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COP26: Article 6 rulebook updated, but remains work in progress
The COP26 final agreement made progress on voluntary carbon trading markets, but critics said the language fell short of fully realizing the rules and procedures needed to bring market forces to bear as strongly as possible on emissions reduction.
That assessment matches the outcome of the entire two-week COP26, which "kept alive" the goal of limiting temperature rise to 1.5 degrees C, but fell well short of showing how it will be done.
On the plus side, the conference produced a draft text outlining a future structure for carbon markets under the revised Article 6 of the Paris Agreement, the International Emissions Trading Association (IETA) said in a post-COP26 statement. Carbon trading is widely considered to crucial to reducing CO2 and GHG emissions because it enables investment in emissions-reductions technologies.
"The decisions provide clear accounting guidance for emissions trades between countries and launch a new crediting mechanism that will give market access to all countries interested in attracting green investment through the global carbon market," IETA said.
"This is a solid and ambitious outcome because it establishes an integrity framework to support the expansion of carbon markets to help governments and businesses deliver higher climate ambitions," said Dirk Forrister, IETA CEO.
The new technologies that could grow as a result include renewable reforestation tools and engineering services that ensure emissions reductions, said European think tank E3G on 15 November.
E3G said that Article 6 "has the potential to strengthen mitigation projects in the Global South, incentivizing further private climate finance." Initial estimates suggest the potential market size of international carbon credits could be between $100-400 billion per year by 2030, it added.
Under Article 6, countries can use emissions trading to help reach their nationally determined contributions (NDCs), meeting their 2030 emissions reduction obligations under the Paris Agreement. The new framework in Article 6.2 addresses the critical issue of accounting for internationally transferred mitigation outcomes (ITMOs) to avoid double-counting those emissions credits, both by the country obtaining them and the country supplying them. The Paris Agreement calls for rules on applying "corresponding adjustments" of national carbon inventories when one country uses ITMOs to reduce its carbon footprint so that the credit cannot be claimed twice.
"[The ITMO] is a critical tool for driving more ambitious reductions," Alex Hanafi, director of multilateral climate strategy in Environmental Defense Fund's Global Climate Program, told Net-Zero Business Daily during COP26.
Without Article 6, countries and companies could still engage in emissions trading—and they do, as evidenced by the numerous voluntary emissions trading programs around the world. But Hanafi explained that without agreed-upon rules through Article 6, "there's no transparent, consistent way for a country to be recognized for what it's doing," and no assurance that a clearinghouse of sorts will track the credits to make sure they are retired when they are used.
Including the Clean Development Mechanism
The other key issue was how to incorporate the Clean Development Mechanism (CDM) created through the Kyoto Protocol, which is found in Article 6.4 of the new agreement. The CDM, launched when the Kyoto Protocol was ratified by 192 countries in 1997, allowed the creation of emissions trading to let countries invest abroad to earn credit towards their Paris Agreement emissions targets. An emissions reduction from a forestry project in Brazil, for example, could generate credits that could be purchased by the French government or a US carmaker to offset emissions.
However, without centralized oversight, these programs have been approached with wariness by many parties, due to the issues of transparency, double-counting, verification, and other factors.
One of the key outcomes of the negotiations at COP26 was to allow a limited number of certified emission reductions (CERs) produced between 2013 and 2020 under the Kyoto CDM to be used against countries' NDC commitments for 2030. That is, they become ITMOs under the new system that will be overseen by the UN.
Coming into COP26, many environmental groups had argued that those CERs should not qualify under Article 6 because they do not meet various quality, transparency, and human rights standards. Also, they expressed concern that if too many CERs are available, it will drive down the price of credits and provide an easy way for countries to meet their NDCs, rather than directly reducing emissions.
Under the updated Article 6.4, an effort was made to reduce these credits and drive more decarbonization by discounting (reducing) by 2% any CERs that are transferred into the new program as ITMOs.
IETA said it shares that the concerns with others about the volume of credits in the market, but supports the compromise. "While this may not be the most ambitious outcome, it allows the carryover of a limited supply of pre-2020 units. IETA believes this will maintain the flow of finance to developing nations until the new mechanism is up and running," it said.
Another key sticking point during the climate meeting was whether countries needing the credits would be required to pay a commission to the UN body that is overseeing the program for obtaining the credits. The commission would be funneled into an "Adaptation Fund" for developing countries as a way to create another revenue stream for their energy transition and climate mitigation efforts.
Countries agreed to a 5% fee for new credits issued under Article 6.4 emissions, known as the Share of Proceeds (SoP) policy. But no SoP will be charged for credits traded under Article 6.2. Switzerland announced at COP26 six bilateral agreements using the model in Article 6.2, and said it will voluntarily contribute $25 million to the Adaptation Fund.
Some parties expressed serious opposition to the new Article 6, particularly about the allowance for converting existing CERs into ITMOs under the new emissions trading system.
Carbon Market Watch, which analyzes market-based climate policy tools such as emissions credit programs, said in a statement on 15 November that it estimates as many as 300 million metric tons of 'zombie credits'—existing carbon credits—will continue in circulation under the compromise agreement. "These zombie credits are of poor quality, lack environmental integrity, and most of the projects they financed would have happened anyway without the financial support," it said.
"Sadly, the zombie credits have been given renewed life and could continue to be used for the next decade, cleansing climate targets on paper but spoiling the atmosphere in reality," said Carbon Market Watch Policy Officer Gilles Dufrasne in a statement.
Environmental Defense Fund (EDF) puts the carryover credits from the CDM at the much more modest 120 million metric tons of CO2-equivalent.
Whichever figure is right, it's small compared to the estimated 4 billion CDM credits that potentially could have been carried into the new program, according to a 2020 research paper.
The San Jose Principles Coalition, which consists of 32 countries (to date) that are developing principles for carbon markets, issued a statement in support of the "ambitious … comprehensive accounting for international compliance" in the new rules.
But the coalition's members said that the new rules don't go far enough. They said that no CERs generated prior to 2020 should be convertible into ITMOs, and that overall the updated Article 6 "do[es] not deliver the clarity, robustness, and integrity needed to guide international market-based approaches towards the goals of the Paris Agreement." They said that greater work is needed on assessing human rights protections in carbon markets and that the agreement lacks a push for countries to improve transparency from corporate entities as they strive to reduce their emissions.
Matt Williams, climate and land programme lead at the UK nonprofit Energy and Climate Intelligence Unit, said in a tweet on 15 November that the Article 6 text doesn't completely prevent countries or companies from gaming the system by continuing to pollute while buying carbon credits that provide no climate benefit.
For example, he sees the potential for climate-negative changes to the use of land being driven by a new market for carbon offsets. "This new system could create a destructive gold rush for using land to absorb carbon instead of making real efforts to cut it," WIlliams told Net-Zero Business Daily.
On the positive side, he acknowledged double-counting by companies had been reduced in the new Article 6 text.
Double-counting issues remain
As part of the agreement, new UN-supported committees will work on unresolved issues.
Perhaps the biggest of the issues is what is known as "corresponding adjustments." As IETA explained, these "refer to the suggestion that a country transferring emissions reduction credits abroad would need to make an upward adjustment to its domestic emissions tally to avoid both countries claiming the reduction."
For example, if Colombia mandates use of sustainable aviation fuel (SAF) to reduce emissions from jet planes, this could create saleable emissions credits under the aviation industry's CORSIA program. Then, the question is whether Colombia would have to add back into its carbon budget the emissions that it has saved, but which it is now selling to another country.
At COP26, Brazil made the argument that the country generating the credit should not have to add to its domestic emissions to account for the credit it's selling, if that program was outside the scope of its NDC. Using the example above, if reducing aviation emissions was not part of Colombia's NDC, then it would not have to credit back those emissions savings.
China and India have in the past said that they would oppose any form of these corresponding adjustments.
IETA said that the final text from COP26 shows that a phase-in of restrictions on corresponding adjustments might satisfy all parties. "This morning's text also included options that would allow no corresponding adjustments to apply until 2025 or 2030, and this suggests to us that China and India are prepared to compromise," IETA said.
Another example of an unresolved issue is whether an investment in an emissions reduction program can at the same time fulfill a commitment under a second program that is not directly emissions related. For example, COP26 saw developed countries promise to invest $100 billion per year in emissions reduction and climate adaptation in the developing world—fulfilling a long-overdue promise. So, this raises the question of whether an investment in a renewable energy project in a developing country—which might be part of the US's financial commitment—also can count towards meeting its NDC carbon goal if it reduces the host country's emissions, Hanafi said.
The members of the Voluntary Carbon Markets Initiative said that rules need to clarify that businesses cannot make climate action claims based on the use of carbon credits generated before 2021, except to compensate for historic emissions.
As the rules are further revised, observers expect that emissions trading will continue its rapid growth and that Article 6 could facilitate new momentum.
"In the lead-up to COP26, carbon markets surged in many jurisdictions, as businesses contemplated the enhanced ambitions of many countries. This included growth in every carbon market in 2021, with a near doubling of voluntary market transactions and the launch of China's national ETS. Markets in Europe, California, Quebec, New Zealand, Australia, and RGGI [US's Regional Greenhouse Gas Initiative] have seen record prices in the past month," IETA said.
"Article 6 is the engine of international cooperation," said Nathaniel Keohane, president of the US-based Center for Climate and Energy Solutions. "But markets are only a force for good when there are guardrails in place to ensure environmental and social integrity," he said.
Many types of carbon offsets should be phased out, added Carbon Market Watch, which called the deal "patchy" and said it allows emissions to rise. "Carbon offsetting is (at best) a zero-sum game and does not lead to global emission cuts since greenhouse gas reductions in one place are cancelled out by continued pollution elsewhere," the organization said.
"By and large, international carbon markets will be used to shift pollution from one place to another," Carbon Market Watch Policy Officer Jonathan Crook added. "That governments would still want to rely on this faulty logic shows that our leaders have not grasped the urgency to act."
But carbon markets will also open a way for the private sector to seriously contribute to reducing emissions, explained EDF's Hanafi. "We know that we need more emissions reductions … and if you take the savings from achieving current NDCs using market mechanisms [compared to directly reducing emissions in every country by its NDC] and reinvest those savings in additional mitigation activity, you get roughly double the emissions reduction. This would close the gap towards the goal of the 1.5 degrees Paris target."
EDF issued a statement on 15 November that added that COP26 placed the focus on direct emissions reductions, while helping to "clear a path" to get private capital flowing to the developing world. "While countries will need to do more at future COPs on adaptation funding, climate finance and loss and damage, COP26 rightly called on countries to reduce global carbon dioxide emissions by 45% by 2030, to achieve net zero carbon dioxide emissions by around mid-century, to stop fossil fuel subsidies and to accelerate the phase down of highly-polluting coal power," EDF said.
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