Market Mechanisms

Market Mechanisms

Subject – Environment

Context – The developed world hopes to invest in emissions reduction in Global South via markets for carbon credits

Concept –

• Market is the way the developed world hopes it will be able to invest in emission reduction in the countries of Global South and get credits in its carbon balance sheet.
• The Paris Agreement includes “market mechanism” as the tool to make this happen.
• The Kyoto Protocol, the first accord under the UN Framework Convention on Climate Change that came into force 2005, had established Clean Development Mechanism (CDM) for this carbon purchase.
• The Paris Agreement includes provision for two types of market instruments—Internationally Transferred Mitigation Outcomes (ITMO) under Article 6.2 and Sustainable Development Mechanism (SDM) under Article 6.4.

Internationally Transferred Mitigation Outcomes (ITMO)

• Under ITMO, the aim is to establish bilateral or mini-multilateral markets—similar to the EU Emissions Trading System.
• It is also about securing overall mitigation in global emissions.
• Internationally transferred mitigation outcomes (ITMOs) use a carbon dioxide equivalent [CO2e] metric for a new set of market provisions or other greenhouse gas (GHG) mitigation outcomes that are defined under Article 6 of the Paris Agreement.
• Under Article 6.2, ITMOs differ from previous offset schemes, as they count toward countries’ Nationally Determined Contributions (NDCs), support overall mitigation in global emissions (for Article 6.4) and involve more substantial government participation than under the Clean Development Mechanism of the Kyoto Protocol. Although the Paris Agreement rulebook is not fully finalized, enough has been agreed for some countries to begin engaging and planning for ITMO transactions.
• What is in Article 6.2 of the Paris Agreement?

Article 6 of the Paris Agreement makes provisions for voluntary international cooperation between parties to achieve NDC targets. Sub-section 6.2 calls for transparency and the avoidance of double counting when two parties engage in the international transfer of emission reductions known in the Agreement as Mitigation Outcomes. This sub-section implies that two parties can enter into an agreement whereby one party reduces carbon emissions and transfers those reductions to the other party which counts it towards its NDC targets. It is assumed that the receiving party will provide financial compensation to the transferring party.

How does Article 6.2 help a country achieve its NDC commitment?

Transferred mitigation outcomes contribute to the NDC targets of the party that purchases the ITMO. The selling party must make a corresponding adjustment which means that it has to “un-count” these mitigation outcomes from the emission reductions that contribute to its NDC targets

Sustainable Development Mechanism (SDM)

• Under SDM, the aim was to create a new international carbon market for the trade of emissions cuts, created by the public or private sector anywhere in the world, shaped on the previous CDM.
• Preventing double-counting is harder under the Paris Agreement than under the Kyoto Protocol. This is because, unlike Kyoto Protocol, all countries have taken on national targets (NDCS) under the Paris Agreement.
• Article 6 of the Paris Agreement established the Sustainable Development Mechanism (SDM) as a new carbon market instrument for the period after 2020. Its purpose is inter alia to replace the existing mechanisms under the Kyoto Protocol, the CDM and JI with a more effective climate tool. The chapeau of Article 6 sets out the overall purpose of the article including the SDM, namely that its provisions are established to promote: i) higher ambition ii) sustainable development and iii) environmental integrity.
• The SDM will function in a radically changed world, where all Parties have commitments to contribute to the common objectives of limiting global warming to 1.5 degrees, de-carbonization by the second half of this century, and the Sustainable Development Goals laid out in the UN 2030 Agenda.
• Notably, under the Paris Agreement, all Parties can host SDM projects on a voluntary basis. When elaborating the rules, modalities and procedures for this new mechanism, the experience with existing mechanisms, especially the CDM are of utmost importance. The Paris Agreement specifically invites Parties to build on the experience gained so far from the Kyoto mechanisms. However, the SDM should not be a copy-paste exercise from the CDM. Rather, the SDM should be a new instrument that draws lessons from both the successes and mistakes of the CDM.