A fund for carbon traders

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Greenhouse gases

Cost free

WHAT is the cost of carbon? This odd question is troubling the bosses of big manufacturing companies these days. At present, the financial cost of emitting carbon dioxide, the principal culprit in global warming, is next to nothing, because no penalties are imposed on firms producing it. One of the main aims of the Prototype Carbon Fund (PCF), launched by the World Bank on January 18th, is to help set a figure on the cost of carbon emissions—and thus to encourage firms to invest in cutting them.

The Kyoto protocol, an international treaty aimed at curbing global warming, was signed by the world’s rich countries three years ago. It seeks sharp restrictions on greenhouse-gas emissions; it also calls for international trade in emissions, to help lower the cost of compliance. The treaty should be finally agreed on in November this year; but already a “pre-compliance” market has sprung up in anticipation of future curbs on greenhouse gases, and this market suggests a price of carbon emissions. Garth Edward of Natsource, an emissions broker that is already trading greenhouse gases, says the range of recent trades has been $1 to $3 a tonne. As the market develops, the price is likely to rise.

But to what level? The World Bank’s PCF should help answer that question by spurring the nascent market. The idea is for the fund to invest in green technologies, such as renewable energy, in poor countries, thus reducing greenhouse-gas emissions. These reductions are to be independently verified by experts on behalf of the PCF, and transferred as credits to the fund’s investors, which include such firms as Electrabel, of Belgium, several Japanese utilities, and various Nordic governments. The projects will be selected by the World Bank, which will help set them up. The first project will capture greenhouse-gas emissions from open landfills in Latvia and use them to generate electricity.

Though small (only $75m now, with a cap of $150m), the PCF should add supply to an illiquid market. The scheme will also educate prospective buyers and sellers; a principal aim of the PCF, says the World Bank’s Robert Watson, an expert on global warming, is “to learn by doing.” Hence, the scheme will publish full details of the nuts and bolts of transactions, which can then serve as blueprints for other schemes.

The higher the price of carbon rises, the more interest there will be in cutting emissions. Two factors seem to be keeping it low at the moment. One is the quality of credits. After all, it is not easy to get an independent audit of carbon accounts today, although firms such as PricewaterhouseCoopers are starting to try. Another risk is that the Kyoto protocol will fall apart altogether.

The PCF tackles the first problem head on. Its projects will be modified to match exactly what is finally agreed on by Kyoto negotiators. Experts say that this should ensure that the credits from this scheme will be of a “high quality”, and so warrant a premium.

But how much, exactly, should the World Bank’s seal of approval add to the price of carbon? Mr Watson talks of a price of between $15 and $30 per tonne of carbon. That may seem a lot to some, though it looks a bargain to those in countries such as Japan that are already more energy-efficient than, say, the United States; reducing carbon output further will be expensive in such places. That is why the Japanese utilities were interested in investing in the PCF: “These could be the cheapest credits that they will find,” says Mr Watson.

And what of the broader risk that the whole Kyoto protocol will collapse? One might expect the price of carbon to fall to nil in such a case. Perhaps not, says Robin Bidwell, chairman of ERM, an environmental consultancy. He says that big business, especially in Europe, is becoming convinced that whatever happens with the Kyoto deal, some form of domestic or pan-regional emissions restrictions are inevitable in the next five years. Only this week, France unveiled a tax on energy-consuming industries as part of a ten-year plan to curb emissions.

Hence, many firms are deciding to address the problem now. Royal Dutch/Shell, an oil giant, is a good example. Convinced that action on global warming is necessary and inevitable, the firm has promised to cut its greenhouse-gas emissions to 10% below their 1990 level within three years. To help it do so, it is just about to launch an internal carbon-emissions trading scheme. Aidan Murphy, who heads the firm’s climate-change efforts, says Shell is starting to use shadow carbon-prices: that is, all its big investments must be analysed to see if they provide adequate returns if carbon emissions are priced at $5, $20 or $40 per tonne. “This is not altruism,” insists Mr Murphy. “The key is the cost of carbon.”