LEGAL & REGULATORY

ASPECTS OF THE CLEAN DEVELOPMENT

MECHANISM

JUAN RODRIGO WALSH

Climate Change and CDM Projects: Climate Change and CDM Projects: Understanding the Legal Issues at stakeUnderstanding the Legal Issues at stake

Designing and implementing CDM or related Greenhouse Gas (GHG) reduction projects requires understanding the underlying legal and institutional frameworks on several planes or levels:

• The International Legal Framework

• Investor Nation Regulatory & Institutional Issues

• Host Country Legal & Institutional Requirements

• Contractual Issues between Investors and Developers

• Contractual Issues related to sale of CERs

Climate Change and CDM Projects: Climate Change and CDM Projects: Understanding the Legal Issues at stakeUnderstanding the Legal Issues at stake

Designing and implementing CDM or related Greenhouse Gas (GHG) reduction projects requires understanding the existing International legal and institutional frameworks:

The International Legal FrameworkThe International Legal Framework

UNFCC

Kyoto Protocol

COP/MOP Resolutions & Decisions

Executive Board

THE KYOTO PROTOCOL:

Together with the UNFCC, the Kyoto Protocol constitutes the most important global agreement on the environment to date. The Protocol establishes Emission Reduction Targets for the period 2008-2012 for industrialized countries 5,2% below 1990 level emissions

Kyoto also creates the Clean Development Mechanism (CDM) for developing countries Emphasising cooperation and “flexible mechanisms” to achieve the Protocol’s goals

These mechanisms are:

Emissions Trading (ET) Joint Implementation (J I ) Clean Development Mechanism (CDM)

History of the NegotiationsHistory of the Negotiations

CLIMATE CHANGE HISTORY

1980 W.M.O. & UNEP Workshops

1988 IPCC Meeting

1990 WORLD CLIMATE Conference

1992 UNCED RIO Conference & UNFCC

1993/6 COP 1 to 3

1997 KYOTO PROTOCOL

1998 COP 4 (Buenos Aires Action Plan)

2001 BONN ACCORDS

2001 COP 7 (Marrakech Accords)CDM Executive Board set up

GHG Committments undertaken by GHG Committments undertaken by Annexe 1 CountriesAnnexe 1 Countries

• The Kyoto Protocol mandates Developed Countries to reduce overall GHG emissions by 5 % during the period 2008-2012, against 1990 levels of emissions.

• Other Annex 1 Countries have committed to greater levels of reduction:

Some Examples:Some Examples:

• Canada plans GHG reductions of 6 % below 1990 levels.

Japan

EE New EU

Ukraine

Canada

U.S.A.

Russia

EU

Other OECD

Australia

-400

-300

-200

-100

0

100

200

300

Current Emissions versus GoalsCurrent Emissions versus Goals

Source: Royal Institute of International Affairs

Flexible Mechanisms Introduced Flexible Mechanisms Introduced by the Kyoto Protocolby the Kyoto Protocol

The Kyoto Protocol establishes strict committments for Annex I Countries, allowing for compliance by means of “flexibility mechanisms” :

• Emissions Trading (ET) 2008-2012

• Joint Implementation (JI) 2008-2012

• Clean Development MechanismClean Development Mechanism (CDM) 2000-2012

Emissions Trading (ET)Emissions Trading (ET)

• Article 17 of the Kyoto Protocolo provides for emissions trading transactions between Annexe 1 Countries

• All ET Transactions must be supplementary to national policies adopted by governments pursuant to the quantifiable emissions reductions committed to by Annexe 1 Countries

Joint ImplementationJoint Implementation

• Article 6 establishes that Emissions Reductions Units may be transferred between Annexe 1 Countries in the case of Joint Implementation Projects.

• Joint Implementation Activities must be complementary to domestic emission reductions policies.

Clean Development MechanismClean Development Mechanism

• Article 12 allows for projects to be jointly executed by developed and developing countries.

• These activities may start in 2000. Developed Countries may therefore invest in GHG reduction projects in developing countries and utilise the credits obtained from these reductions toward compliance with national committments.

CDM projects CDM projects mustmust meet the following meet the following requirements:requirements:

• Contribute to the sustainable development of developing countries

• Have a demonstrable effect on climate change mitigation• GHG Reductions must be measurable and certifiable over a

period of time• Environmental Benefits must be permanentpermanent and

additionaladditional to any that might occur in absence of the project

CDM requirementsCDM requirements

• AcceptabilityAcceptability

– Host Country Acceptability– At an International Level– For the Investor Nation

• AdditionalityAdditionality

– Must be real and measurable– Must consider existing and future trends

• ExternalitiesExternalities

– Must consider social effects and sustainability– Must consider environmental impacts

What is Additionality ?What is Additionality ?

• Environmental AdditionalityEnvironmental Additionality

– Emissions reductions must be over and above a “business as usual scenario”

• Financial AdditionalityFinancial Additionality

– Investments must be real. Resources from Annexe 1 Countries must e additional to existing financial committments and ODA

• Business as Usual ScenarioBusiness as Usual Scenario

– Some degree of Technical Innovation required

Carbon storage due to the Project

0

50

100

150

200

250

0 10 20 30Time (yr)

tC/h

a

PROJECT - E. globulus (11 year rotation)

BASELINE - Pasture / ex-agricultural land

Additionality = project – Base Line

Carbon QuantificationCarbon Quantification

Source: Ecosecurities 2002

Other Issues to be Considered in Other Issues to be Considered in CDM Projects CDM Projects

• Social ImpactsSocial Impacts

– Employment:

• Are jobs created ?

– Infrastructure and Know How:

• How does the project contribute to local expertise and infrastructure ?

• Environmental BenefitsEnvironmental Benefits

– Other emissions reductions and environmental benefits

Required Phases for CDM ProjectsRequired Phases for CDM Projects

Project DesignBase Line Determination

Project Approval

Project Registry

Verification

Certification

Award of CERs

Pre-Investment Phase

Implementation

Monitoring

Investment & Operation

Pre-investment PhasePre-investment PhasePre Feasibility Criteria

Carbon IssuesCarbon Issues

• Project Timeframe

• Defining the Baseline

•Defining Additionality

• Identifying “Leakages”

• Net Carbon Benefits

• Potential CERs

Other ConsiderationsOther Considerations

• Overall Environmental Impacts Biodiversity

Waste management

Watershed Management

• Sustainable Development

• Host Country Approval

• Training requirements

• Technology transfer

Implementation PhaseImplementation PhaseValidationValidation::

Must be carried out by an Independent Third Party in order to obtain approval as a CDM Project

Verification:Verification:

Must also be carried out by an independent Third Party. Verification requires periodical control and ex post verification of emissions reductions o carbon sequestration in sinks

CertificationCertification::

Must also be carried out by an Independent Third Party. Certification consists in a formal, written statement to the effect that, during a certain lapse of time, a particular project has achieved the targets set for emissions reductions or sequestration, as verified.

CERs awarded by the CDM Executive BoardCDM Executive Board

What are CERs ?What are CERs ?

• Certificates of Emissions Reductions, measured in tons of CO2. (CERs).

• Emissions Reductions must comply with the following criteria:– Measurable, and; – Verifiable by Independent Thir Parties .

• They must also pass the test of “Additionality”

•

Climate Change and CDM Projects: Climate Change and CDM Projects: Understanding the Legal Issues at stakeUnderstanding the Legal Issues at stake

Designing and implementing CDM or related Greenhouse Gas (GHG) reduction projects usually requires understanding the existing legal and institutional framework in the “Investor Country” or the country of the purchaser of the CERs:

Investor Nation Regulatory & Institutional IssuesInvestor Nation Regulatory & Institutional Issues

Annexe 1 Country

Party to Kyoto?

Domestic CO2 Programme? (ERUPT & CERUPT)

Company to Company

Climate Change and CDM Projects: Climate Change and CDM Projects: Understanding the Legal Issues at stakeUnderstanding the Legal Issues at stake

Designing and implementing CDM or related Greenhouse Gas (GHG) reduction projects requires a fundamental understanding of the legal and institutional framework of the Host Country:

Host Country Legal & Institutional RequirementsHost Country Legal & Institutional Requirements

Regulatory Requirements for approval

Existence of a Host Country CDM office

Environmental and Regulatory requirements applicable to the CDM Project

Legal, taxation and other regulatory requirements for FDI

Host Country Approval Process:Host Country Approval Process:

The case of ArgentinaThe case of ArgentinaEnvironment Secretariat Resolution 169/2001

Establishes the guidelines for evaluation and approval for projects submitted to the Secretariat acting as “Focal Point:

Projects are subject to independent peer review and external evaluation

Special “Climate Change Office” ( OAMDL)

Coordination of environmental policies and Negotiating Positions at UNFCC and COP/MOP meetings

Sectors to be given special attention:Energy Sector,Land Use, Land Use Change and Forestry Sectors (LULUCF),Farming SectorWaste Management Sector

CLIMATE CHANGE MITIGATION CLIMATE CHANGE MITIGATION STRATEGY:STRATEGY: The Case of Argentina The Case of Argentina

OAMDL

Energy, Industry & Transport Forestry Farming Waste Management

Sector Committees

SAyDS Sec. of Energy Sec. of Industry Sec. of Transport Sec. of Science & Technology Agriculture Foreign Affairs

Executive Committee

Business Associations Academia NGO’s

SMAyDS

Advisory Comittee

OAMDL FUNCTIONSOAMDL FUNCTIONS

OAMDL

Impacts & Adaptation Mitigation Awareness building & Participation

CDM Project Management

• Identify prioritary sectors to implement CDM projects and activities

•Define CDM Policy

• Establish methodologies and procedures for identifying, preparing and evaluating projects

• Full cycle management and Host Country approval of CDM projects

• Establish relationships with sources of financing for projects

Rules for submission of projects Project Design Documents (PDD) Evaluating Institutions Registry (RIE)

National Climate Change Programs

Organization of the National CDM Organization of the National CDM AuthorityAuthority

• Design of the legal context for the presentation and management of projects– Legal requirements

– Policy Issues

• Methodological support for the preparation and assessment of projects– Pre/ and feasibility Studies, Standardised Baseline

Studies & Monitoring Programs

– Policy Guidelines

Regulatory Aspects of CDM Projects and Regulatory Aspects of CDM Projects and the Climate Change Office (OAMDL)the Climate Change Office (OAMDL)

• Registration and Acreditation of Evaluating Institutions for National Project Cycle Assessment

• Adaptation of Project Presentation Documents and standardized formats (PIN, PDD, etc)

• Evaluation Criteria and Sustainability Indices• Liaison Offices with Provincial and Local

Governments• Proposals for simplified Project Evaluation

Technical Support provided by Technical Support provided by Climate Change OfficeClimate Change Office

• Colaboration in designing National Climate Change and Mitigation Strategies

• Coordination of National Climate Change Programmes, Projects and related research activities

• Establishment of Project data bases and general awareness building

• Administrative Management of OAMDL Working Groups

OAMDL’s ActivitiesOAMDL’s ActivitiesCreation of sector-specific Committees

– Sectors:

• Energy, Industry & Transport• Forestry• Farming• Waste Management

– Objectives:

• Identify opportunities for projects for potential investors• Preparation of a strategy for the mitigation of GHG emissions on a sector-

specific basis, in order to achieve the country’s best mitigation potential for each sector

• Establishment of sector-specific baseline• Methodological Guidelines for projects

Climate Change and CDM Projects: Climate Change and CDM Projects: Understanding the Legal Issues at stakeUnderstanding the Legal Issues at stake

Designing and implementing CDM or related Greenhouse Gas (GHG) reduction projects also requires understanding the legal implications and potential risks for both Project Developers and Investors:

Contractual Issues between Investors and DevelopersContractual Issues between Investors and Developers

Applicable Rules for FDI

Multilateral or Bilateral Investment Agreements

Taxation & Repatriation of Profits Issues

Technology Transfer & Intellectual Property Issues

Project Due Diligence between Developers and Investors

Who is purchasing Certified Emissions Who is purchasing Certified Emissions Reductions (CERs) ?Reductions (CERs) ?

• Energy Sector Companies

• Chemical Companies

• Oil & Gas Companies

• Paper, Cement, and Steel Industries

• Investment Funds

Prices: Which Way?Prices: Which Way?

LEVEL OFTRADE/ PRICINGSCENARIO

PRICE IN 2010 (US$/Tonne CO2 – expressed incurrent prices )

SOURCE

HIGH MEDIUM LOWBP AMOCO 34.42 28.05 22 BP Amoco; The Energy Journal – Kyoto Special Issue, IAEE,

1999.“High” based on current price of US$27; “Medium” based onpilot phase upper value of US$22/tonne; “Low” based on pilotphase lower value of US$17/tonne. Assumed real growth rate of3.31% p.a. from 2001 to 2020 (average implied growth rate frommodel simulations detailed in The Energy Journal.

EU TRADE 58 33 5 Green Paper on GHG Trading Within The EU, EuropeanCommission, 2000.

ANNEX I TRADE 98 78 67 The Energy Journal – Kyoto Special Issue, IAEE, 1999

GLOBAL TRADE 31.5 21 10.5 The Energy Journal – Kyoto Special Issue, IAEE, 1999

CURRENT PRICES 11 3 0.5 Utility Environment Report; Petroleum Economist, NatsourceLLC; Electricity International, Platts; Ecolog; Utility Week;Reuters; Canada National Post

What is the market paying for What is the market paying for Carbon ?Carbon ?

• PFC - US$ 3.5-5 / Ton CO2 (depending on risk factors)

• ERUPT - Euro 5-9/Ton CO2 • Institutional Funds – On a one by one

negotiated basis• Private Corporations - US$ 50cents to $1.50

per Ton CO2 ( Within or without Kyoto)• Options (depending on price and timespan US$

25c to 75c/Ton CO2)

ERUPT ResultsERUPT Results

Project Company Country and Project ERUs Priceper Ton Co2

NV Nuon Municipal Cogeneration Cluj-Napoca (Romania) 924.590 US$ 9,08

BTG Biomass Technology Group BV A biomass energy portfolio (Czech) 522.320 US$ 9,00

United Power Co. (joint venture of SC Hidroelectrica SA and Harza Engineering Company LP)

Surduc – Nehoiasu Hydro Power Plant (Romania)

612.631 US$ 5,00Nuon International Projects BV Skrobotowo Windpark

(Poland) 583.500 US$ 8,75

www.senter.nl/erupt

Comparison of IRR in Carbon Comparison of IRR in Carbon Projects: Renewable EnergyProjects: Renewable Energy

Country Project B as U IRR IRR (w/CER) Increment IRRIRR

PercentageRomania District heating 10,5 11,4 0,9 9Costa Rica Wind 9,7 10,6 0,9 9J amaica Wind 17,0 18,0 1,0 6Morocco Wind 12,7 14,0 1,3 10Chile Hydro 9,2 10,4 1,2 13Costa Rica Hydro 7,1 9,7 2,6 37Guyana Bagasse 7,2 7,7 0,5 7Nicaragua Bagasse 14,6 18,2 3,6 25Brazil Biomass 8,3 13,5 5,2 63Latvia Methane 11,4 18,8 7,4 65

Source: World Bank 2001

Selling Carbon CreditsSelling Carbon Credits

• This Phase is usually carried out simultaneously with the project design and approval phases

• Early Identification of potential Investors

• Enhanced security and feasibility for Project

• Direct Negotiations

• Involvement of Brokers: Success Fee for sale of CERs

Climate Change and CDM Projects: Climate Change and CDM Projects: Understanding the Legal Issues at stakeUnderstanding the Legal Issues at stake

Designing and implementing CDM or related Greenhouse Gas (GHG) reduction projects requires understanding the legal aspects of the Carbon Market and the sale of CERs:

Contractual Issues related to sale of CERsContractual Issues related to sale of CERs

• Long term purchase contracts• Brokerage fees• Monitoring requirements, auditing and

Independent Verification• Managing Risk: Insurance

The Way ForwardThe Way Forward

• The Climate Change Regime has been controversial

• The Kyoto Protocol has been rejected by the U.S. as “fatally flawed”

• Entry into force requires at least 55 countries with 55% of global GHG emissions

• Technical uncertainties (Forestry and LULUCF)

• Russian ratification?

The Way ForwardThe Way Forward

• Experience is growing– PCF– UK ETS– EU Directives– U.S. State regimes

• Climate Change is a problem that will not disappear!!