Designing Effective Regulation for Carbon Markets at the International, National, and Subnational Levels

How can we design effective regulation for carbon markets worldwide?

Project Summary

Government regulation created carbon markets. How can one prevent the occurrence of market abuses in this context? Given that carbon market creators possess ample information able to assist with market monitoring, this project aims to investigate past carbon market abuses, to identify the gaps in oversight frameworks that led to those abuses, and to create new rules and principles for carbon market regulation effective on all levels.

The research questions guiding this project are as follows:

  • What principles and rules should guide an effective and feasible multi‐level carbon market regulatory oversight?
  • What were the risks of market abuse in the past, how can they be detected, and what are the potential future risks?
  • To what extent are existing market regulations and enforcement practices addressing the risks identified?
  • How can cooperation be achieved for effective carbon market regulation and oversight at an international level?
  • What are the requirements for a feasible and effective regulation for carbon markets at an international, national, and subnational level?

In order to address the complexity of these issues the methodology employed combines several threads. In the first phase researchers will construct an organizational typology of the markets; in a second phase primary data are categorized based on document-based content analyses in conjunction with interview-based information; in the third phase the results of the first two phases are combined.

Academic Output

Executive Summary

Carbon markets are an increasingly common policy instrument being introduced to address climate change mitigation. However, their design is crucial to ensure that they deliver cost- effective emission reductions while maintaining environmental integrity. Using a combination of literature review, legal analysis, statistical and network analysis, this project combined insights from economics, law, and political science to put together a comprehensive, principle-based overview of the risks and abuses to environmental integrity and cost effectiveness that have emerged in carbon markets at all jurisdictional levels around the world. It describes concrete examples, offers effective policy and governance solutions to overcome such risks, and provides an outlook to new risks and challenges arising from the newest developments in climate governance. Finally, it applied quantitative text analysis methods to describe and explain which countries are more likely to support more environmentally integer carbon markets in the UN negotiations on international carbon market mechanisms.

Report

Designing Effective Regulation for Carbon Markets at the International, National, and Subnational Level – The scientific report

Carbon markets are an increasingly common policy instrument being introduced to address climate change mitigation. However, their design is crucial to ensure that they deliver cost- effective emission reductions while maintaining environmental integrity. Using a combination of literature review, legal analysis, statistical and network analysis, this project combined insights from economics, law, and political science to put together a comprehensive, principle-based overview of the risks and abuses to environmental integrity and cost effectiveness that have emerged in carbon markets at all jurisdictional levels around the world. It describes concrete examples, offers effective policy and governance solutions to overcome such risks, and provides an outlook to new risks and challenges arising from the newest developments in climate governance. Finally, it applied quantitative text analysis methods to describe and explain which countries are more likely to support more environmentally integer carbon markets in the UN negotiations on international carbon market mechanisms.

Article

Additionality revisited: guarding the integrity of market mechanisms under the Paris Agreement

The Paris Agreement requires mitigation contributions from all Parties. Therefore, the determination of additionality of activities under the market mechanisms of its Article 6 will need to be revisited. This paper provides recommendations on how to operationalize additionality under Article 6. We first review generic definitions of additionality and current approaches for testing of additionality before discussing under which conditions additionality testing of specific activities or policies is still necessary under the new context of the Paris Agreement, that is, in order to prevent increases of global emissions. We argue that the possibility of ‘hot air’ generation under nationally-determined contributions (NDCs) requires an independent check of the NDC’s ambition. If the NDC of the transferring country does contain ‘hot air’, or if the transferred emission reductions are not covered by the NDC, a dedicated additionality test should be required. While additionality tests of projects and programmes could continue to be done through investment analysis, for policy instruments new approaches are required. They should be differentiated according to type of policy instrument. For regulation, we suggest calculating the resulting payback period for technology users. If the regulation generates investments exceeding a payback period threshold, it could be deemed additional. Similarly, carbon pricing policies that generate a carbon price exceeding a threshold could qualify; for trading schemes, an absence of over-allocation needs to be shown. The threshold should be differentiated according to country categories and rise over time.

Article

Evolution of international carbon markets: lessons for the Paris Agreement

The Paris Agreement will greatly benefit from the past experience with international market mechanisms for greenhouse gas (GHG) emissions reductions and related regulatory systems, which have gone through four periods with specific challenges. The first period 1997–2004 operationalized the mechanisms defined in the Kyoto Protocol, the Clean Development Mechanism (CDM) and Joint Implementation (JI). Pilot activities in different sectors were undertaken by the public sector, and the first baseline and monitoring methodologies officially approved. Between 2005 and 2011, the carbon markets expanded massively. The EU emission trading scheme (EU ETS) was linked to the Kyoto mechanisms, creating demand for carbon credits from the private sector. During this “gold rush” period criticism emerged with regarding the uneven geographical distribution of projects, as well as environmental integrity problems related to baselines and additionality. The next period saw a collapse in carbon prices between 2012 and 2014, limiting the development of new projects. The quantitative limits on the use of offsets in the EU ETS were reached and the failure to agree on a new international regime resulted in a drying up of demand from governments. The 2015–2018 period is characterized by a gradual stabilization of the international climate regime. The Paris Agreement adopted in 2015 increases complexity through global participation in mitigation. Future carbon markets will therefore face both old challenges—supply-demand balance, environmental integrity, transaction costs—and new ones—interactions with other policies and national targets, and sectoral/policy baselines and additionality checks preventing hot air proliferation.

Article

Carbon Markets in a Net-Zero World – A Policy Brief

Carbon markets are an increasingly common policy instrument to incentivize greenhouse gas (GHG) emission reductions from industrial installations and other sources in a cost-effective way. Over 50 different carbon markets function around the world, and several more are planned (World Bank 2021). Many more countries have noted their intention to use international carbon markets to help them meet their mitigation targets under the 2015 Paris Agreement.

Working Paper

The Future of Offsetting Carbon Emissions in the Aviation Industry

Without any doubt, the CORSIA targets are set below the original EU ETS targets. Compared to the original EU ETS approach, the baseline set by CORSIA is not very ambitious; consequently, the targets are more focused on stabilising and not reducing emissions. However, CORSIA is international and it is up to national regulators how the enforcement practices under CORSIA will develop. According to the proposal of the European Commission flights within the European Economic Area (EEA) continue to be covered by the EU ETS and the number of free allowances allocated to aircraft operators will be reduced progressively to reach full auctioning by 2027. In parallel, CORSIA will be implemented for extra‐European flights.

Working Paper

Governing Cooperative Approaches under the Paris Agreement

Parties to the Paris Agreement can engage in voluntary cooperation and use internationally transferred mitigation outcomes towards their national climate pledges. Doing so promises to lower the cost of achieving agreed climate objectives, which allows countries to increase their mitigation efforts with given resources. Lower costs do not automatically translate into greater climate ambition, however: Transfers that involve questionable mitigation outcomes can effectively increase overall emissions, affirming the need for a sound regulatory framework. As Parties negotiate guidance on the implementation of cooperative approaches under the Paris Agreement, they must consider governance options to secure environmental integrity and address the question of overall climate ambition. But country views are far apart on central questions. Of all the issues under negotiation to operationalize the Paris Agreement, cooperative approaches are the only agenda item still under debate. Drawing on an analytical framework that incorporates economic theory, deliberative jurisprudence, practical case studies, and treaty interpretation, this Article maps central positions of actors in the negotiations and evaluates relevant options included in recent textual proposals. It concludes with a set of recommendations on how operational guidance can balance necessary safeguards for climate ambition with flexibility to contain transaction costs and allow for greater participation.

Working Paper

Towards net zero: Dynamic baselines for international market mechanisms

Baselines for international carbon markets have to date been specified in form of GHG intensity factors and linked to business-as-usual developments. This means that with increasing production of goods and services through carbon market activities, absolute baseline emissions increase or fall only slowly. This generates a large ‘emissions gap’ to the emissions pathway necessary to reach the long-term target of the Paris Agreement. In contrast to these ‘traditional’ baseline setting approaches, baselines can also be ‘dynamic’. This paper focuses on one option of dynamic baselines meaning that they change over time on the basis of observable pre-determined parameters. In this context, we propose to calculate baselines by applying an ‘ambition coefficient’ to emissions intensities of business- as-usual technologies. The coefficient would decrease over time and reach zero when a country needs to reach net zero emissions. Due to the principle of common but differentiated responsibilities, this coefficient would fall more quickly for rich than for poor countries. The latter would still be able to generate emission reduction credits well beyond 2050, while for the former this would stop around 2035. Such an approach would generate certainty for carbon market investors. Only a dynamic baseline approach is able to ensure a continued role for carbon markets as it generated trust that the markets will operate in line with the long- term ambition of the international climate policy regime.

Other Output

Policy Brief : Preventing Carbon Market Abuse Through Effective Governance

Carbon markets are artificially created by policy. For this reason, regulators have an additional responsibility for making sure that these markets work as intended and are not abused for personal gain.

Research Team

Regina Betz
Coordinator
Zurich University of Applied Sciences ZHAW

Katharina Michaelowa
Co-Coordinator
University of Zurich

Andrea Baranzini
Principal Member
Haute école de gestion, Geneva

Rainer Baisch
Principal Member
University of Zurich

Paula Castro
Principal Member
University of Zurich

Axel Michaelowa
Principal Member
University of Zurich

Raphaela Kotsch
Principal Member
Zurich University of Applied Sciences ZHAW

Peter Schwendner
Principal Member
Zurich University of Applied Sciences

Michael Mehling
Associated Member
Massachusetts Institute of Technology

Rolf H. Weber
Associated Member
University of Zurich

Karolina Sobecka
Associated Member
Hochschule für Gestaltung und Kunst FHNW

Souraya Hamad
Associated Member
Zurich University of Applied Sciences ZHAW

Status

completed

Disciplines

SDGs

Policy domains

Regions

Countries

All countries

Host Institution

Coordinator

Year