Growing pressure on countries to address climate change has given rise to a multimillion dollar international market for buying and selling emissions of greenhouse gases.
Under the Kyoto Protocol, which came into force in February 2005, industrialized countries agreed to collectively reduce emissions of greenhouse gases by 5% by 2012 compared with 1990 levels. They can do so by investing in cleaner technologies at home, trading in emission rights, or buying carbon credits from projects in developing countries such as India.
Carbon credits are thus bought and sold in an international carbon market—much like any other commodity.
Ever since it was established in 2001, the carbon market has captured the imagination of Indian entrepreneurs. The majority of projects that have sold carbon credits so far include renewable energy (such as wind power, biomass cogeneration and hydropower), energy efficiency measures in several sectors (such as cement, petrochemicals and power generation) as well as the reduction of industrial gases that contribute to climate change.
Already, the carbon market is the fastest growing market in the world. Between 2003 and 2004, the volume of carbon credits sold by developing countries doubled, and then tripled between 2004 and 2005. In 2006 alone, carbon transactions worth $30 billion (Rs1.19 trillion) were conducted globally, transferring some $5 billion from the countries of the global north to the global south.
Of the total number of carbon contracts signed in the world so far, India has the second largest portfolio with a market share of 12%, behind China, which had a market share of 61%.
Tip of the iceberg
This, however, is just the tip of the proverbial iceberg. The Kyoto Protocol expires in 2012, and international talks have already begun to decide the shape of a new treaty that will succeed it.
After 2012, the carbon market is expected to expand exponentially. Some say that it could grow to $200 billion annually, with up to half of that amount being transferred from the developed to the developing world. If that happens, the capital flows from the carbon market would be on par with levels of official development assistance.
For India to cash in on the enormous potential of the carbon market, the government needs to devise a strategy to realize the full potential and address current market failures. So far, the benefits of the carbon market in India have been availed of largely by small and medium enterprises (SMEs), while public sector units (PSUs) have largely stayed away, in large part due to lack of knowledge.
However, for India to get the maximum benefit from the carbon market, the country needs to build the capacity of its PSUs to avail of carbon finance. This can be done by systematically screening massive infrastructure and urban development projects to see if they are eligible for carbon finance. In many cases, domestic agencies will have to take the lead to develop projects and obtain approval from the international regulator—the executive board of the Clean Development Mechanism.
For instance, there needs to be a pilot project to demonstrate how the carbon market can catalyse investments in renewable energy to bring energy access to the 400 million poor in India’s rural areas.
It is also difficult for sellers of carbon credits to know how to access buyers from industrialized countries, as the majority of transactions are done on a bilateral basis.
Although there is an interest from many players in India to launch a carbon trading platform—which would enable sellers to obtain bids on their carbon credits through public trading, much like the stock market—they have been unable to do so due to lack of regulatory clarity.
India should also consider the creation of a carbon fund aimed at accelerating the capacity to develop carbon finance opportunities, along the lines of the China Clean Development Mechanism Fund.
Private sector role
The private sector has a significant role to play as well. Many of the Indian projects are disadvantaged because each generates a small quantity of carbon credits. A carbon buyer interested in purchasing a large volume can often purchase the required amount from one single project in China. As the carbon market in India is currently driven by SMEs, the same quantity of carbon credits would have to be purchased from 10 or more projects.
Hence, the private sector needs to build its expertise to club small projects together in order to improve their market access.
However, the growth of the carbon market will largely depend on the realization that the carbon market can assist India in achieving a low carbon growth, and developing a strategy to maximize this opportunity.
The author was recently appointed team leader, environment and water resources management at the World Bank’s New Delhi office.
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