News•February 23, 2016

Paris Pact Promotes But Complicates Carbon Trading

One out of every six molecules of climate pollution released to the atmosphere next year will be regulated under a cap-and-trade system, according a new global estimate that highlights the remarkable ongoing growth in carbon markets around the world.

Under cap-and-trade systems — pioneered in recent years in Europe and some U.S. states and spreading through Asia and Canada — governments trying to slow global warming impose industry- or economy-wide caps on climate pollution. Companies then buy and trade allowances needed to release pollution every year.

Cap-and-trade programs can add to the price of fossil fuel energy, making renewables more competitive.
Credit: Bill Dickinson/Flickr

The United Nations climate pact, finalized in Paris in December, explicitly supports the ongoing growth of cap-and-trade systems — including across international borders.

But the mishmash nature of national climate pledges made under the Paris agreement is creating fresh complications for the growth of pollution trading. Upcoming rounds of U.N. climate talks will attempt to resolve some of those complications.

“The Paris text recognizes that countries can use markets to achieve their goals — their emissions goals,” said Alex Hanafi, an Environmental Defense Fund expert on climate diplomacy.

“This was a political signal,” Hanafi said. “It’s a momentum builder for markets. It says, ‘We recognize these markets can help drive ambition.’ And we all know we need more ambition.”

Under international carbon trading, a firm could offshore some of the pollution improvements mandated by the country in which it operates. It would do that by purchasing an allowance issued by a foreign government.

Economists say such an approach improves efficiencies and reduces the costs of climate action. International markets are already being put in place, such as through joint trading between California and Quebec, which began a year ago.

The vast majority of carbon trading right now occurs within domestic markets, such as within the European Union, New Zealand or South Korea. The Paris agreement could promote more international trading.

Before international trading can take off, though, experts say new global rules will need to be developed by U.N. climate negotiators to complement December’s high-level agreement.

“The next steps are going to be to put some flesh onto what is really the bare bones, the basic structure of the agreement,” said Robert Stavins, a Harvard University economics professor.

Efforts by China to introduce a nationwide cap-and-trade program in 2017 are expected to nearly double the amount of pollution that’s being regulated under cap-and-trade systems globally, an analysis published Tuesday by the International Carbon Action Partnership shows.

“China is just a big player,” said Constanze Haug, a project manager at the partnership, which is a global group of governments that have established or are pursuing cap-and-trade programs.

Prices rose in most cap-and-trade programs last year.
Click to Enlarge Credit: International Carbon Action Partnership Status Report 2016

Next year, 16 percent of global greenhouse gas emissions are projected to covered by a cap-and-trade system, the analysis revealed. That’s up from an anticipated 9 percent this year. It would also represent a fourfold increase from 2010, when just 4 percent of pollution was covered.

Prices paid for pollution alliances rose slightly last year in most markets analyzed, including in Europe and Kazakhstan and through the Regional Greenhouse Gas Initiative, covering New York, Massachusetts and seven other nearby states.

Although carbon trading systems are now being put in place by governments around the world, the unambitious nature of the efforts by those governments to substantially curb their climate impacts is keeping prices and demand for allowances low.

Governments are spending revenues from cap-and-trade programs on efforts that support clean energy and help reduce electricity bills. Low prices reduce potential revenues, while minimizing incentives for polluters to invest in cleaner technology.

Most of the pledges made under the Paris agreement will be relatively easy to achieve, including the U.S.’s goal of reducing climate pollution by a little more than a quarter between 2005 and 2025.

“I think Paris really gives the possibility of the establishment of markets for the creation of new cooperative approaches,” Nicolas Kreibich, a researcher at the Wuppertal Institute for Climate, Environment and Energy, said. “But, of course, what’s still is lacking is demand.”

In their pledges, most countries said they would use carbon trading to help meet their climate goals, or that they would consider doing so.

Kreibich coauthored a recent report for the German government that identified the “increasing complexity” of carbon trading that will be created by the Paris agreement.

“The main problem is accounting,” Kreibich said.

Cap-and-trade programs help replace electricity from fossil fuels with cleaner alternatives.
Credit: Jan Brodbeck/Flickr

Not only did countries pledge to achieve very different goals under the Paris agreement, but their pledges were also framed by wildly different parameters.

Most pledges run from 2020 through 2030, but some, including by the U.S., run from 2020 to 2025. Some pledges covered a five- to 10-year period; others pledged only to reduce or slow pollution by particular amounts during a single given year.

U.N. climate negotiators will begin trying to establish rules for international trading under the Paris agreement during meetings in Germany in May and in Morocco in November.

Among other things, the new rules will be designed to prevent double counting — in which two countries could both claim credit for the same reduction in greenhouse gas pollution.

“It’s clear that any linking of emissions trading systems will need a whole lot of rules,” the International Carbon Action Partnership’s Haug said. “Everything remains to be fleshed out, and I think everyone in the field has more questions than answers.”