The December 2010 climate change discussions in Cancún, Mexico demonstrated that, despite some progress, establishing a comprehensive international agreement to reduce greenhouse gas emissions remains a distant challenge. But there are other ways to address the problem. Climate finance, although less headline-grabbing than Kyoto Protocol emissions limitations, is a critical component of global climate policy. It was a key area of debate at the Copenhagen climate conference in 2009 and an area of minor success in Cancún.
Climate finance—the public and private financial flows from developed to developing countries—funds projects to curb greenhouse gas emissions and to adapt to the effects of a changing climate. Under the December 2009 Copenhagen Accord, also affirmed in Cancún, developed countries agreed that such flows would reach $100 billion annually in new and additional finance—a sum almost as large as current Official Development Assistance flows.
But public finance will only be a part of this picture. While international negotiators hope for a 50/50 split, only 7 percent of international climate finance flows were from public sources in 2007; foreign direct investment represented the remainder. On top of that—and what the $100 billion does not include—is finance (both public and private) raised domestically in developing countries. This number is estimated to be 84 percent of total climate finance.
Latin America is no stranger to private climate finance. International (and sometimes domestic) companies seek to offset their greenhouse gas emissions with emission reduction credits purchased from both the regulated and voluntary markets. In the regulated market, developed-country industries with capped emissions levels purchase emissions offsets from developing- country projects. On the voluntary market, unregulated companies or individuals purchase reductions either for altruistic reasons or in anticipation of future regulation.
In Latin America’s regulated market, fewer than 500 projects have been approved by the Clean Development Mechanism (CDM). This United Nations-backed system allows projects in developing countries that reduce carbon dioxide to receive carbon credits. Those credits, in turn, can be bought by developed countries to count toward greenhouse gas reduction promises. By 2009, credits from 206 projects had already been purchased by industries and individuals in developed countries. Latin American projects that had been granted credits represented 7 percent of CDM’s overall value (3 percent of global credit sales come from Brazil); nearly 1,000 other projects are in the CDM approval pipeline.
Although the majority of the region’s emissions-reduction opportunities are in the area of forest and land use, the sector’s exclusion from the CDM means that these projects are not represented in the regulated markets. Instead, projects are concentrated in biomass energy production (not carbon neutral, but less polluting than the current fuels used); landfill gas capture (methane is a strong greenhouse gas); wind and hydropower; and energy efficiency.
The voluntary markets, though smaller in absolute terms than the regulated market, are a significant regional force for curbing greenhouse emissions. In 2009, Latin America had the second-largest market share in the voluntary markets by volume, capturing 16 percent of it globally. This represents a tripling of Latin American credits in just one year.
Similar to the regulated market, as of 2009, the majority of voluntary credits (56 percent) originated in Brazil followed by Peru (23 percent). But unlike the regulated market, forest carbon represented 80 percent of the region’s voluntary credits. Further, the minimal amount of action required to create some forms of forestry and land-use credits (e.g., leave trees standing or land fallow) means that the average price for forestry credits on the voluntary markets (less than $4 per ton of carbon dioxide equivalent, or tCO2e) is significantly lower than that for credits on the regulated markets ($11–12/tCO2e).
The expansion of private finance in Latin America is limited by factors such as the exclusion of forestry and land use from the CDM (potentially to be changed) and decreased global demand for voluntary offsets. There are also significant internal hurdles such as low technical capacity, underdeveloped investment markets and high transaction costs. These are not unique to the region but have a disproportionate impact. The region’s forestry and land use projects require significant technical capacity to calculate credits and involve considerable financial uncertainty.
But new public and private institutions are being developed to overcome some of these barriers.
In Colombia, the national government, the Inter-American Development Bank and Fundación Natura are working together to create a system for voluntary mitigation of greenhouse gas emissions. By 2015, when fully operational, this $10.5 million mechanism will encourage voluntary carbon emissions mitigation by domestic companies or institutions through the creation of an exchange-like platform to facilitate project financing and allow trading of verified emissions-reduction credits. Industry education projects and other incentives will also help the domestic emissions-reduction market.
In Chile, a Santiago Climate Exchange (SCX) was proposed in late 2009. The SCX, like its now-defunct North American counterpart the Chicago Climate Exchange, would enlist companies to voluntarily commit to reduce emissions. Emissions reductions
in excess of a company’s commitment would generate
a credit that could then be traded on the exchange. As in Colombia, the SCX aims to increase domestic demand for voluntary credits in
a country that will not be required to regulate emissions reductions
in the short term.
The novel voluntary market mechanisms in Colombia and Chile are likely first steps toward full domestic or regional emissions markets. But until these markets can be developed, the bulk of Latin America’s private climate finance (and the corresponding decisions on what will be invested in) will come from international offset markets.