7 December, 2018

Beyond offsets? Market mechanisms under the Paris agreement

One aspect of the Paris Agreement rulebook that hangs in the balance at COP 24 is the role of market mechanisms. Market mechanisms, or more broadly emission trading schemes, have been around for a long time, including, for example the Clean Development Mechanism (CDM) under the Kyoto Protocol. Ongoing negotiations on the rules for markets under the Paris Agreement provide an important moment to reflect on what we want markets to deliver, and to design a system that goes beyond simple offsetting.
©Inga Menke

The aim to deliver an “overall mitigation in global emissions” is a central and critical new element of the market mechanisms under Articles 6.2 and 6.4 of the Paris Agreement, that takes carbon markets beyond the offsetting approaches of the existing markets like the CDM.

The mandates under A6.2 and A6.4 bring the focus on the primary purpose of mechanisms: to deliver on cost-effectively reducing greenhouse gas emissions, rather than creating carbon markets for their own sake. One of the risks is that market mechanisms can become simply off-setting mechanisms, or worse, by bad design can create ways of avoiding action and increasing total emissions beyond what would otherwise have occurred in the absence of the mechanism.

For many years, small islands have called for the market mechanisms to go beyond offsetting to deliver measurable, net mitigation that the atmosphere actually sees: a real reduction in emissions. The discussions under Articles 6.2 and 6.4 of the Paris Agreement in Paris Agreement Work Programme to be agreed here at COP24 now need to deliver this.

The submission by the Alliance of Small Islands States lays out how market mechanisms should be designed. They should:

  • ensure that use of market-based mechanisms does not erode the environmental integrity of Nationally Determined Contributions, individually or in aggregate;
  • ensure that Article 6 delivers a substantial overall mitigation of global emissions;
  • ensure that use of Article 6 tools is only supplementary to domestic mitigation efforts and does not replace them;
  • provide centralised oversight over all units generated under the UNFCCC;
  • establishing a common international accounting framework to ensure no double counting;
  • direct a substantial share of proceeds to support the adaptation needs of particularly meaningfully utilised to support the adaptation needs of particularly vulnerable developing countries and thereby contribute to the achievement of the Paris Agreement goals;
  • create opportunities and positive incentives to support mitigation ambition, while avoiding incentives that run contrary to the principles and goals of the Paris Agreement.

In the context of the Paris Agreement rule book, small islands call for a mandatory cancellation or discounting – essentially a set aside – for an Overall Mitigation in Global Emissions (OMGE) that no Party can use towards its NDC, applied to activities under both Articles 6.2 and 6.4.

But wouldn’t such approaches lead to market distortions, fewer projects being implemented, and higher costs for buyers? An overall less attractive system for project owners, who are often in developing countries?

These questions have been investigated in detail in a recent publication by Lambert Schneider and colleagues, and the clear answer is ‘no’. The report finds that:

“Even though fewer credits are transacted … implementing overall mitigation leads to more overall abatement activity in transferring countries. Under a broad range of circumstances, the abatement in transferring countries is the higher (sic), the larger the rate of overall mitigation is chosen.”

And that

“Project owners also benefit because implementing overall mitigation leads to higher carbon market prices: while their costs of supplying offset credits increase, this is outweighed by higher revenue from higher offset credit prices.”

So everyone is better off? Not directly. As the costs of purchasing offset credits increase, the cost of achieving overall mitigation is borne by the buyers of the offset credits. However, this also reduces the incentives to rely heavily on such mechanisms instead of achieving the domestic reductions that all countries should be aiming for.

This higher price has a benefit though for vulnerable countries – a side benefit of the proposal is to increase adaptation funding. Art 6.6 requires the Parties to ensure that a share of the proceeds from Article 6 activities is used to assist developing countries that are particularly vulnerable to the adverse effects of climate change to meet the costs of adaptation. Higher prices for Article 6 reductions will generate a greater pool of funding for adaptation.

A market mechanism designed this way would be of great value to support the push for more ambitious mitigation action and the implementation of the Paris Agreement, rather than continuing the offsetting status quo.