Current Climate Policies Emissions Trading and the Role of Sinks

After fighting hard for sinks and emissions trading in the Kyoto Protocol, the USA and Australia are among the few countries that, while having signed the Protocol initially, have now expressed their intention of not ratifying it. Thus, key Conference of the Party (COP) members who had pushed hardest for inclusion of sinks are now not part of the Protocol. Canada has ratified and is perhaps most active among ratifying parties in developing measuring and monitoring techniques that they hope would allow expanded inclusion of sinks. After much uncertainty, the Protocol entered into force because Russia ratified the agreement. With Russia, emissions of ratifying Annex B members - who took on binding caps under the Protocol - exceed 55% of the 1990 emissions of the original Annex B list. This was the key threshold for entry into force as set out in the Protocol, and Russia's ratification brought the parties across that threshold (UNFCCC, 1997, 2005).

Australia has indicated that, while not ratifying Kyoto, it would meet its obliga tions under the agreement. What this means is unclear, but it may affect the sinks issue. If not formally under Kyoto, Australia could pursue a strategy of meeting the numerical target while defining credits for land-use change beyond the limits of the Protocol. The possibility of crediting reduced rates of deforestation against Australia's target was identified in at least one study of the pros and cons of Australian ratification (Kyoto Ratification Advisory Group, 2003). At this point, the chance that the USA would meet the numerical target set out under Kyoto seems remote. The Bush administration announced instead an emissions-intensity target that would allow emissions to rise somewhat from 2000 levels, which contrasts with the Kyoto requirement that the USA return to 93% of 1990 levels (White House, 2002). For the time being the administration believes its intensity target will be met through voluntary measures. The administration pressured industries to identify emissions-reducing actions, and attempted to publicize these promises. Given the nature of the target and the promised actions, varying changes in emissions intensity in different industries, and changing industry composition over time, it is hard to determine with any rigour whether the actions proposed are sufficient to meet the intensity goal. The other continuing effort in the USA is a programme whereby entities can receive recognition for reducing emissions or enhancing sinks by being awarded 'registered reductions' (Federal Register, 2002). The 'incentive' to do so is either goodwill or, more likely, expectations that at some point, there will be a mandatory cap on at least some entities and that registered reductions could be applied to them.

Despite the absence from the Protocol of the USA and Australia, the key supporters of trading, the push for emissions trading appears to have taken hold to some extent under Kyoto. The EU has developed an emissions trading system, and introduced a test phase (2005-2007) that will run prior to the first commitment period of the Kyoto Protocol (EC, 2003, 2005; Betz et al., 2004). So even though the EU was initially hesitant on emissions trading, it now appears to be a major force in designing a domestic system that could be a model for other parties, making the vision of an international market for permits a reality (Ellerman, 2001). There is, however, still a long way to go to extend such a trading system among all ratifying parties. The EU's test programme is limited to large emitting point sources (>10,000 t CO2/year) and thus covers less than half of the EU's total CO2 emissions. Other key parties including Canada, Japan and Russia have not yet moved to establish emissions trading systems. Performance in the EU's trading system from 2005 to early 2006 resulted in prices on the order of ~20-28/t CO2, surprisingly high to many analysts because the required reduction was estimated to be only ~1% (Pew Center, 2005; Point Carbon, 2005a,b). In May 2006, the price dropped to as low as ~9/t CO2 and trading was generally in the range of ~10-20/t CO2.

While emissions' trading remains alive under the Protocol, the Umbrella group's push for sinks was not nearly as successful. Part of the reason why agreement was not reached at the 6th meeting of the COP in The Hague in November 2001 was that the EU held out for limits on the total quantities of sinks credits that could be applied against each country's emissions cap, and this was unacceptable to the USA. Even before George W. Bush was elected President and announced the USA's rejection of the Protocol, the failure at The Hague was essentially the death knell of Kyoto in the USA (Reiner, 2001; Reilly, 2003). The difference in willingness to embrace sinks appears to derive from different views of the nature of the climate change issue as a societal problem. Many in Europe saw the response to the climate change problem as part of an even broader agenda of switching from fossil fuels to 'renewable' sources of energy. The use of sinks was, in the view of some at least, denial or avoidance of these necessary steps to turn the economy away from fossil fuels. In the language of economics, this view might be cast as one in which markets had failed to price fossil fuels to include all of the social costs asso ciated with them (everything from security, air pollution, other health and safety issues, their nature as exhaustible resource, etc.). Rather than try to correct each of these problems, renewable energy proponents see the answer as simply switching away from fossil fuels. Sinks credits were thus seen as a loophole, allowing continued fossil fuel use. This view has appeared to influence the EU's climate change - negotiating positions and the formulation of its domestic policies.

In contrast, the perspective of the USA and Umbrella group concentrated directly on the climate GHG problem, and for carbon this meant focusing on actions that would limit atmospheric concentrations of CO2. It mattered little whether fossil fuel emissions were reduced or carbon uptake by vegetation and soils was increased, or carbon was otherwise sequestered. One tonne removed from the atmosphere was just as good as reducing emissions by a tonne. This focus, along with a desire for cost-effectiveness, led to a desire for maximum flexibility in choosing the least costly way to reduce atmospheric CO2 levels. Separate quantity limits on the use of sinks, if binding, would result in a two-tier permit market - a higher price for emissions reduction and lower price for sinks, reflecting the fact that there were more cheap sinks options available than allowed by the restriction on their use. Most analysts believe that the sinks quantities allowed in the Kyoto Protocol as finally negotiated at COP 7 in Marrakesh in 2001 are so limiting, and the definition of what can be counted so loose that the agreement has been widely modelled as simply a relaxation of the constraint on emissions (Babiker et al., 2002). Underlying this view is the calculation that most countries are likely to have enough carbon uptake in forests without doing anything more than they would have done anyway to fill their sinks limit. In particular, the Protocol allows consideration of forest uptake anytime from 1990 through 2012 to be credited against emissions in the first commitment period of 2008-2012.

The language of the agreement requires some sort of active management to get credit for carbon uptake. For some countries, the implicit definition of 'management' was very narrow: identified tracts of land that were replanted, or planted, and managed with the express intent of storing carbon. Analysts began referring to 'Kyoto forests' to represent the idea that lands earning credits for forest activities would be specifically identified. However, the USA, leading up to the COP meeting at The Hague in 2000, proposed that 'forest management is an activity involving the regeneration, tending, protection, harvest, access and utilization of forest resources to meet goals defined by the forest landowner' (UNFCCC, 2000).

This broad definition would bring in essentially all forestland, at least in the USA and the most developed countries, if not in most of the world, if only because property laws that limit access would, under this definition, seem to qualify the land as 'managed'. Taking this interpretation would essentially mean that all carbon accumulated by forest regrowth during the 2008-2012 period would be creditable against a country's Kyoto target, up to the limits set at Marrakesh.

While the logical basis for including sinks in climate policy is strong, the weak link in the argument is the lack of proven methods for measuring and monitoring them. At the time (and still today) a complete inventory of carbon sinks for all the major parties is not available, and there are legitimate questions about the accuracy of even the best of these inventories. Negotiating the Kyoto Protocol caps with sinks broadly included would have meant that the negotiating countries did not know their own 1990 net emissions baselines, nor did they have much idea of what they would be in 2010. With a cap on fossil emissions there was some certainty, or so it seemed, that the parties to the agreement would lower emissions by about 5% below the 1990 level. Because the forest area of the capped parties together formed a substantial net sink, if all of that could have been credited against emissions, the end result would be that emissions would be higher in 2008-2012 than in 1990 rather than lower. Lacking resolution on how to interpret key terms in the Protocol, the quantified limits on sinks finally agreed upon gave up some of the 5% reduction that would have been achieved, but with the exact sink quantities specified it was not an open-ended amount.

The specific numerical limits on which Europe insisted at The Hague, and those finally reached at Marrakesh, ended a very confusing and complex discussion of just how to include sinks. With these numerical limits the other language that would limit sinks is far less important if not irrelevant. The 'success' of the negotiated limits is that countries can stretch the bounds of plausibility of sinks accounting, if they so desire, but clever interpretation and accounting can never get more credits than the numerically limited amount. The 'failure' is that if it is possible to easily fill up the sinks limit with sinks that would have occurred anyway, the strict limits remove any incentive to actually enhance biological sinks. That is, in a cap-and-trade system, no matter what the allowance price, the credit price for sinks credits would be limited and could approach zero because the use of credits was limited far below the amount that could be forthcoming. For example, the Energy Information Administration (EIA, 2003) analysis of a cap-and-trade system in the USA, with a limit on credits, projected a two-tier pricing result with a lower price for credits than for allowances.

The combination of several factors -(i) the withdrawal of the USA and Australia where emissions are growing rapidly; (ii) a target for Russia and the transition economies of Eastern Europe well above expected emissions (so-called hot air); and (iii) the sinks quantities that were ultimately allowed -has led many analysts to conclude that the cap on the remaining parties may be non-binding in the first commitment period anyway (e.g. Bohringer, 2001; Manne and Richels, 2001; Babiker et al., 2002). So even without generous sinks accounting, it is far from certain that the emissions target in Kyoto will lead to real environmental gains. If it does, it will be the result of countries doing more than they pledged under the agreement (by implementing domestic policies and not fully availing themselves of the excess credits above reference emissions from Russia - so-called hot air). Sinks credits can also be brought into play under the clean development mechanism (CDM) and a number of proposed projects are now undergoing the review process.

As noted above, the current stated policy of the USA is to reduce GHG intensity by 18% over the decade. Most analysis shows that emissions intensity has historically improved at 14%, and so achieving 18% would be a modest reduction below the reference growth. Others dispute this, forecasting that an 18% improvement would occur if nothing were done (e.g. Reilly, 2002). Given the uncertainty, this is probably well within projection error, even if one accepts 14% improvement as the median estimate.

Other unilateral policies have been proposed in the USA, most notably the Climate Stewardship Act of 2003 (S. 139), widely known as the McCain-Lieberman Bill after the senators who co-sponsored the legislation. As introduced legislation, it produced some specific details of what a mitigation programme would look like if this Bill had become law. It was a cap-and-trade with year 2000 emissions as the benchmark, and fairly broadly covered emissions of GHGs. The cap did not cover land use sources or sinks or small sources (<10,000 t CO2 equivalent), although it did cover transport fuel by bringing it under control at the refinery. Small sources and terrestrial sinks of any size were covered under a crediting system, but the total number was limited to a percentage of the total allowances. Paltsev et al. (2003) and EIA (2003) analysed at some length the economic implications of the Bill, and discussed its provisions. While numerically different from the Kyoto target for the USA, the mechanism for sinks - project credits produced outside the cap with a limit on how many could be applied under the cap - is essentially the mechanism of the Kyoto Protocol. Not straying too far from the existing international agreement is perhaps good news if one has hopes that the USA would at some point join it, but bad news if one is looking for innovative policy design that leads to effective and efficient management of carbon in the biosphere.

The Bill failed to pass in the Senate, but once-drafted Bills are often reintroduced or the language in them borrowed for succeeding attempts to draft a Bill. Thus, even in failure it provides some guide as to how the US Congress might approach the problem of mitigating climate change.

Having described the complexity of sinks inclusion in the Kyoto Protocol, a final requirement here is to review the language of the Protocol that includes sinks. The complexity derives (apparently) from a compromise among those wanting to limit sinks and those wanting broad coverage. Thus, we end up with an attempt to limit sinks offsets by defining specific sinks projects on which all could agree. These are 'Article 3.3 sinks' as the language is laid out there. It allows 'removals by sinks resulting from direct human-induced land-use change and forestry activities, limited to afforestation, reforestation, and deforestation since 1990, measured as verifiable changes in carbon stocks in each commitment period' to be used to meet commitments under the Article.

Defining reforestation versus afforestation has required people to imagine how far back in history or prehistory one might go to determine whether a forest was there or not. Defining a forest has required consideration of the minimum density and height of the woody vegetation (Birdsey et al., 2000). The debate has a tendency to become philosophical as analysts grapple with attributing some part of sink increase to 'direct human-induced' change apart from that due to natural causes or indirect actions by humans.

Those pushing for broader inclusion of sinks hold out hope for the so-called 'Article 3.4 sinks'. The language here opens up consideration at the first meeting of the parties (MOP), to occur upon entry into force of the Protocol, or as soon as practicable thereafter of the 'modalities, rules and guidelines as to how, and which, additional human-induced activities related to changes in greenhouse gas emissions by source and removals by sinks in the agricultural soils and the land-use change and forestry categories shall be added to, or subtracted from, the assigned amounts for Parties'.

Apparently, as it became clear that the language of Article 3.3 could be interpreted to render the limits not very binding, the absolute numerical limits on sinks were brought to the table, and then limits were ultimately agreed on. If, in fact, the original motivation for the narrow definition of Article 3.3 was concerned that excessive sinks would be credited, the eventual agreement to strict numerical limits would seem to make the entire distinction among these different categories irrelevant, yet the language persists. We turn now to biophysical aspects of the sinks issue that relate to the policy discussion above, and to our practical suggestions for how sinks might be included in a cap-and-trade system in later sections.

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