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The Global Context
What is the international legal and regulatory framework for the Carbon Finance Business?
In June 1992, over 180 countries at the "Earth Summit" in Rio de Janeiro adopted the United Nations Convention on Climate Change (UNFCCC), a legal framework that enables Parties to the Convention to start the process of stabilizing greenhouse gases (GHG) like carbon dioxide, in the atmosphere. The Kyoto Protocol adopted under the UNFCCC in December 1997, commits industrialized country signatories (called "Annex I" countries) to reduce their greenhouse gas (or "carbon") emissions by an average of 5.2 percent compared with 1990 emissions, in the period 2008-2012. Under the Kyoto Protocol, Annex I countries may achieve these reductions either domestically or supplementing their domestic efforts through three international market-based mechanisms:
- Joint Implementation (JI), or purchasing greenhouse gas emission reductions from projects in other Annex I countries (generally, economies in transition);
- Clean Development Mechanism (CDM), or purchasing ERs from projects in developing countries; and
- Emissions trading among Annex I, (industrialized) countries.
The Parties to the UNFCCC have held a series of annual Conferences to develop the "rules of the game" for the Kyoto Protocol. At their Seventh Conference (October/November 2001 in Marrakesh), the Parties agreed on the main elements of the regulatory framework for the implementation of the Kyoto Protocol, particularly the market-based mechanisms, although a number of important practical details remain to be worked out. On the basis of the "Marrakesh Accords", and despite the withdrawal of US support, the Kyoto Protocol may enter into force before the end of 2003, if Russia ratifies it .
Whether or not the Kyoto Protocol enters into force in the near future, the European Union has engaged itself to meet its commitment to reduce greenhouse gases, having initiated an Emissions Trading Scheme which is scheduled to take effect in 2005, and which other OECD countries may join. Canada and Japan have also publicly stated their commitment to meeting their obligations under the Kyoto Protocol, regardless of the timing of its entry into force.
What are the World Bank strategic objectives in the Carbon Finance Business?
Please see the About CF webpage.
What has been the role of the World Bank in the carbon market?
The World Bank Group has played a pioneering role in developing the market for greenhouse gas emission reductions through the Prototype Carbon Fund (PCF) and Netherlands Clean Development Mechanism Facility (NCDMF), which purchases greenhouse gas emission reduction credits from projects in developing countries.
Through its work the Bank has identified weaknesses in the emerging carbon market and has already taken several initiatives to rectify constraints affecting the ability of its borrowing country clients to benefit from the emerging global market, and to strengthen implementation and ensure the long-term viability of the Kyoto Protocol.
The private sector has avoided developing countries and economies in transition as places to acquire emission reduction credits to fulfill their commitments under OECD emissions trading regimes. The World Bank's carbon finance products are helping to catalyze this market by extending carbon finance to both developing countries and economies in transition—linking buyers of carbon credits with climate-friendly projects seeking financing. The Bank is actively engaged in expanding these opportunities in discussions with other potential OECD carbon buyers—both public and private.
Most developing countries can only deliver small projects. The high transaction costs and high risks involved in delivering carbon from these projects means that most of the smaller and poorer of the Bank's client countries will be unable to benefit from carbon finance as a catalyst for investment in clean technologies. The Bank established the Community Development Carbon Fund (CDCF) intended to mitigate risks and minimize transaction costs by developing diversified portfolios of projects across the developing world, by using local intermediaries for small projects in local communities in the poorest countries, and by bundling projects, thereby lowering transaction costs.
The market is currently bypassing opportunities to generate emission reduction credits by removing carbon dioxide from the atmosphere through sustainable land management, agriculture, and forestry. The BioCarbon Fund (BioCF) is being established to provide an opportunity to channel private capital to rural poverty reduction and sustainable natural resource use in the poorest areas of the world.
Lack of Host Country capacity, which leaves these countries at risk of being bypassed totally by carbon finance and the potential investment and clean energy technologies it would bring. The Bank has supported Host Country capacity building through the National Strategy Studies (NSS) program and by organizing upstream consultations for specific projects, including services of independent brokers and lawyers, to prepare national counterparts for negotiations that lead to the sale of emission reductions. The Bank is now consolidating host-country capacity-building efforts through its Carbon Finance-Assist (CF-Assist) program and through training provided by the World Bank Institute. To help address the financing gap, the Bank is developing an outreach program to financial institutions capable of investing in projects on the basis of Emission Reduction (ER) revenue streams.
What are the objectives of the different Carbon Finance funds and facilities?
The Prototype Carbon Fund (PCF) has three strategic objectives:
- It will demonstrate how project-based emission reductions (ERs) transactions can promote sustainable development in the World Bank's borrowing member countries;
- The Fund is designed to provide Parties to the UNFCCC and other interested parties with an opportunity to "learn-by-doing" while the guidelines of the Kyoto Protocol and the modalities for JI and the CDM are fully developed; and
- The PCF intends to demonstrate how the World Bank can work in partnership with the public and private sector to mobilize new resources for its borrowing member countries while addressing global environmental concerns.
The Netherlands Clean Development Mechanism Facility (NCDMF) has also three strategic objectives:
- To provide resources for projects, which are intended to cost-effectively generate emission reductions for the Netherlands;
- To endeavor to effect an equitable sharing between the Government of the Netherlands Ministry of Housing, Spatial Planning and the Environment (VROM) and the Host Countries, of any other benefits arising from projects; and
- In the course of the foregoing, contribute to the sustainable development of Host Countries.
The Community Development Carbon Fund (CDCF):
- Purchase and facilitate the generation of high-quality greenhouse gas ERs from small-scale projects which also reduce poverty and improve the quality of life of local communities in poorer countries;
- Help build a market for these ERs, thereby expanding the reach of carbon finance and CDM to developing countries that may otherwise be excluded from their benefits;
- Provide funds for projects that are likely to be recognized under Article 12 of the Kyoto Protocol as well as other emerging mandatory and voluntary greenhouse gas markets; and
- Leverage private capital flows for sustainable development; and offer relevant information to the Parties to the United Nations Framework Convention on Climate Change (UNFCCC) and other interested parties engaged in the implementation and further development of the CDM.
The BioCarbon Fund:
- Generate cost-effective ERs across a wide range of agriculture, forest and other land-use activities;
- Extend carbon finance to credible carbon conservation and sequestration activities in the agriculture and forestry sectors;
- Foster "learning-by-doing" via a public-private initiative that explores the policy, technical and methodological issues related to credible carbon conservation and sequestration activities in the agricultural and forestry sectors;
- Offer relevant information and support to the UNFCCC Parties as they finalize the rules governing LULUCF activities; and
- Demonstrate that carbon finance can support the objectives of the UN Convention on Biological Diversity, the UN Convention to Combat Desertification, and other relevant international initiatives and treaties.
What are the eligibility criteria for the different CFB funds and facilities?
In general terms, to be eligible for carbon finance support, projects must:
- Comply with all international rules and procedures governing and associated with the mechanisms established under the Kyoto Protocol;
- Be consistent with all relevant national criteria;
- Comply with the operational policies and procedures of the World Bank Group, including Safeguard Policies;
- Be consistent with the World Bank's Country Assistance Strategy;
- Provide national and local environmental benefits;
- Improve the quality of life of the poor through the enhancement of independently certifiable benefits on local livelihoods;
- Be consistent with general strategic directions and advice provided by the Participants; and
- Comply with the CFB's Strategic Objectives and Operating Principles.
Particular criteria for the different funds and facilities are indicated below:
The Prototype Carbon Fund
The PCF evaluates and selects project ideas based on established PCF project selection criteria and based on project size, costs and timing of carbon emission reductions. Other important considerations for PCF projects include acceptability of the ERs under the UNFCCC/Kyoto Protocol regime, endorsement of the project by the Host Country, environmental and social acceptability of the project, and capacity of the project sponsor and/or operator to deliver ERs.
The Netherlands Clean Development Mechanism Facility
Cost-effectiveness and sustainability play a major role in selection and approval of projects. Projects are drawn from a broad range of technologies and processes in energy, industry, and transport, which provide various vehicles for generating ERs, while contributing to sustainable development and achieving transfer of cleaner and more efficient technology to Host Countries. The NCDMF aims for projects with a mix of technologies in the following descending order: (i) renewable energy technology, such as geothermal, wind, solar, and small-scale hydro-power; (ii) clean, sustainably grown biomass (no waste); (iii) energy efficiency improvement; (iv) fossil fuel switch and methane recovery; and (v) sequestration.
The Community Development Carbon Fund
- CDCF projects will be located exclusively in developing countries that are Parties to the UNFCCC and are not included in its Annex I (non-Annex I Parties); no more than 10 percent of the contributions of the CDCF capital will be committed to projects located in the same country;
- The Fund will place a minimum of 25 percent of the CDCF capital into eligible projects located in Least Developed Countries (LDCs) and other poor developing countries;
- The CDCF may also support small-scale projects in countries other than LDCs and other poor developing countries, provided these projects will provide direct independently certifiable benefits to the poorer communities of those countries; and
- Preference will be given to projects that are compatible with the definition of "small-scale CDM project activities."
The BioCarbon Fund
The Fund will contribute to the following types of activities: sequestration, which enhances the capture of carbon or nitrogen in biomass; and conservation, which prevents or reduces the release of carbon (as methane or carbon dioxide) or nitrogen already fixed. Many projects would likely combine sequestration and conservation. Particular activities across the two windows may include the following:
- Afforestation and reforestation (including forest ecosystem restoration) in landscape mosaics;
- Agroforestry;
- Restoration or conservation forestry (connecting fragments and corridors);
- Agricultural management practices (e.g., reduced till);
- Grazing land management (dryland, large areas);
- Forest management (including reduced-impact logging, ecologically friendly thinning, fire prevention and suppression, etc.);
- Land degradation prevention; and
- Watershed management.
The Carbon Finance Business Principles and Business Models
Which principles business models and procedures does the Carbon Finance Business use?
The CFB business builds first on the UNFCCC, in particular the CDM and JI articles of the Kyoto Protocol and the related guidelines and modalities as these become known. This includes concern for sustainable development and access of developing countries to the CDM. Second, the CFB builds on the World Bank's experience with energy, environmental and development projects, e.g. through the Bank's GEF portfolio. Since the World Bank is the funds trustee and as per agreement with Participants, the CFB applies World Bank standards and safeguards to all projects and to the CFB relationship with Bank client countries. In particular, CFB takes the concern for fairness in the GHG market seriously and makes every effort to create a level playing field for the development and negotiation of CDM and JI projects. The CFB strives to be an 'honest broker' in the emerging and yet uncertain and fragile market. Participants and the World Bank believe that the carbon market can only be developed on the basis of a partnership with a broad knowledge sharing.
Beyond the above principles and based on them, the CFB develops business models and procedures for implementing its own project pipeline and for use by the nascent CDM and JI market. Developing these models and procedures is a discovery process. The CFB therefore strives for a rich experience and is not bound to one model or set of procedures, but experiments with a variety of models and continuously improves on them based on lessons learned and in partnership with Participants and Host Countries. The CFB should therefore not be expected to have a uniform approach to a CDM or JI project, but tries to ensure consistency across its project portfolio.
The CFB develops a variety of approaches to establishing baselines and additionality of projects and ERs. The baseline study and monitoring and verification protocols can be used as models for similar cases. The CFB has developed an approach to validation, monitoring and verification of project and ERs, and adjusts these models to specific project contexts. A Preliminary Validation Protocol has been developed as guidance for validators and is available on the PCF website along with other operational documents.
The CFB legal team develops model contracts for CFB projects, in particular an Emission Reduction Purchase Agreement with the project owner and a Host Country Agreement.
For communicating with its constituents, including Host Country Government representatives, Participants, the public, and other stakeholders, the CFB uses its website, carbonfinance.org, as a repository and resource of all information on business models and procedures, legal and operational documents, and day to day information.
How does the CFB involve the private sector?
The involvement of the private sector in CFB deals is critically important not just for CFB activities but for the development of the JI/CDM frame as a whole. Most CFB shareholders are private sector companies who, supported by government Participants, would like to work with the private sector in Host Countries.
The CFB is therefore actively looking for and promoting projects with the private sector and would like to negotiate ER Purchase Agreements with those businesses always in line with a Host Country Agreement negotiated with the respective government. Moreover, the CFB considers a partnership between the private sector and the Host Country government essential for a successful project and for the successful participation of the respective country in the GHG market.
Whereas the importance of involving the Private Sector in Host Countries is recognized, there are some "natural" hurdles that do not facilitate the task, such as the lack of CDM experts in small countries. Recognizing this weakness, the CFB cooperates with the Focal Points providing material and suggesting them to invite the private sector to be in contact directly with the CFB. The dialogue with the private sector generates valuable input and promotes ideas on the CDM and it assists with project preparation. The process itself is complicated, so it is advisable to create a sense of cooperation between all the involved organizations. For instance, an agreement could be signed between the CFB, the Focal Point and/or the project owner, to share the project development experience and know how with other institutions in the country. Since carbon finance is usually a small component of the total financial package, other project financiers such as commercial banks should be included in the dialogue.
We have also found that the private sector has up to now not considered developing countries and economies in transition as favorable places from which to acquire ERs to meet their commitments. To help crowd in the private sector, the World Bank's carbon finance products help grow the market by extending carbon finance to both developing countries and economies in transition—linking private sector buyers of carbon credits with climate-friendly projects seeking financing. These carbon finance products, which manage risks and reduce costs, are helping to create an environment in which the private sector can more easily support climate-friendly and environmentally and socially responsible projects.
For example, agreements have been signed recently with the Infrastructure Development Finance Corporation of India and the EIC/A2R private equity fund in LAC to act as intermediaries for Bank carbon finance. The Bank will train staff to create and manage carbon assets, buy the first set of assets and enable them to go directly to OECD buyers, brokers, and financial intermediaries to tap carbon finance. In response to requests from brokers, traders, and private shareholders in Bank carbon funds, the Bank is routinely creating carbon assets surplus to its needs, but maintaining these assets long term to expand market supply and build early market confidence. Efforts are underway also with private banks to develop risk-hedging tools and to "green" hot air to increase access to assigned amount units of economies in transition for OECD buyers.
What is the CFB position with regard to technology transfer?
The CFB is committed to the utilization of the best available technology as consistent with the sustainable development priorities of the country where projects from which the CFB proposes to purchase ERs will be undertaken. The CFB payments for ERs can be utilized for any purpose, including any measure considered appropriate by the project sponsors for acquiring or for the transfer of technology that the proposed project would like to apply.
How does the CFB support sustainable development?
The CFB believes that determining and specifying the sustainable development objectives is the right and the responsibility of the individual country. The World Bank Group has extensive consultations with its client countries to agree upon a Country Assistance Strategy based on the Host Countries sustainable development objectives and priorities. All projects from which the CFB purchases emission reductions have to be consistent with the World Bank Groups Country Assistance Strategy and sustainable development objectives for the country.
How does the CFB approach negotiations with government and project entities?
The CFB negotiates transactions to ensure appropriate sharing of risks and equitable sharing of benefits arising out of the CFB transaction. The objective is to achieve such a sharing of risks and benefits through a fair and informed process. To achieve this objective, the CFB project cycle includes a mandatory consultative process with the project sponsor and the Host Country. This may take the form of a pre-negotiations workshop where the project sponsor or the Host Country involves external advisors and stakeholders that they have identified. The CFB provides any technical and financial support that may be considered appropriate by the project sponsor and/or the Host Country to ensure that the negotiations process is well prepared and fair.
The CFB also attempts to ensure that the negotiations take place under an appropriate regulatory or legislative framework. This is essential to ensure the viability and durability of the agreed contracts in the Host Country environment.
UNFCCC, and the Kyoto Protocol Related Issues
What is the CFB projects relationship with the UNFCCC and the Kyoto Protocol?
The CFB projects produce emission reductions which are expected to be registered for the purposes of the Kyoto Protocol Article 6 (Joint Implementation) or Article 12 (Clean Development Mechanism) or any other instrument of the Convention. To increase the likelihood that the reductions will be recognized by the Parties to the UNFCCC, the CFB procedures are constantly reviewed and revised as necessary to respond to UNFCCC rules as they develop. Furthermore, one of the key CFB objectives is learning by doing and informing UNFCCC negotiators of the lessons learned in designing and implementing JI and CDM projects.
In a Letter of Endorsement, which the CFB requires as an early step in the project preparation cycle, the Host Country specifically covenants that it will continue to maintain itself in compliance with its obligations under the UNFCCC and the Kyoto Protocol.
What are the CFB project cycle steps?
Please see the Project Cycle webpage.
How does the CFB approach baselines and additionality?
Please see the Methodology webpage.
How does the CFB deal with validation, monitoring and verification in JI and CDM projects?
The CFB has worked with auditing companies on validation of GHG reduction projects and on verification/certification of emission reductions for several years now. As explained in PCF Implementation Note #4, the CFB requires the project design to be approved by an independent third party (the validator).
The project design includes the baseline study and a monitoring plan (MP) for each project. The MP is an instruction and workbook, which facilitates the collection, recording and processing of all relevant monitoring data. The CFB believes that monitoring can and should be done by the project operator on the basis of the MP.
A successful validation process confirms that the project baseline is credible and complies with all relevant requirements and that the MP is technically sound and able to assist and instruct the project operator with monitoring of key baseline and emissions indicators. More details on the process of validation are explained in the PCF Implementation Note #6, which contains a preliminary protocol for project validation.
The CFB requires an initial verification of the project as constructed and of the organizational provision for monitoring etc. by an independent third party (the verifier) before the project is commissioned. During project operation, the achieved emission reductions are verified and certified periodically. Certification involves the confirmation that the project has achieved a given quantity of emission reductions in compliance with relevant criteria in the preceding time period.
The CFB does not restrict the time period for which a project is validated, since the monitoring and verification process is expected to track the real development of baseline emissions and reflect possible shifts in the baseline. However, under certain circumstances the renewal of a project's validation may be required. Determining whether the contracted ERs are actually achieved is critical to the success of not only the Bank Group's carbon finance activities, but more fundamentally, of CDM and JI. In light of this need, project supervision continues many years beyond that of a typical Bank project-lasting not only through construction of the project, but for the full term of the ERPA.
It is CFB policy to arrange for all validation, verification and certification activities for CFB projects.
How will emission reductions be transferred to Participants?
The project agreement commits the Host Country and/or project entity to transfer ERs to the Participants. Since clear UNFCCC / Kyoto Protocol rules on ownership, holding and transfer of ERs are still under negotiations, contractual arrangements between the CFB, a Host Country government and a project entities are structured in a way that enables them to conform with the evolving regulatory framework.
Typically, Participants will acquire the majority of the ERs from a project, but some of the ERs may also be kept by the host government or by the project sponsor or an intermediary. The Host Country Agreement may also provide that the ERs from the project are owned by, or transferred to, the Project Sponsor, which would then be given rights under national law to transfer these to the Participants.
The CFB (or the World Bank) will not own ERs at any stage. Once the ERs have been verified and certified, they are transferred directly to Participants in accordance with each Participant's pro rata share.
The Host Country Agreement specifies what the CFB expects the host government to do to minimize the risks that the ERs can not be registered and may not be transferable under the UNFCCC regime. JI countries (economies in transition) are asked to set aside as security for the delivery of the ERs an equivalent amount of its Assigned Amount Units. This designated allocation of Assigned Amount Units is reduced on a ton for ton basis as the ERs are generated and transferred.
Depending on the final CDM modalities, the transfer of emission reductions is likely to involve a request to the CDM Executive Board to issue the emission reductions into an account that CFB Participants would set up in the national Kyoto Protocol registry of their choice.
As a fall back option, if Kyoto Protocol registries will not come into existence, the CFB reserves the right to request the transfer of the ERs obtained for Participants into any other national or regional registry established for this purpose.
How does the CFB deal with the development impact of CFB projects
CFB projects in developing countries should not only reduce GHG emissions but have a sustainable development impact. This is required by the CDM's second objective, namely to assist developing countries in achieving sustainable development.
Although the development impact must be sustainable, it is unavoidable in many cases that CDM projects generate additional GHG emissions in an indirect way, in particular through increased income and economic growth. The CFB considers these emissions as a consequence of development and in line with the objective of the CDM. Therefore, development related emissions induced by a project are not considered leakage that would have to be subtracted from ERs earned by the project.
In general, the CFB applies the criterion of equivalence of service provided in the baseline scenario and by the CDM project to calculate emission reductions. This means that, depending on project circumstances, an increase in output related to the CDM project, such as an increase in electric generation over baseline generation, would not be counted against the baseline and would not lead to fewer ERs available from the project, since the additional emissions are development related.
The situation in Annex I countries with national commitments (or emission caps) is different, because any development related increase in emissions, be it through a JI project or otherwise, must be counted in the country's emissions inventory and thus will count against the country's emissions cap and would thus use up some of the country's Assigned Amount Units.
Which role do Host Country criteria for sustainable development and project selection play?
Host country criteria for sustainable development and project selection are a powerful tool to give preference to, and facilitate the implementation of, projects that have a high priority from the national development or environmental policy point of view. To have transparent criteria for projects is also important for JI/CDM investments, because it reduces costs for investors searching for projects.
The CFB will always ask the Host Country to sign a Letter of Endorsement for each CFB project approving that the proposed project is consistent with Host Country development priorities, and criteria for sustainable development and project selection.
The Carbon Market
What is the likely development of the carbon market?
The global market for greenhouse gas emission reductions (ERs) is estimated at 200 million tonnes CO2 equivalent (tCO2e, the standard metric for ERs) since its inception in 1996, of which nearly 70 million tCO2e was originated in 2002 alone. Volumes are expected to continue to grow as countries that have already ratified the Kyoto Protocol work to meet their commitments, and as national and regional markets for ERs are put into place, notably in the UK and Denmark (2002), and the European Union (currently planned to start in 2005-07). Notably, Governments and private-sector parties are actively seeking to purchase project-based ERs under CDM and JI for compliance, as CDM/JI reductions enter the market replacing non-Kyoto compliant ERs generated for demonstration in the early years of the market. In addition, a class of high value, low volume 'retail' ERs, not intended for compliance at all, but rather to offset specific products, services or events has emerged.
Future prices in the market for ERs are very difficult to predict because of uncertainty about key supply and demand factors. Notably, Russia's ratification (and hence the Kyoto Protocol's entry into force) would affect both supply and demand. Demand would increase as industrialized countries would be required to abide by their Kyoto Protocol commitments to reduce emissions. Supply would also increase because Russia (and certain other economies in transition) has substantial surplus ER allowances—over its quota set in the Kyoto Protocol—that it can sell to other industrialized countries. However, these countries' appetite for such allowances is unclear, as some of them are considering requiring a major share of their quotas to be met by actual, measurable ERs such as those sourced under CDM and JI or domestically, rather than by surplus allowances. Another major consideration is the possibility that the US (and to a lesser extent, Australia) may at some point impose GHG emission limits, within or outside the Kyoto context. Negotiations about a future commitment period beyond 2012, which are scheduled to begin in 2005, will also be a key driver of carbon prices.
More information on the current state and trends of the carbon market can be found in the 2003 State and Trends of the Carbon Market Report.
Where can one obtain information on current prices, and negotiated terms and conditions for JI and CDM deals?
Historical prices for ERs have ranged broadly from pennies per tCO2e in early deals in the voluntary market, to $10/ tCO2e in some recent trades of early vintages of ERs expected to comply with the European Emissions Trading Scheme. CDM/JI projects have traded at a wide range historically, with the range narrowing to $3.00-$5.00/ tCO2e in the past year. Clearly, market imperfections (lack of market depth, absence of public information on trades, concerns about counter party/delivery risk, price signals, etc.) play a role in the lack of clarity on prices. Nonetheless, it is clear that the likelihood that ERs will (a) be delivered and (b) qualify under various régimes are major determinants of price.
In the emerging carbon market, entities engaging in emission reduction projects in Eastern Europe or in non-Annex B countries tend not to disclose price or contractual information about their deals. On top of that, the scarce information which is made public is itself dispersed, with no comprehensive information provider emerging to date.
The picture is likely to change rapidly as the market matures. Meanwhile, general information on the carbon market can be found in online journals such as The Carbon Trader , Airtrends or CO2e.com. In addition, detailed information on JI and CDM projects is available at ERU-PT and PCF websites. In addition, PCFplus has commissioned a study on the state and trends of the carbon market.
What would Host Countries have to consider regarding their positioning in the carbon market?
The positioning of a Host Country in the global carbon market requires strategic decisions. The identification of a countries comparative advantages regarding CDM or JI projects is an important starting point for strategic decision making. A rigorous evaluation of a countries emission reduction opportunities in the context of its development policies creates the basis for developing a long-term strategy. This strategy may include the identification of steps to establish an attractive institutional and legal framework for JI/ CDM projects in the Host Country and/or to collaborate with other countries and institutions in this regards.
The Host Country in elaborating its position in the carbon market should address the following main questions:
- What could the Host Country role in the market be?
- What is the Host Country comparative advantage and how can it be used?
- What strategy should be chosen to approach the market, for example, supplying ERs in bulk to the market or offering "specialty products" to demanding buyers. The latter may be essential for small economies and may comprise a focus on high quality ERs, or on projects with additional attractive environmental and social features, or a bundling of ERs with other commodities.
- How attractive are the country's JI/CDM projects for investors?
- Is the size of the projects attractive for investors? Can the Host Country bundle projects that would otherwise be too small, or can it work with an intermediary?
How are the transaction costs of the projects covered?
The CFB assumes the upfront cost of the preparation of a baseline study, monitoring plan and Project Design Document (which make up the validation package submitted to an Operational Entity for validation). These documents may be prepared either by the project proponent, or an independent consultant; however, in either case, the methodologies to be used need to be discussed with and agreed by the CFB at the beginning of the work. Typical costs of the validation package have run anywhere between $15 to $55K, depending on the complexity of the work. These costs are capitalized in the total ER purchase in the Emission Reductions Purchase Agreements and deducted from the annual payments for ERs that are made by the CFB to the project sponsor. Hence, ultimately, the sponsor pays for the costs of project preparation. Note that costs incurred for the preparation of these materials are coming down due to the growth of project experience and the repetition in project types and baselines, monitoring and other project cycle issues.
Ideally, a project that is submitted for carbon finance by any of the funds administered by the World Bank should already have its technical and financial feasibility studies.
Host Country Involvement in the Carbon Finance Business
What institutional arrangements will a CFB Host Country need?
During the course of the negotiations, the Parties agreed that Host Countries must designate a national authority to host a CDM project. For this reason, many countries have established CDM offices to build confidence with buyers of emission reductions that governments understand the Protocol's requirements, and to build capacity of the local private sector to identify carbon financing and to assist in project preparation and supervision. However, there are no specific requirements to establish a new institution in the Host Country to host JI/CDM projects under the Kyoto Protocol. The requirements regarding the implementation of a JI project are still under negotiations and many countries have also established a JI office to serve as a focal point for such activities.
The hosting of a JI/ CDM project has several requirements that must be performed by the host government. First and foremost, the project must be endorsed by the host government. Such an endorsement means that the project is beneficial to the Host Country, and will contribute to sustainable development, however that is defined in the Host Country. The CFB expects the Host Country to have an opinion on how the project would assist the country with achieving sustainable development. Project endorsement means also that the Host Country will assist in the implementation of the project.
How can Host Countries benefit from CFB projects?
Host Countries stand to gain substantial benefits from CFB projects. Through the provision of new and additional revenues to projects, CFB may help facilitate projects that would not otherwise occur. These incremental revenues may help pay for additional project costs and may also increase the financial return of investing in the project.
CFB projects tend to be environmentally friendly by nature and in most cases provide substantial local environmental benefits, notably through the displacement of pollutant-producing thermal power generation. CFB projects should also provide social and/or economic benefits, for instance, in some cases they may help provide electricity to remote areas where efficient grid-based electricity is expensive to provide and may hence be limiting the potential for economic growth. In some cases, revenues from selling ERs may also reduce, e.g., electricity rates paid by consumers.
Host Countries also stand to benefit from fiscal revenues not only from profitable CFB-supported projects, but also from the multiplier effect in areas where new sources of electricity help support increased economic growth.
How can the Host Country be involved in CFB project preparation?
The Host Country, through its government agencies or its private sector, can be involved in CFB projects and project preparation as a project sponsor, and/or as a resource to the project sponsor and the CFB during development.
The CFB discusses the project with the Host Country government, which must endorse the project and eventually negotiate a Host Country Agreement for the project. The government is expected to work with the CFB or its consultants to clarify issues such as baselines and sustainable development indicators, and possibly financial arrangements for the project. The Host Country government can also assist the CFB by providing insights into the sector while the project is being prepared. If the Host Country government sponsors the project, government agencies will be involved in preparing and reviewing project documents and negotiating the ERPA.
The CFB can use Host Country resources to prepare a project, provided these resources provide the level of quality expected by the CFB. Firms and consultants are invited to register their interest to provide services, such as baseline development, to the carbonfinance.org website. The CFB selects service providers from this list based on qualification and often through competitive bidding.
How will the Host Country government benefit from CFB deals?
CFB projects must be fully consistent with the Host Country's development priorities and strategy. In many cases, CFB projects will make it easier for the Host Country government to achieve its economic and social development goals.
Many CFB partners emphasize the know-how and the learning impact of a CFB project, which allows them to play a pro-active and better informed role in the CDM market, thereby channeling additional CDM finance and less carbon intensive technologies into their economies.
The CFB realizes that JI or CDM country governments must commit scarce resources to make the CDM work and provide services, for instance project selection and the transfer of emission reductions. As in other areas of economic development, it is the prerogative of host governments to decide how they intend to cover or recover the related administrative costs. A broad spectrum of options can be considered here from increased tax revenues through successful CDM projects, to savings in other parts of the government budget, e.g., reduced subsidies, to specific charges for governmental services and the sharing of emission reductions between parties, which can be sold for revenue. The question of primary ownership of or claim to emission reductions and related rights would also have to be considered in this context.
How does society in Host Countries benefit from CFB deals?
Projects from which CFB purchases ERs contribute to sustainable development. In addition to the reduction of greenhouse gas emissions such projects have significant coincidental local environmental, social and economic benefits. For instance, most renewable forms of energy promoted by CFB projects have very low or no emissions of local pollutants such as SOx, NOx and particulates in addition to reducing GHGs. This leads to better local air quality, which has beneficial health impacts. Other projects also bring social benefits to the local communities, contributing to the well-being of the local population.
Which role does the Host Country Committee play?
The CFB Host Country Committee (HCC) plays several important roles. Since CFB projects serve as a real test of the rules that are likely to be applied for CDM and JI projects, the learning process through the development of CFB projects is an excellent way to see in advance which rules should be reconsidered and possibly improved. Since most of the CFB focal points in Host Countries are at the same time UNFCCC negotiators, they can be expected to take the CFB experience back to their own negotiation teams and the negotiation process itself.
HCC members are in a position to keep watch over the whole CFB project development process and must do so with the interests of Host Countries in mind. Therefore, the role of the HCC is also to ensure that CFB project activities lead to a sustained capacity within Host Countries in the long term and that project presented to the CFB and pursued by the CFB respond to Host Country priorities. More broadly speaking, the HCC must look for ways to improve Host Country capacities to make the CDM a valuable instrument for sustainable development. HCC members must also share the know-how they receive through their participation in the CFB and expand it in their countries through, e.g., the PCFplus program.
Which is the experience of Host Countries to date?
There are differences among the Host Countries which are members of the CFB. Taking these differences into account, it is important to recognize that the CFB provides the first opportunity to develop "real" JI or CDM projects and to understand the complexity of the mechanism.
Up to now, Host Countries have not played a very active role in the CFB. This could be related to the fact that not all the focal points are familiar with the CFB project development activities and that they are not part of the Participants. In fact, the CFB Participants include members that cover three key areas of the project cycle: entrepreneurs, UNFCCC negotiators or government representatives, and bankers.
From the Host Country project developers perspective, the process used by the CFB looks too complex, in particular when considering the financial resources that become available through signing an ER Purchase Agreement. This becomes a particular problem, since CFB project proponents have to deal with very complex CDM or JI issues and rules and, at the same time, with World Bank rules, procedures, and safeguards.
In the future, it would be interesting to focus resources for project capacity building on Host Countries with a CFB project, and at the same time committing the respective authorities in the Host Country to share the task so as to ensure that the capacity built will remain and will be maintained after the project is finished. In this way, CFB projects should become an integral part of developing a Host Country's CDM or JI strategy and at the same time building the capacity to implement this strategy.
Before the first CFB project is implemented many Host Countries had rather limited experience and no practical examples of CDM/JI project development and implementation. Therefore, going through the whole CFB project cycle provided an unique opportunity to acquire knowledge of the CDM / JI project development steps and requirements. It also facilitated the development of the institutional system establishing a basis for a long-term climate change strategy. This hands-on "learning-by-doing" experience contributes significantly to the capacity of decision making and implementing institutions as well as to improve skills in project development including drafting project documents, reviewing baseline studies and MPs, project assessment and validation and ERPA negotiations.
Legal and Contractual Issues
Which obligations would the project partners enter into?
The CFB will agree to purchase an agreed amount of ERs generated by the project and pay the agreed purchase price. The CFB will also agree to arrange for verification and certification of the ERs.
The Host Country will agree to transfer the ERs to Participants in line with the Kyoto Protocol or other applicable legal frameworks and to facilitate the successful execution of the CFB contract (the ERPA) with the project entity.
The project entity (sponsor or operator) will agree to implement the project as designed and monitor and record data related to the ERs as instructed by the MP. The project entity will also agree to refrain from verifying and certifying the ERs achieved by the CFB except in cooperation with and for the CFB. Finally, the project entity will agree to sell and transfer (or facilitate transfer of) the ERs to the Participants.
Which legal agreements between project partners does the CFB require?
The CFB Fund Management Unit (FMU) has adopted, developed and begun to administer a set of instruments and processes to systematize and lower the cost of CFB emission reductions transactions. The legal instruments developed so far include Letters of Endorsement, Letters of Intent, Emission Reductions Purchase Agreements, and Host Country Agreements. Although this set of agreements will be part of the majority of CFB projects, the legal structure of emission reduction transactions will remain flexible to accommodate the needs and requirements of each CFB project.
The CFB will seek endorsement of the project from the government of the Host Country preferably in a pre-arranged format. With signing such a Letter of Endorsement the Host Country endorses the project in an early phase of its preparation and provides assurance to the CFB of government support for further project preparation.
As soon as the CFB obtains Host Country endorsement of the project, it will usually ask the project sponsor to sign a Letter of Intent. This letter agreement covers CFB commitment to purchase emission reductions under specified terms (volume, price, for defined period) in return for exclusive right to contract for the purchase of emission reductions. It also includes provisions that ensure that costs occurred in relation to the project preparation will be recovered if the project sponsor decides not to proceed to negotiate an Emission Reductions Purchase Agreement with the CFB Trustee in relation to the Project.
Final project agreements are most likely to include a Host Country Agreement and an Emission Reductions Purchase Agreement (ERPA) for each project. The Host Country Agreement includes an undertaking by the Host Country to transfer emission reductions generated by CFB projects to the Participants, either directly or through a national project sponsor and, in the case of Annex I countries, to set aside as security for the delivery of these ERs, an equivalent amount of its Assigned Amount Units.
The Emission Reductions Purchase Agreement ensures in consideration for the purchase price to be paid by the Trustee of the CFB (the World Bank or IBRD), that the project sponsor (or the Host Country) sells to the Trustee on behalf of the Participants, all rights, title and interests in and to the emission reductions generated by the Project. It may also contain provisions on satisfactorily project implementation. The agreement also ensures that the CFB, and any independent third party selected for verification purposes, has access to the project side and all relevant documents.
Which legal responsibilities regarding CFB projects will a Host Country have?
The Kyoto Protocol, as further supplemented by the modalities and procedures for JI and CDM Projects in the Marrakesh Accords and subsequent decisions of the CDM Executive Board, sets out the international legal rules applying to CDM projects. Central to these are the "Participation Requirements" for Parties to the Protocol which have to be met to host any JI or CDM project activity.
In the case of CDM projects, the Host Country is responsible to approve potential CDM projects. The development of national rules for the approval of CDM projects is therefore critical. CDM project investors and developers need clear guidance on what is required to obtain approval from the Host Country for the project as a CDM project. Such approval is best obtained at an early stage of the project planning process so as to minimise the risk for investors and project proponents and further enhance the ability to obtain project finance including finance relating to the sale of CERs. A Host Country's approval of a project as a CDM project will in no way limit or affect the applicability of other relevant approval processes at the national and international levels.
In the case of JI projects, the responsibilities of the Host Country also include the issuance and transfer of ERUs. Where the Host Country is eligible for the First Track JI procedure, it is also eligible to verify the ERs generated by a JI project.
The World Bank aims to enter into Host Country Agreements with JI countries, which govern the transfer of ERUs to or to the order of the World Bank.
What is the CFB's position regarding ODA in CDM projects?
International climate negotiations have specified that the CDM should not lead to a "diversion" of official development assistance (ODA). In the negotiation of the CDM text in 2000, the G 77 asked for CDM funds to be new and additional to ODA while the Umbrella Group and the EU developed a new term "diversion" of ODA to describe the usage of funds that should be avoided. In the same vein, the Marrakesh Accords includes the following statement:
"The Conference of the Parties
[___] Emphasizing
that public funding for clean development mechanism projects from Parties in Annex I is not to result in the diversion of official development assistance and is to be separate from and not counted towards the financial obligations of Parties included in Annex I," (Preamble to the Decision 17/CP.7, FCCC/CP/2001/13/Add.2 )
Diversion of funds can include the re-channeling of funds to other sectors, the regional re-distribution of funds, or a financial re-allocation of monies. Whereas the exact interpretations of the UNFCCC guidance is controversial, direction can be taken from 'Special Climate Change Fund' established by the Marrakesh Accords and administered by the GEF. The purpose of the fund is to finance projects relating to capacity building, adaptation, technology transfer, climate change mitigation, and economic diversification for countries highly dependent on income from fossil fuels. There is also emerging consensus on ODA eligibility for CDM expenditures, that existing resources, including GEF funds, should not be used to finance the CDM component of a project or the acquisition of CERs under CDM.
With this in mind, the CFB is currently exploring the possibilities of using ODA funds for capacity building, providing technical assistance, financing enabling activities and barrier removal. The CFB is also looking at the possibility of ODA funds being used to finance some of the incremental costs of a projects components that are not related to the CDM, as they do not generate CERs.
How would the CFB make payments to a project?
The CFB prefers to make payments to the party whose activities actually generate the ERs and which has to bear the investment or operational costs to generate them. This will, in many cases, be the private sector firm who builds and implements the projects. The CFB prefers to pay for ERs after verification and upon delivery of a certificate confirming that the ERs have been achieved in compliance with relevant criteria. As a rule, CFB payments to the project entity on delivery of ERs should be considered as a revenue stream against which the project entity can invest equity or borrow. In unusual circumstances, some upfront payment to help with construction and start-up costs may be agreed between the CFB and the project entity. The CFB prefers to pay in US dollars directly to the project entity in line with a delivery and payment schedule agreed between the parties in the ERPA.
What are the Operational Policies and Procedures that applies to CF projects?
The Bank Group has a body of well-developed, mandatory Safeguard policies which apply to all World Bank operations, as well as an extensive set of good practices. These are applied to CFB operations to ensure that they are environmentally and socially sound, whether baseline financing is from the Bank Group or from a third party project supplier.
These policies help ensure that Bank operations do no harm to people and the environment. There are 10 safeguard policies, comprising the Bank's policy on Environmental Assessment (EA) and those policies that fall within the scope of EA: Cultural Property; Disputed Areas; Forestry; Indigenous Peoples; International Waterways; Involuntary Resettlement; Natural Habitats; Pest Management; and Safety of Dams.
The Bank conducts environmental screening of each proposed project, to determine the appropriate extent and type of EA to be undertaken, and whether or not the project may trigger other safeguard policies. The Bank classifies the proposed project into one of four categories (A, B, C, and FI) depending on the type, location, sensitivity, and scale of the project and the nature and magnitude of its potential environmental impacts.
Category A would require the project to undergo the most comprehensive environmental assessment, Category B a narrower assessment, and Category C no environmental assessment. A project could be classified as A, B, or C and trigger other safeguard policies. In this case, additional assessments specifically related to that policy are required. Category FI identifies subprojects, funded by the Bank through financial intermediaries, which may result in adverse environmental impacts. Assessments provide mechanisms for public review and scrutiny. View Safeguard Polices.
Carbon Finance Business Deals as a Fair Risk Sharing Agreement
How does the CFB meet its equity and fairness commitment?
Equitable benefit sharing from CDM or JI activity is the basic objective of any CFB activity. Ensuring a fair process in the design and negotiations of the CFB project is the starting point for equitable benefit sharing. The CFB attempts to promote fairness in process through any practical means of capacity building and support. In particular the Bank has taken the following measures:
- We have accelerated integration of technical assistance and carbon finance services Bank-wide to ensure that Host Country counterparts in negotiations are well informed and capable of defining their self interest, as they enter carbon purchase negotiations. WBI plays a key role in delivery of such pre-negotiations training. In addition, the Bank offers the services of independent brokers and lawyers to help Host Countries and local private sector entities establish fair and equitable prices and terms of purchases.
- Every new carbon fund and facility includes grant resources for capacity building and to support upstream preparation for carbon purchase negotiations at no cost to the client.
- With assistance from the legal group and the Conflict of Interest Advisor, we have sought and implemented means to manage conflict of interest in representing different buyers in the same market. Rules of procedure are agreed with each buyer and incorporated in legal documents for new funds and facilities. These define right of first refusal wherever there is overlap in buyer preferences and when shareholders wish to buy in parallel with a particular fund in the same transaction. There is virtually no overlap between the CDCF, BioCF and buyers of larger volume carbon assets.
- The legal group is reviewing good practice in commercial funds management and will draft a conflict of interest (CoI) management guidance note for the business.
How does the CFB share risks with its partners?
A key principle of project finance, which the CFB also uses, is that each class of risk should be allocated to the party with the greatest ability and incentive to manage it. In general, the project sponsor should assume most project-related risks, of which it can transfer certain elements to other parties capable of managing them (for example, construction risk can be transferred to a turnkey contractor; political risk can be transferred to insurers).
Risk in ER purchase transactions is related to a number of factors, notably:
Baseline risk: Is the project baseline robust and will its assumptions remain valid, to enable it to generate the expected level of certifiable ERs on schedule?
The CFB manages its exposure to baseline risk by commissioning a rigorous baseline study and monitoring plan, and having them validated by a qualified, independent third party.
Project risks related to the performance and viability of the underlying project and hence its ability to deliver the expected quantity of creditable ERs. These include:
- construction risk: will the project be built and begin operating on schedule?
- performance risk: generally, will the project operate as expected?
- contract risk: are adequate, enforceable contracts in place that allocate risk to the parties best able to assume it?
- counterparty risk: are the signatories to these contracts creditworthy and likely to abide by their terms-notably, will they pay on time?
- country risk: including expropriation, foreign exchange convertibility and other elements of political risk, and
- financial, business and regulatory risk: what is the competitive environment for the project? Given the capital structure of the project, will its cash flows be sufficient? Are the project and its sponsor financially viable and likely to remain so?
The CFB manages and mitigates its exposure to project risks by:
- Commissioning an independent risk assessment to evaluate project risks, notably that the project will generate the expected output (this assessment would for example review historical trends in the availability of resources used as inputs to a project, and examine the project sponsor's experience with similar projects).
- Based on the risk assessment plus the validated baseline study and MP, identifying the share of ERs that both the CFB and the project sponsor are confident will be delivered, and contracting to buy only this "minimum" level of ERs,
- Purchasing ERs primarily in the early years of a project.
- Establishing contractually that the CFB has a senior interest in ERs generated by each project.
- Contracting to purchase ERs primarily on their delivery. The CFB may agree to purchase a limited amount of ERs in advance of delivery under certain conditions, which include discounting the price relative to what it would pay on delivery, making such payments on commissioning of a project (not during construction) and requiring repayment in kind before the CFB makes further payments, and
- Credit enhancement through insurance, guarantees and/or other risk management tools.
- Market or price risk, which reflects the expected price of ERs on delivery; this is high since little is known about the future evolution of prices.
The CFB is willing to assume market risk for the ERs that it contracts to purchase from a project sponsor. In other words, the CFB agrees in advance to pay a specific price on delivery of ERs, regardless of the actual price available in the market at that time. In the past, the CFB has paid among the highest prices in the market. In order to better understand the risk it is assuming, the CFB regularly reviews assessments of non-CFB carbon purchase transactions in order to identify trends in market prices and risks.
What does equitable benefits sharing in CFB deals mean in practice?
The CFB attempts to ensure that risks and benefits are shared in a fair and equitable manner in all CFB transactions. In project design and contracting, transaction risks are assigned to the party most capable of assuming that risk; the CFB pricing policy attempts to ensure that the price the CFB pays for ERs appropriately reflects the allocation of risks. In general, the CFB assumes regulatory or other risks related to the carbon market and expects the project sponsors to assume the project related risks. The CFB also attempts to ensure that its contracts allow the sharing of potential anticipated upside. For instance, the CFB contracts can allow for the sharing of ERs with project sponsors and/or Host Countries in order to share the benefits of the potentially large increase in the market price for ERs.
Are early projects with cheap reductions a concern ("low hanging fruit")?
Many CDM countries voice concern over the issue of cheap emission reductions, which they might loose by selling too early. These countries think that they could benefit more by holding on to these assets. They may, e.g., want to maintain a cushion since they may need to increase their emissions to grow their economy.
The CFB is aware of these positions and is committed to a fair negotiation process. The CFB believes that many of these fears can be alleviated by advantageous contract design.
(1) The risk of selling an asset when prices are low is a common one. CO2 reductions are not substantially different in this respect than selling oil or coal or real estate. The price risk can be controlled and shared between buyer and seller through appropriate contractual arrangements. These could include price indexing, credit sharing, options, buy back provisions etc. Beyond that, every party involved in CDM deals will make their own judgment of whether it is better to sell now, possibly at a lower price, or wait and forgo some income now in return for a higher price in the future. If the unilateral model for the CDM can be agreed, a Host Country may produce CO2 credits and decide later whether it wants to sell them and at what price.
(2) The risk of selling credits that a country may need itself in the future is not substantially different from the above and can also be controlled through appropriate contractual arrangements. In particular, the agreement could allow the Host Country to give notice that it will terminate selling CO2 credits from any given project. The Host Country with income from CDM projects could also use that income to buy the equivalent amount of credits on the world market that it has committed itself to sell in a previous contract (assuming the country is selling at the world market price).
(3) There is finally the risk that a country that has permitted CDM projects on its territory and thus has reduced its emissions may be asked to meet a tighter emissions cap sometime in the future. However, as the Kyoto Protocol shows, emissions caps are not uniform and any country is free to agree to what it feels is feasible. A country with CDM projects may find it more costly to reduce emissions even further and will therefore not be willing to accept an emission cap that it would have accepted without prior CDM projects. In economic terms, in an efficient regime, the marginal abatement costs should eventually be the same across all countries. With CDM projects, the foreign partner (or buyer of credits) will have absorbed some of the costs already that the Host Country would otherwise have spent to achieve the efficient MAC level. Also, reduction commitments can easily be calculated on the basis of actual emissions plus CO2-credits that are being sold.
Finally: As with perishable produce, low hanging fruit will rot, if they are not harvested. Therefore: the rule of "sell them or smell them" is true for CO2-credits, too, although to produce the potentially available emission reductions would be enough, since verified and certified emission reductions (CERs) can be stored (banked) for future use.
In the case of JI projects, how can the CFB claim emission reductions before 2008?
Projects starting from 2000 are eligible as a JI project, but ERUs can only be issued for a crediting period starting after the beginning of 2008. However, for most JI projects to be financially viable, a project needs to be able to generate tradeable ERs outside the first crediting period. To do this, the CFB will purchase ERs generated before 2008 through 'forward selling' or 'early crediting'.
The CFB enters into a Host Country Agreement with the Host Country. Under this agreement, the Host Country agrees to:
i) Prior to establishing a National Registry, set aside AAUs in an amount equivalent to the verified ERs generated by the project. These AAUs are later transferred once the Host Country has established a National Registry and is able to transfer AAUs.
ii) After the National Registry has been established, but before the Host Country is able to issue ERUs, transfer AAUs in an amount equivalent to the validated ERs generated by the project.
iii) Once the Host Country is able to issue ERUs, issue then transfer ERUs in an amount equivalent to the validated ERs generated by the project.
As all ERUs are created by converting AAUs or RMUs into ERUs, from the Host Countries perspective it does not matter whether AAUs or ERUs are sold, or when this occurs. As most JI Host Countries will have spare AAUs, reducing the Host Countries AAUs by this amount will not leave the Host Countries unable to meet their Kyoto commitment. JI projects have the same additionality requirement as CDM projects, so the ERs generated by a JI project are reductions in real emissions that would have occurred without the project, and would have been counted towards the Host Countries commitment under the Kyoto Protocol.
Would the CFB share ERs with the project sponsor or the Host Country?
Inherent in the type of transaction outlined above is the sharing of ERs between CFB and the project sponsor. Through its project cycle, the CFB creates a valuable asset (a stream of ERs) for sale by the project; and the CFB manages this asset for a certain time by supervision and by arranging for verification and certification. The CFB purchases a share of the ERs from the project that is relatively protected from project risk. The remainder will be available for the project sponsor or other parties for sale to third parties or other uses.
In the case of the Latvia project, the CFB has purchased, and thereby obtained the right to all ERs generated by the project over its full lifetime by making an upfront payment to the project. In this particular case, the CFB has agreed to share with Latvia any ERs in excess of an agreed minimum amount. Moreover, as a further risk sharing instrument, Latvia's proportion of ERs depends on the price for ERs observed in the market at the time. It should be noted that the Latvia project is a specific case, since the CFB would normally not make substantial upfront payments to projects.
Sharing of ERs can be an important way to share risks in CFB projects. Whether sharing of ERs is possible depends, however, on the way in which the CFB buys ERs, which again may depend on the project characteristics and the legal framework, including ownership rules, in the Host Country.
Host Country Capacity Building and Carbon Finance Business Outreach
How does the CFB and the World Bank support capacity building?
The CFB believes that going through the full cycle of real life project identification and development, contractual negotiations, implementation and monitoring, verification, certification and transfer of emission reductions is the most powerful form of capacity building the CFB can offer.
In addition the PCFplus program was created to build capacity of Host Countries and the Participants, to enhance the operations and activities of the CFB and its partners, and to promote the market for and quality of GHG projects and emission reduction credits by reducing risks and transaction costs. The program has an outreach component that includes capacity building workshops and side events for Host Country stakeholders in conjunction to CFB project negotiations. It also provides financial support for Host Country participation in the meetings of the CFB Host Country Committee and the PCFplus Fellowship program (see below). PCFplus Training includes training modules in and around CFB project negotiation workshops and other related WB events as well as training for PCFplus Fellows and CFB Project Task Teams. The Research component includes studies on "nuts and bolts" issues of project design and implementation on the market for emission reductions and on the interface between the CDM and sustainable development. With few exceptions, all PCFplus Research is made publicly available through the PCF website.
The Bank's second major tool for knowledge and capacity building is the National Strategy Studies (NSS) Program. Managed by the Climate Change Unit in the Environment Department, the NSS was established in 1997 to help countries enhance their climate convention negotiation capacity and design their overall climate change mitigation strategy. It was initiated on a pilot basis in the ECA Region and has been extended to other Bank regions. To date, 15 studies have been fully and/or almost completed (i.e. the Czech Republic, Slovakia, the Russian Federation, Uzbekistan, Argentina, Colombia, Bolivia, Zimbabwe, South Africa, Indonesia, Thailand, Ukraine, Vietnam, Egypt, and Chile) and there are other studies in preparation. With the completion of these studies, client countries are requesting technical assistance and capacity building in project development and implementation that will draw from the Bank's carbon finance activities and promote their full participation in the carbon market.
Bank initiatives for capacity building are only a partial solution to the challenge of supporting carbon finance operations with capacity building to open Host Country markets to CDM/JI investment. PCFplus resources will decline sharply as holding trust capital is drawn down for PCF's carbon purchase obligations. The National Strategic Studies program will end in 2004 and efforts need to focus instead on implementation rather than strategy. Hence, in September 2002, the Bank launched CF-Assist, as the unifying facility for technical assistance for carbon finance, which will ensure integration and synergy between separately funded Bank technical assistance initiatives to support CDM/JI implementation. CF-Assist takes advantage of trust fund reform to simplify donor funding and resource planning. It will create a single integrated work program to ensure effective coordination within the Bank, and between the Bank and external service providers in providing training and technical assistance for capacity building for the Bank's borrowing countries. The program is managed by the ENV Climate Change Team, with financial and managerial input from the Carbon Finance Business. The relevant objectives of CF-Assist are:
- Facilitating the access of Host Countries to the carbon market;
- Enhancing the opportunity to develop and implement successful JI/CDM projects;
- Responding to client needs and requests for capacity building;
- Strengthening the links with other Bank climate change related programs; and
- Following and adapting to the evolution of the Kyoto Protocol process.
How does the PCFplus Fellowship program work?
The PCFplus Fellowship program awards 2-3 month fellowships to negotiators and senior staff of government agencies of countries in the CFB Host Country Committee and to members of the CFB Technical Advisory Group. PCFplus Fellows reside with the CFB Fund Management Unit and work on specific tasks as well as engage in day-to-day CFB activities.
PCFplus Fellows are selected by the CFB Fund Manager taking into account the first-come-first-served principle. Preference is given to persons who are considered to be able to capitalize on the experience gained and to contribute to capacity building in the Host Country or in their own organization after the visit. Fellows are selected from countries that are considered to contribute to CFB business objectives at the time of the fellowship. Fellows are also required to have significant relevant working experience.
How does the CFB publicize its results? Which level of access does the CFB allow?
The guiding principle for public access to CFB material are transparency of CFB operations and the CFB purpose to promote the carbon market. All CFB policy documents are public documents. Most documents related to CFB projects will become public in line with World Bank policies after the project agreements have been signed. The CFB regularly makes presentations on its experience, in particular at the side of UNFCCC events or in other conference.
The CFB publicizes its results and communicates them to its constituents, including Host Country Government representatives, Participants, other stakeholders, and the public mainly through the CFB website at http://www.carbonfinance.org. All public information is displayed on the web pages which can be seen without logging in. The CFB "Document Library" is of particular interest as it contains the CFB's basic policy and project documents.
The CFB has an obligation and its business requires to protect confidential information entrusted to the CFB by its partners. Such proprietary information can only be accessed according to the security level associated with a particular constituency group, such as Participants.
Does the CFB facilitate the development of a Host Country JI or CDM strategy?
Implementation of a project adds the dimension of practical experience in the Host Country. A project provides an opportunity to test the existing institutional system and legal framework, and to identify weaknesses that should be improved in order to increase the countries attractiveness for investment in JI/CDM projects.
There are two options:
- The Host Country has already developed its JI or CDM strategy and has defined project selection criteria etc. In that case, CFB project experience contributes to the development of domestic capacity for project implementation and allows to build and/or test the national framework that has been set up for JI or CDM projects.
- The Host Country starts with a project example. Based on project implementation experience it identifies weak aspects of the nation legal framework, institutional system and domestic capacity that must be improved in order to become attractive for investments in JI or CDM projects. The Host Country may then proceed to develop a broader strategy for JI or CDM projects.
Ideally, the development of a real project and of a national strategy for JI or CDM should work hand in hand, because this would ensure the creation of the most effective system in the Host Country and integration of the lessons learned from a real project into the overall policy framework for JI/CDM in the Host Country.
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