Carbon Credits from the Clean Development Mechanism

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Carbon Credits from the Clean Development Mechanism

Category: Enviroment
Article added by: cesar magnaye

In the whole global warming schema, it is the developed or industrialized countries who occupy the proverbial hot seat, being host to most of the industries that contribute heavily to environmental pollution. This is why under the Kyoto Protocol, which was adopted on December 11,1997 in Kyoto, Japan, the industrialized countries have binding quantitative commitments for the period 2008-2012 to reduce green house gas (GHG) emissions relative to a certain base year level, which in this case is 1990.

Compliance with these commitments by industrialized countries can take several forms. The three "flexibility mechanisms" provided for under the Kyoto Protocol are: joint implementation, international emissions trading and clean development mechanism (CDM). This article discusses the CDM in a way that anyone immersing himself on this topic for the first time will come away informed about its institutional framework, the CDM project cycle, and how Certified Emission Reductions (CERs) or carbon credits are generated.

A. What is CDM ?

At its barest, the CDM allows developed countries to meet their emission reduction targets by paying for GHG emission reduction in developing countries. In the jargon of the Kyoto Protocol, developed countries are called "Annex I" countries ( because they are so listed under Annex I of the Protocol), while developing countries are labeled as "non-Annex I". To use a simple example: Instead of country X reducing emissions of their own industries, this country can just "buy" emission reductions in country Y where a CDM project that switches fuels from coal to biomass results in a reduction of 1.0 million metric tons of carbon dioxide (mtC) per year in the atmosphere. Thus, if the assigned amount of emission reduction to country X is, say, 50.0 million mtC then, because of the CDM, its assigned amount of reduction has been brought down to 49.0 mtC.

There are issues coming from both sides of the CDM fence. Until recently, developing countries have complained that this is just a way for developed countries to shift the action into their domain whereas it is these industrialized countries which should be taking action because it is their emissions that created the global problem in the first place. A related concern in this regard is the possibility that developing countries could be used as technological guinea pigs since under the CDM, all kinds of experimental technologies that presumably cut carbon dioxide emissions could be pushed even if these are not economically viable. For sure, there are still other issues involved in CDM but what I've just cited are among the more emotional ones.

B. Institutional Framework for CDM

To facilitate CDM projects, new institutions, both at the international and national levels, were created. The United Nations Framework Convention on Climate Change (UNFCCC) appointed a ten-member Executive Board to oversee and approve CDM projects and issue carbon credits. In addition to the Executive Board, there are so-called Designated Operational Entities (DOE) which are accredited and certified by the Executive Board to help them review, validate, audit, monitor and certify CDM project around the world.

At the national level, each host Government (like the Philippines) has a Designated National Authority (DNA) for CDM (the Philippines' Department of Environment and Natural Resources). In our case, the DNA for CDM, using its national approval criteria, evaluates whether a project activity contributes to the country’s sustainable development and whether the Philippine-based project participants have the capacity to participate in the proposed project. This approval from the host country's DNA is a critical aspect of, and a major step in, the CDM project cycle. It is, in fact, a prerequisite to the international registration of a proposed project activity as a CDM.

C. The CDM Project Cycle

Step 1: Project Design

In designing a CDM project, the project proponents or participants should consider the three approval criteria that a project has to satisfy:

1. Project not a "baseline" scenario. The baseline is a reference point, a scenario without the CDM project activity. Thus, the proposed project should prove that it can reduce GHG emissions over the baseline using either an approved methodology, or a totally new methodology. There are three acceptable approved baseline methodologies, namely: status quo emissions ("business as usual"); market conditions; and, best available technology. As for new methodology, a project proponent has to explain, among others, how the baseline was establshed, justify its use, and assess its strengths and weaknesses.

2. Project is "additional". The simplest way to explain "additionality" is to think of a project as eligible for CDM benefits if it can show that by implementing it, there will result a net decrease in GHG emissions relative to a baseline scenario. There is a caveat here, however. If the project activity is to be undertaken because of a law requiring it, then it is not generally eligible for CDM benefits.

3. Project contributes to "sustainable development". This criteria is a host country prerogative. In the Philippine case, "sustainable development" is viewed by the Designated National Agency (DNA) for CDM from three perspectives: economic, environmental and social. In order for the DNA to be able to identify the sustainable development impact of a proposed project, the project participants have to propose project level indicators which, when measured, comes up with an overall impact that is positive.

Step 2: Validation and Registration

After getting the host country's DNA Approval, the CDM project goes through a validation process conducted by DOEs. There are currently 17 accredited and provisionally designated OEs by the CDM Executive Board. In addition, there are some 30 pending applications for DOE accreditation being considered by the CDM Executive Board as of latest count.

Validation involves ensuring that the project meets the criteria or guidelines set out in the Marrakech Accords, primarily Appendix B. However, since the guidelines in the Marrakech Accords are too broad to be useful at the implementing level, it became necessary for the CDM Executive Board to make additional elaborations.

Without going into a discussion of validation protocols that have evolved to fill up the gaps in the Marrakech guidelines, DOEs make sure that the following are included and addressed in the project design:

--The project is voluntary and is approved by the host country (the confirmation will be made public and will be open for comment);

--The project complies with the Marrakech Accords and subsequent decisions;

--It is shown that GHG emissions decreases are above and beyond business as usual;

--It includes stakeholders comments;

--It includes an environmental impact analysis;

--That the project boundary comprises all GHG sources that are under the control of the project participants and that are attributable to the CDM project (so-called leakage); if not these amounts must be adjusted;

--That the baseline methodology complies with previously approved methods; new baseline methodologies need to be submitted to the executive biard for approval; and

--That a crediting period was chosen.

After the DOE completes its validation of a CDM project, a report is submitted to the CDM Executive Board in Bonn. The process of formally accepting the DOE validation report is called Registration. Eight (8) weeks after the CDM Executive Board receives said report from the DOE, the registration becomes final.

Step 3: Project Start-Up and Monitoring

With actual project start-up, it is possible to collect and archive all relevant data for establishing GHG emissions, by sources, occurring within the project boundary during the crediting period. There are six GHGs specified in Annex-A of the Kyoto Protocol, namely: Carbon dioxide (CO2), Methane (CH4) , Nitrous oxide (N2O), Hydrofluorocarbons (HFCs), Perfluorocarbons (PFCs), and Sulphur hexafluoride (SF6).

As in the case of baseline methodologies, monitoring methodologies must either comply with approved methods or, if new, must be shown to have been successfully applied in other projects. There are at least two ways by which GHG emissions can be monitored. One way is through the use of physical monitoring devices. The other is through models/conversion of fuel inputs. The choice of monitoring method will depend on several factors like: type of project, level of accuracy for verification, level of aggregation, and the baseline methodology.

Step 4: Verification and Certification

After project start-up and data monitoring, the DOE steps in again to perform the third party review of the emission reductions that have occurred as a result of the CDM project. More specifically, the DOE will do the following:

--Verify the methodologies used;

--Make sure the documentation is complete (if necessary, recommend changes);

--Determine emission reductions;

--Inform project participants of any concerns or issues; and

--Provide a verification report to the project participants.

In performing its task, the DOE will likewise:

--Make on-site inspections;

--Interview stakeholders;

--Collect measurements;

--Observe practices; and

--Test the accuracy of monitoring equipment.

After verifying the stated emission reductions achieved by the CDM project for a specified period, the DOE issues a written assurance or certification based on its verification report. In effect, the certification ensures that GHG emission reductions did in fact occur above and beyond "business as usual". Fifteen (15) days after the CDM Executive Board receives the written certification from the DOE , the same is considered final.

After the first certification, the DOE will then make periodic checks or verifications, once a year, for the duration of the implementation of CDM under the Kyoto Protocol.

Step 5: Issuance of CERs

The written certification report by the DOE includes a request that the CDM Executive Board issue CERs or carbon credits equal to the amount of GHG emission reductions attained by the CDM project. The issuance is considered final fifteen (15) days after the CDM Executive Board receives the request for issuance.

If there is a reason to believe that the DOE engaged in fraud or malfeasance, or is incompetent, the CDM Executive Board will make its review of the DOE certification within thirty (30) days following the decision to review is made. On the other hand, if there are no issues, the CDM registry administrator (part of the Executive Board) deposits the CERs in the registry accounts of the Parties and project participants, minus administrative expenses. These CERs or carbon credits can now be traded and monetized.

(This is an edited and shortened version of the article series which was published earlier at http://investmentbankeronlife.blogspot.com)

Posted By: cesar magnaye
Web: http://investmentbankeronlife.blogspot.com
Contact: e-mail

About the Author:
Cesar Magnaye is a Filipino economist, corporate planner, and investment banker. He is presently a consultant to the Philippine National Bank and the Department of Finance. You can find his blog, "An Investment Banker's Take On Life", at http://investmentbankeronlife.blogspot.com. He also writes for the LendingClub.com blog.

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