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From Kyoto (1997) to Copenhagen (2009), striking contrastbetween
ambitious targets for ... 2050
[in conformity with IPCCs objectives]
very modest commitments for 2020.
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From Kyoto (1997) to Copenhagen (2009), striking contrastbetween
ambitious targets for ... 2050
[in conformity with IPCCs objectives]
very modest commitments for 2020.
Copenhagen did not bring waiting game to a halt.
What are the implications?
What should roadmap be?
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Outline
I. The cost of delaying negotiations
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Outline
I. The cost of delaying negotiations
II. Economic principles
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Outline
I. The cost of delaying negotiations
II. Economic principles
III. International governance
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Outline
I. The cost of delaying negotiations
II. Economic principles
III. International governance
IV. Negotiation and compensation
compensation
piecemeal policies affecting incentives to join an agreement
(CDM, BTA,...)
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Outline
I. The cost of delaying negotiations
II. Economic principles
III. International governance
IV. Negotiation and compensation
compensation
piecemeal policies affecting incentives to join an agreement
(CDM, BTA,...)
V. Roadmap for future negotiations
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I. THE COST OF DELAYING NEGOTIATIONS
Copenhagen: The waiting game goes on...Vague promises may not be abided by.
What will happen before a binding agreement is reached?
Free riding: excessive emissions in the meantime
[exacerbated by leakage problem: goods, plants, oil,...]
Strategic moves in the anticipation of future negotiation.
Beccherle-Tirole 2010. Related and interesting work byHarstad 2009.
[Also Buchholz-Konrad 1994.]
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ON FREE RIDING
(a) Some regional initiatives, though
[China, India, Mexico, Brazil,.... ETS systems in Europe, USA, Japan,...]
collateral damages (CO2/SO2)
some internalization by very large countries (China)
placate public opinion at home, avoid international pressure(double signal).
[some officials are truly committed.]
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ON FREE RIDING
(a) Some regional initiatives, though
[China, India, Mexico, Brazil,.... ETS systems in Europe, USA, Japan,...]
collateral damages (CO2/SO2)
some internalization by very large countries (China)
placate public opinion at home, avoid international pressure(double signal).
[some officials are truly committed.]
(b) Metric? How do we know whether such actions achieve 20%or 80% of what should be achieved?
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ON FREE RIDING
(a) Some regional initiatives, though
[China, India, Mexico, Brazil,.... ETS systems in Europe, USA, Japan,...]
collateral damages (CO2/SO2)
some internalization by very large countries (China)
placate public opinion at home, avoid international pressure(double signal).
[some officials are truly committed.]
(b) Metric? How do we know whether such actions achieve 20%or 80% of what should be achieved?
(c) Screening: countries which intend to abide by their promiseswould benefit from binding agreement.
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STRATEGIC MOVES: failure to reduce tomorrows abatement cost
technological feasibility set
[green R&D]
installed base of polluting equipments (including housing,transportation)
[standards, current investments in power plants, early actions to phase out polluting
equipments, etc.]
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STRATEGIC MOVES: failure to reduce tomorrows abatement cost
technological feasibility set
[green R&D]
installed base of polluting equipments (including housing,transportation)
[standards, current investments in power plants, early actions to phase out polluting
equipments, etc.]
domestic allocation of property rights
[forward or bankable allowances]
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STRATEGIC MOVES: failure to reduce tomorrows abatement cost
technological feasibility set
[green R&D]
installed base of polluting equipments (including housing,transportation)
[standards, current investments in power plants, early actions to phase out polluting
equipments, etc.]
domestic allocation of property rights
[forward or bankable allowances]
Current emissions
Strategic moves
Today
Negotiation andenforcement of abinding agreement
Tomorrow(past 2020? 2030?)
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d
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2 periods: t = 1,2.
Ignore date-1 emissions. Uninteresting (but will have tointroduce them when studying bankable permits).
7
2 i d 1 2
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2 periods: t = 1,2.
Ignore date-1 emissions. Uninteresting (but will have tointroduce them when studying bankable permits).
2 regions: i = A, B.Generalizes to n regions.
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2 i d t 1 2
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2 periods: t = 1,2.
Ignore date-1 emissions. Uninteresting (but will have tointroduce them when studying bankable permits).
2 regions: i = A, B.Generalizes to n regions.
Date PolicyGrosspayoff
1ai1 (if high: less environmentally friendly)chosen non cooperatively
Ui1(ai1)
2
ai2= actual emissions. Chosen
cooperatively if agreement, noncooperatively if no agreement
Ui2(ai1, ai2)
Uit increasing in its argument(s)
7
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Damage cost : cia2 = ci
aA2 + aB2
c cA + cB
(extension: convex cost)
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Damage cost : cia2 = ci
aA2 + aB2
c cA + cB
(extension: convex cost)
Main assumption (satisfied in all applications):
The marginal utility of polluting in the second period is decreasingwith the first-period pollution control:
2Ui2ai1a
i2
> 0.
8
Th t t i ff t
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Three strategic effects...
effect: most potent when:
brinkmanship[high pollution if negotiation breaks
down extract more surplus]
bargaining power high
effort rebalancing[high pollution if negotiation breaksdown reduce investment today]
bargaining power low
raising rivals cost[convex environmental cost
or leakage
Stackelberg-like commitmentto high emissions ]
bargaining power low
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... concur to generate high post-agreement pollution.
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Application to regional cap and trade initiatives
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Application to regional cap-and-trade initiatives
Will the anticipated merger of regional ETS suffice to contain
future pollution?
forward allowances: ai1 = number of forward allowances
ai2 = ai1+ [# of date-2 spot allowances]
11
Application to regional cap and trade initiatives
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Application to regional cap-and-trade initiatives
Will the anticipated merger of regional ETS suffice to contain
future pollution?
forward allowances: ai1 = number of forward allowances
ai2 = ai1+ [# of date-2 spot allowances]
bankable allowances:
State issues ni1 permits at date 1. Private sector banks ai1 permits.
Intertemporal arbitrage condition
(example: demand function stationary and no discounting)
n
i
1
a
i
1=
ai
2ai
1forwards now chosen endogenously by private sector
[Waxman-Markey]
11
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Forward allowances:
In the absence of date-2 negotiation or under an early (date-1)agreement, no forward allowances: ai1 = 0
[response to the Coasian commitment problem]
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Forward allowances:
In the absence of date-2 negotiation or under an early (date-1)agreement, no forward allowances: ai1 = 0
[response to the Coasian commitment problem]
Delayed negotiation: ai1 > 0
brinkmanship: credible threat to have more permits
around under breakdown of negotiationeffort rebalancing: sell forward allowances at high,
post-negotiation price instead of low,negotiation-breakdown one.
12
F d ll
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Forward allowances:
In the absence of date-2 negotiation or under an early (date-1)agreement, no forward allowances: ai1 = 0
[response to the Coasian commitment problem]
Delayed negotiation: ai1 > 0
brinkmanship: credible threat to have more permits
around under breakdown of negotiationeffort rebalancing: sell forward allowances at high,
post-negotiation price instead of low,negotiation-breakdown one.
Bankable allowances: similar overprovision.
12
II. ECONOMIC PRINCIPLES
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II. ECONOMIC PRINCIPLES
Lets dream: an all-encompassing agreement.
(1) Price coherency: one price
worldwide
identical for all sectors
consistent across time
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II. ECONOMIC PRINCIPLES
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II. ECONOMIC PRINCIPLES
Lets dream: an all-encompassing agreement.
(1) Price coherency: one price
worldwide
identical for all sectors
consistent across time
SIMPLE AND EFFICIENT
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Some first implications
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Some first implications
no sectoral discrimination; in particular no distinction basedon likely speed of accrual of carbon-free substitute
technologies or on elasticities of demand;
14
Some first implications
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Some first implications
no sectoral discrimination; in particular no distinction basedon likely speed of accrual of carbon-free substitute
technologies or on elasticities of demand;
environmental taxes, standards and permits must reflect thesame carbon price;
14
Some first implications
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Some first implications
no sectoral discrimination; in particular no distinction basedon likely speed of accrual of carbon-free substitute
technologies or on elasticities of demand;
environmental taxes, standards and permits must reflect thesame carbon price;
uniqueness should also apply to subsets of actions.Example: Need to introduce market mechanisms forrenewable energy targets and standards
[ e.g., 20% European target for 2020
car standards.
Improve flexibility mechanisms.]
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(2) Cap-and-trade
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Avoidance of distortionary rules
no free permits for new entrants/projects,
no loss of permits in case of shutdown.
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(2) Cap-and-trade
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Avoidance of distortionary rules
no free permits for new entrants/projects,
no loss of permits in case of shutdown.
Bankability
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(2) Cap-and-trade
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Avoidance of distortionary rules
no free permits for new entrants/projects,
no loss of permits in case of shutdown.
Bankability
Auctioning of permits
[(1) no precedent for future grandfathering; (2) avoids windfall profits]
15
Digression: Redistributive aspects can be dealt with through
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revenue-neutral auctions (generalization ofgrandfathering mechanisms). For example, firm kpays:
p
nk n
0
k
n
n0
equilibrium
price ofpermits
number of
permitspurchased
initial
pollutionlevel
ratio of pollution capover historical level(n = nk and n
0= n
0
k)
16
Digression: Redistributive aspects can be dealt with through
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revenue-neutral auctions (generalization ofgrandfathering mechanisms). For example, firm kpays:
p
nk n
0
k
n
n0
equilibrium
price ofpermits
number of
permitspurchased
initial
pollutionlevel
ratio of pollution capover historical level(n = nk and n
0= n
0
k)
Distinguish
allocative efficiency (number n of tradable permits)
redistributive issues (n0k).
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(3) Long horizon (30 years?)
[SO2: 30 years; ETS system for CO2 in Europe 2005-2007, 2008-2012, 2013-2020.]
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(3) Long horizon (30 years?)
[SO2: 30 years; ETS system for CO2 in Europe 2005-2007, 2008-2012, 2013-2020.]
Need for long-term visibility for
deployment[lifetime: 20 to 60 years for power sector; buildings; transportation; forestry; etc.]
R&D
[long lead time: carbon capture and sequestration, 4th generation nuclear power,hydrogen cells, electricity storage, agriculture and technologies that are robust to
climate change, new biofuels for airlines, PV, etc.]
risk management[can exist in 0-net supply, but less liquid market]
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(4) A reasonable amount of commitment to carbon price
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( ) easo ab e a ou t o co t e t to ca bo p ce
Debate seems wrong-headed: too focused on safety valve(price cap)
[If price fluctuations are the concern, bankability and hedging markets may help.]
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(4) A reasonable amount of commitment to carbon price
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( ) p
Debate seems wrong-headed: too focused on safety valve(price cap)
[If price fluctuations are the concern, bankability and hedging markets may help.]
Need for a price floor (possibly an adjustable one).
issue of pollutionpermitsspot (n1) and futures
(nf2
)
private sector invests innovates
new issues of pollutionpermits?
(n2 nf2
)
Today (t = 1) Tomorrow (t = 2)
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Incentive for the authorities to flood the market tomorrow:
collect auction income,
give in to industrys request for new permits,
expropriate innovators (lowers licences prices byincreasing number of permits).
19
Building credibility: put options
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g y p p[Laffont-Tirole JPubE 1996a,b.]
Plain vanilla options: Authorities commit to purchase atfloor price.
20
Building credibility: put options
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[Laffont-Tirole JPubE 1996a,b.]
Plain vanilla options: Authorities commit to purchase atfloor price.
Criticism: uncertainty (scientific, technological, social,geopolitical)
20
Building credibility: put options
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[Laffont-Tirole JPubE 1996a,b.]
Plain vanilla options: Authorities commit to purchase atfloor price.
Criticism: uncertainty (scientific, technological, social,geopolitical)
Optimal policy: provide authorities with flexibility,provided that the latter commit to compensate permitowners (in cash or Treasury securities).
[Example : at 40 e, some options in the moneyat 35 e, some other options also in the moneyetc. ]
20
III. SUPPORTING INTERNATIONAL
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INSTITUTIONS
(1) Worldwide cap-and-trade or carbon tax? Economics: lower informational requirements?
21
III. SUPPORTING INTERNATIONAL
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INSTITUTIONS
(1) Worldwide cap-and-trade or carbon tax? Economics: lower informational requirements?
Political economy considerations seem to favor cap-and-trade:verification requirements (actual collection, and no
undoing of tax)[permits: suffices to measure countrys emissions]
legal reasons
[Europes unanimity rule for taxes]
commitment/visibility[taxes set every year]
compensation[no trust in fiscal promises]
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(2) S b idi i
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(2) Subsidiarity
Set up a monitoring system that at least tracks country emissions
over time.
22
(2) S b idi i
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(2) Subsidiarity
Set up a monitoring system that at least tracks country emissions
over time.
Will lead to local deviations from cost minimization.
Two arguments in favor of subsidiarity:
only total country pollution matters to internationalcommunity
need to get governments on board.
22
(3) Enforcing the agreement
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[ Kyoto framework: non-credible penalties.Not easy. WTO: exclusion is costly. Not so for global warming]
Monitoring compliance/enforcement
withhold/freeze some of the countries endowment offutures and use conditionality?
WTO sanctions?
naming and shaming?
23
(3) Enforcing the agreement
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[ Kyoto framework: non-credible penalties.Not easy. WTO: exclusion is costly. Not so for global warming]
Monitoring compliance/enforcement
withhold/freeze some of the countries endowment offutures and use conditionality?
WTO sanctions?
naming and shaming?
Monitoring indebtedness
[role of IMF. Countries may sell too many permits in futures market.
Similarly, they may not be willing to honor their hedging commitments.]
23
(4) Innovation
W ll k l d d h
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Well-acknowledged that
green innovation is needed
credible carbon price provides incentivecarbon price does not suffice, for usual reasons
(spillovers, fundamental/long term research).
24
(4) Innovation
W ll k l d d th t
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Well-acknowledged that
green innovation is needed
credible carbon price provides incentivecarbon price does not suffice, for usual reasons
(spillovers, fundamental/long term research).
Need both R&D subsidies and public support to greenresearch.
[More so then in other sectors? Acemoglu et al 2009, Grimaud-Roug 2008]
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(4) Innovation
W ll k l d d th t
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Well-acknowledged that
green innovation is needed
credible carbon price provides incentivecarbon price does not suffice, for usual reasons
(spillovers, fundamental/long term research).
Need both R&D subsidies and public support to greenresearch.
[More so then in other sectors? Acemoglu et al 2009, Grimaud-Roug 2008]
Faces same issue as carbon price: free-riding (externality is
on non-appropriable part).
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(4) Innovation
W ll k l d d th t
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Well-acknowledged that
green innovation is needed
credible carbon price provides incentivecarbon price does not suffice, for usual reasons
(spillovers, fundamental/long term research).
Need both R&D subsidies and public support to greenresearch.
[More so then in other sectors? Acemoglu et al 2009, Grimaud-Roug 2008]
Faces same issue as carbon price: free-riding (externality is
on non-appropriable part).
Location of top-notch research. How to form internationalconsortium and secure its funding?
24
IV. COMPENSATION/NEGOTIATION
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Financial transfers (to G77, green fund, etc.) transparent andunrealistic.
25
IV. COMPENSATION/NEGOTIATION
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Financial transfers (to G77, green fund, etc.) transparent andunrealistic.
Historically, compensation at national or supranational levels
has operated through the allocation of permits.
25
The transition: putting pressure to get on board
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Country i will get on board if:
is welfare on board affected by allocation
of permits or of auctionrevenue
is welfare outside the agreement affected by
signatoriespollutiontargets, sectoral policies,project-related policies(CDM,...), etc.
26
1) Clean Development Mechanism (per project approach)
[allows investors in Annex I countries to subsidize [Kyoto-signatory] LDC projects
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y g y p j
that lead to a reduction of GHG emissions, in exchange of CERs]
Benefits
additional development aid (way too little)market-based approach that may take advantage of lowmarginal abatement costs in South.
27
1) Clean Development Mechanism (per project approach)
[allows investors in Annex I countries to subsidize [Kyoto-signatory] LDC projects
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that lead to a reduction of GHG emissions, in exchange of CERs]
Benefits
additional development aid (way too little)market-based approach that may take advantage of lowmarginal abatement costs in South.
Drawbackstransaction costs, additionality criterion.Counterfactual: no project? no CDM?general equilibrium effects (forestry)? How comprehensive isthe policy?
incentive to keep high-pollution equipments in operation andnot to enact environmental regulations,reduced incentive to join international agreement.
27
2) Border tax adjustment (1)
Provides incentives:
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Provides incentives:
solves leakage problem (but not overall pollution problem
of non-Kyoto countries)puts pressure on low carbon price countries,
28
2) Border tax adjustment (1)
Provides incentives:
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Provides incentives:
solves leakage problem (but not overall pollution problem
of non-Kyoto countries)puts pressure on low carbon price countries,
but drawbacks:
protectionism[unilateral moves in general have little appeal ]
measure of carbon content of imports? Based on averageemissions in exporting countrys industry?
[no BTA if can demonstrate virtue? But if mere substitution...]
28
Border tax adjustment (2):
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Addressing some concerns about protectionism:
under supervision of independent agency or WTO?economic justification for taxes. For example coherency withpermit price p.
29
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3) Sectoral agreements
Bottom-up sectoral targets
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[Bali Action Plan]
allow LDCs to earn CERs,no-lose targets (no sanction if not attained)
can obviously be duplicated in overall agreement.
30
3) Sectoral agreements
Bottom-up sectoral targets
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[Bali Action Plan]
allow LDCs to earn CERs,no-lose targets (no sanction if not attained)
can obviously be duplicated in overall agreement.
Argument is that approach breaks the problem into pieces.
30
3) Sectoral agreements
Bottom-up sectoral targets
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[Bali Action Plan]
allow LDCs to earn CERs,no-lose targets (no sanction if not attained)
can obviously be duplicated in overall agreement.
Argument is that approach breaks the problem into pieces.
Drawbacks
sectoral lobbying
requires N international agreementshow coherent is overall solution?
30
V. SUMMING UP AND A ROADMAP
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Define a target
Economics provides much guidance about design. Yet command-and-control mechanisms keep resuscitating.
Separation between allocative efficiency and redistributive concerns:use permits to bring reluctant countries on board.
31
V. SUMMING UP AND A ROADMAP
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Define a target
Economics provides much guidance about design. Yet command-and-control mechanisms keep resuscitating.
Separation between allocative efficiency and redistributive concerns:use permits to bring reluctant countries on board.
Pre- and post-agreement gaming
Apply least-cost pressure on non-signatories, whileavoiding self-serving moves by signatories.
Expect substantial gaming during transition.
31
Negotiations have stalled, with potentially dramatic consequences.Instead of looking for inefficient patches (sectoral standards,regional markets, extension of CDM, BTA, ...), agree on short-term
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g ) gactions, and
(1) an agreement on a good governance:
a path of CO2 emissions
a worldwide CO2 market
a governance (carrot and stick)
32
Negotiations have stalled, with potentially dramatic consequences.Instead of looking for inefficient patches (sectoral standards,regional markets, extension of CDM, BTA, ...), agree on short-term
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g gactions, and
(1) an agreement on a good governance:
a path of CO2 emissions
a worldwide CO2 market
a governance (carrot and stick)
(2) a satellite emissions tracking system, to measure countryemissions,
32
Negotiations have stalled, with potentially dramatic consequences.Instead of looking for inefficient patches (sectoral standards,regional markets, extension of CDM, BTA, ...), agree on short-term
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actions, and
(1) an agreement on a good governance:
a path of CO2 emissions
a worldwide CO2 market
a governance (carrot and stick)
(2) a satellite emissions tracking system, to measure countryemissions,
(3) a negotiation process.
32
Negotiations have stalled, with potentially dramatic consequences.Instead of looking for inefficient patches (sectoral standards,regional markets, extension of CDM, BTA, ...), agree on short-term
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actions, and
(1) an agreement on a good governance:
a path of CO2 emissions
a worldwide CO2 market
a governance (carrot and stick)
(2) a satellite emissions tracking system, to measure countryemissions,
(3) a negotiation process.
Abandon CDM at 2015/16 horizon.
In current circumstances, would already be a big success.
32
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