The Fools Gold of Carbon Trading

The Sunday Times
November 30, 2008

A huge new market designed to solve global warming seems doomed to failure
Jonathan Leake
It was a deal to make Alistair Darling hug himself with glee. Just as the world’s existing financial markets were hitting a five-year low two weeks ago, the Treasury raked in a cool £54m from a brand new one. The occasion was Britain’s first auction of CO2 permits. Almost 4m were knocked down to greenhouse gas emitters in a sale that was four times oversubscribed. The government expects to sell 80m more over the next four years, raising a further £1 billion.

The plan, at first glance, seems simplicity itself: by charging companies for the , the government hopes to encourage them to switch to cleaner andright to emit CO2 greener technologies. It is the latest development in a global campaign to save the planet by making polluters pay.

We are witnessing the birth of the greatest and most complex commodity market the world has seen. Last year alone, permits worth more than £55 billion were traded on the world’s carbon markets – but future trading volumes, if all goes global according to plan, will dwarf these.

Carbon trading schemes originate from the Kyoto protocol on climate change agreed under the auspices of the United Nations in 1997. Governments adhering to Kyoto accept limits on the CO2 their countries can emit. To meet their pledges, they put caps on the carbon outputs of domestic companies, which have to buy annual permits to exceed them.

Permits are bought from governments or from carbon traders, who, naturally, charge a commission. For the City the arrival of carbon trading is a bonanza. The sector already employs about 3,000 people and has created a few dozen new millionaires.

Several such schemes are up and running around the world: Europe’s Emissions Trading Scheme, founded in 2005, is the biggest, but others are following in Australia, the US and even China.

It sounds good news for everyone: governments, taxpayers, City boys and the environment. The reality is a great deal less rosy – indeed some of those closest to the carbon markets say openly that the system is doomed to failure.

Many carbon traders believe they could make the system work but fear the politicians who oversee it will never dare put a sufficiently high price on carbon emissions to make a difference.

Those millions collected by the Treasury, for example, came mainly from UK power companies, and the cost will be added directly to our bills, as will the cost of annual CO2 permits in future. More worrying still, carbon trading shows no sign of achieving its purpose: CO2 emissions have increased, not slackened, since the first trading schemes. What, then, is the point? Good question, particularly for the 10,000 politicians, policy-makers and civil servants arriving this week in Poznan, Poland, for the latest round of global climate negotiations. They will consider a proposal to make carbon trading one of the world’s main tools for cutting greenhouse gas emissions after the Kyoto protocol expires in 2012.

The incongruity of proposing that a brand new financial market might be able to save the world – when faith in every other kind of financial market is tumbling – needs no underlining. But there are plenty of other reasons for scepticism, too.

Jim Hansen, director of the Nasa God-dard space centre and a renowned critic of global measures to combat climate change, believes carbon trading is a “terrible” approach. “Carbon trading does not solve the emission problem at all,” he says. “In fact it gives industries a way to avoid reducing their emissions. The rules are too complex and it creates an entirely new class of lobbyists and fat cats.”

Even some of those involved in setting up the carbon markets fear they will fail in their principal aim of cutting carbon emissions. Liz Bossley of CEAG, a City consultant in carbon trading, may have helped the fledgling system to grow from nothing into a big business but she is frank about its limitations. “The fatal flaw is . . . the politicians, because they set the cap which determines the supply of CO2 credits,” she says.

“The problem is that making those caps tough enough to achieve real cuts in CO2 emissions would have all kinds of political consequences. The chances of any politician taking such a decision are negligible.” What Bossley means is that consumers – voters – have to foot the bill when the cost of permits turns up in domestic energy prices.

British consumers are already paying about £60 extra each year on their gas and electricity bills to support renewable energy. Will they take more of this medicine in the middle of the worst recession for dec-ades? Nervous politicians remember the backlash in 2000 when angry lorry drivers almost brought the country to a standstill over the fuel accelerator tax.

There’s more. Under the 1997 Kyoto deal the main 37 industrialised nations (but not America) agreed that one of the ways they could cut emissions was by financing “clean development” projects in the developing world.

The idea is certainly appealing: if a company is emitting too much CO2 it can either make cuts or pay other companies to cut their emissions instead. If it turns out to be cheaper to pay someone in China to plant a forest to absorb carbon dioxide, or a factory in India to install clean technology to cut its emissions of greenhouse gases, then this is allowed, provided the project has been approved under the UN framework convention on climate change. For each tonne of CO2 saved, the convention issues a certified emission reduction certificate, or CER. These are valuable: indeed, they are the nearest thing to currency that the carbon markets acknowledge. Each one is worth about £14.
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The original plan was to create a system for transferring wealth from developed countries such as Britain and America to the Third World, hence killing two birds with one stone: cutting emissions and helping international development.

It certainly sounded good – but the reality is the most complex trading system the world has known.

The complexity naturally means the system is open to abuse. Last year The Sunday Times revealed how SRF, an Indian company that produces refrigeration gases at a sprawling chemical plant in Rajasthan, stood to make £300m from selling certificates to overseas companies including Shell and Barclays. The Indian company had spent just £1.4m on equipment to reduce its emissions – and was using the profit to expand production of another greenhouse gas, a thousand times more . Other manufacturers damaging than CO2 in India and China producing similar products are expected to earn an estimated £3.3 billion over the next six years by cutting emissions at a cost of just £67m.

Internal papers leaked from the UN show that such problems arose because the system for checking companies involved in emissions reductions schemes was seriously flawed. One official estimated that up to 20% of the carbon credits issued did not represent genuine reductions in greenhouse gas emissions. This meant that the real effect of the system had been to increase the amount of greenhouse gas in the atmosphere.

Nor is this all. One of the unintended consequences of the carbon trading system is a potentially huge – and massively destabilising – transfer of money and influence from the industrialised West to Russia. This is because when the Kremlin signed up to the Kyoto treaty it was given an annual emissions limit based on the horrors pumped out by filthy old Soviet industries back in 1990. Since then Russia’s industrial base has contracted so drastic-ally that it uses only a fraction of its allowances. One recent analyst’s report found that Russia has accumulated emissions permits worth about four billion tonnes of CO2. The report warned: “Russia must be singled out as a potential threat to the ability of the market to produce a meaning-ful carbon price.”

There is of course another huge incongruity in Russia, one of the world’s biggest suppliers of coal, gas and oil, also in effect having control of the system for reducing emissions from these fossil fuels. It means that the West could end up paying the Russians for fuel – and then paying them again for the right to burn it.

Undeterred by these fundamental flaws, the UN is planning many more CER schemes. About 4,000 are awaiting approval, including plans for capturing methane from Indian chicken farms, Filipino pig farms and Thai coal mines. Other schemes propose destroying industrial gases at factories in China and India and cutting CO2 emissions by building wind farms in Mon-golia. One of the ideas under discussion in Poznan could result in European industry paying millions of pounds to landowners in Brazil and Indonesia not to cut down their rainforests.

It is easy to mock such schemes but the mockery hides from view the really big question, and the one that is hardest to answer: are the emerging carbon markets capable of making a significant dent in the world’s surging carbon emissions?

Lord May, a former government chief scientist, is now an influential member of the British government’s climate change committee, whose inaugural report (Building a Low-Carbon Economy – the UK’s Contribution to Tackling Climate Change) will be published tomorrow.

The report will include a full scientific and economic analysis of how Britain can achieve its target of cutting emissions by 80% by 2050, including specific reduction targets for each of the UK’s first three five-year “carbon budget” periods. Although the report will support carbon trading as a possible means of reducing emissions, May has warned that the system risks creating a false sense of security.

Speaking at the Royal Society last month, he said: “The [inclusion of] these fiscal instruments could give the misleading impression that they can deliver real emissions reductions. Sooner or later, people are going to have to realise that, in climate change, we now face something far worse than world war two.”

Some of his fellow scientists even warn that governments may soon have to accept that combating climate change is becoming incompatible with economic growth. A recent peer-reviewed paper from the Tyndall Centre for Climate Change Research, the government’s leading academic research centre for global warming, warned: “Unless economic growth can be reconciled with unprecedented rates of decarbonisation, it is difficult to foresee anything other than a planned economic recession being compatible with stabilising the climate.”

At the Royal Society, Professor Kevin Anderson, director of the Tyndall Centre, spelt it out: “The target set for the climate talks was to keep global temperature rises below 2C. At the moment, however, the level of emissions is rising so fast that we are heading for a world that is 4-5C warmer than now by 2100. That would be catastrophic for the environment and for humanity.”

In other words, if the scientists are right, all our efforts to fight off the recession are wrongheaded. We should be embracing it. So where does this leave the world leaders and their Sherpas, heading for Poznan with their hopes set on trading our way out of the abyss? Anderson’s answer is a shrug.

“Carbon trading may have been the answer once but not any more,” he says. “It will just take too long to achieve anything, and we no longer have the luxury of time.”

Stinking rich

For clever City boys, carbon markets are a marvellous way of turning muck into brass. Daniel Co, a Filipino pig farmer, used to shovel the dung from his 10,000 animals into ponds on his Uni-Rich Agro Industrial farm. The manure generated thousands of tons of methane, a global warming gas, but Co did not want to spend £110,000 on kit to trap the gas.

Then EcoSecurities, a British carbon trading firm, worked out that anything that captured the methane would entitle the farmer annually to nearly 3,000 “certified emission reductions” – the nearest thing to a carbon trading currency.

EcoSecurities did the paperwork for Co and gave him just over £2 per certificate. He put in the methane-capture kit, generating power and saving about £24,000 a year in utility bills. EcoSecurities sells the CERs for about £10 each to a French bank, which sells them on to power plants that need to offset emissions. The consumer pays through higher bills. A nice little earner for everyone except the poor mugs (us) at the end of the chain – but can it save the planet?