BY CHETAN HEBBALE
Chetan Hebbale is a first-year MAIR student, concentrating in Development, Climate and Sustainability, and China Studies. The following article is adapted from a policy memo submitted for the course ‘Climate Change: Science, Economics, and Politics’.
Developing countries account for over 60% of global greenhouse gas (GHG) emissions[i] but represent less than 25% of carbon pricing systems (e.g., carbon taxes and cap-and-trade systems) globally.[ii],[iii] The Green Climate Fund (GCF) has an opportunity to expand the use of carbon pricing which will not only drive global emissions reductions, but help quickly scale up revenue streams for developing nations to adapt to climate change and invest in development priorities.
Established by the United Nations Framework Convention on Climate Change in 2010, the GCF is the world’s largest dedicated fund to helping developing countries respond to climate change. Emerging from COP26, industrialized countries, international lenders, and private companies have pledged to donate approximately $96 billion annually to GCF by the end of 2022.[iv]
Despite the lofty pledges, developing countries have struggled to get access to this aid.[v] To date, only $2.1 billion of the GCF-committed $10 billion has been disbursed. Funding has been held up due to bureaucratic bottlenecks and internal politics between rich and poor nations over how to allocate the funds.[vi] Carbon pricing could be a unique solution to break through this impasse. GCF should condition mitigation and adaptation aid on recipient countries instituting a minimum price for emissions with more compensation going to countries with higher carbon prices.
There are three benefits to this approach:
Firstly, it provides an incentive for developing countries to pursue increasingly ambitious carbon prices. This increases trust and coordination in the global climate space as developed countries know their donations are driving higher emission reductions and could make them more willing to quickly disburse aid to those nations.
Secondly, the domestic revenues from collecting carbon taxes or auctioning carbon permits will help countries finance investments associated with the costs of mitigation and enable a just transition to a low-carbon economy. This can provide a transformative channel for developing nations to reduce air pollution, invest in U.N. Sustainable Development Goals, and close the gap between their emissions goals and continuing their path of economic development.
Thirdly, by establishing carbon pricing systems, GCF is helping stand up international carbon markets which will then open new climate finance revenue streams. One of COP26’s major breakthroughs was an agreement on new rules for international carbon trading mechanisms (known as “Article 6"). Nations have agreed that 5% of the sale of carbon credits and emission reductions are required to go to developing countries, thus channeling additional revenue for global mitigation and adaptation efforts.[vii]
Why Focus on Carbon Pricing?
Carbon pricing is a uniquely powerful mitigation solution amongst the suite of decarbonization policy tools. It can broadly influence energy use and investment decisions across all sectors of the economy in a neutral way by making it more expensive to pollute than to find lower carbon alternatives.
A well-designed carbon tax or cap-and-trade system will create incentives for cost-effective emission reductions in the short-run and cost-reducing innovation in the long run.[viii] They can also be designed to be tied to emission targets which can help ensure that they are met.
One analysis found that on its own carbon pricing could deliver almost a third of the emission reductions necessary to avoid a rise of 2°C by 2050.[ix] Unfortunately, GCF has no official policy or involvement on carbon pricing while the developing countries it supports are on pace to account for roughly 70% of global energy demand in the next 20 years.[x]
Developing nations can lock in three benefits by instituting a carbon pricing system.
Public health benefits: According to the World Health Organization, 7 million people die from air pollution primarily in low and middle-income countries in Asia and Africa annually.[xi] Because carbon prices affect the entire the economy, high-polluting industries would be forced to abate emissions which will have a direct effect on the air quality of surrounding communities.
Closing the inequality gap: Carbon pricing generates revenue through tax collection or permit auctions. This can be used by governments to support an equitable clean energy transition through R&D, vocational training, and investment in the poorest, most polluted areas. This could help close the inequality gap by directly compensating populations affected by the shuttering of energy intensive industries and to offset increases in commodity prices.
Rapid green transition: Many developing countries still do not have access to industrial energy infrastructure – be it coal, oil, or gas. Committing to carbon pricing early on in their economic development means that they will be able to avoid the transition costs that other countries are facing through stranded assets and loss of fossil-fuel generating revenue.[xii] By leapfrogging fossil fuels altogether into a green economy, developing countries will be on a path to more sustainable industrialization longer term.
How Climate Finance Can Spur Carbon Pricing In Developing Countries
International climate cooperation requires mutual commitments and stable incentive structures – coordinating national carbon prices is an efficient solution to achieve this. A major gap in the current Paris regime is that nations are only held to voluntary commitments which are not legally binding. If one country perceives that their decarbonization efforts are not being complemented by similar efforts in other countries, then the ambition and political will to ratchet up mitigation efforts will weaken.
This dynamic has the potential to play out between developed and developing countries as the global share of emissions from developed nations continues to decrease.[xiii] National carbon prices are transparent and easily comparable, thus setting a floor for international cooperation and negotiations.
Conditioning climate finance aid to developing countries based on establishing a carbon price would incentivize adoption of carbon pricing systems globally. Many developing countries lack the capacity and expertise to introduce carbon pricing systems and are disincentivized due to the high costs of mitigation. Indeed, even small changes to the prices of basic commodities because of a carbon price can have a significant impact on underprivileged groups.
It’s important to acknowledge a fundamental tension here. Developed nations had the benefit of utilizing fossil fuels to industrialize which they are now trying to take away from developing countries. While industrialized countries should also increase their uptake of carbon pricing, the structural trajectory of where future emissions will come from, what some are calling a “carbon tsunami”[xiv], makes action in developing world more pressing. If developing nations are well compensated by richer countries for setting carbon prices then they may be able to successfully forge a cleaner development model than what the developed world used.
To this end, GCF should leverage its transfer payments for adaptation and mitigation on the condition that countries set a minimum carbon price. GCF can use existing funds to help establish tax collection or permit auctioning and allocation infrastructure.
Climate aid should be allocated to go more to countries who increase their carbon price over time, thus increasing ambition and trust in the climate regime. As countries start with different minimum carbon prices the hope is that they will rise and converge over time. However, GCF can accelerate this process by allocating increasing amounts of aid to those countries who increase their carbon price.
In this way, developing nations continually pursue more ambitious carbon prices and developed nations will have increased trust and confidence that their transfer payments are achieving higher emission reductions. This will reduce the internal political tensions over who “deserves” climate aid.
Where might a carbon price be set? Thankfully for developing countries, the bar is low. Currently, four-fifths of global emissions are unpriced, and the global average carbon price is only $3 per ton.[xv] While $3 can be a floor, more ambitious prices would reach the level of the “social cost of carbon” which one frequently cited model puts at $42/ton.[xvi] The IMF recently recommended a price of $75 per ton in order to reduce emissions between 25-50%. Both of these are vastly ideal prices as California’s price is only $18, while on the upper end are Finland ($73), Lichtenstein ($101), Switzerland ($101), and Sweden ($137).[xvii]
Supporting Global Carbon Markets Offers New Revenue Streams
Establishing carbon pricing systems globally can facilitate the rules for international carbon markets under Article 6 of the Paris Agreement. Nearly half of the initial Nationally Determined Contributions include the use of international cooperation through carbon markets.[xviii]
Enabling countries to effectively trade emission reductions and carbon credits across borders will be critical to the overall effort of global decarbonization. By helping establish carbon pricing systems, GCF will earn a seat at the table to ensure that carbon market rules are implemented to benefit developing countries and to mitigate against the risks of double counting.
Successful international carbon markets will catalyze additional revenue streams for GCF to funnel to global mitigation and adaptation efforts. Under the Kyoto Protocol, a fee was levied on international emission trading and carbon credit purchases through the Clean Development Mechanism which funded nearly 30% of the U.N. Adaptation Fund.[xix]
Article 6.4 of the Paris Agreement would effectively replace the Kyoto Standard by ensuring that this “share of the proceeds” shall “assist developing country parties that are particularly vulnerable to the adverse effects of climate change to meet the costs of adaptation” in addition to “covering administration expenses”.[xx] By involving itself in Article 6 implementation, GCF has an opportunity to open a large pool of public and private climate finance contributions to further scale its mission.
Conclusion
Innovative solutions are needed to break through the lethargic pace at which climate finance is dispersed to the countries most in need. By conditioning climate aid on levels of carbon pricing, the GCF has an opportunity to knock out three birds with one stone:
Funds can go out the door more quickly due to standardized baselines that justify who should get aid, thus side-stepping political infighting on who should get the money;
Developing governments will have access to new revenue sources to help close the inequality gaps, invest in a green transition, and incur public health benefits through reduced air pollution; and
International carbon markets will achieve scale and maturity which will facilitate global decarbonization efforts and provide additional mechanisms to channel climate finance to nations in need.
PHOTO CREDIT: Ella Ivanescu, Free to use under the Unsplash License.
References
[i] Center for Global Development, “Developing Countries Are Responsible for 63 Percent of Current Carbon Emissions,” August 18th, 2015, https://www.cgdev.org/media/developing-countries-are-responsible-63-percent-current-carbon-emissions.
[ii] United Nations Development Programme, “Human Development Reports – Developing Regions,” 2020, http://hdr.undp.org/en/content/developing-regions.
[iii] World Bank Group, “State and Trends of Carbon Pricing 2021,” May 2021, https://openknowledge.worldbank.org/handle/10986/35620
[iv] Chris Morris, “COP 26: How much are poor countries getting to fight climate change?” BBC, November 14th, 2021, https://www.bbc.com/news/57975275.
[v] Emma Rumney and Simon Jessop, “That sinking feeling: Poor nations struggle with U.N. climate fund,” Reuters, November 11th, 2021, https://www.reuters.com/business/cop/that-sinking-feeling-poor-nations-struggle-with-un-climate-fund-2021-11-11/.
[vi] Ibid.
[vii] United Nations Framework Convention on Climate Change, “COP26 Outcomes: Finance for Climate Adaptation,” https://unfccc.int/process-and-meetings/the-paris-agreement/the-glasgow-climate-pact/cop26-outcomes-finance-for-climate-adaptation#eq-4.
[viii] James Boyce, “Carbon Pricing: Effectiveness and Equity,” Ecological Economics, August 2018, https://www.sciencedirect.com/science/article/abs/pii/S092180091731580X.
[ix] Harvey, et. al, “Designing Climate Solutions: : A Policy Guide for Low-Carbon Energy” 2018, pg. 253, https://islandpress.org/books/designing-climate-solutions.
[x] Stephen Eule, “A Look at IEA’s New Global Energy Forecast,” Global Energy Institute, November 29th, 2018, https://www.globalenergyinstitute.org/look-ieas-new-global-energy-forecast.
[xi] Jonathan Watts, “Air pollution inequality widens between rich and poor nations,” The Guardian, May 1st, 2018, https://www.theguardian.com/environment/2018/may/01/air-pollution-inequality-widens-between-rich-and-poor-nations.
[xii] Jonas Teusch and Konstantinos Theodoropoulos, “Why should developing countries implement carbon pricing when even advanced economies fall woefully short?” OECD Development, February 17th, 2021, https://oecd-development-matters.org/2021/02/17/why-should-developing-countries-implement-carbon-pricing-when-even-advanced-economies-fall-woefully-short/.
[xiii] UNFCC, “Most Developed Countries on Track to Meet their 2020 Emission Reduction Targets, but More Ambition Needed by Some,” November 23rd, 2020, https://unfccc.int/news/most-developed-countries-on-track-to-meet-their-2020-emission-reduction-targets-but-more-ambition.
[xiv] Kelly Sims Gallagher, “The Coming Carbon Tsunami: Developing Countries Need a New Growth Model—Before It’s Too Late,” Foreign Affairs - January/February 2022, https://www.foreignaffairs.com/articles/world/2021-12-14/coming-carbon-tsunami.
[xv] Vitor Gaspar and Ian Parry, “A Proposal to Scale Up Global Carbon Pricing,” June 18th, 2021, International Monetary Fund, https://blogs.imf.org/2021/06/18/a-proposal-to-scale-up-global-carbon-pricing/.
[xvi] Maximilian Auffhammer, “Quantifying Economic Damages from Climate Change,” Fall 2018, Journal of Economic Perspectives, https://www3.nd.edu/~nmark/Climate/Auffhammer_JEP.pdf.
[xvii] World Bank, “State and Trends of Carbon Pricing 2021,” May 2021, https://openknowledge.worldbank.org/handle/10986/35620.
[xviii] Kelley Kizzier, Kelly Levin and Mandy Rambharos, “What You Need to Know About Article 6 of the Paris Agreement,” World Resources Institute, December 2nd, 2019, https://www.wri.org/insights/what-you-need-know-about-article-6-paris-agreement.
[xix]Carbon Brief, “In-depth Q&A: How ‘Article 6’ carbon markets could ‘make or break’ the Paris Agreement,” November 29th, 2019, https://www.carbonbrief.org/in-depth-q-and-a-how-article-6-carbon-markets-could-make-or-break-the-paris-agreement.
[xx]Ibid.