The CDM: let’s not discard a tool that raised over US$200 billion

In the meantime paradoxically, the Clean Development Mechanism (CDM) – a tool that managed to leverage over US$200 billion of mostly private investment for climate change mitigation – is left dying without much regret.

Being the largest carbon offset standard in the world, the CDM has yielded over 5,000 projects in developing countries that have already reduced over 1 billion tons CO2e of GHG emissions – roughly the size of annual emissions of Germany. Almost 4,000 CDM projects, for which the investment data is publicly available, have attracted US$188 billion and aim at reducing GHG emissions by 1.42 billion tons CO2e by the end of 2012 according to their project design documentation. Taking into account the average price for Certified Emission Reductions – carbon credits generated by the CDM – of US$13 in the past three years, one can roughly conclude that each dollar of international carbon finance managed to leverage 10 dollars of investments in climate change mitigation through the CDM.

Obviously, the higher the share of non-carbon revenues of a project is, the higher the leverage ratio can be. Indeed, the investment/abatement ratio of the CDM can vary from a couple of cents for projects with carbon revenues only – such as industrial gas destruction – to several hundred dollars for projects that generate most of their revenue from electricity production or energy savings – e.g. solar power or energy efficiency. The CDM can thus be considered an effective public policy tool that unlocks private investments in climate change mitigation across different sectors. This tool is also important from the capacity building point of view, as it is highlighted by an increasingly large number of projects financed via domestic private investments in developing countries.

It is true that along the billion-dollar investments the CDM has attracted multiple and legitimate criticisms. These criticisms concerned its environmental integrity, its complicated administrative procedures and its contribution to sustainable development. Nevertheless, over its 11-year lifetime, it proved to be a flexible instrument that is able to learn from its mistakes and improve through incessant reforms. Among the improvements that have already been implemented are eradicating perverse incentives for industrial gas destruction projects, streamlining the administrative procedures, standardizing additionality demonstration and baseline setting and expanding the coverage of the mechanism. A set of further reforms was proposed by the CDM Policy Dialogue in September 2012.

Meanwhile the demand for carbon offsets, which is mainly driven by the EU ETS, is drying out pushing the price for Kyoto offsets down to as low as US$1 per ton of CO2e without any rally perspective. The relevance of the CDM as an important climate change mitigation tool can therefore be seriously contravened. However, in the times of climate finance deficit it would be short-sighted to discard an established, well-functioning mechanism to reduce GHG emissions that offers a leverage ratio of 10. As suggested recently by the CDM Policy Dialogue, clear political decisions to boost and diversify the demand for carbon credits through more ambitious commitments and/or to use the CDM toolbox in regional markets and multilateral funds are necessary to restore a sustainable carbon price and a favorable investment climate. This would in turn have a strong leverage effect that can help attain the target of US$100 billion in climate finance per year by 2020.