Clean Development Mechanism

CDM directs here. For other uses see CDM (disambiguation).

The Clean Development Mechanism (CDM) is an arrangement under the Kyoto Protocol allowing industrialised countries with a greenhouse gas reduction commitment (called Annex 1 countries) to invest in projects that reduce emissions in developing countries as an alternative to more expensive emission reductions in their own countries. The most important factor of a carbon project is that it establishes that it would not have occurred without the additional incentive provided by emission reductions credits.  

The CDM allows net global greenhouse gas emissions to be reduced at a much lower global cost by financing emissions reduction projects in developing countries where costs are lower than in industrialized countries. However, critics argue that by allowing "business as usual" projects some emission reductions under the CDM are false or exaggerated, and in early 2007 the CDM was accused of paying €4.6 billion for projects that would have cost only €100 million if funded by development agencies (see discussion below).

The CDM is supervised by the CDM Executive Board (CDM EB) and is under the guidance of the Conference of the Parties (COP/MOP) of the United Nations Framework Convention on Climate Change (UNFCCC).

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History and Purpose

The CDM was an important feature of the negotiations leading up to the Kyoto Protocol. Some governments desired flexibility in the way that emission reductions could be achieved and proposed international emissions trading as a way of achieving cost-effective emission reductions. At the time it was considered a controversial element and was opposed by environmental NGOs and, initially, by developing countries who felt that industrialised countries should put their own house in order first and feared the environmental integrity of the mechanism would be too hard to guarantee (see Environmental Concerns below). Eventually, and largely on US insistence, the CDM and two other flexible mechanisms were written into the Kyoto Protocol.

The purpose of the CDM was defined under Article 12 of the Kyoto Protocol. Apart from helping Annex 1 countries comply with their emission reduction commitments, it must assist developing countries in achieving sustainable development, while also contributing to stabilization of greenhouse gas concentrations in the atmosphere.

To prevent industrialised countries from making unlimited use of CDM, Article 6.1 d) has a provision that use of CDM be ‘supplemental’ to domestic actions to reduce emissions. This wording has led to a wide range of interpretations - the Netherlands for example aims to achieve half of their required emission reductions (from a BAU baseline) by CDM and JI^{[citation needed]}.

The CDM gained momentum in 2005 after the entry into force of the Kyoto Protocol. Before the Protocol entered into force, investors considered this a key risk factor. The initial years of operation yielded fewer CDM credits than supporters had hoped for, as Parties did not provide sufficient funding to the EB. This left it understaffed.

CDM project process

Outline of the project process

An industrialised country that wishes to get credits from a CDM project must obtain the consent of the developing country hosting the project that it will contribute to sustainable development. Then, using methodologies approved by the CDM Executive Board (EB), the applicant (the industrialised country) must make the case that the carbon project would not have happened anyway (establishing additionality), and must establish a baseline estimating the future emissions in absence of the registered project. The case is then validated by a third party agency, called a Designated Operational Entity (DOE), to ensure the project results in real, measurable, and long-term emission reductions. The EB then decides whether or not to register (approve) the project. If a project is registered and implemented, the EB issues credits, called Certified Emission Reductions (CERs, commonly known as carbon credits, where each unit is equivalent to the reduction of one metric tonne of CO₂e, e.g. CO₂ or its equivalent), to project participants based on the monitored difference between the baseline and the actual emissions, verified by the DOE.

Establishing additionality

To avoid giving credits to projects that would have happened anyway ("freeriders"), rules have been specified to ensure additionality of the project, that is, to ensure the project reduces emissions more than would have occurred in the absence of the project. There are currently two rival interpretations of the additionality criterion:

1. What is often labelled ‘environmental additionality’ has that a project is additional if the emissions from the project are lower than the baseline. It generally looks at what would have happened without the project.
2. In the other interpretation, sometimes termed ‘project additionality’, the project must not have happened without the CDM.

A number of terms for different kinds of additionality have been discussed, leading to some confusion, particularly over the terms 'financial additionality' and 'investment additionality' which are sometimes used as synonyms. 'Investment additionality', however, was a concept discussed and ultimately rejected during negotiation of the Marrakech Accords. Investment Additionality carried the idea that any project that surpasses a certain risk-adjusted profitability threshold would automatically be deemed non-additional^[1]. 'Financial additionality' is often defined as an economically non-viable project becoming viable as a direct result of CDM revenues.

Many investors argue that the environmental additionality interpretation would make the CDM simpler. Environmental NGOs have argued that this interpretation would open the CDM to free-riders, permitting developing countries to emit more CO₂ while failing to produce emission reductions in the CDM host countries.

It is never possible to establish with certainty what would have happened without the CDM or in absence of a particular project, which is one common objection to the CDM. Nevertheless, official guidelines have been designed to facilitate uniform assessment^[2] set by the CDM Executive Board for assessing additionality.

Establishing a baseline

The amount of emission reduction, obviously, depends on the emissions that would have occurred without the project. The construction of such a hypothetical scenario is known as the baseline of the project. The baseline may be estimated through reference to emissions from similar activities and technologies in the same country or other countries, or to actual emissions prior to project implementation. The partners involved in the project could have an interest in establishing a baseline with high emissions, which would yield a risk of awarding spurious credits. Independent third party verification is meant to ameliorate this potential problem.

Financial issues

With costs of emission reduction typically much lower in developing countries than in industrialised countries, industrialised countries can comply with their emission reduction targets at much lower cost by receiving credits for emissions reduced in developing countries as long as administration costs are low. However, many CDM projects have led to excessive profits (see next section).

The IPCC has projected GDP losses for OECD Europe with full use of CDM and Joint Implementation to between 0.13 and 0.81 % of GDP versus 0.31 to 1.50 %^[3] with only domestic action.

While there would always be some cheap domestic emission reductions available in Europe, the cost of switching from coal to gas could be in the order of €40-50 per tonne CO₂ equivalent. CERs from CDM projects were in 2006 traded on a forward basis for between €5 and € 20 per tonne CO₂ equivalent. The price depends on the distribution of risk between seller and buyer. The seller could get a very good price if it agrees to bear the risk that the project's baseline and monitoring methodology is rejected; that the host country rejects the project; that the CDM Executive Board rejects the project; that the project for some reason produces fewer credits than planned; or that the buyer doesn't get CERs at the agreed time if the international transaction log is not in place by then. These risks the seller can usually only take if it is a very reliable counterparty rated by international rating agencies.

Concerns

Exclusion of forest conservation/avoided deforestation from the CDM

The first commitment period of the Kyoto Protocol excluded forest conservation/avoided deforestation from the CDM for a variety of political, practical and ethical reasons^[4]. However, carbon emissions from deforestation represent 18-25% of all emissions ^[5], and will account for more carbon emissions in the next five years than all emissions from all aircraft since the Wright Brothers until at least 2025 ^[6]. This means that there have been growing calls for the inclusion of forests in CDM schemes for the second commitment period from a variety of sectors, under the leadership of the Coalition for Rainforest Nations, and brought together under the Forests Now Declaration, which has been signed by over 300 NGOs, business leaders, and policy makers.

The risk of false credits

As the CDM is an alternative to domestic emission reductions, the perfectly working CDM would produce no more and no less greenhouse gas emission reductions than without use of the CDM. However, it was recognized from the beginning that if projects that would have happened anyway are registered as CDM projects, then the net effect is an increase of global emissions as those "spurious" credits will be used to allow higher domestic emissions without reducing emissions in the developing country hosting the CDM project. Similarly, spurious credits may be awarded through overstated baselines, causing the same problem. Such a rejection is termed a "false positive".

On the other hand, if a project is rejected because the criteria is set too high, there will be missed opportunities for emission reduction. Such a rejection is termed a "false negative". For example, if it costs $75 to remove just one tonne from a domestic power station in a developed country, while the same money would reduce 37.5 tonnes of emissions through a genuinely additional CDM project in China, it is important that the validation process does not become so bureaucratic or onerous as to dissuade the more effective option. Some observers report that the CDM process is producing far more of these false negatives than false positives^[7].

NGOs have criticized the inclusion of large hydropower projects, which they consider unsustainable, as CDM projects. Other concerns are the lack of renewable energy CDM projects and the inclusion of sinks^[8] as CDM projects.

Negotiators have not yet been able to agree on whether, or how, carbon capture and storage projects should be allowed under the CDM. They are also discussing how to reduce as much Hydrofluorocarbon (HFC) emissions as possible under the CDM without creating a perverse incentive to build more HCFC-22 production facilities just to get the revenues from selling CDM credits. If this were to happen, developing countries' obligations to stabilise (2016) and phase out (2040) HCFC-22 would be in jeopardy.

In response to concerns of unsustainable projects or spurious credits, the World Wide Fund for Nature and other NGOs devised a ‘Gold Standard’^[9] methodology to certify projects that uses much stricter criteria than required, such as allowing only renewable energy projects.

The NGO CDM Watch argues that a majority of the CDM projects so far (2005) would have happened anyway, referring among other reasons to project activities completed before final approval as CDM projects, and arguing that these would be viable without the CDM financing, and therefore non-additional.

For example, a South African brick kiln was faced with a business decision; replace its depleted energy supply with coal from a new mine, or build a difficult but cleaner natural gas pipeline to another country. They chose to build the pipeline with SASOL. SASOL claimed the difference in GHG emissions as a CDM credit, comparing emissions from the pipeline to the contemplated coal mine. During its approval process, the validators noted that changing the supply from coal to gas met the CDM's 'additionality' criteria and was the least cost-effective option^[10]. However, there were unofficial reports that the fuel change was going to take place anyway, although this was later denied by the company's press office^[11].

Excessive payments for emission reductions

In early 2007 an issue that had by then already been known for a while^[12] erupted in major media ^[13][14]. A study published in Nature ^[15] found that the main type of CDM projects paid as much as 50 times more for the emission reductions than the costs alone would warrant, with the excessive profits ending up with the factories and the carbon traders.

The particular kind of CDM projects in question regard refrigerant-producing factories in non-Annex-1 countries (particularly China) that generate the powerful greenhouse gas HFC 23 as a by-product. By destroying the HFCs, the factories can earn CER credits. Destroying the HFCs requires a simple and relatively cheap piece of equipment called a scrubber; the author argues it would cost only €100 million to pay producers to capture and destroy HFC 23 compared with €4.6 billion in CDM credits. While this is still cheaper than the typical cost of reducing emissions in industrialised countries, it is seen as a major loophole in the carbon trading system and undermines the tenet of emission trading being as a cost-effective tool for reducing emissions. Also, "HFC 23 emitters can earn almost twice as much from the CDM credits as they can from selling refrigerant gases – by any measure a major distortion of the market," writes the author.

In response, Halldor Thorgeirsson, director of sustainable development mechanisms at the UNFCCC claims: "The idea of easy money is out of proportion." And he says the loophole is now closed and that new HFC 23 facilities will no longer be eligible for CDM credits.^[14]

CDM projects to date

As of 2 November 2007, 828 projects have been registered by the CDM Executive Board as CDM projects ^[16] These projects reduce greenhouse gas emissions by an estimated 171 million ton CO₂ equivalent per year. There are about 2,600 projects in the pipeline (most of which not yet registered) would until the end of 2012 produce over 2.5 billion tons CO₂ equivalent reductions.

For comparison: The current emissions of the EU-15 are about 4.2 billion ton CO₂ equivalent per year^[17]. Of the registered projects in the current pipeline, the majority of CERs have been from HFC destruction projects (see figure), a loophole in the CDM (see discussion above).

References

See also

• CDM Gold Standard
• Flexible Mechanisms
• Mobile Emission Reduction Credit (MERC)
• UNFCCC