Market-based mechanisms

Use of market-based mechanisms are favored by economists and welcomed by industry as they reduce the costs of meeting emissions targets.  The Kyoto Protocol created three distinct flexibility mechanisms to reduce the economic burden of target compliance—joint implementation, the Clean Development Mechanism, and international emissions trading.  The advantages and limitations of these approaches, as well as the employment of a carbon tax, should be considered.

Market-based mechanisms are generally favored by economists and welcomed by industry, as they tend to reduce the costs to industry (or countries) of complying with targets. However, effective trading approaches require an overall cap on emissions. Analysts are discovering that the administrative difficulties of implementation and enforcement of capand-trade systems amongst countries are not trivial. The Financial Times recently exposed the weaknesses in the carbon offsets market with buyers paying either for reduction that do not take place or for reductions that would have taken place anyway. Partly for these reasons, some economists prefer the levying of taxes on activities that lead to the emissions of greenhouse gases.

Carbon taxes are easier to implement than cap-and-trade schemes, economically efficient, but politically difficult to legislate in some democratic regimes. A carbon tax would reduce carbon emissions and increase revenues. Substantial benefits could be gained from carbon taxes in all countries based on the “common but differentiated” principle. In addition to emissions reductions, they would generate resources for the development of clean energy sources as well as for the cost of adaptation in poor developing countries.

The CDM was created to support low-carbon investment in developing countries. It allows both the private sector and governments to invest in projects that reduce emissions (as compared to emissions that would occur in a baseline scenario) in developing countries, and provides one way to support links between different regional emissions trading schemes. However, it has encountered administrative and technical hurdles, and its future is clouded because of the uncertainty about the post-2012 regime. Appendix 3 summarizes other challenges that the CDM faces. Initial CDM projects have been limited to a few countries, and a few gases, and have been plagued by bureaucratic procedures, with little contribution to sustainable development.

Some analysts have suggested that these market-based mechanisms are good at identifying the cheapest mitigation opportunities amongst existing options, and spurring innovations that have immediate cost reductions, but are less helpful in spurring the development of new lowemission technologies.

Questions for GLCA:

-Should GLCA advocate or recommend a carbon tax, cap-and-trade system, or a combination of both?

-Should GLCA propose concrete steps for reforming the CDM?

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