO2e at $4/ton = $4000

SELL BUY

$2000 Profit $2000 Savings

Another illustration for ETS

Make or Buy decision

Company

CO2 €

Invest in energy

efficiencyModification of

operation procedure

Fuel switching Emission trading

Carbon market

Sustainable Development

Developing countries

Carbon Credit

€

The Way of Emission Trading

Cap-and-TradeCap-and-Trade -A government establishes a cap that limits the total amount of emission allowed, -and then distributes permits for a “right to emit” the global atmosphere, which can be traded as private property.

Comparison of proposed vs. approved caps for 2008 to 2012

Source : UNFCCC Interactive map of CDM project locations

• Registered CDM activities (2nd March 2011) : 2871 projects all over the world….

Registered CDM Projects

CDM Projects

Source: cd4cdm.org (Feb 2011)

Africa & Middle EastAfrica Africa Middle-East

Cameroon Mauritius Iran

Cape Verde Morocco Israel

Congo DR Mozambique Jordan

Côte d'Ivoire Nigeria Lebanon

Egypt Rwanda Qatar

Equatorial Guinea Senegal Saudi Arabia

Ethiopia South Africa Syria

Ghana Sudan United Arab Emirates

Kenya Swaziland Yemen

Lesotho Tanzania

Liberia Tunisia

Madagascar Uganda

Mali Zambia

CDM Projects

Data Source: UNEP RisoDec 2010

CER Volume

41Data Source: UNEP RisoDec 2010

Primary CDM/ JI Buyers

Carbon Trading: Unilateralism

• Only a PIN (or less) available• Project developing new methodology• No Host government approval • Poor Credit or No Credit• Project not registered• Flexible CER delivery schedule• No punitive damages • Unilateral• Advance payment• Payment upon CER issuance into pending account

CER Price Increases

Approved methodology Host government approval Strong project partners, technology supplier, EPC, Operator, etc. Good Credit Ability for buyer to become a Project Participant Project is registered Guaranteed delivery schedule with punitive damages for non-

delivery Payment on delivery into buyer’s national registry account

Source: Natsource

Source: EcoSecurities

CERs : Risk Vs Price

CER Price

Reasons observations on the CER Price

• There has been a fluctuation in the demand for CERs due to lower emission on account of lower demand and temporary shutdown of companies due to economic slowdown.

• CER prices are likely to shoot up due to increase in crude prices. CER rates and crude prices are inextricably linked.

• Some buyers have postponed their purchases due to financial constraints.• Some sellers have also made distress sales of CERs since they needed immediate cash to get over the

current credit crunch

Source: GTZ Newsletters

4023

840

242

4024

840

254

4026

040

266

4027

440

280

4028

440

290

4029

640

302

4030

840

312

4031

840

324

4033

140

337

4034

340

347

4035

340

359

4036

540

371

4037

540

381

4038

740

393

4039

940

403

4040

940

415

4042

140

427

4043

140

437

4044

340

449

4045

540

459

4046

540

471

4047

740

483

4048

740

493

4049

940

505

4051

140

515

4052

140

527

4053

340

541

4054

840

554

4056

040

564

4057

040

576

4058

240

588

10

11

12

13

14

15

16

17

18

Avg EUA sCER

Polynomial (sCER)

EUA-CER Price Trend

Source : http://www.pointcarbon.com/news/marketdata

Carbon Price

CDM Projects : Typical Risks

CDM Regulatory

PDD developmentRegistration(CDM EB)

validation

Issuance

creditingperiod

monitoring & verification

Country / Political Riskregulatory

change taxchange

host countryapproval

TechnologyCost/Delay

compliancecost

Delays (project / delivery)

Financial

FEX / currency

price

Legal

Project related

precedence

regulatoryprocess Tax / revenue share

implications

FDI Rules

ERPA

performance

Outcome from Cancun

•Improved transparency including annual greenhouse gas inventory reporting by developed countries •Restored confidence in the multilateral process •Effectiveness of market mechanisms emphasised •Targets pledged by developed countries that have ratified the Kyoto Protocol, have been formally recognised, anchoring commitments covering the large part of global emissions •Establishment of a Global Climate Fund to support pollution reduction in developing countries with goal of mobilising $100bn by 2020 (reconfirmation & progress)•New program established to reduce emissions from deforestation and forest degradation (REDD+) •Increased emphasis on "adaptation" support for vulnerable countries

Whatz Next in South Africa Dec-2011 ??

Uncertainty in Future CO2 Emissions

USEFUL WEBSITES

CDM

• http://cdm.unfccc.int/index.html• http://www.iges.or.jp/en/index.html • http://www.cdmrulebook.org/

CER: TRADING & MARKEThttp://cdmpipeline.org/

• http://www.cd4cdm.org/

CARBON NEWS• http://www.pointcarbon.com/• http://www.gtz.de/

Immanuel Edward. J. AManager – Climate Change AdvisoryHMR Environmental Engineering Consultantsedward@hmrenv.com

Thank you