The Innovative Carbon Market

1. Consider
   this: Every year the average sow and her piglets produce 9.2 tons of
   carbon-dioxide equivalent through the methane emissions from their
   effluent. In the past, that has been a problem both for the environment
   and for pig-farmers. In developing countries the pig-effluent collects in
   open lagoons which smell bad and get infested with flies. Sometimes it
   flows straight into nearby water systems. This has now turned into an
   opportunity. Bunge, an agricultural-commodities business based in America,
   builds lines and enclosed pools to collect the effluent and captures the
   methane that it emits. The farmer can use the gas to generate electricity.
   By preventing methane from escaping into the atmosphere, Bunge creates a
   credit which it can sell on the carbon market. The farmer gets to keep
   20-30% of the value. Bunge has 40 such projects operating in Brazil and is planning to expand into Mexico, Guatemala,
   Peru and the Philippines.
2. Although
   carbon market operates like a commodity market, what is being bought and
   sold does not exist. The trade is not actually in carbon but in
   not-carbon: in certificates establishing that so many tones of carbon
   dioxide (or the equivalent in other greenhouse gases) have not been
   emitted by the seller and may therefore be emitted by the buyer.
3. The
   purpose of setting up the market was, first, to establish a price for the
   carbon and second, to encourage efficient emissions reductions by allowing
   companies which would find it expensive to cut emissions to buy credits
   more cheaply.
4. The
   carbon price was established by the European Emissions-Trading Scheme
   (ETS).
5. The
   supply of carbon credits comes principally from two sources:
   1. The
      first is the allowances given to companies in the five dirty industries
      covered by the ETS (electricity, oil, metals, building materials and
      paper).
   2. The
      second source of carbon dioxide lies outside Europe.
      The European Commission linked the ETS to the “clean development
      mechanism” (CDM) set up under the Kyoto
      protocol. This provides for emissions reductions in developing countries
      – such as those on the Latin American pig farms – to be certified by the
      UN. Such “certified emissions reductions” (CER) can then be sold.
6. The
   carbon trade is now sizeable. Some €22.5 billion-worth ($30.4 billion) of
   allowances were traded last year, according to Point Carbon, a
   data-provider, representing 1.6 billion tones of carbon dioxide – a huge
   increase on the €9.4 billion traded in 2005. Europe’s
   ETS made up about 80% of the total value.
7. Developing
   country CERS accounted for about €4 billion of last year’s trade: 562m tones
   of carbon dioxide.
8. According
   to New Carbon Finance, a research company, carbon funds worth $11.8
   billion have been raised so far. Half of that total is managed from London. Climate
   Change Capital, a niche investment bank, raised $130m for its first carbon
   fund, launched in July 2005; its second, launched a year later is now
   worth around $1 billion. According to Tony White of Climate Change
   Capital, all of money for the first fund came from hedge funds, which like
   risk. By the time the second fund was established, more cautious
   investors, such as pension funds and banks, were prepared to put money
   into it. The money has gone mostly into projects in developing countries
   to produce CERS. Bunge’s Brazilian pig-farmers are making CERS out of
   their animals’ effluent. But the bulk of the investment has gone into
   greenhouse-gas capture in China.
9. The
   most potent greenhouse gas is HFC-23, a by-product of HCFC-22, a chemical
   used in, among other things, fridges. Its global warming effect is, ton
   for ton, 11,700 times greater than that of carbon dioxide, so it is good
   to get rid of it, and cheap too; capturing and burning it off costs less
   than €1 for the equivalent of one ton of carbon dioxide. These days China
   produces most of the world’s HFC-23. That-along with the fact that the
   Chinese government is efficient to deal with – explains why 53% of the
   total volume of CDM projects in 2006 – worth around €3.5 billion in total
   – went to China.
10. The
    very cheapness of cutting emissions of HFC-23 makes the trade controversial.
    Credits costing less than €1 to produce have been sold on the market for
    up to €11. Factories have found that their damaging by-product, HFC-23,
    can be more valuable than their main output.
11. The
    Chinese government realizing how much money there is in this business, has
    imposed a tax of 65% on revenues from it, and in February this year it
    launched its own $2 billion CDM fund.
12. Of the
    65% of companies surveyed by Point Carbon earlier this year which claimed
    that the ETS has led them to abate their emissions (up from 15% the
    previous year), most were planning to buy credits rather than cut their
    own emissions. Yet the ETS was intended to cut European emissions as well
    as Chinese ones.
13. The
    carbon price has delivered some of the innovation that it was supposed to.
    1. Shell,
       for instance, is pumping carbon dioxide from a refinery in the Botlek
       area of the Netherlands
       into 500 greenhouses producing fruit and vegetables, thus avoiding
       emissions of 170,000 tons of carbon dioxide a year and saving the
       greenhouse owners from having to burn 95m cubic meters of gas to produce
       the carbon dioxide they need.
    2. Alcan,
       an aluminum company, is planning to use the heat from one of its smelters
       to increase the efficiency of its power generation plant at Lynemouth in
       Nothumberland in Britain.
       Wyn Jones, managing director of Alcan’s British smelting and
       power-generation operations, says this will save 150,000 tons of carbon
       dioxide a year (€3m if the price of carbon dioxide is around €20 a ton,
       as Alcan expects) and 60,000 tons of coal (₤2.1m, or $4.2m, at around ₤35
       a ton). The project is expected to have a payback period of around five
       years.
14. Some
    issues to think about:
    1. Chinese
       CERS are too cheap and the carbon price is too low and too volatile. Even
       when it was bouncing around at €15-25, it did not seem to encourage much
       new investment.
    2. According
       to Bjoern Urdal of Sustainable Asset Management who took a detailed look
       at the effects of the carbon price on the German electricity market last
       year, replacing old coal-fired power stations with gas-fired ones became
       worthwhile only at a carbon price of €33. He has not done the sums since
       last November, when the European Commission chucked out Germany’s
       “transfer rule” (which would have exempted new coal-fired stations from
       the ETS for 14 years), but reckons the break-even point will have come
       down to more like €25.
    3. The
       European Commission’s “transfer rule” and the decision to slash national
       governments’ planned allocations to industry for the period 2008-2012
       have helped raise the carbon price. The price of phase two allowances has
       risen to a level high enough to get some power generators to switch from
       coal to gas at the margin when the gas prices is moderate; but not high
       enough to get them to replace coal-fired power stations with gas-fired
       ones – nor to encourage much of the innovation that carbon trading had
       been expected to spawn.

Source: The Economist, June 2^nd 2007. (“Trading thin air”
pp. 8-10)