DIPARTIMENTO DI SCIENZE POLITICHE E INTERNAZIONALI

Corso di Laurea Magistrale in Scienze Internazionali

From the Kyoto Protocol to the Long Term Cooperative Action: Critical
implications and opportunities for a New Market based Mechanism (NMM)

Relatore:Ch. mo Prof.

SIMONE BORGHESI

Correlatore:Ch. moDr.

SEBASTIANO CUPERTINO

Tesi di Laurea di: MICHELE MARINI

Anno Accademico 2013/2014

 What is now plain is that the emission of greenhouse gases,
associated with industrialisation and strong economic growth from a world population that has
increased sixfold in 200 years, is causing global warming at a rate that began as significant, has become
alarming and is simply unsustainable in the long-term. And by long-term I do not mean centuries ahead.
I mean within the lifetime of my children certainly; and possibly within my own. And by unsustainable, I
do not mean a phenomenon causing problems of adjustment. I mean a challenge so far-reaching in its
impact and irreversible in its destructive power, that it alters radically human existence.

[Tony Blair, 2004]

__________________________________________
Table of Contents

Abstract vii
List of acronyms.. ix
List of figures.. xi
Introduction 1
1 Climate Change, Global Warming and International Regulation
1. Premise / preliminary statements. 5
2. The global governance of climate change 11
2.1 Making progress toward a Post-Kyoto Agreement -
Warsaw COP19 16
3. The forms of governance's architectures 17
3.1 Defining a better future agreement through the
governance process.... 20
3.2. The hybrid - dynamic approach... 23
4. Characteristics and options for a new successful agreement . ... 25
5. A proposed review process of negotiation 28
5.1 The club approach . 30
2 The Kyoto Protocol and flexible mechanisms: valuable goals
achieved
1. Kyoto Protocol: results and experiences accumulated. 33
2. The Kyoto Protocols Flexible Mechanisms 37
2.1 Characteristics of the CDM... 41
2.2 Characteristics of the JI. 48
3. The European Emission Trading System.. 55
3.1 Performance, business profits and product price
impact 57
3.2 Impact on investment and innovation 68

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3 The New Market Mechanismand Framework for Various
Approaches
1. The future rule of carbon markets. 71
2. The road toward the NMM and the FVA. 75
3. The current definition and objectives for New Market
Mechanism and Framework for Various Approaches.. 78
4. Motivations for the NMM. 84
5. The Design of an NMM. 88
6. Key design issues 95
6.1 Type of Mechanism. 95
6.2 Coverage of the system. 97
6.3 Sector Target or Crediting Threshold 100
6.4 Requirements for Data collection and MRV.. 112
6.5 Ways of managing the transition from CDM to the NMM
Relationship with existing and future mechanisms. 113
6.6 The design of the trading/crediting and policy framework.. 114
7. Implementing the NMM 124
Conclusions. 133
Bibliography 139
Sitography 149
Annex 151
Acknowledgements 155

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__________________________________________
Abstract

Market (and non-market) mechanisms for the reduction of GHG emissions, were not
able to contain the rise in global temperatures.
Among the new and advanced solutions within the context of the carbon market, the
adoption of a new market mechanism (NMM) that can help reduce emissions of
greenhouse gases on a global level through adopting the so-called sectoral crediting
mechanism or trading has recently been proposed.
To understand if and how this new market mechanism can be effective and whether
it can really be implemented soon is the main purpose of this research thesis.
The new instrument has been the subject of significant and articulated debates within
recent international meetings and relevant Conference of the Parties (COP): therefore, a
similar measure is expected in view of a possible agreement / Post-Kyoto Protocol in 2015.
The idea is to create an ambitious market-based approach, extended to all developing
countries and economies and complementary to the flexible mechanisms already in place,
by way of taking advantage of the benefits that are derived from the experience gained
through the existing market instruments. Such an approach could offer many opportunities
for companies that may participate, for countries in the developing world who would adopt
more efficient methods and technologies for the reduction of emissions, and more
generally, to create a new market demand for permits and credits within the internal carbon
market.
Given the complexity of this ambitious new proposal, it is reasonable to think that, in
theory, a NMM might still encounter too many political, economic and technical obstacles
within developing countries that adopt it. The thesis proposes as a possible solution to
overcome these obstacles, to adopt a mechanism NMM with a hybrid structure of
governance and variably designed architecture that considers the specificities of each
country where it should be implemented. Such a solution requires a long time to be

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implemented, and in consideration of the increasingly complex requirements of part of the
old and new flexible market systems, which even today many economies must seriously
deal with, the thesis focuses on how it is necessary to put in a joint effort by the entire
community to develop and disseminate knowledge about an NMM, evaluating through
further policy analysis, technical, economic and empirical research, especially in the
context of the experience already gained.
All this might enable the development, possibly by 2020, of an effective NMM that
can increase the ambition to contain and reduce global warming which is increasingly
necessary and urgent for the global environmental system.

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__________________________________________
List of acronyms

AAUs Assigned Amount GHGs Greenhouse Gases

Units
ADP Durban Platform IEAs International Environment Agreements
Action
APP Asia-Pacific IET International EmissionsTrading
Partnership on Clean
Development
AWG- Ad Hoc Working IPCC Intergovernmental Panel on Climate
Group on Long-term Change
LCA
Cooperative Action
AWG-KP Ad Hoc Working JI Joint Implementation
Group on Further
JISC JointImplementationSupervisoryCommittee
Commitments for
Annex I Parties under
the Kyoto Protocol
BAU Business As Usual KP Kyoto Protocol
BOCM Bilateral Offset MEF Major Economies Forum
Credit Mechanism
CDM Clean Developed MRV Measurement Reporting and Verification
Mechanism
CERs Certified Emission NAMAs Nationally Appropriate Mitigation Actions
Reductions
COPs Conference of the NAPs National Allocation Plans
Parties
DNA Designated National NGOs Non-Governmental Organizations
Authority
EB Executive Board NMBM New Market-Based Mechanism
EC European NMM New Market Mechanism
Commission
ERUs Emission Reduction NZ-ETS New Zealand Emission Trading Scheme
Units
ETS Emissions Trading PAMs Domestic mitigation policies instruments
Scheme and measures

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 EU European Union PMR Partnership Market Readiness
EUA European Union POAs Programme Of Activities
Allowance
EU-ETS European Union ppm parts per million
EmissionsTrading
Scheme
FDI Foreign Direct REDD+ Reducing Emissions from Deforestation and
Investment forest Degradation plus
FVA Framework for
Various Approaches

R&D Research and SBI Subsidiary Body for Implementation

Development
RGGI Regional Greenhouse SBSTA Subsidiary Body for Scientific and
Gas Initiative Technological Advice
SCM Sectoral Crediting US United States
Mechanism
UNFCCC United Nations WB World Bank
Framework
Convention on
Climate Change

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__________________________________________
List of Figures

1.1 Total GHG emissions per country... 6

1.2 Temperature anomaly 1880-2014.... 7
1.3 Precipitation anomaly 1900-2010... 7
1.4 List of Annex I, II and Non Annex countries and related index of total
GHGs emissions 1990-2005 9
1.5 Emissions projection Annex I and Non Annex I. 13
1.6 Contribution of major GHGs emitting countries 14
1.7 Multiple purpose diagram 25
2.1 Perspective of carbon Markets launching programs on 2013.. 34
2.2 Greenhouse gas emissions in Kyoto Protocol countries and their targets... 36
2.3 CERs and ERUs issuance 2008-2012, and expected issuance of CERs. 39
2.4 Number of CDM projects each month 40
2.5 Potential demand and supply of credits 2013-2020 40
2.6 A possible scheme for gradual incorporation of developing countries... 43
2.7 Distribution of registered projects by Host Party-March 2014... 45
2.8 Distribution of registered PoAs by Host Party-March 2014... 46
2.9 Track 1 vs Track 2 JI... 49
2.10 Summary of steps required for Track1 and Track 2 JI projects.. 49
2.11 Differences between CDM and Track 2 procedures. . 50
2.12 Kyoto Protocol participation map (commitment period: 2013-2020) 51
2.13 Average time required for project registration methodology, in days 53
2.14 ERUs issuance by host Party as of February 2013. 53
2.15 Brief overview of coverage of EU-ETS.. 55
2.16 The long life of the EU-ETS system confronted with other cap and trade
operational and expected in future.. 56
2.17 CO2 emission trend within EU-27.. 59

x
2.18 over allocation of allowances in Europe. 59
2.19 CO2 emission trend in EU-Phase I and II... 60
2.20 EU ETS and carbonleakage .. 62
2.21 Free allocation and auctioning provisions.. 63
2.22 Review of tools implemented within the EU-ETS.. 65
2.23 EUA and CER prices (2009-2013). 65
2.24 EUA price development. 66
2.25 Demand/supply surplus-deficit of EUAs 68
3.1 The Durban Platform for Enhanced Action process... 72
3.2 Evolution of market and non-market mechanisms under the UNFCCC 74
3.3 Relevant decision from COP 16 and COP 17. 75
3.4 Several new market based mechanisms proposals. 81
3.5 The FVA scheme 83
3.6 Comparative evaluation of the different mechanisms.. 87
3.7 Transitional flux for a CDM 89
3.8 Sectoral crediting mechanism. 96
3.9 Sectoral trading mechanism 97
3.10 Setting crediting thresholds for the new market mechanism.. 102
3.11 Illustrative example of NMM operational cycle. 110
3.12 Flowchart for setting crediting thresholds.. 111
3.13 Typology of approaches for calculating and distributing credits 117
3.14 Comparison of total credits issued in individual performance and group
performance approaches.. 118
3.15 Host government frameworks. 120
3.16 Policy framework proposals.... 122
3.17 Evaluation of alternatives frameworks for three key actors 123
3.18 Key differences between the proposals... 124
3.19 Constraints and Opportunities for an NMM... 126
3.20 Coexistence of mechanisms in various sectors . 130

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__________________________________________
Introduction

The fifth report of the Intergovernmental Panel on Climate Change (IPCC) concluded
that humans are causing a sudden change in Earth's climate due to rising emissions of
greenhouse gases in the atmosphere (IPCC, 2013).
Alongsidethe intense uprising of scientific condemnation, the United Nations, the
European Union, as well as other nations and international organizations, would like to
see carbon emissions and greenhouse gas emissions significantly reduced.
The goal would be to overcome the international commitments already existing
(Kyoto Protocol), in order to limit or avoid the rise in average global temperature and to
stay within a 2-degree Celsius maximum average global increase.
At the global level, the current market- and non-market-based mitigative solutions,
together with the existing flexible mechanisms (i.e. CMD, JI and ETS) implemented after
the establishment of the Kyoto Protocol, have not managed to a achieve a substantial
reduction in the level of greenhouse gases emissions in the environment; therefore, one of
the proposed solutions seems to lie in the realization of a scaled-up new market-based
mechanism (NMM).
This thesis has as its main goal the analysis of the new market mechanism (NMM)
which adopts a mechanism that covers the emissions of broader sectors of a country's
economy rather than single and individual industries, proposed as a complementary
solution to the current active market instruments.
To this end, the new market mechanism might further reduce GHG emissions in the
atmosphere by extending the carbon market, and especially by encouraging the economies
of developing countries to achieve ever more ambitious abatement (scaling up the market),
thus accelerating the deployment of green technologies to reach long-term environmental
sustainability.

1
 Introduced during the Durban Conference of the Parties held on December 2011, the
idea of the NMM, whichtakes a sectoral approach instead of a project-based one, is
currently much debated by scholars on the field, as well as by policymakers. Although a
broad consensus on this mechanism is still lacking, the international community is moving
forward by adopting case studies and pilot projects that are gradually taking off in order
to test this new mechanism.

Research approach

To find out whether the new market mechanism can be advantageous to increase
mitigation, we are going to evaluate the system from several points of view: particularly
analyzing the expected role and design features, and tracing a brief indication on the
functional feasibility within developing countries.
The theme of the NMM raises many questions in the scientific community about the
possibility of reaching ambitious levels in reducing emissions, and whether and how this
premise could overcome the limitations imposed by the Kyoto Protocol.
The research is developed on the basis of the contributions of several economic and
political studies that have examined the matter following the Conference of the Parties
held in Durban at the end of 2011.
Retracing the main lines followed by this recent research, we will first try to
understand if indeed there is a (real) need to adopt a new market mechanism in addition
to the existing ones.
First, it was considered necessary to explore the systemic context/architecture within
which the new market mechanism will be likely adopted. There is extensive literature on
the governance of the international system that can help us to clarify the current and future
role of markets within international climate policy.
It was then necessary to analyze the existing flexible mechanisms developed through
Kyoto. Thanks to the large number of studies that have focused mainly on the calculation
of performances achieved, it was considered useful to examine the factors that have
restrained the performance of the system to try to show how the new mechanism has
originated: partly in searching for a solution to overcome the issues encountered.

2
 It is interesting to notice that even today the design and a real role for this mechanism
has not been formalized. The author believes that it is undoubtedly necessary to take brief
and short-term precautions before formulating a unique, final and long term decision
regarding the system. To this purpose, it will be useful to draw up a scenario that includes
the time required for the implementation. Some of the early empirical research has brought
to light some clear prerequisites for several host countries. The author will investigate
these issues to finally draw the appropriate conclusions on the practical feasibility of the
mechanism.

Contents of the thesis

After a brief introduction, to contextualize the issue of climate change and point out
the responses from the international community through the United Nations Framework
Convention on Climate Change (UNFCCC), the Kyoto Protocol and flexible mechanisms,
the first chapter of the thesis will focus on the evolution of the method of centralized
international governance, and will try to give an answer to the problems that this global
approach has met over the years, illustrating some possible solutions and the ways in
which the UNFCCC has moved forward.
In front of the changing responsibilities on climate change, partly due to the impact
of new emerging economies, the problem of how to designate a new post-Kyoto
international agreement, and how to resolve the issue of negotiation between countries
with regard to the latter, require urgent consideration. We will try to understand if there is
maneuvering space, with reference to the last COP, held in Warsaw in 2013.
Although some useful features on how to achieve an effective agreement will be
given, the negotiating problem will require substantial structural revision, which, as we
shall see, should carefully review some basic features in the UNFCCC architecture.
In the second chapter, we will summarize the main results in terms of performance of
the Kyoto Protocol and its flexible market mechanisms (CDM, JI, ETS).
In these terms, we will try to understand if and what were the main lessons learned,
with attention given to the critical reasons that have led to a weakening in the overall
performance of the systems. Focus will be finally given to the European Emission Trading

3
Scheme, which is now the largest system for the reduction of GHG emissions currently in
operation. Such performances will be analyzed within the two main phases of operation
of the EU-ETS (between 2005 and 2012), the changes adopted with the implementation
of the third phase (2013), and the critical role that the economic crisis has had, assessing
how much and in what ways it impacted the system.
The results will be quantified in terms of the amount of emissions reduction achieved,
and in terms of the impact on business profits and product prices. A final section of the
second chapter will be dedicated to calculating the impact that the EU-ETS has had on
investment and innovation.
The third chapter will focus on the current proposal regarding the so-called new
market mechanisms (NMM). The NMM and FVA constitute two new proposals for the
cost-effective reduction of emissions of GHGs. Although the first is considered a
mechanism, and the second a de-facto regulatory framework, both are systems that aim to
encourage participation and ambition among States. Having clarified this distinction, the
thesis will proceed to analyze in detail the NMM. In a first step, we will clarify the role
that this mechanism will likely play, dedicating particular attention to the motivations and
the main driving principles that have originated and developed. In a second step, we will
focus our attention on the possible forms of design that could be prefigured. Attention will
be dedicated to the major role of responsibility that the government of the host country
will be required to have, compared to other flexible market mechanisms.
The last paragraph of the thesis verifies and analyzes the considerations to be made
concerning the possible application of pilot projects within developing countries that
should adopt the NMM. In the latter case, we are going to identify the main obstacles that
can be found within the economies considered, and at the same time the opportunities that
could be available. Then, a list of suggestions is made by the literature on the subject.
Important questions that need to be assessed are as follows: whether the system is
applicable; approximately how much time is needed; which parameters must be complied
with, and especially if the NMM will be sustainable in the future.

4
__________________________________________
Chapter 1

Climate Change, global warming and international regulation

1 Premise / preliminary statements

Climate change will double el Nio events

Draughts in Australia and flooding in the Americas associated with the deadly El
Nio weather phenomenon are likely to be twice as common this century because of
climate change, scientists warn.(Banning-Lover, 2014).

The most authoritative scientific advisory Forum set up by the United Nations
Organization, the Intergovernmental Panel on Climate Change (IPCC), observed a clearly
changing outlook in the Earths regulative processes, confirming that there has been a
general and repeated worsening in global weather conditions in recent years.
The fifth report of the IPCC concluded that, over the past century, there has been a
well-documented sudden change of surface temperatures due to the increase of
Greenhouse Gases emissions (GHGs) (IPCC, 2013) (Fig. 1.1).
The report shows the high correlation of emissions due to human activity and the
climate change phenomenon, and it advocates that is necessary to take a more cooperative
action in order to reach greater reductions of emissions on a global scale.
Although the growing scientific warnings against the risks for the events registered
during the last decades, such as el Nio and other growing anomalies of the climates
natural cycles, the variability in temperatures does not seem to be stopping (Condon &
Sinha, 2013) (Fig. 1.2).

5
Figure 1.1 Major GHGs gas concentration over time
Source: National Oceanic and Atmospheric Administration (NOAA), 2014

The rising temperatures create scenarios which are for the most part unpredictable
and uncertain. Scientific research also showsthat there will be more droughts in more
places than before, more storms, more hurricanes, as well as more inundations (Condon
& Sinha, 2013, p. 7) (Fig. 1.3).
While these events will have an environmental impact, they will also have economic
effects with enormous implications for the financial industry (Condon & Sinha, 2013, p.
7).
According to authoritative economic research, the Stern Review of the Economics of
Climate Change, if serious action is not taken within 15-20 years, then the cost of coping
with climate change could be in excess of 20% of the total annual global income.
Furthermore, the World Bank has estimated total income currently at some US$35 trillion
per annum, rising by 2050 to perhaps US$135 trillion, which is some US$27 trillion per
annum, or 5% of global GDP (Stern, 2007).

6
Figure 1.2 Temperature anomaly 1880-2014
Source: <http://data.giss.nasa.gov/gistemp/graphs_v3/>

Figure 1.3 Precipitation anomaly 1900-2010

Source: IPCC, 2013

Due to this disconcerting trend, there is a current need for serious investments in new
technology and innovative approaches to tackle both mitigation and adaptation measures
in the proper prospective (Condon & Sinha, 2013, pp. 817).
Since the first published report of the IPCC, the first step toward the mitigative
cooperative action was the Conference of the United Nations for Environment and
Development, held in Rio De Janeiro in 1992. The conference had two main merits. First,
it creates a series of principles with the purpose of establishing a common strategy to pave
the way for environment sustainability for the new generations to come; secondly, it was

7
where the UN Framework Convention on Climate Change (UNFCCC) which now counts
192 Member States, was created.
The main purpose of the UNFCCC is the stabilization of GHG emissions at a level
that will further prevent dangerous interference with the climate system, through the
establishment of a series of cooperative principles and guidelines. Even if these standards
of conduct do not impose any obligation for the Member States, a framework for a global
cooperative action has been specifically set. Through Articles 3 and 4 (i.e. the principle of
common but different responsibility) the Convention determined a preeminent outcome.
In particular, the principle requires that developed countries demonstrate that they are
taking the lead in modifying longer term trends in anthropogenic emissions, consistent
with the objectives of the Convention. For this purpose, the Convention divided Member
States among groups: Annex I-II (countries that are developed or with their economies
fully in transition) and Non-Annex (developing countries), therefore leading to the
creation of different levels of responsibility for GHG emissions (Fig. 1.3).
This rigid separation is becoming a frequent problem discussed in terms of a future
post-2012 Kyoto policy architecture, because the Convention does not indicate any
modality whereby an Annex-II State can shift to an Annex-I group in future, or vice versa.
Also, article 4(7) goes even further by imposing an implementation condition: the extent
to which developing Country Parties will effectively implement their commitments under
the Convention will depend on the effective implementation by developed Country Parties
of their commitments under the Convention relating to financial resources and transfer of
technology (UNFCCC, 2004, p. 8). These factors together have been consistently
advocated during the recent negotiations about Kyoto Protocol phase II (post 2012
commitments). In particular, this has, for the most part, created a consistent block to the
recent proceeding of negotiationsfor Kyoto phase II.

8
Figure 1.4 List of Annex I, II and Non Annex countries and related index of total GHGs
emissions 1990-2005
Source: European Environment Agency

In 1997 the Kyoto protocol was presented at the third Conference of the Parties (COP-
3) in Kyoto (Japan). The main objective of the protocol was the creation of a clear
mitigation commitment request to the Member States of the Protocol to reduce the actual
emissions to 5,4% of the total 1990 GHG levels between 2008 and 2012 (first commitment
period). Furthermore, the Kyoto Protocol, in referring to the principle of common but
different responsibility, established a set of targets (Assigned Amount, AA) that were
specifically assigned to every country between Annex-I and II; ranging from Iceland and
Australia, which were permitted to increase their emissions from the 1990 base levels, to
the countries of the European Union which accepted an 8% reduction from 1990, but
without any recommendation for the Non-Annex group (developing countries).
The most innovative aspects of the protocol may not only be the strict target
commitments but the introduction of three new market-based mechanism or so-called
flexible market mechanisms: emission trading (ET), Joint Implementation (JI) and the
Clean Development Mechanism(CMD).
At that time, it was already clear thatin order to obtain a concrete emissions decrease,
it would be necessary to go beyond the common command and control regulation

9
(Simoncini & Romano, 2011). For the new broader ecological modernization process
these policy instruments were considered inefficient in reducing the States emissions
(Stephan & Paterson, 2012). The Kyoto Protocol created three kind of flexible market
mechanisms in order to help Annex I countries reduce their emissions in a less costly way,
at least without economic loss or differential implications for their economic growth.
The flexible mechanisms identified two distinct (but integrated) segments or sectors
of the carbon market, emission trading and the carbon credits sector.
Emission trading (ET) is the first mechanism envisaged by the Kyoto Protocol which
allows for the exchange of parts of the Assigned Amounts (or Assigned Amounts Units,
AAU) among Annex I countries. Annex Parties may emit GHGs into the atmosphere if
they have sufficient permission rights to use against their emissions. At the beginning of
the commitment period, each Annex Party is allocated ex-ante an Assigned Amount up to
a fixed emission cap calculated ex-ante. The GHG emissions in each Partys territory
during the commitment period may not exceed its Assigned Amount. At the end of the
commitment period, the Party must retire (surrender) emissions rights (the Assigned
Amount Units), for the purpose of demonstrating its compliance with the Kyoto
commitments. Parties that emit less than their cap may sell their surplus AAUs, and Parties
whose emissions exceed their cap must buy additional emission rights from the carbon
market.
The Joint Implementation and the Clean Developed Mechanism are baseline-and-
credit systems. Under both systems, emission rights can be earned (ERUs and CERs,
respectively) by participating in emissions reduction projects abroad. Each emission right
represents one metric ton of CO2 equivalent reduced. At the begin of the period, a baseline
is established by calculating the amount of emissions that would occur in the absence of
the scheme (the baseline-as-usual scenario). The difference between this baseline and the
actual (lower) emissions as a result of the plan is converted into globally tradable
emissions rights.

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 2 The global governance of climate change

Throughout the 1970s, there had been growing scientific evidence concerning the
climate change issue in the most diverse fields of human knowledge. As a result, this led
to establishing a convergent view among the International Community against the
worrying future case scenarios illustrated by the first climate panel of the IPCC. Although
even today these scenarios are difficult to predict, the International Community clearly
argued that a cooperative form of action would be highly necessary in order to stabilize
these dangerous trends. Strong cooperation between States would be necessary because
no single State could play an effective and crucial role to solve the emission zero sum
game, which is the environment global public good (Barrett, 2006). Global governments
should contribute to establishing the path toward environmentally sustainable
development and, to do so, the current climate change issue imposed the institution of a
global governance system to achieve the goal1 (Viola, Franchini, & Ribeiro, 2012).
The architecture of the negotiating process for the Kyoto protocol has been agreed
upon thanks mainly to the principle of common but differentiated responsibility.
Notwithstanding, this principle has been at the same time the core problem for
negotiations to make any further steps during the successive Conference of the Parties
meetings (COPs).
The principle was sanctioned because there was clear evidence that the developed
countries were the main producers of GHG emissions in the past and, because of that,
obviously they have to carry the greatest part of the related climate changes cost burden.
At that time, perhaps until recent years, most developing countries did not have any
responsibility for the climate change emissions, and clearly they would not have any
obligation to contribute for the industrial emission reduction. This consideration is based
on an ethical principle which is correctly assumed if we consider that the main
industrialized economies such as the USA and Europe had been economically developeda

1
The primary result of this process was the creation of the UNFCCC in 1992 at the end of the Rio
Conference. The Convention has the merit of being at the core of the Kyoto Protocol creation in 1995, that
is the first mandatory instrument for emissions reduction.

11
long time before, without taking into account the implications for the environment.
Therefore, it seems rather clear that the environmental issue should be treated as a public
common good, especially by those countries, which experienced fast economic growth in
the nineteenth and twentieth century.
During the establishment of the Kyoto Protocol in 1997, the principle has been
subsequently translated into a de facto distinction between Annex-I (developed countries)
and Non Annex (developing countries), creating a dichotomy between countries with
commitments toward emissions reduction, and countries without.
It has been well observedthat at the time of the Kyoto Protocol in 1997, half of the
total GHG emissions were caused by Non Annex I countries (Leal-Arcas, 2013).
Currently, this difference has more than doubled, and the projection of the disparity
in future is even more marked (Fig. 1.4).
All together, developing countries have already surpassed the industrialized world in
total GHG emissions, and will account for more than 75 percent of growth in GHG
emissions in the next 25 years (Fig. 1.5).
This means that the situation has dramatically changed since the UNFCCC divided
the world in two categories on 1992. For the most part, the division was the consequence
of weak progress on international climate negotiation in the subsequent Conferences of
the Parties (COPs).
From the beginning, the strict Annex-I/Non Annex distinction has created a crucial
question about a gross inequality that concerned the treatment of north vs south countries.
During the Kyoto Protocol, it was emphasized that, although developed countries should
take the lead in emission reduction, developing countries should make full use of
assistance (coming from the latter) and adapt themselves to climate change. Thus, with
the rapid growth of the emerging economies and the change of structure in geopolitics,
this conducive assumption became responsible for a de-facto negotiating block during the
Kyoto phase II, when industrialized economies started to ask developing ones to submit
emissions reductions pledges in order to cover mitigations measures. It became clear that
the historical progressive change over the emission distribution situations with the
growing emerging economies has led to a blurring process of the Kyoto negotiating
progress: on the one hand it became clear that the Kyoto Protocol should be reviewed as

12
soon as possible including commitments for the developing countries, which are therefore
responsible for half of the emissions in the atmosphere; on the other hand it should be
considered that the developing countries still want to defend the principle of common but
differentiated responsibilities without taking any constraining pledges over the Kyoto
phase II. This became evident at the time of the Copenhagen COP-15 in 2009: the
negotiation process reached an impasse when the discussion concerned the agreement for
the post-2012, second phase of the Kyoto Protocol. Developed countries refused to take
legally binding measures in order to increase the pledges over the medium term reduction
targets for 2012. Since the main group of Annex I countries have started to oppose
progress towards Kyoto II commitments, alternative solutions were taken into
consideration.

Figure 1.5Emissions projection Annex I and Non Annex I

Source: Leal Arcas, 2013

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Figure 1.6 Contribution of major GHGs emitting countries
Source: World resource institute, 2013

More precisely, it was even before the COP-15 in Copenhagen, at the Bali COP-13
in 2007, that the ongoing negotiating progress over the global environmental agreement
became divided into a dual-track approach for international climate negotiation. At that
time this was shaped into a two-stream process, the Ad Hoc Working Group to Enhance
Long-Term Cooperation Actions (AWG-LCA), and an Ad Hoc Working Group on
Further Commitments for Annex I Parties under the Kyoto Protocol (AWG-KP). The main
scope of the AWG-KP was tofocus on how to bear the maintenance of the Kyoto Protocol
over the second 2012 commitment period, whereas the AWG-LCA would establish the
path ahead for progress towards a new global agreement, or protocol, under the UNFCCC
framework that will be implemented beyond Kyoto.
This dual track process has been developed having in consideration the complex
situation of differing quantities of emissions between developing and developed States
which are Parties of the Protocol, leading, as a result, to the blunting of the rigid distinction
between commitment pledges for Annex I countries and only voluntary pledges among
Non-Annex I. Moreover, the dual approach can represent a formal compromise among the
leading forces over the negotiating phase, during the successive Conferences of the Parties

14
(Wang & Zheng, 2012).
The two-track process was critically opposed by almost all the Annex I countries, but
especially by the USA (which had always refused to sign the Kyoto Protocol). Indeed, the
USA and the EU insist on removing it and put pressure on large developing countries to
become part of the Kyoto's emissions reductions goals. On the contrary, developing
countries, China first of all, have also strongly objected to the merging of two-tracks. This,
in order to defend the principle of common but different responsibilities, without taking
on board any commitment measures, and still asking developed Parties to take the lead in
emission reduction, while receiving full assistance from the latter in order to better address
the environmental situation. The latest opposing process explains why there was a general
agreement in reaching the dual-track compromise during the negotiations procedures over
climate change. This dual track option has been further kept in existence as a symbol of
formality in order to sustain the bargaining forces in the game during the subsequent
COPs.For instance, if the formal treatment over the Kyoto Protocol group (AWG-KP)
were lost, developing countries may not have any reasonable bargaining chip in climate
change negotiation, and their demand for the financial support of developed countries,
might be finalized only under the AWG-LCA talks (Wang & Zheng, 2012).
In December 2011, at the Durban COP-17, the dual track process, which allowed the
second commitment period of the Kyoto Protocol to be maintained in existence, came to
an end, through the renewed reconsideration over the wrong dichotomy between Annex
I and Non Annex I groups emissions. At Durban, The delegates decided to reach an
agreement by 2015 that will finally be applicable for all countries by 2020, the so called
Durban Platform Track (ADP) ... The Durban Platform focused instead on the pledge
to create a system of greenhouse gas reduction including all Parties... [In a new
international climate regime] by 2015 that will come into force by 2020. 2

2
Stavins Robert Blog: http://www.robertstavinsblog.org/2013/11/28/the-warsaw-climate-negotiations-
and-reason-for-cautious-optimism/

15
 2.1 Making progress toward a Post-Kyoto Agreement - Warsaw COP19

With the ultimate decision to conclude the phase II of Kyoto Protocol in 2020, the
International Community has been questioned and engaged in the search for a global
common legal framework to address significant emission reductions in an appropriate
timetable and with acceptable costs.
Along with the well-known weak performances of the Kyoto Protocol 3, the COP-17
in Durban has taken a further relevant step through the establishment of the so-called
Durban Platform Action (ADP). The Durban Platform could be seen as an innovative and
differentiated approach from the old Bali Action Plan in 2007 in two specific ways.
First, the ADP process makes no reference to the principle of common but differentiated
responsibility; indeed, it contains no reference to developing, developed, Annex I or Non
Annex countries, giving new opportunities to advance within the negotiations progress for
global environment governance. Secondly, it creates a new Ad Hoc Working Group on
the Durban Platform for Enhanced Action (ADP), providing the startup procedure for the
further elimination of the two working groups (AWG-LCA and AWG-KP), that were
established in Bali at COP-13.
The main objective of the ADP consists in the negotiation of a treaty, another legal
instrument or an agreed outcome with legal force in order to establish a new global
common legal framework considering different issues that include mitigation,
adaptation, finance, technology development and transfer, transparency of action and
support and capacity-building. The Durban Platform opens an important window
concerning climate governance, leading to the creation of a set of new mechanisms and
instruments, and proposing new climate governance architectures, but remaining
circumscribed within the overall framework provided by the UNFCCC.
Recently, at the COP-19 in Warsaw, making progress toward a post-Kyoto
agreement has been a central issue of discussion in order to establish the long-term path
toward a new global agreement in 2015 at COP-21 in Paris.
For the success of the new agreement, it may be necessary to review the normative

3
For further details, see chapter 2

16
rules schemes, since the large emerging economies could tend to view the agreement as
one without any legal force.
Indeed, for example at the Warsaw Conference, developing countries have demanded
that, in an eventuality affecting developing States participation within the agreement,
then only for the latter, the word commitments must be replaced by contributions.
This makes it evident that there are still difficulties in finding a balanced way toward an
equity principle, leaving behind the principle of common but differentiated responsibility,
that will serve to stabilize and harmonize the different but real emissions trends between
different countries. Although each of these states have different abilities to contribute to
the solution in reducing the emissions, and to proceed a step forward in searching for a
new agreement, this latter will remain a priority task that must be quickly addressed
during the next COP(s). 4

3 The forms of governance's architectures

Since the first UNFCCC Conference, the international community was engaged in
finding the most appropriate governance architecture for success in addressing the
renewed cooperation process within the environmental field.
Historically, through the Kyoto agreement, climate governance was first implemented
in a recognized top-down architecture. Through this modality, different states could
implement the Kyoto commitments (i.e., through flexible mechanisms), under a system
supervised by the global UNFCCC framework. The universal architecture, mainly
related to three issue areas, can be achieved in all countries concerned, worldwide. First,
in case they are subject to the same regulatory framework; second, countries participation
over the same decision-making procedures; third, there is agreement on a core set of
common commitments. This universal top-down governance architecture can be seen as
an international regulatory system that, essentially, today has become divergent in
empirical results. Indeed, with the entry in force of the Protocol in 2005, there has been
an increased level of fragmentation in the climate change regime.

4
Carraro Carlo: http://www.carlocarraro.org/en/topics/climate-policy/the-warsaw-cop19-between-weak-
commitments-and-tiny-bland-successes/

17
 Numerous analyses, such as (Benecke, Friberg, Lederer, & Schrder, 2008;
Biermann, Pattberg, Asselt, & Zelli, 2009; Tuerk, Mehling, Kppl, & Kettner, 2011),
demonstrated that the increasing fragmentation level of governance of the climate policy
has been due to various reasons. Coherently, different implementation approaches of the
Kyoto Protocols flexible mechanisms have been followed by an increasing emergence of
diverse market actors working withits commitments and implementations. For example,
the Clean Developed Mechanism (CDM) has been a driving mechanism for the
appearance of new actors such as non-State actors, international organizations, NGOs,
private businesses, and so on. Furthermore, institutional arrangements were growing
within different levels of the political system, including regional initiatives, such as the
European Emission Trading (EU-ETS), public/private initiatives, for example Asia-
Pacific Partnershipon Clean Development (APP), or Climate or bilateral initiatives,
including the Japanese Bilateral Offset Crediting Mechanism (BOCM). Finally, there are
growing difficulties in conserving the Kyotos universal framework for counting,
recognizing and measuring emission reductions among national schemes. This was due to
fragmented rules and policies among countries, which leads to a fragmented framework
for domestic measurement, reporting and verification tools (MRV).
According to Biermann et al., 2009, it is possible to assess three different forms of
fragmentation that shape the current climate regime: cooperative, integrative and
conflictive. The analysis show that the major academic inquiry strands namely
cooperation theory, environmental policy theory, and international law, has offered
different hypothesis about the relative costs and benefits of the assessed forms of
fragmentation. In sum, these results show that on balance, fragmentation of global
governance architectures appear to bring more harm than positive effects (Biermann et
al., 2009, pp. 3132).
Therefore, since the establishment of the Kyoto Protocol, the increasing
fragmentation of global governance of climate change started to be an unavoidable
condition that poses different challenges between observers and policy-makers alike.
Overall, the fragmented reality has led to a complex regime in which a single
institutional response (i.e. top-down approach) has been exceptionally difficult toorganize,
and the multiple one (i.e. bottom-up architecture) undesirable, especially for the leading

18
States: from a strategic standpoint the benefits of a comprehensive regime may not seem
sufficiently to justify the bargaining effort and concessions that would be required of
individual states with often divergent interests. On the other hand, an entirely fragmented
response is unlikely to satisfy the interests of leading states that expect first-mover
advantages and make the larger investment in building institution. (Keohane & Victor,
2011, pp. 1415).
Notwithstanding the above, this increasingly fragmented architecture in climate
governance is likely to continue in the future. In order to address the fragmentation issue,
which is clearly a crucial topic to be considered in the creation of a new future agreement,
different policy debates have been conducted. Today we can distinguish theories which
are promoting central governance, and conversely policy proposal that consider the
possibility of being engaged in further institutional fragmentation (Joseph E. Aldy &
Stavins, 2010; Biermann et al., 2009).
The central governance model still appears to be the most supported one by the
European Union: indeed, according to the EU, this architecture approach can advance
more ambitions in terms of global emission reductions and in creating a system of
universal accounting options (MRV), which can facilitate the universal recognition of
varying GHG reduction units between different countries and mechanisms, resulting in
more convergence, and measurable green environmental performance. Conversely, a
proposed fragmented architecture, supported mostly by the United States, can be seen as
more flexible for being implemented between States, because it can take specific host
countries circumstances more into account.
At the last COP-19 in Warsaw, there was a growing consensus over the type of
governance to be implemented by the next agreement in 2015. The discussion took into
account the hybrid complex regime. This approach is a mix of top down architecture,
that would establish a centralized management of oversight, guidance and coordination,
with the possibility of increasing the ambition over time, and a bottom up architecture in
favor of national commitments or national contributions, which is at least consistent with
national policies and goals.
This approach has been strongly favored especially by Japan, and could be seen as a
mix that takes into consideration the advantages and disadvantages between the top-down

19
and bottom-up measures. Such a design would be more realistic, dynamic and efficient in
addressing the diverse national commitments, and it is today seen as the ablest to
accommodate different approaches and different institutional venues in a more synergistic
way.

3.1Defining a better future agreement through the governance process

One of the biggest challenges for the international community is to search out a way
to establish a new agreement or treaty, following the demands of the Durban COP-17, in
order to follow the Kyoto Protocol. The design of a new regulatory regime is essential but
does not seem to be a quick outcome. Indeed, creating a global common agreement is a
difficult task, because what can be regarded as a public good, namely the environment, is
actually creating wide conflicts of interests between main powers such as China, Europe,
and the USA 5 (Leal-Arcas, 2013).
Climate change is a global phenomenon and given the heterogeneity of costs and
benefits, mitigation efforts inevitably cause distributional conflict between states. For
instance, several analysts warn that the cost of climate change will largely fall on
politically weak developing countries, whereas the costs of emission reduction will largely
fall on industrialized countries. (Keohane & Raustiala, 2010, p. 1).
The complexity of the problem becomes deeper, as we consider that uncertainty over
the long time horizon is difficult to avoid: Consequently agreement on any meaningful
international regulatory system has been and will continue to be difficult (Keohane &
Raustiala, 2010, p. 1).
The major literature concerning the new treaty design, offers numerous solutions that
the International Community should consider when attempting to define a new climate
change agreement. Most suggestions have been favored through the experience acquired
due tothe failings and weaknesses that Kyoto has produced so far. Indeed, for the most
part, the problem of the distributional conflict and deep uncertainly regarding climate
change as a long term issue has been engaged through a comprehensive top-down

5
Stavins Robert Blog: http://www.robertstavinsblog.org/

20
policy action (e.g. through the Kyoto Protocol). This critically argues that the Kyoto
Protocol has been inefficient in addressing different issues such as how to enlarge the
participation of countries within the Protocol, how to raise ambitious mitigation measures
between States, how to accommodate different domestic interests of Parties, and most
importantly, how to guarantee the equity of treatment between Annex countries.
Furthermore, these studies have tried to focus on the causes that create different
obstaclesfor the successful outcome of the Kyoto Protocol, and their respective
solutions. 6
As we have seen in the preceding paragraphs, the Protocol has been efficient in
starting the commitment phase between countries, but not in addressing the growing
political and economic differentials of emission commitments between States. Therefore,
it requires a real re-examination of the complex political and economic reality, in order to
successfully assess a careful institutional design, that will take in consideration the current
fragmented reality context.
There is a highly growing consensus among policy makers, international
organizations, business and economists about how the design of a new regulatory regime
should favorite criteria for political participation, effectiveness, and compliance between
States (Edenhofer, Flachsland, Stavins, & Stowe, 2013).
The results of a recent workshop have suggested that these criteria are highly
dependent on the governance structure of the regime. (ibid) Indeed, the workshops key
purpose has been to find which governance structure is the most suitable. For example, a
top down approach may favor ambitious emission programs but at the cost of a lower level
of presence of countries, conversely a bottom-up governance approach may favor more
participation, obtaining a less ambitious program of emission.
In sum, while this field of studies is not new, a central question discussed in this
workshop is how to guarantee that both of the requested results criteria indicated, could
be successfully achieved together: for instance, a broad range of countries in mitigation
commitment and then how to tie ambition to this commitment over time.
Considering the latter criteria, various proposed alternative international policy

6
For more details, see chapter 2

21
architectures have been analyzed through several research studies. Among these studies,
the assessments range from top-down project to the bottom-up architecture. As regards
the top-down approach, the two main eminent studies were proposed by (Bosetti &
Frankel, 2009; Jayaraman, Kanitkar, DSouza, & Purkayastha, 2011; Messner,
Schellnhuber, Rahmstorf, & Klingenfeld, 2010).
The first approach, that builds on the fundamental relation deficiencies of the Kyoto
Protocol, would establish a progressive emission target commitments range between
different countries. By taking in consideration the different capacity of GHG abatement,
this top-down approach, would ask relative wealthy States to abate more respect to
developing ones. The increasing abatement threshold level would then proceed gradually,
toward an equalization factor which moves the world toward equal emission per capita
(Edenhofer, Flachsland, Stavins, & Stowe, 2013b, p. 6).
The methodology is designed to yield caps that gives every country reason to feel
that it is only doing its fair share, and it is flexible enough that it can accommodate major
changes in circumstances during the course of the century (Joseph E. Aldy & Stavins,
2010, p. 13).
The second top-down approach, namely the carbon budget system, would specify a
total amount of GHGs that could be emitted globally over a certain period of time. This
amount would then be divided through a cap on cumulative emissions between countries
over the same global period of time.
Together, these approaches do not appear to be politically feasible, considering that
some countries would not appear to accept an entire global constraint mechanism
(Edenhofer et al., 2013).
Among the main bottom-up approaches proposed, selected architectures would vary
from singular and independent cap and trade regimes between States, that guarantee more
flexibility and participation for GHGs emission reduction; to an eventually foreseen
linkage system that would provide, if well designed, a successful process toward
independent cap and trade systems between States.
Even if these latter mechanisms may present some weaknesses, these schemes would
particularly suffer in creating ambitious programs, but also (from a more technical
prospective) in how to guarantee a correct implementation. Therefore, there are complex

22
and different specific singular States parameters that need to be considered.
However, the challenge here is to find the best approach in order to achieve
participation, effectiveness, and compliance, while considering the more complex
fragmented governance methods of the current reality.

3.2. The hybrid - dynamic approach

At the recent workshop in Berlin (Edenhofer et al., 2013), it was recognized that the
best results would achieved through a dynamic type of governance (i.e. hybrid). A
potentially hybrid approach can favor criteria of participation, effectiveness, and
compliance between States into a new agreement. The method disposes different States in
deciding which kind of targets and actions have to be achieved, predisposing internal
mitigation policies, but also mechanisms such as the Kyoto's flexible ones. At the same
time, a centralized system, i.e. UNFCCC framework, supervises the regimes additional
aspects. For instance, a set of structured rules from an international body may implement
the use of uniform methods for measurement, reporting and verification (MRV), finance,
and technology-related issues. These may better guarantee firstly environmental integrity,
making larger actions and contributions towards solving the climate change problem, and
secondly provide both more confidence and credibility as regards the entire regime.
The hybrid approach has been further considered at the Warsaw COP-19.
A summary of proposal options for creating an efficient dynamic process in
promoting participation and increasing ambition is made by Aldy et al. (2003): this study
evaluated how this hybrid approach needs to be carefully designed and projected before
implementation (Joseph E. Aldy, Barrett, & Stavins, 2003). At first, major weight has
been given to the design of the central governance regime. States would be free to choose
the appropriate bottom-up mitigation measures, but in aggregate, such national policies
would not be able to reduce emissions sufficiently to avoid climate change. Therefore,
the UNFCCC and the broader international regime might be assigned a range of top-
down responsibilities related to a 2015 agreement (Edenhofer et al., 2013).
According to the analysis, a top-down procedure could comprehend a set of
approaches useful to facilitate participation and enhance ambition between countries at

23
the same time. These, for example, could range from reinforcing scientific review
processes over the growing climate change phenomenon in order to increase international
participation, to designing new mechanisms for incentives, in order to enhance ambition
over time, such as green jobs or reduced air pollution options between States. Moreover,
the process could also consider the development of a new approach called political
conditionality. In this case, State party might condition increased ambition, linkage
between regulatory system or international finance support on that of other parties,
perhaps including provisions to reverse the more ambitious policy in case of breach, as a
form of sanction. (Edenhofer et al., 2013).
Nevertheless, forsome analysts, such measures alone may not guarantee sufficient
results, given the fact that these would not surely be implemented, or, even if
implemented, they would not turn out to be efficient.
The analysis show that a set of dynamic top-down approaches would better integrate
the single bottom-up approaches. Furthermore, the new agreement must attempt to
motivate increased national ambition over timeto create a self-reinforcing loop in
which countries offer national policies, actions, and targets rooted in their domestic
political processesand review these over time in light of information on aggregate
global outcomes, equity considerations, and (in the case of developing countries)
international support. (Edenhofer et al., 2013).
In substance, the central architecture should develop principles, rules and metrics;
international support (aligned with domestic policies) for finance, market mechanisms,
and technological innovation; specifying a legal form, i.e. adjusting national obligations,
and, last but not least, a procedural mechanism to review certain regime elements. For
instance, a good process could be assessed step-by-step by establishing big dreams
through realizing small dreams. 7
Finally, as a matter of fact, a hybrid - dynamic approach would maintain the purpose
to establisha framework in assessing ambitious mitigations results that would give major

7
A comprehensive global governance i.e. top-down approach, would create and maintain big dreams,
infeasible in the present but not necessarily in the future such as stabilize the world's GHG emissions.
These big dreams will guide small dreams notably, countries' mitigations strategies contained within
the bottom-up approaches. (Urpelainen, 2012)

24
credibility to the international system. Credibility would later bring countries to increase
cooperation, i.e. establishing links, and especially, once a single country knows about the
real and effective commitments of others, leading to a general increase of the mitigations
ambitions.

4 Characteristics and options for a new successful agreement

Beyond the governance system established, a successful agreement would need to

entail a set of characteristics, features, and options which can increase the potential
global response toward effectiveness of the discussed criteria: political participation,
effectiveness, and compliance between States. These criteria have been posed in a recent
deep research, with the main purpose being to assess multiple solutions in the critical
debated field of International Environmental Agreements (IEAs).
The analysis shows how to better drive, motivate and implement the assessed
criteria, e.g. how to motivate participation and compliance; to find what drives investment
in green technology; the appropriate duration of a treaty (and how to update it); and also
how to establish the appropriate level of emission caps in the eventuality of an ETS.
According to Harstad, 2013, complex interactions exist between these variables, that
could be assessed through a multiple cause-and-effect process (Fig.1.6).

Figure 1.7 Multiple purpose diagram

Source: Harvard Project on Climate Agreements.

Starting from what drives investment in green technology, it has been found that the

25
greater demand for green technology depends on how ambitious the climate treaty is.
Therefore, it is important to stimulate ambitious plans for the climate treaty, though, as
Harstad suggested, in lowering disposable quantity caps distributed between countries,
equity criteria of caps distributions between developing and developed States must also
be considered. Furthermore, the higher is the demand for green technology, the more this
latter would bring success in creating larger profits for investment in new abatement
technology, thus, automatically reproducing incentives for further investments in
reducing pollution emissions.
Another important factor concerning the green-abatement technology investment is
the length of a treaty contract. A long-term contract would better induce technology
development considering the typical low rate return of a green-technology investment,
and low profit return risk for the investor. The demand in green-technology would
therefore increase with positive rational future expectations for the investor. While this
observation is not new, a crucial factor here is that a short-term treaty, would favor an
increase in participation criteria over the treaty. Here, further considerations are necessary:
participation (i.e. a countrys committed presence in a treaty) is a well-known problem
that could frequently occur along with the establishment of an international environmental
treaty. In particular, it is the frequently questioned free riding issue, that represents
serious threat to the final compliance process. Indeed, a public good such as the
environment, constitutes a long term benefit that can be enjoyed also by those countries
who decide to opt out from participating in a multiple agreement. As a matter of fact, less
participation would mean a decrease in the total amount of GHG abatement. Furthermore,
it may also result in more expense for the rest of the coalition to guarantee a certain amount
of emissions reductions. This latest effect is due to a so called carbon leakage effect.
For instance, in countries under emissions commitments, firms that face a limitation in the
quantity of emissions disposal, may find it attractive to switch the production processesto
countries that are not participants, i.e. in States out of emissions limits.
Participation criteria is also connected with the time length of a contract. In his
analysis, Harstad, (2013), further explains how the duration of a contract depends on the
size of the coalition: if few countries participate, it is in their interest to only sign short-
term commitments, while waiting for the coalition to grow. This indicates that usually

26
participants would prefer to establish a short-term agreement if they are few, hoping for
more countries to join later. Moreover, short contracts may reduce the negative free ride
incentives between states, because a country that contemplates whether to participate in
a treaty may fear that, by opting out, the remaining countries end up signing a short-term
treaty (reducing the possibility to free ride) (Harstad, 2013).
Short term agreements would therefore incentivate participation. Nevertheless,
although in a short-term agreement the free-riding problem becomes weak, the investment
in abatement technology would may also face a so-called hold-up problem: notably,
investments [in green technology] before negotiation, may weaken a negotiator's bargain
position, this may happen because countries that have already installed the best existent
technology, will have more to gain and less to lose in relation, conversely, to a country
which is without such technology. As a matter of fact, both of them will have nothing to
lose from an agreement in terms of technology. In summary, in a short term agreement,
the hold-up problem may generate a credible threat which would reduce even more the
free riding risk.8 However, the hold-up issue may incentivate a stronger participation, but
at the cost of a decrease in investments in abatement technology as we assessed above.
In synthesis, subsequent analyses have demonstrated that the longer the treaties
length, the greater are the incentives to invest in abatement technology, and increasing
green ambitions result through the years. Anyway, shorter treaties would increase the level
of participation between countries at the expense of a slower development of technology,
and consecutively, abatement performances (Battaglini & Harstad, 2012).
Further treaties would need to strike a balance within these two options especially
when environmental contracts are incomplete, i.e. where investments in green technology
are not further contractible, as in those under analysis.
Last but not least, the effectiveness of a contract would also highly depend on the
effective measures for compliance established. As with participation, for global
regulatory regimes to work well, states must, on the whole, choose compliance over
violation (Keohane&Raustiala, 2010, p. 17).
Basically, international agreements would favor formal compliance between States.

8
This, because of the low expected increase in investments between State's parties of the treaty, and, thus
low future profits for eventual free riders.

27
These could range from States that agree to a treaty in order to maintain political
sympathy with the others, to increasethe States vesting processes: where international
law becomes considered the same as internal law and, as such, constraining and costly for
breaking the norms.
Formal sanctioning processes, or perhaps punishment measures, can also be useful as
incentives for compliance. For instance, carrot and stick policies can be available using
trade policies and sanctions.

5 A proposed review process of negotiation

As we assessed above, considering that climate change is a global problem, a global

first-best solution would therefore need to find a universal multilateral agreement answer
(Biermann et al., 2009).
According to Leal-Arcas, 2013, considering the multiple challenge of moving the
climate agenda forward among the 195 Parties of the UNFCCC has led many to question
whether the UNFCCC is, in fact, the best and most effective forum for mobilizing a
global response to climate change (Leal-Arcas, 2013, p. 301).
Indeed This current approach to negotiating a comprehensive, universal, and
legally binding global agreement on climate change is unlikely to succeed (Leal-Arcas,
2013, p. 302).
As a result, it is important to identify policy issues, options, and ways to overcome
negotiations obstacles.
One proposal would be to make negotiations less ambitious within the UNFCCC, by
for example abandoning decision-making by consensus. For instance, consensus is based
on an oligopolistic and duopolistic world order, but fails to deliver under conditions of an
emerging multi-polar world, accompanied with great shifts in economic power. The turn
today towards a multi-polar world indicates that approaches based on consensus are
unlikely to produce results. No country, or group of countries, today is in a position to
forge a global deal.(Leal-Arcas, 2013, pp. 303304).
Furthermore, the old principle of common but differentiated responsibilities, also
could be seen at the core problem of the deadlock of the actual negotiating process. Today,

28
there is an urgent need to modify, upgrade or even eliminate the common principle, at
least with a careful observation of the current developing and developed countries' relative
emissions trends. China and USA together, count for almost 42% of the total GHG
emissions of the world, but today they are still outside of the Kyoto's protocol for different
reasons.
For instance, any effective review process of the UNFCCC should definitely take into
consideration these large emitters. Perhaps, a useful option would be to provide for a fair
distribution of emission burdens among all countries, leading to the elimination of the
distinctive Annex I attribute.
Various difficulties in the negotiations processes have also caused an increase in the
general fragmentation of the governance system. Any correct evaluation, before the
creation of an effective and comprehensive global climate-change agreement, should take
into consideration the different complex-fragmented reality in which the global landscape
is today involved. Notwithstanding, as we have assessed in the preceding paragraphs, a
process of re-evaluation of the current top-down regime, should necessarily go beyond the
crucial central role, also providing more flexibility within specific practical pledges
between States. Here pragmatism is a crucial element, such as bilateral agreements,
flexibility against rigidity, practical results over utopian ideals. Indeed, experienced
bottom-up mechanisms have been rapidly applied, and are still provided in different
waysbetween developed and developing countries. Regarding this, according to
Edenhofer et al., 2013 and Urpelainen, 2012, the dynamic climate governance approach,
would be seen to be today's most effective approach.
In summary, it is important to consider the possibility of a complementary
combination of top-down and bottom-up approaches to building a global climate
landscapein order to also reduce the negotiation issue (Leal-Arcas, 2013, p. 293).

5.1 The club approach

According to Leal-Arcas, 2013, there are also important and different plausible
venues to be further analyzed outside the UNFCCC negotiation process (Leal-Arcas,

29
2013, pp. 325342).
A recently recognized option would depart from the issues discussed and would be
built based on a so called variable geometry of power. This would consist on making
deals within smaller clubs such as the Major Economies Fund (MEF), the G-2, the G-3,
the G-20 groups instead of a comprehensive global institution such as the UNFCCC.
Together, those groups of clubs of countries, compose a big part of the worlds total
GHG emissions percentage.
According to recent analysis, a more effective process of revision, should start from
negotiating processes between these clubs of countries, whereas this would achieve better
mitigation performance, considering that the main emitters are de-facto grouped among
the clubs. This approach would create a faster, more efficient decision process within a
small group of countries instead of the comprehensive UNFCCC system. Less time would
be spent on procedural matters when dealing with a small group of countries. In addition,
based on international negotiating experience from other fields, the only way to get
any real business done is in small meetings (sometimes tte--tte meetings between key
leaders (Leal-Arcas, 2013, p. 328).
Another advantage that would result comes from considering the previous agreement
characteristics such as how to enhance participation criteria. Adopting strategies of less
starting participation such as clubs of countries, would better create the possibility of a
further expansion of the group.
Last but not least, these small groups of countries could better address the needs of
the single States parties. Indeed, a forum option with the purpose of better addressing the
important necessities of the less developed economies, may have more weight in
international climate policies. According to Leal-Arcas,2013, a collective action problem
can be solved within a polycentric system because it would produce cooperative methods
for better developing participation options between State parties through both cooperation
programs and partnership initiatives.
Instead of an uncertain future multilateral global climate treaty, the club approach
would result in a more plausible and realistic second best option that should necessarily
be placed under further empirical examinations.

30
__________________________________________
Chapter 2

The Kyoto Protocol and flexible mechanisms: valuable goals achieved

1 Kyoto Protocol: results and experiences accumulated

In the preceding chapters, we have argued that the Kyoto Protocol has been
successfully in creating an initial path toward a global emission reduction of GHGs. This
can be attested considering that the Protocol constitutes the first legally binding
international agreement on climate Protection and, also the first that builds on market
based instruments (i.e. flexible mechanisms), that determine cost-efficient responses for
the States to the undisputed need for GHG abatement through the carbon market.
At the same time, we have seen that the Kyoto system has some structural weaknesses
regarding reformative processes in the long term. This occurred essentially for two
reasons. First, the Protocol has been inefficient in general adjusting terms, i.e. has run
out of flexibility targets among states in the long term (Grubb, Vrolijk, & Brack, 1999).
Second, the existence of the Kyoto agreement has been involved in complex
negotiations processes that reflected a real difficult state of equilibrium between States'
political power. For instance, the withdrawal of Canada, New Zealand, Japan, and Russia
during the second phase of the Protocol in 2012, has weakened the negotiation progress
for the second phase, leading, as we saw, to block further progress in countries
participation, notably the developing non-Annex group.
Fifteen years after the Kyoto Protocol, we can say that several different studies argue
that the Protocol has been crucial for further policies processes on climate protection
(Bhringer, 2003).

31
 A certain idea among these studies, is that the agreed targets have also been enhanced
through a flourishing growth in the use of Kyoto's flexible market mechanisms. More
specifically, instead of a unique global carbon market under the UNFCCC, there has been
a growth in multiple independent carbon markets around the world, such as the European
Emission Trading Scheme (EU-ETS), the Regional Greenhouse Gas Initiative in the
northeastern United States (RGGI), the New Zealand Emission Trading Scheme, and
Australia, California, Quebec, South Korea and even India and China (Fig. 2.1).
What emerges according to these analyses, is that even if the Kyoto Protocol has been
insufficient to reach all the UNFCCC parties and also to enable a long term reform
process, it has been successful in establishing and stimulating a growing number of
jurisdictions nonetheless continue to pursue emission reductions in the absence of an
International agreement among all major emitters to reduce emissions (Newell, Pizer,
& Raimi, 2013).

Figure 2.1 Perspective of carbon markets launching programs in 2013

Source: World Bank, 2013

In order to show the impact of the Kyoto Protocol in terms of CO2 emissions

32
reductions, an empirical analysis is taken by Grunewald & Martnez-Zarzoso, 2012.
According to this large dynamic model research, the States with emissions
commitment under Kyoto, emit on average 24.5 percent less CO2 than similar countries
that did not ratify the protocol. Yet, even if is evident that the protocol has some potential
effect, it is still not clear if the Annex I countries would have been doing the most to
tackle their CO2 emissions, even in the absence of the protocol. Countries would increase
their emission-reducing action with a positive function of per capita income, instead of
through the modest commitment required by the Kyoto Protocol.
Here, at least two considerations could be evaluated in assessing the Kyoto's
performance.
First, for a possibly stronger performance calculation, we should necessarily take into
account different Annex-I commitments in emissions reductions, especially within the
field of internal-domestic policy measures and instruments. 9 An empirical analysis taken
by (Zhang, 2003) shows that, when counted alone, the Kyoto's flexible mechanisms
performance would exclude an important part of avoidable GHG emissions i.e. domestic
policy measures, that separately perform, on average, 37% of the total Annex-I emissions
reductions required from Kyoto in 2010.10
Secondly, although Annex-I Parties reduced CO2 emissions by nearly 7% out of 5.2%
of the Kyotos emission reduction requested in 2009, a large part of the decrease was
due to a drop in economic activity in response to the crisis (Grunewald & Martnez-
Zarzoso, 2012).
This is true perhaps in Europe, where the European Trade Mechanisms (EU-ETS)
have largely surpassed the Kyoto's targets. For instance, the total average emissions
reductions of the European countries EU-15 reached between 2008 and 2012, was 12.2

9
These latter for example, would include Environmental Voluntary Approaches, NAMAs (national
appropriate mitigation measures), National Carbon Tax etc...
10
The global empirical model illustrated from Zhang, is based on considering the marginal abatement costs
of 12 selected countries. Under specific hypothesis, and within three case scenarios a domestic
performance is calculated: a no-limit scenario in which no caps are imposed on the use of the flexible
mechanisms, a EU (proposed) ceiling scenario that impose a limit to the use of flexible mechanisms, and a
no-air scenario where trading in hot air (emission quotas) are not allowed. Of the total emissions
reductions required by Annex-I countries in 2010, domestic actions account, starting from a minimum of
27.7% under a no limit scenario, up to 50.8% under an EU ceiling scenario. Moreover, a successive
analysis shows that CDM credits contribution are estimated to range from 31.5% under the EU ceiling, to
57.6% under the no hot air scenario.

33
percent of GHG emissions avoidance respect to 1990 levels, surpassing the 5.5 % of the
EU-15's base-year emissions (European Environment Agency, 2013) (Fig. 2.2) (For
further details see paragraph 2.3). This result should also consider that, according to an
analysis by Borghesi (2010), in Europe, the Kyoto's targets have been achieved differently
among countries. Among these, in 2008 there was an over-achievement with some
virtuous countries, and conversely a so called Kyoto gap for the others.

Figure 2.2 Greenhouse gas emissions in Kyoto Protocol countries and their targets
Source: Joint Research Centre, 2013

Nevertheless, in this context, (Laing, Sato, Grubb, & Comberti, 2013) reported how
it is difficult to disentangle the impact of the EU-ETS on emissions performances from
other factors, such as the economic crisis; and that there are still different, and contrasting,
results, in assessing the impact of the recession in emission performance due to the
complex outlook of the crisis. Results are conflicting: some of such analyses conclude that
the immediate post-crisis phase II of the EU-ETS had looked similar, in performance
terms, to the pre-crisis phase I, showing that the system led to some small levels of
abatement, and it was not only, and perhaps less than expected, caused by the recession

34
impact; other analyses, seem indicate that the reductions in overall EU emissions that
have been occurred since the inception of the EU ETS are more the result of the impacts
of the financial crisis than the EU ETS.(Grubb, Laing, Sato, &Comberti, 2012).
In summary, based on these performance results, the Kyoto Protocol alone is not
sufficiently able to solve the global warming problem, even considering the GHG
reduction performance obtained with all the Kyoto's effective flexible mechanisms.
Furthermore, according to Grunewald & Martnez-Zarzoso (2012), emerging countries
such as China and India, that are not parties to the Protocol, are expected to increase their
emissions levels over the next decades.
As we see, through these performance analyses, the Kyoto Protocol has been
successful in initiating an optimal effort toward emission reduction, but more importantly,
in some countries and regions: commitment targets not only have been achieved, but also
have been further enhanced (European Environment Agency, 2013).
As a matter of fact, performance would be better assessed considering and looking at
the flexible market mechanisms that have been developed and implemented inmany
countries.

2 The Kyoto Protocols Flexible Mechanisms

Since the establishment of the Kyoto Protocol and in particular since 2001, flexible
market mechanisms were created in order to reduce the cost commitments for the Annex-
I countries to participate in reducing the emission of GHGs.
The Clean Development Mechanism (CDM) and the Joint Implementation (JI)
represent the two most important baseline-and-credit systems that facilitate reaching the
Kyoto limits for Annex countries, especially for States committed within an Emission
Trade System (that allows for the credits conversion).
These mechanisms promote emission-avoiding projects in both Kyoto's Annex-I
countries (JI) and within non-Annex countries (CDM). Based on the principle that for the
atmosphere it does not matter where a GHG emission reduction is realized, through these
projects, firms can receive credits (CERs or ERUs) to be certified within an ETS
mechanism, or else sell them through the global carbon market. These latter projects

35
provide flexibility to assist Annex I Parties in achieving their Kyoto commitments.
Moreover, since the cost of emissions reduction would vary among places, due to varying
levels of development and marginal abatement costs between countries, flexible
mechanisms would facilitate cost-efficient reductions.
According to recent data, the total value of the primary CDM and JI markets are worth
at least US$ 990 million and US$ 339 million in 2011 respectively. The total amount of
quantified expected CERs in 2014 amount to 1.4 billion and the total JI current issuance
count of about 835 million.11 Although the data seem to show optimism apparently,
registered projects have been reduced since 2012; and subsequently, the issuance trend of
CERs and ERUs is currently declining (Fig. 2.4).
It is indeed due to a current oversupply and a lack of demand of CDM and JI credits
in the global carbon market that the prices of credits are decreasing sharply.
According to some data analyses, this tendency is not thought to reverse itself soon,
because today the potential credit supply is about 2 Gt of CO2, but the current demand is
only near 1,6 Gt of CO2 in the same period considered (2013-2020) (Fig. 2.5).
Furthermore, it will take time to see the full effect of price decrease on supply and there
is a large potential for resurgence in supply if the issue of demand is addressed (Kossoy,
Oppermann, Reddy, Bosi, & Boukerche, 2013, p. 20).
Since the EU-ETS is the main source of demand for both CER and ERU credits, the
European policies may influence this (Leguet, Fujiwara, Georgiev, & Centre for European
Policy Studies, 2012). 12
For instance, at the end of phase II of the EU-ETS in 2012, and at the beginning of
phase III, the eligibility process required the introduction of additional quantitative and
qualitative restrictions on the offset use for international credits.13 As a result, in an attempt
to secure credits compliance under Phase III, the Parties' submissions of project

11
http://cdmpipeline.org/overview.htm
12
This is also reflected through the low prices of emissions permits in Europe, i.e. European Union
Allowances (EUAs). (Fig. 2.24) (for further details see paragraph 2.3)
13
The article 11/a of Directive 2003/87EC, and subsequent amendment Regulation on international credit
entitlements during phase three of the EU-ETS, provides the main quantitative and qualitative rules for
the use of CERs and ERUs. The first important requisite is the obligatory conversion of credits in
EUAs (European Union Allowances). Furthermore, article 58 of revised Registry Regulation includes
additional rules for the use of ERUs in the EU ETS. For more specifications see:
http://blog.vertis.com/?p=56 and http://blog.vertis.com/?p=1297

36
registrations experienced a high increase before December 2012 (Fig. 2.3).
After the EU-ETS eligibility deadline had passed, low credit prices are the main cause
of a slowdown in project submissions because, essentially, low prices affect the
generation of CERs, as the current price does not cover the costs of verification and
issuance of CERs for some existing CDM projects. This provides little incentive for project
developers to originate new CDM project activities (Carbon Market Watch, 2013;
Kossoy et al., 2013, p. 22; Michaelowa A., n.d.).
According to the preceding analysis, demand/supply imbalance might consider
different ways in order to be effectively addressed. Among the most important approaches,
one would be to reform and move the CDM and JI mechanisms toward harmonizing with
the European policy regulation, and leading the EU-ETS system to adopt a set of short,
medium, and long term economic and political reform measures in order to quickly
bolster allowance prices (IETA, 2013). 14
Another possible way is through the use of New Market Mechanisms that would help
in addressing the issue of demand through different modalities as we will see.15
In the next paragraphs we are going to assess the former issue, since it is important to
consider the main strengths and weaknesses which are characteristic of these mechanisms
in order to gain important insights that would also be useful for designing new and
ambitious market mechanisms, such as the New Market Mechanism (NMM).

Figure 2.3 CERs and ERUs issuance 2008-2012, and expected issuance of CERs

14
For further details see paragraph 2.3
15
See chapter 3

37
Sources: UNFCCC, 2014; UNEP Risoe, 2012

Figure 2.4 Number of CDM projects each month

Source: UNEP Risoe, 2014

Figure 2.5 Potential demand and supply of credits 2013-2020

38
 Source: World Bank, 2012

2.1 Characteristics of the CDM

Under the Kyoto Protocol, the CDM has become the most important flexible
mechanism used to reduce emissions in developing countries, and it represents the largest,
and most effective international crediting system currently in operation. The revenues of
the CDM constitute the largest source of mitigation finance to developing countries to
date (Leal-Arcas, 2013, p. 229).
During the first commitment period of the Kyoto Protocol (2008-2012), the CDM
produced more than 2.9 billion tons of CO2 equivalent. 16
Developed countries, especially within the EU-ETS system, have strongly promoted
the development of the CDM, which resulted very profitable for private enterprises both
in terms of emissions quotes (i.e. offsets), and in terms of technology profits.
In terms of emissions offsets, the CDM proved to be efficient in developing countries,
due to the low marginal cost of emissions reduction: the idea behind the CDM is to clean
the atmosphere in the cheapest possible way, and it is often much cheaper to achieve GHG
emissions reductions in developing countries than in developed countries (Leal-Arcas,
2013, p. 231).
This is well profitable for the project owner, who can gain more credits (Certified
Emission Reductions or CERs), and sell them in the carbon market, or use them in
compliance with the ETS systems. Notwithstanding this, according to some theoretical
assumptions, after a time, the so called low-hanging fruits, that is the period t in which
the marginal cost of emissions reduction among productive sectors in developing
countries is low, would have been picked. Arguably, developing countries may be left
with only more expensive measures to take when they have to meet their own
commitments in the future, since in a time t + 1 the marginal cost of emission reduction
in a developing country will likely grow. Also, in the worst case, the investor will likely

16
http://unfccc.int/kyoto_protocol/mechanisms/clean_development_mechanism/items/2718.php

39
abandon the implemented project because of the lowered quantity of credits resulting at
the end of the period. Despite that, Castro (2012) empirically found that the CDM is not
yet capturing a large portion of the identified abatement potential in most developing
countries (Raab, 2012, p. 34; Castro, 2012).
In terms of technology profits, along with the expansion of technologies in developing
countries, the enterprises would gain economic profits in terms of profitable technology
transfer and export (Lile R. et al,1998; Paulsson, 2009).
According tothe preceding arguments, the CDM is doubly beneficial: in developing
countries, CDM projects would reduce emissions that could then be used as certified
emissions credits by developed States, receiving, at the same time, green technologies that
are useful to address and initiate steps toward emissions reduction, and help to contribute
to sustainable development. However, according to Raab (2012), various studies have
shown that roughly a third of the CDM projects have involved technology transfer; also,
the highest rates of technology transfer can be found for industrial gas (over 90 per cent)
and methane avoidance (about 85 per cent) projects whereas technology transfer for
biomass energy (about 35 per cent) and renewable energy (just over 20 per cent) projects
account for less (Raab, 2012, pp. 2122).
Furthermore, although some of these green technologies could meet the needs of the
recipient countries, desired technologies such as solar energy for remote locations,
biofuels, improved cooking stoves, and efficient lighting appear neglected by CDM.
Nonetheless, a review of costs for these technologies suggests that many could be cost
effective for developing countries (Kim, Popp, & Prag, 2013, p. 165).
According to a study of Freestone & Streck (2009), the CDM has been considered
more effective in reducing mitigation costs, than in broad contribution to sustainability,
though assuming a wide definition of sustainable development that focus on local
stakeholder participation, local job creation, and small scale renewable energy supply
(Freestone & Streck, 2009, p. 565).
Under a more positive light, more recent data seem to indicate that the CDM
mechanism constitutes a good process for the enactment of a commitment phase for
developing countries, and it helps in creating a positive step toward global environmental
mitigation (Fig. 2.6).

40
 Figure 2.6 A possible scheme for gradual incorporation of developing countries
Source: Freestone and Streck, 2009

This aspect can also explain why today the CDM mechanism has received a great deal
of attention from ample research. The CDM demonstrated an important potential, and
considered that it constitutes the most famous and proven mechanism, it is expected that
any further global agreement in 2020 will likely keep the mechanism, but perhaps not
without a complex system reform and adjustment.
Today we can observe that the CDM has reduced its capability of leading the carbon
market on emissions offsets. As we can see from the figure 2.4, the number of projects
that are entering the CDM registrations pipeline has extremely decreased in the latest
years. This can be explained if we consider that the CDM is highly dependent on emission
trading systems such as EU-ETS (Leal-Arcas, 2013).
For instance, the price collapse of trade permits in recent years has been at the core
of the problem of CDM demand, which does not seem to recover so quickly (Kossoy
&Guigon, 2012). 17
Between 2008 and 2012, the mechanism reached its optimal operational phase.
Besides that, a growing number of critics started to find fault with CDM performance
(Michaelowa, 2012; Paulsson, 2009).

17
For further details see paragraph 2.3

41
 These critics have pointed out a number of factors that could restrain CDM
performance results, and since the CDM is attested to be the most appropriate mechanism
for the establishment of a new market mechanism, we argue that it is a relevant point to
be addressed for a better design of the NMM (Leguet et al., 2012).
First, a critical point has been found in the unequal geographical distribution of CDM
projects (Paulsson, 2009) (Fig. 2.7).
This was fundamentally caused by two factors: first, countries' characteristics;
second, external drive forces.
According to most empirical research, the first factor is due to differing institutional
capacity between States (Lile R. et al, 1998).
A general weakness in institutional capacity can exist due to a lack of knowledge of
requisites and general purposes of the CDM projects. Also, problems such as cumbersome
bureaucracy; slow and multiple actors on political decision process; market reforms in
transaction economies that influence foreign direct investments (FDIs); uncertainty in the
social context, such as various uprisings and labor union protests; macroeconomic
instabilities; and the high regulatory risks concerned; are therefore crucial for decisions
regarding a project investment.
In addition, external driving forces may encourage or discourage public and private
subjects to develop CDM projects. For instance, the EU-ETS system can drive the subject
regarding investment decisions. The EU-ETS can have a strong influence, for instance by
posing restrictions on the recognition of CERs in the ETS, or conversely, by allowing
unlimited CERs within the system. Last but not least, the CDM international governance
guidance and working rules may undermine the procedure for projects assessment, and
thus reduce the incentive for the project owner. 18

18
The Kyoto protocol stipulates that the CDM shall be subject to the authority and guidance of the
Conference of the Parties and be supervised by an international Executive Board (EB). The EB accredit
and design a Designated Operational Entity (DOE) that is either a domestic legal entity and an
international organization which perform check for validate request registration of a proposed CDM
project activity and verify emission reductions of registered CDM project activity. The EB has the main
purposes of supervising the CDM by what regard the developing guidance to project participants, to
implementing the accreditation process of DOEs included reviewing accreditation standards, to approving
baseline and monitoring methodologies, to registering CDM project activities and to issuing CERs and
maintaining a CDM registry for tracking CERs. For further details see: (Freestone & Streck, 2009).

42
 Figure 2.7 Distribution of registered projects by host Party-March 2014
Source: UNFCCC, 2014

To sum up, it can be recognized that it is important to both stimulate internal and
external potential regulatory measures, but even more importantly, it is crucial for any
successful project to be aligned with the host State's political priorities.
A way to improve the development of CDM projects is based on the so called
Programme of Activities (PoAs). Recently, there has been a transition from the
traditional project-by-project-based CDM to more comprehensive approaches. These
approaches allow for an unlimited number of CDM programme activities over a wide
area to be run under a single administrative umbrella (Raab, 2012, p. xv).
This step would be effective in order to guarantee a more equal distribution of CDM
projects in developing countries, which find difficulties in incentivizing project owners to
invest, especially due to transaction costs directly related with the project assessment.
Notably, these costs, that include the time spent for instance in designing, accepting, and
realizing the project, could be lowered. As a matter of fact, the Programme of Activities
may simplify and accelerate these procedures. Besides, a large part of these administrative
costs of various individual projects would then be managed by a centralized governance
mechanism, i.e. a host country. With the PoAs approach, different analyses are currently

43
emphasizing tools, and guidelines for assessing standardized baseline implementation
procedures. Accordingly, these analyses have focused on studying pre-defined values for
some of the variables used for baseline calculation or additionality testing for a group of
emitters. Therefore, these tools would be crucial in order to streamline administrative
procedures such as project registration, transaction costs, and increase objectivity
regarding the calculation of emissions reductions achieved. (Prag A., Briner G., 2012, p.
21-27).
Today, as a matter of fact, the PoAs approach has increased the attractiveness of a
range of small and dispersed CDM projects, and has contributed to the successful
establishment of this type of projects within the least developed countries (LDC) (Fig.
2.8).

Figure 2.8 Distribution of registered PoAs by Host Party-March 2014

Source: UNFCCC, 2014

For the project's owners, another important question is regarding the necessity of
proving the effective additionality of the project.19 Although today it is still difficult to

19
A green CDM project is additional when the project goes beyond business and usual baseline that is
representing the volume of greenhouse gases that would have been emitted if the project were not
implemented i.e., the project has to exceed those that would have taken place without the project.

44
prove the additionality concept, the main criticism concerns the connected risk of
environmental integrity: the international governance of the CDM used to recognize
projects without any credible procedures. Thus, a CDM project may not be shown to be
additional, but nevertheless leads to the issuance of CERs, which results in an increase in
global GHG emissions.
Through the years, many reviews of the additionality process design, such as the
Validation and Verification Manual, have consistently improved the efficiency of the
additionality check. Importantly, environmental integrity is a concept that contains
multiple and complex dimensions that are therefore difficult to assess. By definition, the
additional criterion has to be included in the larger concept of environmental integrity
(Freestone & Streck, 2009, pp. 272294).
Various Conferences of the Parties stated that the CDM emission reductions have to
be additional, and also real, measurable, and long term. The problem is that direct or
indirect impacts of the project activity on the environment integrity are neither credited
nor discredited. This is particularly controversial with regard to projects that potentially
can lead to decline in water quality of quantity of rivers, and/or have an impact on land
or river ecosystems, or affect biological diversity. (Freestone & Streck, 2009, pp. 272
294). Furthermore, the same definition of environmental integrity could be seen
differently from a political point of view. Perhaps, the concept appears highly connected
and dependent on the diverse specific characteristics i.e. political priorities of a host
country. According to Raab (2012), environmental integrity is essential making sure
actions taken are indeed contributing towards solving the climate change problem, as well
for providing confidence and credibility to carbon market, also to secure political and
public support for a flexible mechanism. One of the lesson learned from the CDM, and
perhaps an important challenge, is the need to strike a balance between seeking to measure
every single tonne of greenhouse gas reduced and estimating - with proper accuracy the
total greenhouse gas impact of a creditable activity. Striking such a balance would be
necessary for keeping a transaction costs manageable, while safeguarding environmental
integrity. (Raab, 2012, p. 30).

45
 2.2 Characteristics of the JI

The Joint Implementation (JI) mechanisms constitute the second, but not in order of
importance, project-based flexible mechanism established by the Kyoto Protocol.
The JI has not achieved the same success of the CDM in terms of performance in
emissions reduction, but currently, it is the largest offset mechanism, in terms of market
volume, in countries with an emission target (Leal-Arcas, 2013, p. 243).
Differently from the CDM, the JI operates in Kyotos Parties that have accepted the
emission limitation targets and it provides project-based flexibility for capped countries
under the Kyoto Protocol, and also for firms under a cap. In other words, JI operates
through implementing projects in Host Annex I countries. 20
An important characteristic of the JI is that it was intended to be regulated primarily
by Annex I Parties hosting the JI projects with more limited international supervision,
The host country should therefore be concerned to ensure that the URU represents a true
and additional emissions reduction (Freestone & Streck, 2009, pp. 195196).
Specifically, the JI mechanism can operate under two different tracks: Track 1, and
the more recent Track 2 (Fig. 2.9). Under the first Track, the host country is the main
entity responsible for governing the projects by managing and supervising them through
the use of specific operating rules, having to do with the verification process, issuance and
transfer of ERUs.

20
These projects subtract and convert AAUs permits belonging to the host country, in ERUs credits
developed by projects. If these latter are under the standard emission baseline of the Host country, projects
will receive ERUs that can be exchanged within the carbon market among countries posed under a cap and
trade system. For further details, see: http://ji.unfccc.int/index.html

46
 Figure 2.9 Track 1 vs Track 2 JI
Source: World Bank, 2013

Conversely, within the Track 2 of JI, the host country becomes committed under a
check and verification process similar to the CDM that is performed by the Joint
Implementation's Supervisory Commitment (JISC). 21
However, this modality is not the
same as for the CDM; therefore, figure 2.11 shows how the JI Track 2 does not definitely
eliminate or avoid some project administrative functions, of which host countries remain
in charge (Fig. 2.10 and Fig. 2.11).

Figure 2.10 Summary of steps required for Track1 and Track 2 JI projects

21
The Supervisory Commitment of the JI shall supervise and verify the issuing of ERUs credits
generated by JI projects. It is the main entity responsible for reviewing standards and procedures for the
accreditation, reporting guidelines for baseline, reporting activities, etc...

47
 Figure 2.11 Differences between CDM and Track 2 procedures
Sources: Freestone and Streck, 2009

As a matter of fact, host countries have implemented sufficient legislation to govern

JI projects only recently. This is the reasonfor the long time needed to initiate the JI
system, that became available only after 1 January 2008 (Delay, Grubb, Willan, &
Counsell, 2009).
In terms of performance, it is important to consider how the JI mechanism could be
improved. JI may represent the major pivotal rule crediting mechanism in future, As more
countries are expected to accept international emissions caps: the geographical scope of
JI may expand in the same measure as the CDM loses area. (Freestone & Streck, 2009,
p. 177).
Along with this purpose, it is possible to assess different problems that have hampered
both the endogenous system performance and the future development of Joint
Implementation.

48
 Index:

Parties; Annex I & II countries with binding targets

Parties; Developing countries without binding targets
States not Party to the Protocol
Signatory country with no intention to ratify the treaty, with no binding targets
Countries that have renounced the Protocol, with no binding targets
Parties with no binding targets in the second period, which previously had targets
Figure 2.12 Kyoto Protocol participation map (commitment period: 2013-2020)
Source: Wikipedia, 2013

The first, and, perhaps, most important issue is that the mechanism can operate only
during the commitment phases of the Kyoto Protocol. Recently, as in the case of the CDM,
the EU-ETS has established that the ERUs credits will be recognized only among States
Parties and participants to the second period of commitments (2013-2020).
Notwithstanding this, today the countries participation in phase II of the Protocol is
highly reduced (Fig 2.12).
Another important factor is the lack of incentives for project investors, that hinder the
current JI performance capability. These projects have a risk margin that is too high for
public and private investors, and therefore, provide low incentives for the latter. Regarding
this, through the years, JI has reported the same problems as the CDM, but these problems
occur in different ways. For example, a common time-delay issue for the project
verification procedure has been followed by public or private frustrating consequences.

49
According to Freestone & Streck, 2009, pp. 176195, a combination of both stringent
additionality concept and a time consuming registration procedure creates a large barrier
for project developers. Furthermore, the CDM Executive Board and JISC have
formulated a common guide: CDM and JI have to demonstrate that the proposed CDM
project activity is unlikely to be the most financially/economically attractive [] this
implies that revenues from the sale of ERUs and CERs are crucial in making the project
feasible. But projects, get certainty on a future revue stream only after more than one or
two years, and, that is crucial to the feasibility of the projects.
In addition, unlike the standardized verification approach of the CDM, JI was found
to be, on average, slower than CDM (Fig. 2.13). This is due to the fact that the mechanism
is moderately new or that, for instance, different Annex I Parties in Track 1 adopted
diverse accreditation procedures, which may produce further concerns about project risks.
Last but not least, the political and institutional context of the host countries for the JI is
largely dependent on the operational framework of the national institutions.
Only early mover countries for JI implementation have successfully realized ERUs
credits and this has led to an excessive geographical concentration of projects (Fig. 2.14).
However, the majority of the latter have been criticized because they did not respect
restrictive parameters considered under Track 2, and thus are still reducing incentives for
public-private investors firms.

Figure 2.13 Average time required for project registration methodology, in days
Source: Freestone and Streck, 2009

Undoubtedly, Joint Implementation represents a mechanism that can tend toward high

50
performances, both in terms of enhancing State participation, and in terms of increasing
technological development. In addition, as the empirical research illustrated, JI can help
in moving countries toward a low carbon technology and develop or complement domestic
emissions reduction measures.
Last but not least, this process may also encourage a sectoral credit mechanism, e.g.
a New Market Mechanism, as the latter required host countries to play a stronger role in
governing new flexible mechanisms (Leguet et al., 2012).

Figure 2.14 ERUs issuance by host Party as of February 2013

Source: UNFCCC, 2013

A successfully reform of JI, could facilitate countries' experience in project

administration. Under track I, more countries will adopt and build a track record in
implementing government options. In addition, according to an analysis of Korppoo &
Gassan-zade (2008), the potential JI transaction costs, notably the costs of project
assessment, would be lower for the JI project than in the CDM case. This lower cost can
easily create incentives for public and private investors; despite this, it remains important
to consider that these would likely pass directly on to host governments, resulting in
additional costs for the latter.
Finally, compared to CDM, the JI mechanism resulted in a better guarantee of
environmental integrity, and was also less restrictive in terms of additionality project
verifications (Freestone & Streck, 2009).

51
 During the latest COP-19 in Warsaw, procedures for quality assessment of credits
were proposed within the JI track I, using new procedures for increasing crediting baseline
ambition and in reinforcing more transparent governance measures, that are still for the
most part problematic concerning the environmental integrity issue (Kossoy & Guigon,
2012).
A complex reform is actually programmed at the COP-19 and the commitment
responsible to supervising the mechanism, has adopted a plan to sustain the mechanism
in 2014 and beyond while contributing to its ongoing evolution as an effective tool for
climate change mitigation 22.
One important proposal from the JISC under the Track 2 procedure, would be to
closely align the CDM and JI accreditation systems, partially or entirely, in order to
streamline the administrative processes and to create a more standardized verification
process. According to a concept note of the JISC, a partially unified accreditation
procedure, i.e. use of the CDM accreditation system partially, would be better than an
entire use of the CDM accreditation system, thus indicating its final recommendations to
the JISC. 23

3 The European Emission Trading System

The EU-ETS represents the largest greenhouse gas emissions trading system currently
in operation.
Today, at the beginning of phase III of the mechanisms, the market value of the
European Union Allowances (EUAs) has started to grow again after 2013, following the
price allowance increasein the first semester of 2014. According to Point Carbon (2014),
the total carbon market volume will grow three percent from 2013, to 9.6 billion tonnes

22
https://ji.unfccc.int/index.html
23
The final recommendation of the JISC considered advantages and disadvantages of option A (use of
the CDM accreditation system completely) compared to option B (only partially). Among the main
advantages of option B, the JISC found more environmental integrity and more independence from the
CDM accreditation system. Among the main disadvantages are additional costs due to a closely aligned
working process of both accreditation systems JI and CDM, and a general high operational complexity
being required. (for further details http://ji.unfccc.int/Sup_Committee/Meetings/034/annex1.pdf )

52
in 2014: thanks to higher prices inside the EU-ETS, the total market value will increase
66 percent, leading to a total of 64.4 billion between 2014 and 2016. 24
During the whole phase II (2008-2012), the system covered nearly 12,000 firms
which are emitters among the EU-27 members, covering more than 40% of total European
GHGs emissions (Fig.2.15).
Figure 2. 15 Brief overview of coverage of EU-ETS

Source: Motu - Economic and Public Policy Research 2013

With these numbers, the EU-ETS is shown to be the most embedded cap and trade
system existing today. Due to its long experience, it can provide important lessons, both
for assessing other emission trading mechanisms and for the design and implementation
of future carbon market-based systems (Fig. 2.16).

24
http://www.pointcarbon.com/research/promo/research/1.4304894?&ref=searchlist

53
Figure 2.16 The long life of the EU-ETS system confronted with other cap and trade operational
and expected in future
Source: Journal of Economic Perspectives, 2013

The main purpose of the EU-ETS is to reduce GHG emissions in a cost-effective and
economically efficient manner, and to promote corporate investment in low carbon
technologies in order to implement a path for a long term environmental strategy.
On the wave of the recent successful achievements of the Kyoto Protocol's pledges
by the EU-ETS, the heads of the EU member States and the European Council endorsed
the 20/20/20 objectives in 2007, that were implemented through the EU's 2009 climate
and energy package, and the 2012 Energy Efficiency Directive (Freestone & Streck, 2009;
European Environment Agency, 2013).
Three sets of targets and related policies have been established:
a 20% reduction below 1990 emission levels by 2020 (that may be increased
to 30% if the conditions are right) to be achieved by the cap and trade system;
a 20% share of renewable energy in EU electricity consumption;
a 20% improvement in energy efficiency.25

Since the EU-ETS is well on the way to meet its 2020 objective with 18% of GHG
reduction, it is expected to make a review of these targets in 2030: between 35 and 40

25
http://ec.europa.eu/europe2020/europe-2020-in-a-nutshell/targets/index_en.htm

54
percent of reduction of carbon emission; between 27 and 30 percent in renewable energy
mix; 40 percent gain in energy efficiency within 2030. However, the final proposal of the
European Commission will be voted upon by the new parliament in October 2014. 26
Covering the period of the two phases of the system between 2005 and 2012, different
research projects have tried to assess the performance measurement of the system.
According to Laing et al. (2013), a useful formula for calculating this environmental
performance would be to first measure emissions reduction performance, and its impact
on firms profits and product prices, and, secondly, the impact on investment and
innovation (Laing et al., 2013).

3.1 Performance, business profits and product price impact

Regarding the performance of the EU-ETS, during the two phases researchers have
assessed that the system has achieved an attributable emission savings in the range of
40-80 MtCO2/yr, that is about 2-4% of the total capped emission, which is much bigger
than the impact of most other individual energy-environmental policy instruments
(European Environment Agency, 2013, p. 9).
Furthermore, The EU-15 is on track towards its 8 % reduction target, compared to
base-year levels under the KP. Total average emissions of the EU-15 in the 20082012
period have declined by 12.2 % compared to base-year levels. (European Environment
Agency, 2013, p. 9).
Even if these results could seem optimal, it is however not clear exactly how large the
emissions reduction has been, since according to different studies it is not a simple
calculation, since it can only count on projected measurements (Newell et al., 2013).
Indeed, these data would be based on comparing business as usual scenarios, that are
still difficult to assess (Grubb et al., 2012) 27.
In addition, it may also turn out to be important to see how these performances have
been reached so far. Borghesi (2010), casts a shadow on how the recent reduction
achievements have been reached, and especially on whether those would be effective in

26
http://aegee.blogactiv.eu/2014/04/01/eu-energy-targets-2030/
27
See chapter 3

55
the near future due to highly divergent emissions trends among the European countries
(Fig. 2.17).
After a remarkable comparative study of the EU-ETS reductions performance, Grubb
et al. (2012), concludes that there is some evidence of abatement in certain sectors, but
the numbers are small and the types of abatement relatively unimportant in the context of
what is required to meet Europe's long terms targets. The key conclusion is that the lack
of flexibility in the structure of the EU-ETS cap, and its inability to adjust to radically shift
wider economic conditions, in the shape of the financial crisis, threatens to undermine its
efficacy in providing incentives for abatement.
The emissions reductions performance of the EU-ETS system were affected by a
number of set-backs, ranging from the recent economic financial crisis in 2008, to an over-
allocation of allowances that led to price allowance volatility and windfall profits for
industries (Fig. 2.18).

Figure 2.17 CO2 emission trend within EU-27

Source: European Environment Agency, 2012

56
 Figure 2.18 over-allocation of allowances in Europe
Source: <www.edp.pt>

Therefore, even if is difficult to disentangle the performance of the system from the
crisis impact, there is strong evidence that due to the financial crisis in the second phase
(2008-2012) there was a high performance in emission reduction, that overall performed
better than during phase I (2005-2008) (Fig. 2.19).

Figure 2.19 CO2 emission trend in EU-Phase I and II

Source: Grubb, 2012 figure modified by the author

57
 Over-allocation of allowances may be considered a consequence of wrong and
ineffective methodologies and policies followed in assessing the allowances allocation
among the EU members (Borghesi, 2010; Grubb et al., 2012).
In 2014, it is expected that this surplus of allowances will reach over 2 billion EUAs,
that would represent about a whole year of emissions for the EU (Branger, Lecuyer, &
Quirion, 2013).
For instance, multiple reasons can explain this negative outlook: among them, the
recent EU enlargement to the Eastern European countries; the modalities of allowance
assignments disposed by the National Allocative Plans (NAPs) in phase I and II; the
excessive contribution of offset credits; but also the allocation modalities such as
grandfathering or auctioning methods within the sectors covered by the system. 28
The subsequent establishment of EU-ETS between the former centrally planned
economies during the EU enlargement, has been followed by a dramatic decline in
economic production. As a matter of fact, this decline has caused an enormous quantity
of surplus carbon emissions rights with an unexpected consequence on allowance supply,
thus creating instabilities in AAUs prices.29 In the initial implementing phase I, each EU
member government has been placed under differentiated emissions reductions, or targets,
limited through the so-called Kyoto's Burden Sharing Agreement.30 Thus, the latter has
been implemented consistently with the NAPs designed by EU member governments, and
approved by the European Commission. Problems occurred through the allowances
distribution among the NAPs that were perhaps ineffective and erroneously established
due to, plausibly, highly domestic political decision power, and lobbying influence from

28
The initial allocation can occur by way of free allocation on the basis of historic emission benchmarks
(grandfathering) or through auctioning methods. For more details see: (Simoncini & Romano, 2012)
29
Notably, AAU surplus is often referred to as hot air. A clear definition of hot air can be found in
(Tuerk A., Dora Fazekas D., Schreiber H., & Frieden D., 2013): AAU surplus is often referred to as
hot air, as there is a common connotation that a major share of the corresponding emission reductions
has not been reached through a planned emission reduction effort but is primarily the result of the
economic downturn in energy intensive industries, Green Investment Scheme (GIS) has been
introduced to address this situation; indeed under GIS, revenues from the selling of AAUs are
invested in green activities.
30
The burden sharing agreement takes member states individual conditions into account, e.g.
greenhouse gas emissions, mitigation possibilities and level of economic
development.http://www.kebmin.dk/en/climate-energy-and-building-policy/eu/eu-efforts-to-reduce-
greenhouse-gases/the-eus-burden-sharing

58
polluting industries (Borghesi, 2010; Freestone & Streck, 2009; Grubb, Laing, Sato, &
Comberti, 2012; Lecourt, Pallire, & Sartor, 2013).
The allowance allocations modalities become closely related with these decentralized
NAP methods of allowance assignments. Following Directive 2003/87/CE that require
member States to assign at least 95% of emissions quotas during phase I, and 90% in phase
II, the grandfathering option became the most favored option among the States' NAPs
implementation (Simoncini & Romano, 2011).
The most coherent explanation for the latter decision, lies mainly in the worrying
competitive effects, and leakage risks, that concern the major exposed sectors (inter-EU)
as well as sectors that are exposed to internal competition.
For example, firms under a cap may find differentials between internal or external
marginal abatement costs, that could form competitive risks within these capped
companies (Hood, 2010).
In theory, for instance, energy-intensive industries facing outside competition, will
relocate to an unregulated jurisdiction when confronted with an emission reduction
program, undermining the cap systems, and thus environmental benefits. Despite that,
empirical research showed that significant external (inter-member States) competitiveness
effects and emissions leakage have not yet emerged; in any case, there are still existing
and further expanding economic and political interests regarding such issues (J.E Aldy &
Pizer, 2012; Branger et al., 2013; Lecourt et al., 2013; Newell et al., 2013; Yoshida, 2014)
(Fig. 2.20).
Recent analysis seems to indicate that auctioning methods would be better than free
allocation from multiple points of view (Borghesi, 2010; Kerr, Leining, Sefton, Vicuna,
& Sanhueza, 2012; Simoncini & Romano, 2011; Vinokur, 2009).
Based on earlier experiences, the EU has established that the EU-ETS phase III
expects that at least 50% of all allowances, corresponding to 1 billion tonnes of CO 2,
will be auctioned in 2013, and this proportion will rise each year (Fig. 2.21).
From the beginning of phase III, auctioning will be the default allocation approach
for the power sector, and free allowances, that nonetheless remain in particular
circumstances, may be allocated within sectors classified as at high risk of leakage.

59
 Due to different decentralized allocation rules used among diverse member States,
the over-allocation and competitiveness distortions have led the recent COP to abolish the
National Allocation Plans in phase III, and to introduce a substitute centralized tool: the
harmonized EU-wide benchmarks (Lecourt et al., 2013).

Figure 2.20 EU ETS and carbonLeakage

Source: Point Carbon, 2012

Figure 2.21 Free allocation and auctioning provisions

Source: IEA (International Energy Agency), 2010

During the EU-ETS phases, the over-allocation of allowances provoked a negative

impact both in terms of low prices, as in terms of the creation of windfall profits for
industries, especially energy-power firms, on the order of billions of Euros per year. The
latter issue resulted in a negative profile that has been highly criticized, especially at the
end of the second phase, for two reasons.
First, windfall profits generated further over-allocation of allowances, since the firms

60
involved used to sell and trade the surplus allowances through the market, provoking a
further decrease in allowance prices.
Secondly, Windfall profits in essence represent a transfer of income with a few
emissions-intensive producers making profits at the expense of consumers. (Laing et al.,
2013).
For instance, thorough empirical research has shown that industries, especially those
in the energy-power sectors, used to pass on a large part of costs to domestic consumers,
in order to reduce input costs caused by the binding emission policy of EU-ETS. This
clearly has negative consequences on final consumer prices, together with other
ambiguous effects. Moreover, despite the fact that these prices would incentivate
consumers in using more low-carbon products, thus inducing firms to do the same,
consumers, however, would not receive the correct price signal needed to shift to lower
carbon alternatives.
Price uncertainty and volatility constitute another issue that the EU carbon market has
experienced so far, especially after the recent financial crisis in 2008 (Borghesi, 2010;
Kossoy & Guigon, 2012) (Fig. 2.23).
Since the European Union Allowances (EUA) prices depend on multiple factors, both
endogenous and external, that are currently difficult to assess, there are at least two
important questions that need to be properly addressed: on the one hand, price volatility
needs to be properly contained, on the other hand, since allowance prices are too low, they
necessarily must rise. Both of these requirements may be considered a real challenge in
emissions trading schemes, since allowance prices depend on energy prices and economic
growth, and thus according to standard economics theory, the volatility in prices is
inevitable, because the supply of allowances is perfectly rigid, whereas the demand
oscillates according to the economic context and the implementation of other climate and
energy policies. (Branger et al., 2013, p. 15).
Many different standard tools are theoretically useful for policy-makers in order to
stabilize the wide fluctuations of carbon prices. Some of those indicated below have been
adopted within the EU-ETS (Fig. 2.22).
These instruments include:
Banking of allowances, that allows surpluses to be carried forward for use in

61
 a time of shortage;
Price setting mechanisms, such as price ceilings, that allow emitters to
purchase allowances directly from the government at a ceiling price, or price
floors in order to prevent market prices from falling below a certain level, thus
setting a price under which allowances will not enter the market;
Allowing high carbon market prices to trigger provisions that relax constraints
of the program rather than the cap itself, for example if carbon reaches low
prices, emitters may purchase more credit-offsets to reach their targets;
Availability and transparency of emission data, that is useful in reducing the
potential of pricevolatility (Hood, 2010; Newell, Pizer, & Raimi, 2012).
Linking processes between different emissions trading; if well embedded,
these schemes have proved to be useful increasing the liquidity of the market
and reducing price volatility (Kerr et al., 2012; Newell et al., 2013).

Figure 2.22 Review of tools implemented within the EU-ETS

Source: IEA (International Energy Agency), 2010

Strong concerns have been raised about the low allowance prices registered during
the EU-ETS phases. These prices have been dramatically reduced at the beginning of
phase III, reaching less than 4 per tonne at the end of 2013 (Fig. 2.23).
Today, data released is indicating a positive future growth in prices due to thecurrent
market recovery after the European financial crisis. 31
(Fig. 2.24). Notwithstanding this,
The current low EUA prices lead to split views concerning the ETSs effectiveness as a

31
http://www.pointcarbon.com/research/promo/research/1.4304894?&ref=searchlist)

62
policy instrument, and the consequences for long-term investments. (Kossoy et al., 2013,
p. 40).

Figure 2.23 EUA and CER prices (2009-2013)

Source: World Bank, 2013

Figure 2.24 EUA price development

Source: Point Carbon, 2014

So far, the EU-ETS experience gained through phase I and II have resulted in a
general consensus established within the main stakeholders and policymakers, that in
order to fix the low allowance prices, a reform of the EU-ETS would be necessary (Hood,
2010) 32.
Along with this idea, an increase in ambition of the system is expected through the

32
http://blog.vertis.com/?p=1478; https://www.gov.uk/participating-in-the-eu-ets

63
years. This is well shown through the wide review of targets during the cap and trade
phases. Indeed, in phase III, cap regulation followed and increased the cap stringency,
together with a wider coverage in sectors including the aluminium and chemical industry.
As we argued above, the regulation of cap stringency is technically far from easy, and it
requires a correct evaluation of data, and correct BAU measuring, that up until now has
been difficult to assess.
Another factor affecting low prices is the actual unbalance of the allowances of
demand/supply: we have a current oversupply of EUAs, and too little demand. Following
a well-supported study made by Kossoy et al. (2013), some mechanisms prove useful to
address these concerns.
First, it would be useful to limit the full banking of allowances during phase III
because the banking of allowances from phase I to phase II is exacerbating oversupply
(Kossoy et al., 2013, p. 80).
Indeed, embracing a full banking method for EU-ETS would mean that if there is a
surplus of permits in Phase II, either as a consequence of early abatement, over-allocation
or the economic down-turn, this surplus will carry forward into Phase III. (Grubb et al.,
2012, p. 8).
Therefore, a forecast of the Deutsche Bank shows, that with an EUA estimated surplus
of 566 million tonnes, the demand could be absorbed within years, even into 2020 (Leguet
et al., 2012) (Fig. 2.25).
Ideally, in order to absorb all the banked units by 2020, a target of around 50% in
reductions, instead of a 20% target, which is the current EU 20-20-20 target, would be
necessary (Hood, 2010; Leguet, Fujiwara, Georgiev, & Centre for European Policy
Studies, 2012).
According to an analysis by Sandbag (2011), given the extreme excess of allowances
that would be banked forward into phase III, the report recommends, that 1.7Gt of
allowances should be set-aside and retired to correct for the full effects of the oversupply.
Without such actions, Sandbag (2011) estimates that the EU-ETS will only effectively cap
emissions in 2014 rising to 2018 once the import of international credits is taken into
account. (Grubb et al., 2012, p. 18).
On this basis, surpluses would be addressed with some restrictions on the amount of

64
units that can be carried over into EU phase III.
Secondly, the worrying trend in the excessive credit supply of flexible mechanisms,
has been followed by the introduction of crediting limits, both quantitative and qualitative,
coming from the crediting mechanisms. Indeed, an unlimited credits import may inflate
a scheme's overall emissions cap, reduce the price for allowances and prevent covered
sectors, operators and installations from investing in domestic climate mitigation
measures. (Freestone & Streck, 2009, p. 366).
Last but not least, a final strategy to avoid oversupply, would consist in setting links
to other markets. Through this possibility, any local surplus can be exported, and
eventually be finally addressed (Newell et al., 2012).

Figure 2.25 Demand/supply surplus-deficit of EUAs

Source: CEPS (Center for European Policy Studies) Brussels, 2012

3.2 Impact on investment and innovation

For the EU-ETS, important questions have been posed on the impact of the system in

65
driving longer-term investment inside firms decision-making processes.
The purpose of recent analysis has been to measure at what level the EU-ETS has
been successful, in both initiating, and subsequently incentivizing, large investments in
low carbon assets and technology.
According to Grubb et al. (2012), assessing the investment process that the EU-ETS
has stimulated is a difficult task. Nonetheless, researchers have focused on using
intermediate metrics and through survey and interview data from senior managers at
firms under the EU ETS.
These studies indicated that even if the EU-ETS has been successful in instigating
firms to thoroughly consider the opportunity toswitching towards low carbon technology,
and also in including short-term investment in the decision-making process, essentially,
the scale of the issue has not been sufficient to play a crucial role in driving the
investment in the types of long-lived low-carbon assets that are required (Laing et al,
2013).
Indeed, at the beginning of phase I in 2005, the initial rise in allowance prices was
successful in leading toward a coal-gas switch among European States. At this time, CDM
and JI credits were also allowed through the ETS directive linking, that came into effect
in October 2004 33.
As we discussed in preceding paragraphs, these high allowance prices also worked as
a successful driving factor for enhancing the issuance of external credits.
Despite these initial results, the subsequent financial crisis in phase II in 2008, and
the low and floating prices have undermined the overall investment potential because
much of the investment required for the switch to a low-carbon economy is on the
timescale of decades and a long-term credible incentive is required to shift investment
decision. (Grubb et al., 2012, p. 22).
In general, short term volatility of carbon prices has generated the lack of a long-term
price signal, limiting the scale of investment decision. Subsequent low prices determine
low incentives toward the adoption of low carbon technology or the switching of energy
power generation resources, for example from coal to gas plants or renewable energy.

33
CERs admitted from 2005, and ERUs from 2008.

66
 Investments in renewable energy, for example, can help enterprises in reducing the
quantity of abatement in a more cost-effective way. For this reason, the European
Commission has placed great emphasis on this important target. Indeed, we see that within
the 20-20-20 strategy of the Europe, successfully established in 2007, one of the targets is
to increase the use of renewable energy to 20% of the total (Freestone & Streck, 2009).
It might be argued that under the umbrella of a binding cap and trade system a
complementary (i.e., renewable energy) policy aimed at reducing emission under the same
sectors will not induce any emission reduction in the short term: it will only decrease the
demand for allowances because abatement costs and of allowances get increased,
exacerbating the low cost-effectiveness in reducing emissions, and, therefore, their
prices, resulting in a perverse policy interaction and may result, perhaps, counter-
productive for enhancing climate-friendly technological change (Borghesi, 2010; Branger
et al., 2013, pp. 1314; Newell, Pizer, & Raimi, 2014).
These approaches may indeed condemn the EU 20-20-20 strategy 34.
However, other analyses argued that the above studies are based on a strong and
implicit hypothesis: that a carbon price is adequate to give the right incentives to low-
carbon technologies investors (Branger et al., 2013, p. 14; Gross et al., 2012; Tanaka,
2011). Since several elements, such as market instabilities and inertia of investments
challenge this premise, as we showed above, the carbon price does not encourage not only
the long-term climate friendly technologies investments, but it does not encourage short-
term investments either. These authors emphasize that, despite the fact that these policies
would additionally decrease the (EU) allowance prices, the establishment of
complementary emission reduction policies (i.e., renewable energy) would increase the
possibility of investing in (this) long-term climate-friendly policy, given that the low
carbon market price is non-optimal.
Branger et al. (2013), indeed, shows that when uncertainty is high, if there is a risk
that the carbon price collapses to zero (which is conrmed by the history of many
emissions trading schemes), adding another instrument aimed at reducing emissions in
the covered sectors contributes to reducing emissions and increases the social welfare.

34
http://www.robertstavinsblog.org/2014/01/18/will-europe-scrap-its-renewables-target-that-would-be-
good-news-for-the-economy-and-for-the-environment/

67
For this reason, cost-effectiveness in reducing emissions in the short term is not the issue
unlocking considerable potential for reducing emissions in the long term is the issue. If
the risk of the absence of complementary policy is high, climate policy would be reduced
to short-term measures like substitution between the use of gas and coal electricity power
plants.35 Moreover, given that the prices of renewable energies are currently decreasing,
waiting for investing in longer-term solutions does not constitute an optimal emissions
trajectory. (Branger et al., 2013, p. 15; Tanaka, 2011).

__________________________________________
35
CdricPhilibert: comment on Stavins blog http://www.robertstavinsblog.org/

68
 Chapter 3

The New Market Mechanism and Framework for Various Approaches

1 The future rule of carbon markets

While the international community is actually engaging in the second commitment

period of the Kyoto Protocol, the UNFCCC is working on a complex range of means,
modalities and mitigation measures for stabilizing the climate change issue. 36
This is becoming evident with the renewed strong attention that the community is
giving to the creation and establishment of a new agreement or protocol to be
acknowledged at the Paris COP in 2015, which should become operative in 2020 (Fig.
3.1).
Along with the architectural component, an important part of the future task is the
questioning of the global carbon markets adopted so far. This is a key issue, since the new
agreement will have to establish the necessary architecture for implementing new and also
more ambitious types of carbon market mechanisms (Marcu, 2014).
Today, at the core of the nascent new market based mechanisms, stands the 2007 Bali
COP 13, that, next to the Bali Road Map main process for the creation of a global
environmental agreement, drives the future prospect of development of new carbon
market approaches through its request to develop various approaches, including
opportunities for using markets, to enhance the cost-effectiveness of, and to promote,
mitigation actions, bearing in mind different circumstances of developed and developing

36
Since the first UNFCCC Conference of the Parties, the world has faced an enormous change in terms of
emission differential among developed and developing countries, and a significant increasing presence of
various carbon markets. The international community becomes aware that the fragmented reality of
carbon markets would necessarily need different answers and solutions that are opposed by the central and
top down Kyoto Protocol system.

69
countries. This latter decision reflects the compromise that had been made between
States' Parties; however, the continuation of this process is still difficult today due to fixed
and complex diplomatic hurdles. 37

Figure 3.1 The Durban Platform for Enhanced Action process

Source: UNFCCC, 2013

There has been a large evolution of market mechanisms since the implementation of
the Kyoto Protocol's flexible instruments (Fig. 3.2). A large part of these are top-down
approaches that have been managed through the UNFCCC and the COP such as the CDM
and JI.
Indeed, the entire framework is centrally organized and oversees the national Parties
in controlling the GHG emissions or in adopting such mechanisms. Theoretically, the
recognized political success of this strategy overcomes the effective performance results:

37
Even before the Bali COP-17, the States Parties were showing different positions over the carbon
market mechanisms, that are still present today. Some Parties are strongly opposing the markets
functioning, arguing that markets do not work in general (See for example: Dooley, 2013). Conversely,
other Parties argue that market mechanisms need a high level of flexibility today. This situation could be
seen at the base of the recent deadlock over the prosecution on a clear definition of the new market based
mechanisms. For a detailed lists of countries considerations see: (International Institute for Sustainable
Development, 2014).

70
as a matter of fact, only a few UNFCCC Parties adopted these mechanisms, and the
majority were participants of the Kyoto Protocol.
At the end of 2011 Durban COP, there was renewed optimism for a possible new
agreement with the creation of the Ad Hoc Working Group on the Durban Platform for
Enhanced Action (ADP). Furthermore, the UNFCCC started to reflect the awareness of
the changed position of countries respecting the carbon market mechanisms, that show
interest in moving from a lower, i.e. rigid, level of flexibility, to a higher level of
flexibility. For the first time, growing satisfaction among a large part of the community
with the latest carbon market results, brings to a renewed appeal for the use of market
instruments in combating climate change. 38
This is characterized by the fact that less developed countries also become committed
in the use of carbon mechanisms asa way of responding to a voluntary domestic decision
to adopt mitigating actions. In this sense, both developed and developing countries will
now be seeking cost-effective emission reduction opportunities in order to meet their
respective targets.
The Bali propositions on the various approaches and market opportunities was
reconsidered during the Durban Conference, and Parties to the Convention and observer
organizations were invited to make submissions on various relevant issues. This latter was
discussed within the AWG-LCA subsidiary body that, with the end of its mandate drawing
near, finally proposed the establishment of a New Market Mechanism (NMM) and a
Framework of Various Approaches (FVA). 39

38
The Durban 17th COP represent a renewed effort toward the newly challenged world, through the
creation of new forms of mechanisms and methods, such as allowing for bottom up approaches and
starting to appeal to a large range of flexibility instruments.
39
See paragraph 80 of 1/CP. 16, paragraph 83 of 2/CP. 17 and paragraph 80 of 2/CP.17

71
 Figure 3.2Evolution of market and non-market mechanisms under the UNFCCC
Source: World Bank, 2014

Even if these two new proposals are still not operating today, since Durban we have
registered further interest from political and economic research in the mechanism and the
framework. There has been a growing number of contributions from States Parties of the
UNFCCC accompanied by many workshops and debates. These discussions open up the
way for examining how new market mechanisms should be developed in the future. Last
but not least, these analyses have been seen to further recommend a structural reform or a
renewed design of the main flexible mechanism such as the Emission Trade, the Clean
Developed Mechanism and the Joint Implementation in order to pave the way toward the
new ambitious direction that the UNFCCC is taking.

72
 2 The road toward the NMM and the FVA

Figure 3.3: Relevant decision from COP 16 and COP 17

Source: Prag A., Briner G., 2012.

After four years of discussion under the AWG-LCA, managing the progress of the
NMM and FVA approaches has been undertaken by the Subsidiary Body for Scientific
Advice (SBSTA) under the COP. 40 At the 16th COP in Cancun, parties agreed on a set of
principles to guide the implementation of one or more market-based mechanisms to
enhance the effectiveness of, and to promote, climate change mitigation actions as
delineated at the 13th COP in Bali. These principles are outlined above (Fig. 3.3).

40
The SBSTA is one of two permanent subsidiary bodies to the Convention established by the COP/CMP.
It supports the work of the COP and the CMP through the provision of timely information and advice
on scientific and technological matters as they relate to the Convention or its Kyoto Protocol.
http://unfccc.int/bodies/body/6399.php

73
 At the subsequent 17th COP at Durban, there was little progress on the
implementation of the new market based mechanisms. Nevertheless, at the 18 th COP at
Doha, the SBSTA conducted a work program in order to elaborate coherent proposals for
the NMM and the FVA. The main purpose has been to recommend a draft decision for
adopting and implementing such mechanisms at the COP 19 th in Warsaw. Actually, the
most detailed text considers a set of elements of the work programs:

1. The operation of NMM under the guidance and authority of the Conference of
the Parties;
2. The voluntary participation of Parties in the mechanism;
3. The capacity to deliver real, permanent, additional, and verified mitigation,
outcomes, avoiding double counting of effort and achieving a net decrease
and/or avoidance of greenhouse gas emissions;
4. Requirements for the accurate measurement, reporting and verification of
emission reductions, emission removals and/or avoided emissions;
5. Means to stimulate mitigation across broad segments of the economy, which
are defined by the participating Parties and may be on a sectoral and/or project-
specific basis;
6. Criteria, including the application of conservative methods, for the
establishment, approval and periodic adjustment of ambitious reference levels
(crediting thresholds and/or trading caps) and for the periodic issuance of units
based on mitigation below a crediting threshold or based on a trading cap;
7. Criteria for the accurate and consistent recording and tracking of units;
8. Supplementarity;
9. A share of proceeds to cover administrative expenses and assist developing
country Parties that are particularly vulnerable to the adverse effects of climate
change to meet the costs of adaptation;
10. The promotion of sustainable development;
11. The facilitation of the effective participation of private and public entities;
12. The facilitation of the prompt start of the mechanism;

74
 The SBSTA discussed the role and technical design of FVA and NMM through
elaborating a long term agreement strategy that brings together the principal decision-
making figures, such as policy-makers and analysts but also high representatives of States
Parties, in order to study technical and other elaborative aspects for the implementation of
such programs.
At the Warsaw 19th COP, there was a very modest outcome, since a number of Parties
did not want to make progress for several reasons, especially those linked to political
hurdles to negotiating.41 Concerns over the progress of the NMM have been expressed by
many developing countries, that above all have questioned the low level of general
ambition adopted by developed countries so far. Without further indication that Kyotos
Annex I Parties are willing to increase their ambition, and without other certain
guarantees, such as concrete finance proposals in providing financial assistance to
developing countries, it is likely that Parties will not find any compromise, and indeed no
NMM. Although, In Warsaw, there was a strong interest in achieving progress on
markets, and FVA in particular (Marcu, 2014). 42
Such problems encumbered most of all with the final decision to defer the discussion
over NMM and FVA. Nevertheless, the latest 40th SBSTA in Bonn, decided to invite
parties and observer organizations to submit to the secretariat (by 22 September 2014)
their views on the mechanism, including:

(a) Its design and governance;

(b) The elaboration of the possible elements of its modalities and procedures;
(c) The meaning of a net decrease and/or avoidance of global greenhouse gas
Emissions;
(d) Lessons learned from the mechanisms under the Kyoto Protocol that could be
relevant to the further elaboration of the possible elements of the work
programmereferred to in paragraph 1 above;

41
For more details: see chapter 1
42
This can be attested because of the renewed desire of many countries in exploring as freely as
possible the development of new markets, without being heavily influenced from an international
top-down governance.

75
 (e) Its relationship with the framework for various approaches and the
mechanisms under the Kyoto Protocol;
(f) Its relationship to enhanced mitigation ambition.43

Until now, there has been great progress over the proposed decision of the AVG-LCA
that concerns the creation of various approaches, including opportunities for using
markets, to enhance the cost-effectiveness of, and to promote, mitigation actions, bearing
in mind different circumstances of developed and developing countries. This discussion
takes the lead in how to consider the potential transition from the existing market based
mechanisms, in particular the CDM, to potential new market based mechanisms being
discussed as part of a post-2012 climate policy framework. (Castro P., Duwe M., Kohler
D., & Zelljadt E., 2012).

3 The current definition and objectives for New Market Mechanism and
Framework for Various Approaches.

Under the AVG-LCA, the proposal of a New Market Mechanism and the Framework
for Various Approaches has taken into consideration the Parties' position regarding the
diverse architectural scenarios experienced so far, i.e. centralized and fragmented
governance of climate mitigation. 44

Source: Castro et al., 2012

43
Subsidiary Body for Scientific and Technological Advice, 2014
44
For further information, see chapter 2

76
 After Durban, perhaps due to the renewed attention to assisting developed countries
to meet their mitigation targets and to qualify for compliance under the Kyotos second
commitment phase, various Parties to the UNFCCC, according to the EU position over
the negotiating process, proposed the creation of a central top-down (centralized)
architecture in which the UNFCCC would define a New Market Mechanism operating
under the guidance and authority of the COP.45
The New Market Mechanism approach could aim to accelerate the reduction of the
global carbon emissions into the atmosphere. To do so, it would seek to achieve a more
ambitious reduction of GHGs (net-mitigation reduction) through implementing such
mechanisms within developing countries participants to the UNFCCC and accelerating
the deployment of green technologies for a more and better long-term environmental
sustainability. Along with the previous principles, programs and updates, the NMM would
likely operate through adopting a sectoral trading or a sectoral crediting mechanism.
Generally speaking, in a sectoral crediting mechanism, a developing country, i.e. a host
country, would set a crediting baseline under a Business as Usual scenario (i.e., the
reference scenario regarding the standard level of GHG emissions), that cover a group of
emitters without having binding commitments (no lose targets). At the end of the
commitment period, if the emissions are below the crediting baseline, credits will be
provided to the entire sector; otherwise nothing will happen. Conversely, a sectoral trading
mechanism implies an absolute commitment to reduce GHG emissions of a certain sector
for the host country. Notably, an amount of allowances will be allocated to the country
ex-ante, and after the commitment period, the entire sector is obliged to comply by
allocating back the requested allowances. 46
Regarding the central governance issue, even if a detailed discussion over the specific
role of the COP has still not been concluded, in a recent workshop report on the NMM,
the SBSTA has highlighted that for a Parties agreement, a much more flexible governance
approach would be required. The majority of participants acknowledged the benefits of
COP oversight, but they also stressed the importance of having maximum flexibility in

45
See paragraph 83 of decision 2/CP.17
46
For further details see paragraph 3-6.1

77
implementing the NMM in accordance with their national circumstances and priorities.47
A recent study that focused on institutional options and governance challenges when
establishing a sectoral mechanism such as an NMM, shows that even if decentralized
approaches have some advantages, specifically in terms of flexibility of adaptation to local
circumstances, either in experimenting new avenues for speeding up the establishment of
sectoral mechanisms within the host countries, an international oversight centralized
governance model would guarantee important governance functions that includes the
oversight of methodologies for compliance and issuance of credits, thus creating much
more comprehensiveness among diverse jurisdictions and indeed guaranteeing much more
environmental integrity (de Spibus & Tuerk, 2011)
Actually, these results show how a future sectoral mechanism such as an NMM would
likely better adopt an hybrid approach in order to strike a balance with the strong central
top down element that can lead toward many more guarantees in terms of environmental
integrity, together with a bottom-up element that ensures broader access for countries with
different emissions, profiles, capabilities, and national circumstances for implementing an
NMM (Annex A-I).
However, given the differences among UNFCCC parties and diplomatic hurdles
encountered so far, at Durban it became very clear that the adoption of a general top-
down approach like the one taken with the Kyoto Protocol would not have been politically
feasible: experts largely agree that the negotiations are trending towards a decentralized
system, arguing that it seems there is now broader support for a framework for
mechanisms, rather than a specific mechanism itself i.e., NMM (Castro P. et al., 2012).
On the international level, a second stream of negotiations on NMM, that is
particularly supported by a significant groups of developing countries have advanced
bottom-up: the so called Framework for Various Approaches including markets (FVA).
The AWG-LCA text elaborated this bottom-up element (i.e., the FVA), that eventually
might coexist with the top-down NMM, indicating that Parties may develop and
implement different market approaches e.g., new mechanisms, in accordance with
national circumstances (CEPS, 2012).

47
(Subsidiary Body for Scientific and Technological Advice, 2013)

78
 The FVA would open the possibilities even for countries outside of the UNFCCC to
decide what kind of mechanisms and instruments for emissions reductions to adopt,
ensuring a subsequent recognition of credits or tradable permits through different carbon
markets. Therefore, an FVA could be conceived as a set of rules/standards that would
be used to define, present, document and potentially allow for UNFCCC recognition and
approval of various approaches that are defined at the national/regional level (CEPS,
2012).

Figure 3.4 Several new market based mechanisms proposals

Source: Ernst & Young, 2012

The framework would comprehend various new market mechanisms: for instance, it
can include other nationally developed market mechanisms such as Nationally
Appropriate Mitigation Actions (NAMAs), credited NAMAs, Bilateral Offsetting
Crediting Mechanism (BOCM), Reducing Emission from Deforestation and forest

79
Degradation (REDD+), as well as sectoral crediting and sectoral trading (that make up the
NMM) (Fig. 3.4). 48
Due to the current fragmented state of the carbon markets, two issues continue to be
the most critical ones for the framework: the undefined role of the FVA and the problem
of the relationship between different existing market mechanisms (Stott, 2014). 49
Discussions about the undefined role of the FVA are centered on understanding
whether bottom-up emerging mechanisms, as well as new mechanism proposals to be
established, needed a set of centrally defined 'core elements' or standards that all new
approaches aimed at producing units traded internationally and used for compliance with
obligations under the UNFCCC would have to observe (Marcu, Centre for European
Policy Studies Brussels, & Carbon Market Forum, 2012).
For instance, we can broadly observe two views in which the role of an FVA could
be structured: a mechanism of approval and a mechanism for transparency and reporting.
Within a mechanism of approval role for the FVA, a central structure would allow
recognition of units that are produced outside the UNFCCC scheme to be recognized
inside the scheme. This system would be the most centralized way (functioning under the
UNFCCC) where, after the approval of new mechanisms by the regulator, units produced
will become fungibles at national level without requiring any further approval before the
international issuance of units. This approach will require the presence of technical
resources as well as time to put in place, but it is considered to be more effective to ensure
more consistency as well as for guaranteeing the respect of environmental quality among
different market approaches. The second option would be based on providing a set of
general principles, standard rules and transparency methods for reporting. These standard
measures would be used as comparative models for the recognition of credits and units of
the country. This option requires less time to become operative, however without

48
At a theoretical level the FVA should govern appropriate approaches that range from NMM to any
market-based mechanisms. However, disputes between Parties still exist about the appropriate role and
regulative range of the framework, as some recommend that the FVA should include non-market based
mechanisms (NNM), but others still oppose it. (Stott, 2014)
49
At both levels, it has been recognized as a general principle that an effective FVA must meet standards
that deliver real, permanent, additional, and verified mitigation outcomes; avoid double-counting of effort;
and achieve a net decrease and/or avoidance of greenhouse gas emissions. Centre for European Policy
Studies (CEPS, 2012)

80
guaranteeing the same level of detail and consistency of the former. This system may
indeed produce at least more and different standards that could vary from one jurisdiction
to another, and would be made public through the UNFCCC, therefore providing for
standard transparency.
Since the FVA is provisioning an umbrella for different national, regional and
multilateral approaches to emission reductions, another issue to be clarified within the
framework, is making clear the complex relationship among existing and future
mechanisms. This vision included top-down mechanisms which are developed inside the
UNFCCC process, such as the NMM, and bottom-up mechanisms developed at the
national level and that eventually could be submitted for approval to the UNFCCC.

Figure 3.5 The FVA scheme

Source: Shih Robert, 2014

Since a large majority of Parties have supported the decision that these current
mechanisms will continue to exist alongside an NMM, an FVA has to guarantee that all
of these mechanisms will be compatible and fungible without creating potential conflicts
(creating interchangeable units), and without encountering any overlapping issues (e.g.,
double counting issues) (Fig. 3.5). 50

50
Double counting occurs when a single GHG emission reduction or removal, achieved through a
mechanism issuing units, is counted more than once towards attaining mitigation pledges or financial

81
 This would become effective if the framework adopts effective policies or measures
necessary to address and establish transparent standards and rules (depending on the
effective chosen role of the framework).

4 Motivations for the NMM

At the base of the recent new market-based mechanisms proposed by the NMM and
FVA, we can identify a set of common purposes that are clearly connected with growing
in ambition, and others that are connected with the current market necessities that must be
pursued to fix the market problems encountered so far.
A first purpose for the NMM is the possibility to lead all the UNFCCC Parties to an
ambitious level of mitigation: the new market-based mechanisms would indeed allow the
reaching of an intermediate step toward a large global carbon market in which all the
Parties will have binding commitments. For instance, in an NMM, developing a system
that covers a group of emitters through sectoral trading or sectoral crediting mechanisms
will in fact expand and scale up the functioning of a carbon market. 51

Growing ambitions

Within a sectoral system, a central objective is enhancing the total contribution to

global emission reduction. The NMM would become implemented within developing
countries Parties to the UNFCCC essentially to assist developed countries in meeting their
mitigation commitments in a post-2012 climate regime and by increasing the overall cost-
effectiveness of mitigation (Leal-Arcas, 2013, p. 465).
For instance, a sectoral crediting system will function primarily as an offsetting

pledges for the purpose of mitigating climate change. (Schneider, Kollmuss, & Lazarus, 2014)
51
The NMM would depart from both the CDM and the ETS flexible mechanisms: from the first, through
the sectoral crediting mechanisms, which, even if it is still a voluntary and non-binding system, will
comprehend large sectors instead of a single project; from the second because the sectoral emission
trading will also expand the ETS binding regulative emissions over larger economic sectors of a country,
indeed creating a more ambitious system than the credit system. In particular, the latter option will
facilitate and boost the final most ambitious step in creating a comprehensive global carbon market that
will include the participation of developing Parties of the UNFCCC.

82
mechanism but (conversely from a Kyoto project-based mechanism) moving beyond the
realm of pure offsetting for achieving a net-mitigation reduction. The current project-
based mechanisms, such as CDM and JI have been considered by critics to be pure
offsetting mechanisms, because they have stimulated mitigation projects across
developing or host countries in way of legitimizing back the same amount of emissions
credited (Warnecke, Wartmann, Hhne, & Blok, 2014).
Essentially, only the reduction of emissions is currently monetized or credited and,
indeed, those flexible mechanisms do not have a direct impact on global greenhouse gas
emission levels because they only replace or offset emissions. Furthermore, as we have
seen in the previous chapters, they did not effectively contribute to the host country's
national GHG reduction targets.52 A Net Mitigation Reduction is an amount of GHG
reduction generated from a flexible mechanism which is not issued as an offset to the
market. Indeed, this excess amount is attributable to the host country and it constitutes a
climate benefit that goes beyond the pure offsetting.

Necessity to solve market functioning problems

The necessity of solving market functioning problems within the current CDM, JI and
ETS can also have justified the proposal for new market based mechanisms. Some Parties
identified the need to improve the low assessed performance of the current flexible
mechanisms through reforming the CDM and the ETS.53 These weaknesses have driven
the Parties to identify new mechanisms and options such as the NMM. In this approach,
up-scaling the market mechanisms beyond distinct projects, i.e., adopting a sectoral
crediting mechanism (SCM), there is a possibility that problems encountered, such as
transaction costs and complex governance issues, will likely be solved, but others such as
environmental integrity, would generally require more guarantees (A. Michaelowa, 2012;
Raab, 2012).
According toMichaelowa 2012, given the surprisingly effective role of the CDM in

52
For further details, see chapter 2
53
Here we do not consider the requested and perhaps realized political reforms as well as technical review
that we have shown in the preceding chapters.

83
mobilizing thousands of mitigation projects in developing countries, as well as the optimal
ability in reforming itself continuously, this latter can serve as a standard-setter for up-
scaled market mechanisms and be useful in providing valuable lessons. Currently, more
deep future comparative evaluation of the strengths and weaknesses among different
carbon market based mechanisms will be necessary to inform the design of NMM (Fig.
3.6). Michaelowa has identified different options, such as: the standardization of baselines
that may abate transaction costs (even with uncertain effects over environmental
integrity); discounting of CERs, that would target the amount of CERs issued from a single
project or would reduce the use of credits of emitters; providing net-mitigation measures
for contributing to global reduction; and, finally, working on simplification of governance
measures (See paragraph 4.4).
Last but not least, any market needs demand in order to function. According to reliable
market analysts, the overall demand for GHG credits will remain weak and uncertain until
2020. As a matter of fact, Parties would unlikely be interested in new market mechanisms
without the prospect that there will be demand for the emissions reduction units these
mechanism generate (Castro P. et al., 2012).
At the current low level, together with a low carbon price, there is little or no incentive
to create a new market mechanism. Nevertheless, Demand is principally determined by
the level of ambition of the emission reduction targets of Annex I countries, taking into
account any rules regarding carryover of GHG units from the first commitment period of
the KP as well as any qualitative domestic restrictions (such as the EU ETS restrictions
on CERs from some project types under the CDM). (Prag A., Briner G., 2012, p. 13).
Generally speaking, there is not only one specific solution for stabilizing the demand
scarcity. There are several paths through which these mechanisms can contribute. For
instance, one way would be to generate strengthened commitments for an increasing
number of countries; the NMM would make a coherent step in scaling up the market to a
broad range of sectors within a country creating a tighter and more comprehensive target
that could enhance the general level of ambition.
The scarcity of demand plays a critical role for reducing emissions or reduction credits
as a driver for the development of flexible mechanisms, and the NMM would be no
exception. Some current options would be: discounting credits produced under a sectoral

84
crediting mechanism, acquiring and cancelling a portion of credits to remove these from
the market, restricting the eligibility of sectors and activities for crediting. Also, the NMM
would offer the possibility to the private sector involved to take advantage of the low
marginal cost opportunities created through a sectoral mechanism. Indeed, whereas
industrialized countries will get a significant return on investment, stimulating a deeper
involvement of their private sector, expected revenues could also increase the willingness
of host countries to introduce mitigation support policies, thus creating future demand for
credits.

Figure 3.6: Comparative evaluation of the different mechanisms

Source: Michaelowa, 2012 (adapted by the author).

85
 5 The Design of an NMM

After Durban at the end of 2011, and subsequently after the decision to establish an
NMM, there has been a growing commitment among policy makers and analysts in trying
to assess the main design elements for a new market mechanism.
There are at least two criteria which have been followed in order to better design the
mechanism: adopt and ambition criteria, which depend on the central top-down structure
UNFCCC, and flexibility criteria which respond essentially to the Parties' will.
Regarding the ambitious criteria, the mechanisms would likely adopt a sectoral
mechanism. Therefore, such an approach is intended to stimulate mitigation across broad
segments of the economy where the mechanism is implemented. As we already said, this
sectoral approach has been seen as the best method for up-scaling the carbon market and
at the same time to encourage the increase of ambition within host countries. Given the
fact that this approach would mainly apply within developing countries, some analysts
correctly observed that the NMM would be in this sense an approach that is born to resolve
some weaknesses of the CDM. It would mean indeed that the NMM is characterized by a
basic design which is strictly connected with the flexible mechanisms so far adopted. In
particular, since the CDM has been very successfully in paving the way toward creating a
first carbon price contact within countries representing Non Annex I. Notwithstanding
this, due to it's design as a project-based mechanism the CDM does not promote
structural changes on the scale necessary to encourage the transition toward low-carbon
economies. Although, an attempt has been made to encourage the aggregation of small
and possibly decentralized project into large programmes though so called Programmes
of Activities the CDM continues to fall short of triggering the necessary level of GHG
emission reductions. (de Spibus & Tuerk, 2011, p. 6).
Given these results, one of the main ambitious purposes of the NMM would be to
function as an intermediate state toward a global carbon market that includes developing
countries. Since it has been ascertained that a full cap-and-trade system is the most
ambitious mechanism which adopts binding commitments among states, the new
mechanism should be considered therefore as an intermediate step for achieving a cap and
trade approach. This objective would explain the willingness of developed states to

86
properly design the NMM as an intermediate approach toward the main long term purpose,
i.e., moving developing states toward a cap and trade system (Fig. 3.7).

Figure 3.7 Transitional flux for a CDM

Source: Shih, 2014

Therefore, it would be useful to build from the experience gained through the use of
flexible mechanisms to design an NMM that can scale-up mitigation activities with the
adoption of a sectoral mechanism that goes beyond project and programme level activities
and in fact covers sectors, subsectors and cross-sectoral policies.
Although this design of an NMM would depart from a central top down system that
describes the main key basic guiding principle features of the mechanism, some other
proper design methods would necessarily need much more specific assessment criteria,
that could be better established looking at the specificity and differences among states.
Therefore, a bottom up method that in this case could be considered a way to enhance
participative criteria has been initiated at the Parties level, providing the key design issues
of the NMM. Indeed, during recent years, these Parties have advanced significant
proposals for the proper design of an NMM. 54
Regarding the design of an NMM, this dissertation departs from the Cancun 16th

54
It must be emphasized here that without a definite willingness to finally establish a NMM due to (still)
diplomatic hurdles among Parties, the results would primarily hinder any future development of relevant
constituent elements for any possible NMM. This is why these need to be specifically addressed as soon
as possible (Stott, 2014).

87
principles and the key design issues commonly submitted at the various COPs after
Durban in 2011.
Principles would serve as a guide for the development of modalities and procedures,
as a way of assessing the main general design scheme of the NMM. Conversely key
design issues, which are still under discussion at a Party level at the SBSTA and SBI
meetings, would lay the foundation for the NMM final disclosure.
Not all the principles and the key design issues will be discussed here, because it is
important to consider that any new market-based mechanisms could serve all purposes,
whereas presenting some limits to achieve different objectives would be the best way of
gradually reaching the desired purposes. According to Raab (2012), when designing a
flexible mechanism, we should define which principles or benefits are better than the
others: thus it is important to be clear about them. Such an approach would be more
effective as well as particularly flexible and adaptable to national circumstances, whereas
a multi-purpose mechanism will result in a vaguer effectiveness and perhaps in general be
less efficient. For example, when adopting a sectoral crediting mechanism instead of a
project based mechanism, the NMM would shift the responsibility belonging to the private
investor toward the host country government. In such a case, we have to admit that the
international supervision, for example in the case of the CDM, would necessarily be
diminished in an NMM, and the costs are switched toward the single host country
government. This highlights how it is important to balance the expected results of the
design principles but also at times to find a general compromise as well. In the
impossibility to satisfy more simultaneous purposes at the same time, that confirms how
it would be important to better establish any singular design criteria. These results do not
mean that it will be easy to achieve the desired results. As we have seen the objective is
to develop an NMM that will keep in consideration the principal success of the CDM
(providing a project-based mechanism with ample participation by respecting the
voluntary principle) but also the possible weakness of the mechanism, (leading to a deep
structural change stimulating a low-carbon economy). As a result, this NMM could be
characterized by a mix of principles as well as strategies that can better make it functional
and operative.
We will now discuss the main principles that have been developed through various

88
COP conferences up until the present. These elements could provide a framework which
can function as a prerequisite for implementation. According with the Cancun principles,
a new market mechanism should:

Ensure voluntary participation of Parties, supported by the promotion of fair and

equitable access for all Parties

This principle has been conserved as for the existing crediting mechanisms under the
Kyoto Protocol. Indeed, Parties will be able to choose whether or not to participate in the
new market mechanism. This principle may have originated from the necessity of
guaranteeing a high level of participation by developing countries within the mechanism,
but also as a way of solving diplomatic difficulties. Developing countries will not accept
(at least not immediately) a binding mechanism which could likely harm their economic
growth capacity; in addition, since the proposed sectoral programs would involve high-
emitting sectors of advanced developing nations economies, developing countries will
probably be even more cautious (Castro P. et al., 2012, p. 10).
Leaving countries free to choose can assure a high level of participation, but at the
same time, the request time for proceeding toward a cap and trade system (with binding
commitments) will become longer. Indeed, as a way of balancing time and participation
criteria, various options have been proposed. The NMM could adopt a sectoral trading
mechanism in addiction to or instead of a sectoral crediting mechanism. A sectoral trading
mechanism will feature a binding commitment criteria that will speed up progress toward
a cap and trade mechanism but at the cost of a low level of Parties' participation.

Complement other means of support for national appropriate mitigation actions by

developing country Parties

The Cancun text makes clear that an NMM will complement other means of support
for national appropriate mitigation actions (NAMAs). Therefore, we can distinguish
different financing sources for NAMAs which may include a country's own funds,
international public climate finance, non-carbon market sources of private sector finance,

89
or even the NMM itself. The relationship between an NMM and NAMAs will highly
depend on the NAMA funding source involved. Since most actions will be implemented
using various different sources of finance, these could at the end of the day overlap. Rules
that clearly distinguish finance methods will need to be introduced in order to avoid a
potential third form of double counting of emission reductions: counting investments
in international units (offsets) under the FVA, NMM, CDM, or other approaches towards
the fulfilment of financial and technology transfer commitments as well as towards the
fulfilment of mitigation commitments and/or targets. (CEPS, 2012).
The NMM should provide the appropriate complementing support for NAMAs but at
the same time adopt clear rules for avoiding double counting.

Stimulate mitigation across broad segments of the economy

In order to take a step ahead in increasing emission reductions, a new market-based

mechanism should adopt a large coverage of the GHGs emissions within a host country.
The NMM would likely adopt a sectoral crediting and/or a sectoral trading
mechanism that covers large segments of the economy through including different groups
of industries within various industrial sectors. Defining the broad segments of an economy
would be the first priority of the host government during the design phase, that besides
specifying any group of the industrial sector covered, should also indicate the different
types of gases emitted. Therefore, it would be crucial for the host country to have very
effective regulatory capacity, here, since scaling up mitigation limits across broad
segments of an economy may have implication for the cost-efficiency of the mechanism,
especially within developing countries where abatement costs in different segments of the
economy may be highly variable. As a matter of fact, developing countries may prefer
adopting other options for stimulating mitigation such as domestic policies that can result
cost-effective instead of an NMM. Also, they could prefer that reductions available at
low marginal cost (the low hanging fruits) remain reserved for their own use whilst
outside entities finance the reductions that are more expensive. (Castro P. et al., 2012, p. 9).

Safeguard environmental integrity

90
 Environmental integrity essentially relies on how additionality rules and the baseline
determination of a carbon market mechanism are set (Michaelowa, 2012). In the case of
an NMM, these would depend on the NMM system adopted, i.e., sectoral crediting or
sectoral trading. Under a sectoral crediting system, the environmental integrity could be
ensured through adopting a system for verification of emission reductions that guarantee
that reductions are real, under the BAU scenarios and meet the stringency of additionality
testing. Conversely, under a sectoral trading system, environmental integrity would
depend only on the stringency of the cap (Michaelowa, 2012).
The CDM project-based mechanism has generally performed well on the
environmental integrity factor, although not without criticism being expressed due to a
high bias and structural politicization for instance in the scale of methods for setting the
stringency of a domestic crediting baseline. This is due to its intrinsic reforming capacity
as well as the role of the international oversight system. However, scaling up the
incorporation of larger parts of the economy would generally reduce the degree of detailed
control in the case of the CDM, and would require strong governance arrangements on the
host country level in order to guarantee the environmental integrity of the NMM. For
instance, a robust MRV criteria, a third party independent committee that supervises as
well as extra and specific safeguard measures would be required (Prag A., Briner G.,
2012).

Ensure a net decrease and/or avoidance of global greenhouse gas emissions

Contributing to global emissions reduction, i.e., enhancing ambition mitigation

measures, should be one of the main purposes of the new market-based mechanisms, but
it is also considered the most difficult task to implement among the Cancun principles.
Initially, market mechanisms were seen as pure offset mechanisms in order to reduce
the costs of reaching the emission commitments of the buyer countries (see preceding
paragraph). This principle is justified from the perception of some Parties to the UNFCCC
that it is necessary to reach a massive global emission reduction in order to reach the
agreed-upon 2- degree target. Obviously, it is first necessary to ensure that the emissions

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reductions are pursued as more than just a pure offsetting mechanism. Several options
have been proposed so far as to how a new market-based mechanism could achieve a net
global decrease in GHG emission. Some proposals included the use of discounting of
credis units, shortener credit periods and ambitious crediting thresholds. Another effective
approach could be that of favoring the use of indexed baselines instead of absolute ones.
These could better harmonize emissions reduction without sacrificing economic growth
in developing countries. Indeed, given some rapidly expanding segments of these
economies, setting an indexed baseline for an NMM could provide a useful tool for
avoidance of global greenhouse gas emissions without necessarily reducing them in
absolute terms (Prag A., Briner G., 2012).

Assist developed country Parties to meet part of their mitigation targets, while ensuring
that the use of such a mechanism or mechanisms is supplemental to domestic mitigation
effort

Beside a general requested global growth in ambition, developed countries will need
to meet stringency emission targets in future. Primarily for this reason, new market-based
mechanisms have been proposed in order to help country Parties meet these ambitious
targets. Scaling up the market mechanism through an NMM within developing countries
will encourage developed countries to satisfy new requirements, but at the same time it
could help to create new credit purchasers such as the developing countries themselves.55
This can also increase the general global demand for credits and allowances.
The NMM could be designed in such a way that it complements any domestic climate
change and sustainable development objectives in the host countries.

Ensure good governance and robust market functioning and regulation

The credibility of a market mechanism depends on its governance procedures.

(Michaelowa, 2012, p. 6).

55
For further details see (Prag A., Briner G., 2012,p 9)

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 It is understood that an NMM will need a good preparation as well as an effective
governance. As we made clear above, the governance structure should provide the basic
operative function to all stakeholders and should supply the required information
transparently and in a clear manner.
To assure good market functioning, the fungibility of units with other international
carbon market instruments is important (Prag A., Briner G., 2012, p. 18).
For instance, the AAU structure still plays a very important role over the global
market so that the NMM should be modeled on such a design replicating the role of
the AAU under the Kyoto Protocol but operating in a bottom un pledges nationally
designed trading systems and NAMAs. (IETA, 2013).

6 Key design issues

Here we identify the most important key design issues particularly discussed after the
17th CoP in Durban. Although many issues are still under discussion, there are some
features that have been generally accepted for an NMM and other design categories that
generally need further agreements. Furthermore, from these current design issues it is
possible to formulate numerous coherent NMM proposals (Bolscher et al., 2012).
This dissertation will particularly review the effective implementation of such
proposals, indicating what could be the main potential results and critical issues of an
NMM.
Starting from the main principles declared at the Cancun agreements, the following
classified key design principles are currently very much expected for an NMM.

6.1 Type of Mechanism

The NMM would be sectoral in nature. Two main mechanisms have been proposed:
sectoral crediting and sectoral trading.
In a sectoral crediting mechanism, no lose targets would be set for a sector or a
subsector. Following the Cancun principles, the mechanism would assure net mitigation
emission, establishing an ambitious crediting threshold. If emissions are below this

93
threshold, emissions credits will be issued ex-post; otherwise no penalty will be applied
(no lose targets).
This latter feature creates uncertainty about the environmental effectiveness, although
political feasibility will be facilitated (Bolscher et al., 2012) (Fig. 3.8).

Figure 3.8Sectoral crediting mechanism

Source: Wuppertal Institute, 2012

Conversely, in a sectoral trading mechanism, following the cap and trade approach,
the sectoral target would have a mandatory cap. The host country would receive tradable
emission units ex-ante at the beginning of the mandatory period. After that period, if
emissions are lower than the number of issued allowances, the host country would achieve
a surplus of allowances which it could sell in the market. On the contrary, additional
allowances need to be purchased to comply with the target agreed for the broad segment
(Fig. 3.9).

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 Figure 3.9Sectoral trading mechanism
Source: Wuppertal institute, 2012

Before implementing the baselines, host countries will need to adopt some carefully
selected criteria and various methods in order to reduce the degree of uncertainty in
calculating them. These and other contextual issues will be further explained below.

6.2 Coverage of the system

In adopting a sectoral approach, the coverage of an NMM represents basic design

elements to be assessed within a host developing country in order to establish ambitious
sectoral baselines.
We hereby present some conditions that should be met for the design of a proper
coverage of the system in the case of a sectoral mechanism such as an NMM. In addition,
while considering the particular reality of emission entities within developing countries,
we also will focus on the feasibility of a set of industrial sectors identified within some
real developing countries.

Theoretical design methods for coverage

Broadly speaking we can define two dimensions of coverage that need to be

addressed: quality of selected greenhouse gases and dimension of sector boundaries

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established.
Generally, an ambitious mechanism should introduce limits on the maximum number
possible of the various type of Kyoto gases: CO2, CH4, N2O, HFCs, PFCs, SF5. 56

Nevertheless, an NMM may cover one or several of them. In the latter case, the
effectiveness of the abatement regime would be maximized, thus providing space for more
and diverse abatement options since the cost effectiveness of non-CO2 reductions could
be seen to be higher thanthe CO2 emissions. One of the weaknessesin a broad coverage
of gases is the still-present technical difficulties encountered so far incalculating and
monitoring such a group of non-CO2 gases. Indeed, this was one of the reason why the
EU ETS initially started out only with CO2 and is now being successively expanded to
other gases. (Sterk & Mersmann, 2012, p. 9).
A boundary of a sector would cover different types of installations across the same
sector.
According to Castro, a uniform, homogeneous and unique definition of sector could
not be easily developed and could differ particularly between countries and also within
installations. Differences within installations can vary in terms of production processes,
product quality, age and size of installations. (Castro, Hayashi, Harthan, Cames, &
Michaelowa, 2012, p. 6).
Within a country, the definition of sector boundaries should be weighted between two
criteria: environmental effectiveness and administrative burdens.
For instance, if the boundaries of the sector or sub-sector include a large number of
installations, these can generally have a larger impact on limiting the Country's emissions.
However, this would come at a high cost for the monitoring and verification of emissions,
thus increasing administrative costs. A sector with a large amount of individual entities
with very variable energy uses, such as the building sector, need to collect larger and
more complex data sets for accurate monitoring. (Sterk & Mersmann, 2012, p. 9).
Generally, three main options can be identified for setting sector boundaries.
The first approach would be to cover an entire sector. This would increase economic
efficiency and abatement potential for spotting gas emissions among entities of a sector,

56
The abbreviations stand respectively for: Carbon Dioxide, Methane, Nitrous Oxide, Fluorinated gas,
Fluorocarbon and, Sulfur Chloride Pentafluoride.

96
but at the cost of high data requirements especially in sectors with a large number of
emitters.
The second would be to cover only a particular technology or process within a sector.
This could improve the level of accuracy for measuring the level of emissions of a sector
but at the cost of a reduced level of abatement potential (mitigation options) and a
usually high request for intensive data (Castro et al., 2012).
A third option would be to include a minimum threshold based on emissions or
industrial output. Essentially, this approach would be the most similar to a project-based
mechanism because of the narrower dimension of the sectoral boundaries established.
Even if the administrative costs will be lower, the scheme would beless effective and the
abatement potential lower for that sector.

Upstream/downstream regimes

Verification as well as regulation of GHG emission can be formulated through two

main design regimes: upstream and downstream.
With an upstream system, emissions are accounted through the suppliers or
distributors of fossil fuels. This method is potentially able to address a large number of
small emission sources within a complex sector such as the building or the transport
sectors. Furthermore, the costs associated with the monitoring and administrative burden
would be more sustainable due to the low number of entities involved.
Conversely, a downstream regime targets the end users of energy such as large
industrial consumers of fossil fuels. In such a scheme, the large number of participants are
responsible for their own emissions and could perceive direct incentives to implement
mitigation options that could help to reach a high level of environmental effectiveness.
However high monitoring and transaction costs could hinder the administrative feasibility
of the regime.

Estimates among the feasibility of sectors for an NMM

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 With the use of an empirical evaluation criteria, Castro reveals which are generally
the most suitable sectors for an NMM, by estimating abatement potential, sector structure
and data availability.
The results show that the sectors whose current structure and data availability are
the best suited for new market mechanisms are aluminium and steel, with cement having
good characteristics in some countries. (Castro P. et al., 2012) (Annex A-II).
However, an important issue that has been identified is the general lack of data
availability within developing countries. This can become unsustainable at a later stage
since developing countries would contain a very large number of efficient and inefficient
installations within a sector, making data administration much more complex and
expensive.
Given that even for developed countries data availability could be still a concern, an
important question would be to understand if developing countries could adopt such
system coverage. Castro et al. (2010), found that within a large part of Non-Annex I
countries (developing countries) sectors would actually be too small to warrant a
sectoral approach. Indeed, according to them, a project-based mechanism such as the
CDM may probably be more effective than the proposed sectoral approach; furthermore,
they suggest that developing countries should focus on small and easy sectors at the
beginning and then move on to larger ones (Castro P. et al., 2012).

6.3 Sector Target or Crediting Threshold

The net global decrease/avoidance of emissions principle could require the use of
ambitious crediting thresholds for the establishment of a new market mechanism (see
preceding paragraph). 57
Therefore, one of the most important parts of the implementation of an NMM is how

57
This dissertation will focus on the use of ambitious crediting baseline as a means to achieve a net global
decrease of emissions, recognizing also that other design options-means have been proposed such as the
discounting of credits during the issuance period, the mandatory retirement of a proportion of credits,
and shortened crediting periods compared to the lifetime of a project.

98
to assess a crediting threshold in order to produce significant emissions reduction that
generally goes beyond offsetting. Currently, the best way to define baseline is one of the
most challenging issues and is still under extensive research. Methods for calculating and
implementing baselines will consider difficulties linked with technical parameters as well
as political decisions. Moreover, experience with the current market mechanisms such as
the CDM will be seen to be crucial in the definition of a proper baseline for the NMM
through the recently adopted standardization process.
First of all, this type of a crediting baseline is called 'ambitious' because it is also
developed considering some level of domestic mitigation actions implemented by a
country as part of the baseline scenario. Generally, the emission of such scenarios are
lower than the estimated Business-as-usual (BAU) scenarios. 58
The latter generally
possess a range of uncertainty due to the fact that they have to rely on modeling and
projection which always possess a degree of uncertainty. Furthermore, what represents an
appropriate level of ambition of the crediting baseline, i.e. decisions about the
environmental stringency of the crediting baseline, has to be informed through technical
analysis, but remains necessarily political and subjective by nature.
In an ambitious landscape, the crediting threshold will be formulated below the most
conservative and plausible range of likely BAUs (Fig. 3.10). As we further assessed, the
performance of emissions reductions will be finally confronted against the crediting
threshold: if the emissions are below the crediting threshold, then credits will be issued.

58
Scenario that estimates what would happen in the absence of the NMM or certain other policy
instruments aiming to reduce emissions.

99
 Figure 3.10: Setting crediting thresholds for the new market mechanism
Source: Prag A., Briner G., 2012.

In summary, the way in which ambition is built into a crediting baseline will depend
in part on two dimensions (political and technical) that need to be properly addressed: the
domestic policy instruments adopted inside the host government such as the policy
decision for the stringency of a baseline, and the technical approach used to set the
baseline.

The domestic policy issue (PAMs)

Domestic mitigation policies instruments and measures (PAMs) could be crucial both
for the evolution of countries' sectors 59
and in the formulating phase of baselines,
especially when implementing sectoral baselines.
PAMs would appear to be effective drivers of emissions, therefore providing
guidance and more realistic data projection of the future of the development of a sector
(Spalding-Fecher, 2013).
Notwithstanding this, there are some concerns as well as controversial issues

59
For example, fossil fuel subsidies have a significant impact on the viability of less GHG intensive
technologies; air quality regulation for fuel plants impact their CO2 emissions; and energy efficiency
standards for household appliances significantly impact power sector emissions. (Schneider,
Fuessler, Herren, & Lazarus, 2014, p. 37).

100
regarding the introduction of national policies within the crediting baselines.
In theory, the amount of net decrease or avoidance of the emissions is equal to the
difference between the crediting threshold and the BAU scenario that is equal to the
quantity of PAMs considered for the crediting threshold (in the figure mitigation financed
by other means).
PAMs would depend closely on the level of political ambition of the host country that
implements the NMM. Thus, discussion among the PAMs when establishing the crediting
baseline, could be mainly referred to the issue that regards the level of
ambition/environmental stringency that is chosen for the baseline, which is decided by the
host government (Spalding-Fecher, 2013).
On the one hand, setting baselines for NMM will require much more understanding
on how PAMs affect emissions; on the other hand, there are still concerns about which of
these policies have to be included in the baseline calculation. In the former case, what
would be affected is the effective balanced choice between the level of the
environmentally stringency and the level of environmental effectiveness of a baseline
(Warnecke et al., 2014).
In a sectoral mechanism, the stringency level needs to be set at a level that ensures
a reasonable degree of environmental integrity while providing sufficient incentives for
investments. (Hayashi, Mller, Feige, & Michaelowa, 2010).
Indeed, the more ambitious the target or threshold, the fewer the installations that
will effectively be incentivized to undertake a mitigation measure. (Castro et al., 2012, p.
11).
In this context, Wernake et al. argue that keeping the project attractiveness in the
context of net-mitigation effort will result difficult, especially within a sectoral
mechanism.
The effects of PAMs generally provide a net mitigation effect that is integrated within
the baseline, improving the general ambition threshold. Obviously, the individual
profitability determination (i.e., rate of return of project) would be less than before
integrating such PAMs. Wernake et al. (2014), argue that a so-called profitable-based
contribution that keeps this context attractive, defined as a percentage of the difference
between the project profitability and a profitability threshold, could effectively work in a

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project-based mechanism. However, integrating such an approach within covered sectors
rather than single projects has limitations due to the use of aggregate information []
and might create disincentives in some cases. (Warnecke et al., 2014, p. 421).
Regarding which PAMs should be included in the baseline calculation, Sterk for
instance requests that baselines should incorporate all policies and measures that are
adopted or at an advanced stage of development. (Spalding-Fecher, 2013, p. 11).
This could better address the potential interaction with new carbon market mechanism
and avoid potential double counting issues. Another way would be to exclude PAMs after
certain date e.g., when the UNFCCC adopts the modalities and procedures of the NMM.
(Bolscher et al., 2012, p. 27).
In view of these difficulties, although it is problematic to estimate the expected effects
of a particular mitigation policy, it may be preferential, for clarity, to decide on whether
and how particular policy measures are to be included in the threshold early on in the
process (Prag A., Briner G., 2012).

The technical approach

We can identify essentially two modalities for setting baselines within a sectoral
mechanism.

Emission projection
Performance benchmark

Basically, the emission projection is based on historical data of existing groups of

facilities within the sector using numerous types of reference data. The trend is simulated
over the crediting period, looking at economic as well as technological performance.
Problems occur when considering a developing country that could present an unclear
emission trend due to fast changing system performance. High fluctuations can be difficult
to predict and, depending on the specific situation, it might require complex analysis of
multiple factors and assumptions, both endogenous, such as sector conditions, and
systemic, such as international energy prices. Future projections could vary between a

102
simple linear extrapolation of the emission trend over several time periods to a more
complex model that incorporates the effect of expected changes in other variables
(economic and demographic variable, existing and expected policy, etc.) (Castro et al.,
2012).
In addition, diverse projections analysis within the same sector could also vary
between different specialized bodies, thus leading toward the establishment of different
baselines for the same sector. In order to reduce such divergence Castro et al. considered
how different models should transparently reveal these assumptions behind the baseline
calculations, indicating that a central authority such as the UNFCCC could be useful to
define a set of standard assumptions that would apply equally to all baseline calculations.
As a matter of fact, in the absence of those internationally agreed guidelines on emissions
baselines, could led to creating different approaches and modeling techniques used.
(Prag A., Briner G., 2012, pp. 910).
Although this latter could not be considered a negative fact as a whole, at least one
lowest common denominator will be required.
One or more benchmarks could be defined based on recent performance data of the
top-performing installations in the sector or through historical trends. The CDM has
developed a range of tools to estimate performance benchmarks that could provide a
possible reference within an ambitious crediting threshold. Therefore, the baseline could
be set at the level of the performance of the top performers in the group leaving the host
government free to choose the specific requirements/ambitiousness of the sector, e.g., the
percentage of top performers to consider. Although defining the ambition level of the
sector's production in order to decide an absolute emission reduction target (level of
crediting baseline) is a subjective task, performance benchmarks have been found to be
more objective, more simple to implement, and less affected by unforeseen
macroeconomic conditions respect to an emission projection. Furthermore, this approach
would not require thecalculation of an ex-ante reference BAU scenario to establish a
sectoral crediting baseline. A Countries reliable historical performance data would not be
essential, and this would result particularly effective and advantageous within developing
countries that lack such reference data. However, the weaknesses of this approach are that
performance benchmarks would require complex data and advanced methodologies for

103
calculating such performances, especially if we consider that some sectors are
characterized by a large variety of activities, output and services. Thus, determining such
appropriate benchmarks would sometimes be more complex and expensive for the host
governments. A large variety of benchmarks may be required for diverse products and
technologies.
Decisions about the nature of the sector target or crediting threshold from the point of
view of metric methodologies adopted is still under current debate. We can identify two
main approaches.
2 Absolute baselines
3 Indexed baselines
In the first approach, the crediting baseline is set at an absolute emissions level,
therefore providing a target that implicitly or explicitly makes assumptions about the
expected level of emissions to be achieved at national or sectoral level (Castro et al.,
2012, p. 10).
This approach is quite simple to administer because it covers all reduction efforts.
However, one of the most recognized risks of absolute baselines is the difficulty in
creating reliable baselines especially in contexts where factors such as economic growth
are difficult to predict. Thus, this can lead to evident problems especially in developing
countries. Clearly, a key political risk for is that they are incentivized toward inflating
their baselines in order to reduce the requested level of effort, resulting in a significant
over- or under-crediting issue. To avoid such restrictions to their fast economic
development, developing countries may refuse to adopt such ambitious absolute emission
thresholds.
Using indexed baselines for example in terms of emissions per unit of GDP could be
more effective in guiding the baseline establishment within a developing country.
Technical implementation would be simpler than an absolute baseline. Since it is based
on a set of single or multiple indicators within a sector, changes in these key drivers of
emissions would then be factored into the baseline, both providing simplicity in
determining the baseline and being more politically acceptable for developing countries
because they would not likely pose a cap to the growth as for an absolute baseline.
The main weakness of the indexed baselines regards the risk that they will not lead

104
to a reduction of total emissions since economic growth could outweighs the reduction
in relative emission. (Castro et al., 2012, p. 11).
In this case, the efficacy of absolute baselines could exceed the indexed ones, while
also providing more certainty on environmental outcome. Furthermore, difficulties are
related to the cost of these indexed baselines, such as administrative ones, due to
determining the appropriate metric but also monitoring them. Finally, measuring the
index can result technically challenging and could require much more effective data.

Dynamic versus fixed baselines

The question over the updating of baselines is considered a topic of key relevance to
the new market mechanism. Since the emissions reduction performances are not constant
through the years, baselines would require the adoption of options for considering such
increasing or decreasing performances. Depending on whenever and how to include such
updates, we should highlight how, when considering the use of dynamic baselines, a
balance need to be struck between ensuring environmental integrity and providing
predictability for investors. (Prag A., Briner G., 2012, p. 41).
For instance, the frequency of updating dynamic baselines could directly influence
the investor certainty on the project/sector, reducing or increasing the crediting eligibility
at the end of the crediting/trading period. Nevertheless, frequent baseline updating leads
toward establishing more realistic baselines that can lead to a higher level of
environmental integrity for the sector. Updating baselines can increase the level of
ambition but it would be crucial to inform stakeholders about the timeframe for these
updates in order to create a better thrust for the long term crediting trend.
Establishing a dynamic baseline is a complex exercise but most important is how to
choose efficient criteria among different options proposed depending on the sector as well
as on the nation considered. 60

60
Proposed options are: fixed baseline, pre-determined dynamic baseline and iterative dynamic baseline.
Respectively these would vary in the modality and frequency of updating, starting from a static-fixed
baseline which would not capture improvements (as well as worsening) in the performance of a sector, to
an iterative dynamic baseline which conversely is constantly updated based on the actual performance.

105
 Standardized baselines

Recent debates are focusing on the modalities for expanding the standardized
measures agreed upon within the project-based mechanisms and the way to introduce them
in an NMM. These would probably reveal themselves to be very useful in such a sectoral
mechanism which will interest broad segments of an economy.
Castro argues that in order to determine standardized baselines for the NMM, it will
need to depart from a project-based mechanism such as the CDM. This would require
better and broader data guidance and acquisition because the sectoral mechanism will
consider sectors instead of single projects (Castro et al., 2012).
One of the main purposes will be to strike a balance between establishing a
mechanism (through which a sectoral baseline is standardized) that will be kept as simple
as possible and yet is designed as complex as necessary (i.e. that considers a lot of
parameters and details) (Hayashi & Michaelowa, 2013).
Thanks to a currently advanced experience in determining standardized approaches
for single-project baselines within the CDM mechanism, methodological challenges could
be currently considered less of a concern, although not for an NMM, which requires
careful methods for calculating how to aggregate a broad group of emitters within a single
aggregate baseline, as well as huge data requirements. Furthermore, at this time the
methodological challenge regards problems in countries' data availability and coverage,
complex data required for dynamic sectors with higher related costs, the appropriate level
of aggregation for further development of standardized approaches, etc. (Fssler, 2012).
The CDM standardized baseline process can inform baseline settings under the new
market mechanism. This would establish a standardized baseline on the basis of an
aggregate performance of a group of emitters such as for CDM. It is expected that,
differently from the CDM, within the NMM the baseline would then be compared to the
aggregate performance of the group as a whole that necessarily includes both good and
bad performers. The result is a that a lower number of credits will be awarded, as was the
case for the individual total credits gained within a CDM, thus indicating that the
standardization method would likely be more effectively environmentally stringent than
in the case of the CDM.

106
 Depending on the segment of the economy concerned, political decisions about the
stringency of a standardization baseline, as well as national circumstances, the
standardization could reveal itself to be a complex exercise. Furthermore, it is likely that
different standardization methods would be taken among different countries.

International recognition of crediting baselines

In order to of develop a process that could create uniformity of baseline

implementation among all the Parties that adopt an NMM, a set of top-down procedures-
guidelines that aim to conform and tailor the implementation of a baseline would be more
effective for guaranteeing international recognition of credits, respect of Cancun
principles (such as the creation of ambitious baselines) and delivering a net global
decrease of emissions.
The NMM, as seen in figure 4.13, could be created through setting up a negotiation
process between a central governance structure such as UNFCCC and the host government
(Fig. 3.11).

107
 Figure 3.11Illustrative example of NMM operational cycle
Source: Duinen, 2013

Besides the UNFCCC, the host country should agree to designate a committee or a
board with independent review teams that, after considering a detailed policy analysis
which contains specificity of the segments/sectors of the economy, would provide a
balanced assessment of the appropriateness of any particular baseline. (Prag A., Briner
G., 2012).
An international body could then review or analyze the proposed thresholds as well
as resolve any outstanding questions of implementation. This step is followed by the
concrete implementation of the crediting baselines or thresholds within the host country.
As a way of reinforcing the credibility of the system, especially for proving

108
international recognized ambition of the thresholds, an international system for
checking and balance is important (Fig. 3.12). This could be done through establishing a
process for cross-checking both the technical approaches utilized for calculating the
baselines, i.e., emissions projections and performance benchmarks, against each other.
This would provide a great internal (national) as well as external (international)
confidence in the mechanism.
It will be important to consider whether we could adopt such ex-ante international
central guidelines for the baselines proposal and at the same time allow the countries
flexibility in the approach that they choose.

Figure 3.12 Flowchart for setting crediting thresholds

Source: Prag A., Briner G., 2012

109
 6.4 Requirements for Data collection and MRV

Data collection and measurement, reporting and verification processes (MRV) should
be carefully implemented in such a way so as to provide a clear reference framework for
guaranteeing transparent contributions of GHG reductions within all countries. These
frameworks can assure the international recognition of credits generated from various
mechanisms, assuring a uniform metric, i.e., that 'a ton is a ton', thus guaranteeing the
environmental integrity of the carbon market.
The development of an efficient as well as functional MRV for an NMM is still an
open issue.
Generally speaking, extensive work is required to provide a functioning MRV within
developing countries that adopt an NMM. For instance, the system will be more complex
than in the case of a CDM since the application of an MRV will cover entire sectors and
not just a single project. In this case, the CDM would have provided an international
institutional experience in MRV data that would have been useful as well as necessary for
providing information about any one country. Furthermore, the EU-ETS could release a
good and improving experience for an NMM, highlighting the crucial role of national
institutions as well as flexibility and data accuracy in the MRV process.
Importantly, at a negotiating level, there is still indecision whether or not to create a
top-down level for MRV for a future NMM, given the very different point of view of some
countries that are firmly against the use of external oversight institutions. However, at
least some literature recognized that there is a minimum of MRV factors needing to be
internationally harmonized (Castro P. et al., 2012).
According to Castro, what would be needed for a credible MRV system for NMM, is
a combination of international as well as internal effort toward the establishment of
institutions at both levels (Castro et al., 2011).
These could carry on important functions. Notably, at a national level, a coordination
entity, national rules, modalities for monitoring and reporting as well as a group of
technical subjects and experts will be needed. Internationally, an institutional architecture
such as that within the CDM will arrange some important functions that in particular

110
would provide transparent as well as apolitical administrative support for various
different nations. However, this latter would depend highly on the international
architecture established through any future, post-2015 agreements.
An effective MRV system would be required to optimize several principles and
criteria such as accuracy and cost-effectiveness, but also completeness, conservativeness,
materiality, consistency, adjustability and transparency. (Bolscher et al., 2012, p. 30).
Data requirements have never been so complex; indeed, detailed data requirements
would have to be elaborated in sector-specific methodologies. Developing countries
would therefore be required to develop effective methods for acquiring as well as
submitting complex data. As a way of encouraging a short term implementation of NMM,
Castro et al. (2011) propose a flexible MRV approach depending on the capacity of the
host country, with countries that have low capacity reporting according to a lower tier of
data requirements. (Axel Michaelowa, 2013, p. 12).
As experience increases this will be straightened, leading to an increase in the quantity
as well as the quality of data availability (Castro et al., 2011).
Capacity building will therefore be crucial. For this reason, there have been several
initiatives addressing some issues and building readiness for NMM. The most famous is
the Partnership for Market Readiness (PMR) which has been proposed by the World Bank.
The PMR provides grant financing technical assistance for domestic developing
countries, through developing capacity building and piloting of market-based tools for
GHG emissions reduction. 61

6.5 Ways of managing the transition from CDM to the NMM Relationship with
existing and future mechanisms

It has been strongly supported that the Kyoto Protocol's flexible mechanisms will
continue to exist alongside an NMM (CEPS, 2012).
Although the correct as well as detailed relationship between NMM and the existing
market-based mechanisms is still unclear, the question of the possible overlap represents

61
www.thepmr.org

111
one of the most relevant issues that need to be effectively addressed. Indeed, if the latter
is not carefully addressed it may provoke double counting and thus lead to negatively
impact the environmental integrity of the system.
The CDM and NMM will be much more concerned since they will both operate within
developing countries. From such an operational perspective, it would be desirable to avoid
coexistence of both mechanisms, or at least not in the same country-sector once the NMM
is introduced there.
A minimum of coexistence should be expected in certain specific situations.
First of all, in these cases strict rules will be further required to govern their
relationship and to avoid double counting of emission reduction (Conway D. & Hoogzaad
J., n.d.).
In addition, four main options have been proposed (Bolscher et al., 2012):
Phaseout CDM projects immediately in the sector covered by NMM and, until
that is done, deduct CERs from sectoral performance.
Continue the CDM project and retire CERs from the sectoral performance.
Carve out CDM projects from the sectoral boundary.
Integrate existing CDM projects into a sectoral scheme. 62

6.6 The design of the trading/crediting and policy framework

One of the main questions that is still being researched is how to incentivate countries
to establish an NMM as well as how private and public entities are incentivized to use and
become committed in such a new mechanism. Differently from a project-based
mechanism, within a sectoral mechanism the responsibility of the whole sector
performance belongs to the government of the host country. Due to this key difference,
the host government has to implement such sectoral mechanisms, adopting other
modalities or approaches, as a way of realizing an ambitious emission reduction.
A sectoral mechanism has some general advantages. First of all, through a

62
The latter option could result particularly palatable for PoAs (depending on the nature of the singular
PoA)

112
standardization process for calculating the Countries' baselines (as well as the project
additionality), it would reduce transaction costs for private entities since it is managed
within the project-based CDM. An important difference is that within a sectoral
mechanism, these transaction costs would be de-facto transferred to the host government;
subsequently they can create further cost burdens for the host government.
A further recognized advantageous effect is the likely low risk of leakage produced.
Clearly, through establishing a sectoral coverage for emissions entities, the latter cannot
simply shift the production to a place without emissions limitations (uncovered activities)
or with lower marginal reduction cost of emissions, since the coverage interests the whole
sector.
Another advantage is the question of environmental integrity that would be generally
guaranteed thanks to the proven net-mitigation effect and a recognized additionality. The
latter may become a difficult task, however. A detailed analysis of the additionality scope
of the sectoral mechanism concerns some technical as well as political implications. For
instance: how to treat current and new internal-domestic mitigation policies within the
calculation task of additionality; how to determine how to provide incentives for
additional projects of an entity of the sector that sometimes are not profitable for private
entities; and how to hinder non additional-but too highly profitable ones (Schneider,
Fuessler, Herren, & Lazarus, 2014; Warnecke et al., 2014).
What can be affirmed, apart from these issues, is that since the non-additional (but
profitable) sectoral-projects may not reduce emissions, the host government would
likely develop and support only those that are additional, so that the system automatically
performs well in obtaining emissions credits (Schneider, Fuessler, et al., 2014).
In order to gain the expected advantages, an effective sectoral mechanism such as the
NMM should work in line with the government specifications so that emitters act in line
with it (Dransfeld & Michaelowa, 2011).
An effective sectoral mechanism depends on three key design aspects: the ability of
the government to enforce and implement this mechanism under such a framework, the
legal character of sectoral emitters that have to reduce emissions, and the design of the
host country policy framework (instruments and specific rules for the application of these
measures as responsibility rules for actors, MRV regime etcetera).

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 The ability of the government to implement the mechanism depends on the form of
governance and the capability to enforce its action against lobby groups as well. These
latter groups have influenced the establishment of the EU-ETS system up until today and
can reasonably facilitate, or not, the establishment of an NMM. 63 Moreover, regarding the
form of governance, a de-facto dictatorship governments may find it easier to enforce
action, while democracies strive to adopt rather balanced, consensus orientated
solutions. (Dransfeld & Michaelowa, 2011).
The legal character of sectoral emitters can influence the success of any policy. Thus
it is important to assess and verify the legal status of state-owned entities as well as private
and public-private ones. A clear difference among those groups, is that if the majority of
installations are owned by public or governmental entities, the government does not have
to create incentives but may implement emission reduction measures directly. (Sterk &
Mersmann, 2012).
In order to set up an effective sectoral mechanism within a host country, the design
of a domestic policy framework must be considered a crucial element. Indeed, this
framework would provide instruments as well as specific rules that need to be imposed at
a political level to guarantee an operational sectoral mechanism. Thus, the design of a
political framework is a complex as well as necessary exercise that essentially depends on
the shape of the NMM that will be established. For instance, its design depends on whether
the NMM adopts a sectoral trading or a sectoral crediting mechanism. In the first case, the
singular emitters would probably be held responsible for the emissions reduction
performance since, given the binding nature of this mechanism, the government will likely
set up an emission trading scheme or impose mandatory measures. Conversely, in the
second approach, due to the can comply nature of the mechanism, the host government
will hold the whole responsibilityfor the performance results. Question such as warranties
over credits, quantity established and subsequent allocation among emitters becomes very
important. Generally, these results will depend on the policy framework adopted, which
is crucial for the NMM implementation and practicality. Especially within the sectoral
crediting mechanism, how to calculate credits and how to distribute these, is currently

63
For further details see chapter 3

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discussed under whether to adopt the credit driven and policy driven form of host
governmental frameworks (Harrison et al., 2011).

The incentives issue

Before discussing these different types of frameworks, it is important to recognize a

fundamental dilemma regarding how to formulate incentives to keep the mechanism
effective. This would originate at a twofold level: during the credit-calculating phase and
at the credit distribution level (Fig 3.13).
In a sectoral crediting mechanism, the total number of credits accrued depends on
several parameters such as the stringency of a baseline and the sectoral coverage as we
assessed above. Furthermore, these would be calculated comparing the entities' individual
performance with an individual performance or against a group performance baseline. It
has been well identified that a sectoral crediting mechanism will calculate the total credits
through a group performance method.

Figure 3.13 Typology of approaches for calculating and distributing credits

Source: Prag A., Briner G., 2012
In this case, the total number of credits will be generally less than under an individual

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performance method, since the group of emitters baseline comprehends good as well as
poor performing emitters (Fig. 3.14). Indeed, fewer credits for the system means fewer
credits to be distributed among good performing emitters. The fact that the quantity of
credits received by each emitter would depend in part on the performance of other emitters
creates significant extra investment risk that can lead to a free riding problem. If poor
performers take little or no action, then the overall quantity of credits rewarded will be
fewer and thus good performers will be generally less motivated to invest if there are no
guarantees that the achieved quantity of credits will be accrued to them.

Figure 3.14 Comparison of total credits issued in individual performance and group
performance approaches
Source: Prag A., Briner G., 2012

Other challenges linked with the incentive issue may regard solving the principal
agent dilemma, the general lack of guarantees and the ex-ante investment and ex-post
credits issue.
The first question depends on the chosen modalities for the transfer of credits (by an
international body-authority to the host country, to the emitters). Time lags and delay in
such steps will highly influence concrete incentives to emitters. It has been well suggested
that these steps need to be minimized otherwise the longer the timeframe and the greater
the complexity of the link between a carbon market and a project-level incentive, the

116
higher the risk that costs will not be recovered. (Castro P. et al., 2012, p. 14).
Secondly, whether or not the emitter performs under the threshold, the committed
entities should however be rewarded depending on the respective effort taken. According
to Michaelowa, a necessary condition for safeguarding incentives for emitters in the
context of a sectoral-crediting scheme is clear accounting of emissions on an entity-
specific level in order to understand which entities generate emissions reductions and
which ones increase emissions. (Axel Michaelowa, 2013).
Finally, the last issue has arisen since accrued credits will be issued ex-post, similarly
to the CDM, but private entities initially lack incentives to invest. It is expected that the
government will provide the necessary resources or credits advance for emitters.

Policy frameworks

Due to the suggested lack of incentives for the sectoral crediting mechanism, several
studies have discussed various options for solving this problem during the distributional
phase of credits depending on the policy framework of the host country (Bolscher et al.,
2012; Dransfeld & Michaelowa, 2011; Harrison et al., 2011; Prag A., Briner G., 2012).
As we have assessed, the host country has more responsibilities under sectoral
mechanisms and the general performance can influence all the stakeholders that are
involved within the NMM. For instance, Harrison et al. (2011), argue that an effective
evaluation of incentives in international sectoral crediting mechanisms needs to satisfy the
required criteria of three key actors: the host government that will implement and manage
the mechanism, the buyer country that will receive the mechanisms credits back and the
private firms that will obtain the return of their investment in the host country (Harrison
et al., 2011).
More responsibilities mean that the host government will have to keep the system
attractive by providing incentives and thus directly intervening.
Supposing that we adopt a group performance calculation for an NMM, there are
essentially two types of host policy frameworks: credit-driven and the policy-driven (Fig.

117
3.15). 64
In the credit-driven approach the host government will not intervene, and the
guarantees of any return of credits for privates emitters as well as for the buyer country
will be based on the sole promise of getting the international credits. This would not likely
work in case of a sectoral approach with group performance calculation, as we explained
above (Joseph E. Aldy&Stavins, 2010). 65
A government can intervene at this point through a credits-to-emitters approach, i.e.,
by calculating the individual performance and rewarding them individually with the
credits earned.

Figure 3.15 Host government frameworks

Source: Harrison et al., 2011.

This would provide some guarantees that some credits will be accrued to the good
performers. This may be financed by introducing penalties for poorly performing emitters.
The host government can provide an insurance even if the sector as a whole did not
achieve the necessary emission level to be awarded SCM credits. (CEPS, 2012; Axel
Michaelowa, 2013; Prag A., Briner G., 2012; Sterk&Mersmann, 2012). 66

64
As we have assessed, that policy framework contains all the instruments and specifics that the host
country would adopt as a way of setting up the program and keeping it manageable.
65
In this case, there is a direct relation between the installations and the international authority, where if
the installations reduce emissions below the crediting baseline of the sector, they accrue credits
individually, irrespective of how the whole sector performs.
66
In this case, although installation owners have a strong incentive linked with the international prices for

118
 The main weakness of this approach is that it will expose the host government to
financial risks, thus it seems doubtful whether the host country government would be
willing to take on that risk. (Sterk & Mersmann, 2012).
Adopting a policy-driven approach can potentially address the investment risk
problem by essentially removing the direct issuance of credits for individual performance.
Indeed, credits will be accrued to a government that can decide to adopt domestic policy
instruments rather than rewarding emitters through GHG credits. This could provide a
solution to the problem of free riding within the group performance calculation.
Provided that a strong regulatory capability exists, see (Michaelowa, 2013), the policies
adopted that can range from mandatory sticks (e.g., an energy efficiency standard or
mandatory trading scheme) to voluntary carrots (e.g., feed-in tariff), could be partially
financed through the sale of credits in the international market or through the penalties
system created.
Within the policy-driven approach, another proposed approach is the emission
averaging system or domestic ETS. Rather than a cap-and-trade mechanism, the crediting
baseline could correspond to the cap set for an ETS. Any overachievements within the
domestic ETS will be rewarded by international credits for the host government that would
decide subsequently how to reward the emitters by credits or by other means.
As for the ETS system, the host government would distribute allowances toward
emitters, thus establishing a domestic mandatory mechanism where the government has
no obligations: there would not be penalty at the international level if the program did
not function or did not result in emissions below the crediting baseline. (Harrison et al.,
2011).
This option would be the most straightforward towards the establishment of a full
cap-and-trade mechanism that can be fully financed through penalties for entities which
are target exceeding. In this latest case however, it could result politically highly
contentious for developing countries. (Michaelowa, 2013) (Fig. 3.16).

credits, i.e., they have a direct incentive to reduce emissions as long as their abatement costs are lower
than the price of carbon, a clear accountability and quality of the MRV system would be crucial both
for the private benefit-linked entities as for the host country credits delivering mechanism.

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 Figure 3.16 Policy framework proposals
Source: Schneider et al., 2014

Hybrid approach

According to Harrison et al. (2011), the two-policy options may not be mutually
exclusive. Instead, this analysis shows how a hybrid approach, i.e., the pure policy
frameworks combined, may often prove to be the best compromise for many sectors and
countries, since it avoids some of the major limitations of the pure approach. (Harrison
et al., 2011).
A comparative and qualitative analysis of the frameworks has been done by
comparing the three key actors requirements, assessed with the alternative frameworks

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(Fig. 3.17).

Figure 3.17 Evaluation of alternatives frameworks for three key actors

Source: Harrison et al., 2011

This evaluation suggested that a hybrid framework is likely to be the most attractive
approach in many circumstances. The government commits to reducing sector emissions
intensity and also provides some assurance that individual reductions will be rewarded
based upon formulas that are put in place. (Harrison et al., 2011).
However, these data show also that depending on country specifications as well as on
the committed sector, a pure policy framework may be superior. It would therefore be
important to directly verify and investigate whether and how these programs could work
practically, notably through the help of case-by-case studies and pilot activities.

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 7 Implementing the NMM

As we have seen there is no one effective solution for the design of an NMM, but
rather, depending on the specific context, there are multiple solutions and approaches that
must be carefully analyzed before implementation.
For instance, the analysis of Bolscher et al. (2012), moves inside a range of possible
real options and features for the design elements of an NMM. Through the selection of a
lists of assessment criteria 67, combined with the previously discussed design elements and
particular chosen modalities, the research developed and proposed three distinct and
coherent proposals for an NMM. These are: Government Crediting System, Tradable
Intensity Standard and Installation-Based Emission Trading System (Fig. 3.18).

Figure 3.18 Key differences between the proposals

Source: Bolscher et al., 2012

67
A list of assessed criteria must be selected through a different scale of priority. Bolscher, Van der Laan,
Slingerland, Sijm, & Bakker, (2012) identified as top priority criteria: environmental effectiveness and
integrity, preparedness for evolution towards an EU-ETS compatible cap-and-trade system, and economic
efficiency. Further criteria were considered such as political feasibility, private sector participation/potential
to mobilize private capital, potential impacts on competitiveness of EU enterprises, low risk of perverse
outcome, administrative feasibility, including transaction costs.

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 Although all the options considered present strengths and weaknesses, since the
Tradable Intensity Standard is believed to be the most suitable proposal, the author
decided to implement this approach among several case studies, giving useful insight that
is summarized below:

Source: Bolscher et al., 2012

Despite the above-mentioned results, research has clearly defined that a set of
predetermined criteria have to be used in the selection of actors and countries. 68
This indicates that currently, only certain countries could represent effective case
studies regarding the matter.
These prerequisites cast a shadow on the actual possibility of putting the NMM in
place in a large segment of developing countries (less developed ones) in a short time.
Even more so, lead times could be expected to be considerable also for advanced
developing countries: for instance, if we look at all the requirements for credit-driven as

68
For instance, according to Bolscher et al., 2012,criterion and parameters could be: i) clearly defined
sector boundaries, ii) the way the reductions in emissions are quantified, iii) the market value of the
credits used, iv) the sectors emissions and their development or trend, v) the economic development of
the sectors, and vi) the carbon intensity of the sector compared to countries with a lower carbon intensity.

123
well as policy-driven frameworks (Annex A-III).
Generally, as the majority of recent empirical literature affirms, for the application of
an NMM within a developing country, the most important challenges mainly regard four
types of constraints; data availability, institutional capacity, government involvement in
the sector, and size of sector/number of actors. Obviously, it will be required that this
weakness be addressed during the coming years. In addition, three elements of
opportunities have also been identified (Fig 3.19).

Figure 3.19 Constraints and Opportunities for an NMM

Source: Bolscher et al., 2012

Constrains for implementing an NMM

Data availability

Consistent and reliable data availability is considered crucial for the design,
implementation, and development of an NMM. This issue particularly regards the
government of the host developing country. According to all empirical research
considered within this dissertation, this factor can hinder the correct establishment of an
NMM because most of the work requires reliable data, e.g. projection of the BAU
baselines. According to Castro determining baselines for a sectoral NMBM (new market
based mechanism) implies a different way of thinking that departs from the CDM; it
requires better and broader data and agreement on guidance about critical assumptions
and minimum transparency requirements. This will be challenging; however, the

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experience already gathered [] will make the determination of sectoral baselines
possible. (Castro et al., 2012, p. 55).
Such data is not always available, but, moreover, it has never required such complex
data at such a high level of quality. Even among Annex I countries the quality of reporting
has not always been up to requirements. (Sterk & Mersmann, 2012).
This is the most common issue found within the majority of developing economies
considered. At the base of the issue there are multiple factors. First of all, technical
capacity, that is still lacking; second, in some other cases, the data is not regularly updated;
also, a typical characteristic is that the information provided on emissions at the sectoral
level is not always available for different reasons, e.g. the publication of emission data
can enact inappropriate competitive measures or behaviors between companies.
Countries would indeed need to establish robust inventories and projections of future
emissions in order to allow credible target-setting. The time required will be a major
setback, considering that it took Annex I countries 10-15 years to establish
comprehensive national time-series inventory data, although relevant experience
acquired through the CDM can help to reduce this delay (Sterk & Mersmann, 2012)
(Annex A-IV).
Still another important factor is the passage from the CDM external control bodies
(i.e. Executive Board) toward an independent external system for validation and
verification of the MRV process that could provide further guarantees on the
data/infrastructure effectiveness. However, putting these provisions into practice will
require time and institutional capacity, that in these countries is still for the most part
absent.

Institutional capacity

A States institutional capacity for implementing an NMM could be identified during

the operational cycle by the quantity and quality of communication exchange between the
host government and the UNFCCC, and it represents a highly required factor for the
effective establishment of a solid NMM.
The NMM entails and follows an international top down structure that should (or

125
shall) be supervised by the UNFCCC authority. The fact that an international authority
controls and supplies sophisticated methods to address the establishment of an NMM
within a country would necessarily require direct national involvement and further
periodic commitment on the various implementing phases; as a result, government
willingness and political priorities on the NMM must act in line with it, although the
national political systems nature, e.g. dictatorship, democracy, etc., is crucial to the level
of influence that the international institution can exercise.
The governments willingness is calculated by Castro, analyzing aspects such as the
countries submissions to the UNFCCC (Castro et al., 2012).
In this sense, Duinen (2013), argues that the required establishment of an NMM could
effectively have an influential beginning effect on the willingness of the governments,
since it can be used as a means to combine influence with funding. (Duinen, 2013).
Noticeably, the possibility of the developing country to apply a new market
mechanism also depends on the political priority that is given to the NMM. It was
indicated that developing countries present different priorities that create many political
differences of opinion between them, lowering the chances for implementing an NMM in
the near future, at least within a short period.
Last but not least, the governance capability and effectivity could represent another
crucial factor. For instance, the majority of developing countries lack the capacity to
undertake these NMM approaches: although they have scarce experience in the building
capability needed to erect the necessary institutions, and to retrain and support participants
in the NMM, some developing countries suffer major structural problems such as control
of corruption, rule of law, regulatory quality, government effectiveness, political stability
and absence of violence, and voice and accountability.

Government involvement in sector

The level of government involvement in a sector could create different and divergent
effects with the NMM application. Depending on whether the sector is state-owned,
partially private, or is completely owned by private entities, but also on how
environmental policies are adopted within these sectors by these developing economies,

126
the NMM could have various effects on the main purpose of incentivizing forms of
private-public investments.
For instance, in a state-owned energy sector, the government usually supplies the
sector through non-market based mitigating solutions and policies because essentially, it
has been identified that there is a still a substantial abatement potential within the sector,
that could be addressed by improving energy efficiency and deploying renewable energy.
In several developing economies, these policies are proven to be sometimes better in
incentivizing cost effective measures than the CDM or other flexible mechanisms so far
adopted; therefore, in these cases, the NMM would potentially be less useful to increase
the opportunity to incentivize private or public sector investments in renewable energy
(See Duinen 2013, for more details).
As a matter of fact, the NMM will expose the sectors to a carbon price which could
create a financial incentive for investments in emission reductions, but at the current low
carbon market price, only a few abatement options are made financially feasible (in
addition to what is already feasible without a carbon market).
It has however been identified that whereas existing and successfully policies are
effective, the NMM could potentially support these policies. Also, since within state-
owned sectors the production is highly subsidized, this limits the ability of installation
operators to make commercial choices and react to the market incentives to improve
efficiency which the NMM aims to provide. (Bolscher et al., 2012).
Last but not least, whenever the mechanism has to run in parallel or as a replacement
of the CDM, developing countries i.e. project developers, will have opportunities to deal
with a simpler as well as less risky and expensive (substitute) mechanism.

Size of sector / number of actors

The size of a sector as well as the number of actors involved is notoriously a large
practical constrain in a possible NMM implementation. The size of a sector covered results
particularly cumbersome for data projections on the emissions. Furthermore, the sector
boundaries depend on multiple parameters that could differ between countries and also
among installations as we assessed above. Therefore, a considerable problem is to choose

127
which sectors are compatible and would be a better fit for the diverse design proposal of
an NMM. General suggestion and guidelines come from the recent literature that provides
short-term recommendation for policy makers (Castro P. et al., 2012; Axel Michaelowa,
2013) (For further details see paragraph 6.2).
According to Michaelowa (2013), it would be important to consider the application
of the NMM as a mechanism among others. Indeed, the implementation of an NMM
within a developing country that already adopted some other market mechanisms such as
the CDM should look for coexistence with the latter. Michaelowa emphasizes that
depending on the characteristics of the sector, a project-based mechanism could be more
effective than an NMM, although in other cases the NMM with specific policy framework
could prove to be more straightforward (Michaelowa, 2013).
In addition, sometimes both together can complement each other (Fig. 3.18).

Figure 3.20 Coexistence of mechanisms in various sectors

Source: Michaelowa, 2013

Michaelowa finally suggests that for sectors with large emitters, project-based
mechanisms should be retained in case the sector is mainly composed of private entities,
or conversely replaced by sectoral crediting in case the sector is dominated by public

128
entities. Furthermore, in advanced developing countries, sectoral trading might become
attractive for these sectors.
Also, Sectoral crediting would be appropriate for sectors with widely-dispersed
emitters, such as transportation, where government policies provide better incentives than
project-based mechanisms. Policy-based crediting could be used for households, waste,
and parts of the power sector. For the power sector, a nested approach could be
envisioned where large entities wanting to generate emissions credits would undergo
robust emissions accounting, whereas the rest of the sector would not be able to generate
credits and be subject to more traditional policy instruments such as feed-in tariffs. (Axel
Michaelowa, 2013, p. 16).
In practical terms, Castro P. et al. (2012), reveals that inmany developing countries
sectors are actually too small to potentially guarantee an efficient sectoral approach, thus
suggesting that the developing country should focus at least on small and easy sectors at
the beginning, and then possibly enlarge them.

Opportunities coming from an NMM

Besides the relevant number of constraints that a supplemental literature is further

indicating as prerequisites, developing countries could experience three general
opportunities in implementing a New Market Mechanism: cost efficiency, large abatement
potential and growing international cooperation.
These opportunities will emerge if the above constraints are addressed; this will be ad
difficult task, that will take an uncertain amount of time according toseveral experts that
were recently interviewed. It has been suggested that the mechanism could start working
in 2016, although most of the abatement impact will only be experienced in 2020
(Bolscher et al., 2012, pp. 5559).
Cost efficiency will likely be the result of the mechanisms implementation. Indeed,
the market tool has the principal purpose of achieving emissions reduction at the lowest
cost and at the largest level possible. This can only happen if the demand for credits as
well as prices of carbon are stimulated and increased. In other words, cost efficiency will
appear to be accomplished with the NMM as long as the prices and the demand for credits

129
will likely grow. The NMM can help countries in differentiating the market measures and
the abatement options in way to achieve the most cost efficient mitigation reductions
measures. It is expected that developed economies will try to promote the NMM through
financing the proposal within developing economies in order to increase the possibilities
to acquire emissions credits which are less costly. This incentive could be effective but
will essentially depend on whether the host governments will adoptabalanced and
effective level of ambition (see paragraph 6.3).
Large abatement potential would likely been activated through a well-functioning
NMM. This is another main purpose that is reached through up-scaling the market
mechanisms, by including large sectors within the emissions commitment. For instance,
the NMM can help developing economies in enhancing the reduction ambition leading to
establishing new methods to incentivize private entities in adopting low emissions
technology and low carbon methods and process of production.
Finally, the NMM will be implemented through an operational cycle that is intended
to increase the cooperation interface between the nations and the international institution
that oversees using a top-down method (Fig. 3.11). This approach can be useful in
establishing a cooperative process that could further create uniform measures as well as
NMM design approaches. Last but not least, the NMM sees in a positive light the creation
of a global carbon market in which all the economies could consider expanding mitigation
commitment measures, in order to develop an ambitious global cooperative mechanism
that could reduce GHGs emissions in order to avoid the 2-decree increase in temperatures.

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 ________________________________________
Conclusions

From the Kyoto Protocol to the Long Term Cooperative Action: critical
implications and opportunities for a New Market based Mechanism (NMM)

This thesis has highlighted the current economic and political responses to climate
change, treating the issue of international governance and the problems that it has
encountered, dealing with the solutions of the mitigative market adopted by the Kyoto
Protocol, and the new market mechanism proposed by the COP-17 in Durban.
This research attempts to answer the main question in understanding whether there is
a real need for a new market mechanism, and if so, whether the current system is ready to
implement it in various countries that could host it.
The research was developed in the wake of the contributions of several studies that
have occurred in the field of economics and political studies at the beginning of 2012,
following the first proposal of an NMM in Durban. The theme of the NMM poses the
whole scientific community in front of how to increase the possibility to achieve ambitious
reduction of emissions, and whether this promise can overcome the promises of Kyoto.
Only through analysis of the recent negotiation processes that outline a post-Kyoto
international agreement, it is possible to identify whether there will be future political
support for carbon markets, and in particular to the flexible mechanisms. Within these
negotiation processes, we have observed that the centralized governance of the UNFCCC,
which substantiated its mitigative action through the Kyoto Protocol, has proved important
as a first step towards reducing emissions. Although these initial steps have been able to
achieve initial success in terms of performance reduction, the progressive increase in the
reduction targets of the Kyoto Phase II has not been possible mainly due to the same
rigidity of governance of the protocol. First, the principle of common but differentiated
responsibilities, the cornerstone that has not allowed progress to be made in the inclusion

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of countries in the developing world (now major polluters), can be only partially
eliminated. As a matter of fact, this limit is one of the priority issues that needs to be
resolved in order to develop a post-Kyoto agreement which could create a system of GHG
emissions reductions that includes all countries in the UNFCCC, as required by the
Durban Platform (ADP).
Second, thanks to the implementation of the flexible mechanisms of the market, there
has been a growing plethora of mechanisms and systems within the various Annex I
countries of the Kyoto which has de - facto led to a greater fragmentation and divergence
among participating actors scopes, methods, and goals. This "reality" has become
gradually more and more difficult for to manage (the central governance system - Kyoto),
especially when required to consistently control the results and to increase the
performance of the Kyoto Protocol to expand ambition towards greater emissions
reductions over the years.
Therefore, one thing is evident. These rigidities of the protocol are difficult to
reconcile with the current needs of new economies. Over the years, a series of studies has
sought to establish solutions and methodologies to soften the rigidities that were
encountered with the centralized governance of the Protocol. However, what emerges
from the research is that, on one hand, solutions that fall within the centralized governance
(top - down) do not guarantee broad participation, given that many countries probably
would refuse to adopt reduction obligations; on the other hand, solutions that follow a line
of governance from the bottom (bottoms - up) would not promote ambitious response in
the long run because of the (already seen) differences in results.
From these findings, it appears that only a hybrid approach of governance (that
follows both lines), perhaps if well organized and given some characteristics and methods,
can be effective in ensuring ambition and participation in a future post-Kyoto agreement.
The choice of a hybrid new agreement post-Kyoto has thus caused a growing interest in
the research of market instruments.
The premise, in this sense, would be to create a single and global carbon market within
which the countries in the developing world can start seeking the use of new market
instruments. As we have seen, the COPs Conferences have re-evaluated these tools in the

132
same way, however, we must consider that the political will to create such mechanisms
will depend on the type of post-Kyoto agreement if implemented.
In a hybrid type of governance, a possible new market mechanism (NMM) may be
favorable. This is since the NMM (according to the latest indications) would also adopt a
hybrid governance approach: a top-down management, to oversee the system and a
bottoms-up approach that takes into account the specifications of the countries where it
would be implemented.

As we have seen, the Kyoto Protocol, now in its 15th year of operation, has achieved
important results in terms of initial reduction. Although it still not clear whether the
participating countries in Kyoto (Annex-I) are implementing emission reductions due to
the Protocol.
However, the effects of the economic crisis and other factors, which aided to the
results produced by Kyoto, does not allow for a clear picture of what Kyoto has achieved.
To get this, the thesis then analyzed and sought to clarify the results of the flexible
mechanisms of Kyoto starting from crediting mechanisms based, and then using European
Emission Trading as a major case study. Alongside the large and unexpected initial
success of these systems over the years, there has been a general decline in the
performances. This was mostly due to a series of problems, which arose from poor initial
compliance by Kyotos States to certain parameters and requirements for the
implementation of these mechanisms. Because of this subsequent COPs Conferences are
currently taking some steps towards structural reform for greater ambition and adaptability
to the needs of the countries that use them (for example by simplifying the technical
procedures of the CDM and JI). In the case of the European Emission Trading System,
with the achievements of the Phase III implementation and alongside even more ambitious
goals, the European Commission has gradually tried to mitigate some of the problems that
"arose" over the course of the years in the two previous operational phases of the ETS.
Although these reforms helped to improve the efficiency of the systems they have
failed to contain the effects of the insufficient market demand that have characterized the
last few years of operation. The oversupply of credits created in the market has led to a
sharp decline in demand for credit by Kyotos Parties. According to many analysts, this is

133
the major problem that still has to be solved to implement a NMM. As a matter of fact,
the latter component does not seem to be a good start for a NMM. However, it is also true,
that this same mechanism could be a useful tool (among many others) to stimulate demand
through the general increase of ambition. In this sense, for example, the NMM would lead
to an increase in the need for permission and / or emission credits through a narrowing of
the emission thresholds.
We have shown that in principle, the previous systems alone have not been able to
achieve long-lasting performance and therefore during the COP in Durban, aside from the
reconsideration of the sentence in Bali in 2007 on the possibility of establishing "various
approaches, including opportunities to use markets [...]", the Long Term Cooperative
Action (AWG-LCA) has started a process to research other mitigative solutions to the
market (cost - efficient). This has contributed to the development of new instruments or
market mechanisms that can "add" to or replace the previous ones in all countries that
request it.
The European Union, through the EU-ETS mechanism that is "experimenting" with
a renewed commitment to ambitious emission reduction targets, is the first that has
proposed and supports a possible NMM: the latter, together with our current market
mechanisms, would take part in the adoption of measures to stimulate ever more ambitious
emission reduction of GHG, and to converge towards a single global carbon market in
which the countries in the developing world and those who do not participate in Kyoto
can seek to restrict their emissions of greenhouse gases.
There were two main contributing factors. The first stems from the desire to reach an
ambitious global carbon market where all economies including those in the developing
world are subject to emission limits. In addition to contributing, through a cost-effective
market mechanism, to assist developed countries undergoing the second phase of Kyoto,
the New Market Mechanism would help to increase the low performance of the flexible
mechanisms of Kyoto. The second factor comes from the need to solve the problems
encountered by the flexible mechanisms and the additional problems in the functioning of
the carbon market. Many analysts believe that the effectiveness of this new mechanism
will depend on solely and exclusively on the experience acquired through the flexible
mechanisms analyzed. Indeed, the basic idea here is to create a mechanism that acts as the

134
intermediate state and allows for the transition from a flexible type of crediting system
towards a more ambitious approach (mandatory cap and trade) within a developing
economy, therefore scale up the carbon market through a sectoral crediting or trading
approach. Indeed, through this way, the system could be able to limit some of these defects
such as high transaction costs of firms and the environmental integrity limits.
Although the NMM does not yet have a well-defined role and design, the role can be
defined by the guiding principles, as established during several successive COPs
Conferences after Durban, while the design is essentially left to the parties or to the states
that should implement it. Moreover, a market mechanism with similar prerogatives must
necessarily be technically efficient and politically feasible. And these two criteria, along
with the rest of these principles must be specifically set according to the countries that
will have to implement it. The thesis suggests treating them before making any
assumptions about any possible implementation.
Based on some empirical research supported by the intervention of expert
personalities, the thesis identifies the most likely causes of the obstacles to the realization
of a NMM and at the same time shows how that the latter may play a role in limiting the
opportunities of the mechanism. Several actions and suggestions were listed for a practical
implementation of the system, as a partial solution to the complexities found.
Further study is steel needed to verify in detail the possible forms of design for the
mechanism and begin the launching of programs to test the NMM in different economies.
These projects will require a considerable financial effort from the whole community. It
is therefore very useful to develop grant projects such as the PMR (Partnership Market
Readiness) that allows for initial funding of pilot projects to test the NMM.

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 __________________________________________
Sitography

http://www.climatestrategies.org/

http://ideas.repec.org/

http://unfccc.int/2860.php/

http://www.cdmpipeline.org/

http://www.robertstavinsblog.org/

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http://www.thepmr.org/

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__________________________________________
ANNEX

A-ITypes of governance for crediting mechanisms (Sterk & Mersmann, 2012)

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 A-IISuitability of sectors for New Market Mechanism (Castro P. et al., 2012)

Criteria, indicators and data sources for the country assessment(Castro P. et al.,
2012)

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 Top-ten non-Annex I countries for each assessment criterion (Castro P. et al., 2012)

A-IIIRequirements for Policy-Driven schemes and Credits-driven (Installation-

Level Carbon Trading) (Sterk & Mersmann, 2012)

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A-IV Data and information typically required for setting crediting baselines (Sterk
& Mersmann, 2012)

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 _______________________________________
Aknowledgements

Desidero profondamente ringraziare il Prof. Simone Borghesi per questa proposta di

tesi e per l'aiuto dimostratomi nel corso di questi mesi. Desidero inoltre ringraziare il Dr.
Sebastiano Cupertino per gli importanti consigli che ha saputo darmi per affrontare questo
tipo di progetto di ricerca. Vorrei anche ringraziare il mio compagno di studi Alessio per
la condivisione del materiale di studio e gli scambi di idee che abbiamo potuto trarre dalle
nostre ricerche. Un importante contributo mi stato fornito da Fiamma Romano per le
dritte iniziali ricevute che ringrazio di cuore. Grazie infine a Cecilia per l'importantissimo
contributo alla mia volenterosa ma scarsa scrittura in lingua inglese che ha saputo
decisamente migliorare.
Grazie a Consuelo e Sara per essere state le mie migliori compagne universitarie di
Siena con cui ho condiviso gran parte delle nostre sofferenze e soddisfazioni che mi hanno
aiutato a crescere (spero) per diventare quello che sono oggi.
Grazie ai miei genitori, che mi hanno saputo aiutare nei momenti di difficolt
sapendomi trasmettere voglia di andare avanti sempre. Non so proprio come avrei potuto
fare senza della vostra presenza, di come vi siete presi cura di me e di come mi avete
sopportato in questi mesi.
Ringrazio mio fratello perch seppur cos lontano (ormai Berlinese doc.) ha saputo
infondermi consigli di vita, che continua a fare naturalmente. Grazie Bro ti voglio bene.
:)
A Pippo, la mia adorabile creatura a cui sono troppo affezionato e che mi fa sorridere
ogni volta che la vedo in casa.
Ringrazio il resto della mia famiglia, nonni per primi, a cui voglio molto bene per
tutte le volte che ci incontriamo. Una menzione d'onore va a Clio, la nuova benvenuta
della famiglia. Sono davvero felice con voi.
Grazie a Gordon, Davis, Brandon, Nino e gli altri ragazzi americani. Senza il vostro
aiuto la tesi sarebbe stata senza dubbio pi difficile. Grazie in particolare a Davis e Gordon

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per avermi consigliato autori americani importantissimi nel panorama dell'economia
ambientale. Grazie a Nino e Brandon per i preziosi aiuti con l'inglese. :)
Ringrazio Sofia per avermi accompagnato in questo importante momento. Ti voglio
bene.
Ringrazio Omar, fratello senza di te come farei? Ringrazio Mario, compagno
insostituibile di studio e di follie. Continuer a passare dal CdSraga, non temete... se non
ci sono, sono con voi con il pensiero e col cuore.
Ringrazio Inzi, la mia piccola Inzi che ha saputo sempre e dico sempre darmi i giusti
consigli pesati tra causa e effetto :) Sei unica per me, senza di te alcuni momenti avrei
davvero abbandonato.
Grazie a Vale, vecchia Vage ci si becca in Austry prima o poi. Ti insegno a scalare :).
Ti voglio bene e non vedo l'ora di vederti.
Grazie a Betta (mitica Betta compagna di feste), Ema, Cosimo, Ricca, Pier (Dude
voglio venire a Parigi prima possibile), Chiara e Debbi ( vi voglio tanto bene), Edisa,
Luchi (grande Luchino ti aspetto) ecc ecc... Se mi sono dimenticato dei nomi non ve la
prendete, fa parte della mia indole vero Mario?
Ringrazio Mariangela e Andrea per avermi fatto passare momenti indimenticabili di
tirocinio. Siete e sarete sempre compagni di qualcosa (non importa cosa) ;)
Naturalmente ringrazio tutte le biblioteche fiorentine e senesi per avermi dato modo
di studiare e di fare ricerca e dentro cui ho lasciato lacrime e gioie.

Dopo tutta questa lettera di ringraziamenti, dovete sapere che ho il sorriso in faccia e
che sono in Spagna a Siviglia con i miei nuovi companeros de piso.... De puta madre!! :)
Grazie a tutti quelli che non ho avuto modo di ringraziare.

Siete tutti parte di me e lo sarete per sempre.

Siviglia, ottobre 2014

Dedicato a mia madre
Michele

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