Working out the potential demand for carbon from the nations that intend to use the international markets is fairly straightforward. First I developed a business as usual or BAU scenario. I used the IEA’s Current Policy Scenario or CPS to develop a BaU scenario. (The CPS models carbon emissions without any policy constraints and is regarded as the IEA’s BAU scenario.) I then worked out the emissions trajectory under the INDC.1 Finally, I subtracted the BAU scenario from the INDC scenario to work out the demand for carbon. This is illustrated for Japan in the figure below.
Sources and analytics available on request
I repeat the process for the other countries apart from Liechtenstein, due to its size (its total emissions count up to 0.0073% of global emissions). The five nations generate demand for 1.9 billion tonnes of carbon from 2021 to 2030, with South Korea, Japan, Switzerland, Ethiopia and New Zealand demanding 1,067, 682, 64, 42 and 22 mt, respectively. The results are presented in the figure below.
Sources and analytics available on request
This analysis comes with four rather hefty caveats. First, the figure represents aggregate demand. The primary focus of most INDCs is domestic reductions, even those intending to use the international market for compliance.
Second, the baseline used in this analysis is very conservative. One could easily argue that the INDCs in their current form are simply business as usual. (This is precisely my opinion.)
Third, the number of seller nations is unknown. Besides Ethiopia, all of the above nations are, or, in the case of the Koreans, will shortly be, buyers of international credits. This is complicated further by the potential ambitiousness of Ethiopia’s target. A market isn’t a market unless there are buyers and sellers.
Fourth, inventory methodologies cloud the level of absolute demand. For the trade of international permits, there needs to be a common definition of a tonne of CO2. Currently there are many methodologies and limited levels of transparency.
Those nations who are basing targets on BAU trajectories have not provided GDP rates. Other nations still want to take advantage of LULUCF (land use, land use change and forestry) accounting rules. For example, New Zealand’s 2020 and 2050 goals use net emissions for the target and gross emissions for the baseline. If New Zealand uses the same accounting for its 2030 goal it will lead to a significant increase in absolute emissions, as detailed here. (Its 2050 target – yes 2050 target – actually represents an increase in absolute emissions.) From the view of an outsider, it is hard to work out what is more surreal: that New Zealand gets away with using Enron-inspired accounting, or that this methodology has been legitimised by the UNFCCC.
The lack of demand from EU, US and potentially China calls into question the continuation of the UN’s flexible mechanisms. Japan is developing its own crediting mechanism, which could quite easily be coupled into its escapade to sell “high efficiency” coal plant technologies in non-OECD Asia and Europe. For example: 1) Japan dangles soft-finance in front of non-OECD Asian and European nations; 2) non-OECD Asian and European nations use the soft-finance to replace subcritical plants with more efficient ones bought from Japan; and 3) the CO2 savings are sent back to Japan in the form of carbon credits.
My advice to those looking to get involved in post-2020 origination is simple: follow the ambition. The SEI study, which highlighted that 80% of ERUs used by came from projects with “questionable or low environmental integrity” was a story of weak climate ambition as much as poor governance. Not that getting involved in these markets was not lucrative. (Just ask Vitol who sold ERU/CER call options while simultaneously dumping their ERU portfolio on the market via Eastern European brokers.) But it is unlikely that such markets will exist post-2020. Lessons have been learned and the quick money has gone. This reality perhaps explains why the Californian carbon market has not been subjected to the same controversies that plagued the EU ETS.
Moreover, while the 1997-2014 period saw risk in the form of economic instability and political flippancy, the 2015-2030 timeframe will see a different and arguably more unpredictable form of risk: disruption of the power system. The power sector (as well as transport) is the next big opportunity for technology, hence why Google, Tesla et al are moving into this space. Once a breakthrough in the storage of variable renewable energy occurs, demand for abatement could collapse.
1. For those countries which aren’t modelled individually by the IEA’s WEO, I used the CAGR for the relevant region. World Bank data is also used.
This article was originally published on Climate Trader’s blog.