Carbon markets under the Paris Agreement: how can environmental integrity be ensured?

Abstract

implemented projects. While additionality and the quantification of emission reductions are, in principle, key considerations for unit quality for crediting mechanisms, the greenhouse gas (GHG) emissions impact from using credits from already implemented projects is more complex. If the supply of credits considerably exceeds demand, a key consideration for the global GHG emissions impact is whether already implemented projects would continue to reduce GHG emissions even without credit revenues, or whether they are 'vulnerable' to discontinuing GHG abatement. A detailed assessment of the status and operating conditions of projects under the Clean Development Mechanism, and their marginal costs of supplying credits, shows that most projects would continue GHG abatement even if they cannot sell credits. If CORSIA allows airline operators the unlimited use of offset credits from these projects, this will not only undermine its environmental objectives but also lead to continued low carbon prices, and thus neither offer incentives for new investments nor lead to any significant revenues for already implemented projects. The thesis recommends limiting eligibility under CORSIA to new or 'vulnerable' projects (Chapter 5). Unit quality is also a key consideration when linking emissions trading systems (ETSs). As linking of ETSs faces several practical and political challenges and risks, including with regard to whether allowances have 'quality' and whether linking provides incentives or disincentives to enhance the ambition of caps, policy-makers are considering also restricted forms of linking ETSs. The thesis uses a simple economic model and three criteria-abatement outcome, economic implications, and feasibility-to assess three different options for implementing restricted linking of ETSs: quotas, exchange rates, or discount rates. The analysis shows that quotas can enhance cost-effectiveness relative to no linking and allow policy-makers to retain control on the extent of unit flows. Exchange rates could enhance abatement and economic benefits or have unintended adverse implications for cost-effectiveness and total abatement, depending on how rates are set. Due to information asymmetries between the regulated entities and policy-makers setting the exchange rate, and uncertainties about future developments, setting exchange rates in a manner that avoids such unintended consequences could prove difficult. Discount rates, in contrast, can ensure that both cost-effectiveness and total abatement are enhanced. The thesis recommends the consideration of quotas or discount rates, but to refrain from using exchange rates, due to the environmental integrity risks (Chapter 6). The varying scope and ambition of current NDC targets, and possible disincentives to broaden their scope and enhance their ambition, could be addressed by facilitating the adoption of ambitious and economy-wide mitigation targets and by preventing the transfer of carbon market units in situations of high environmental integrity risks. This latter approach ...