2ND EDITION CLEAN DEVELOPMENT MECHANISM IN CHINA TAKING A PROACTIVE AND SUSTAINABLE APPROACH THE GOVERNMENT OF THE THE WORLD BANK PEOPLE'S REPUBLIC OF CHINA CLEAN DEVELOPMENT MECHANISM IN CHINA TAKING A PROACTIVE AND SUSTAINABLE APPROACH The World Bank Ministry of Science and Technology, P.R. China The Deutsche Gesellschaft für Technische Zusammenarbeit, German Technical Cooperation Unit (GTZ), Federal Ministry of Economic Cooperation and Development Swiss State Secretariat for Economic Affairs The International Bank for Reconstruction and Development/ THE WORLD BANK 1818 H St., N.W. Washington, D.C. 20433 June 2004 (1st Edition) September 2004 (2nd Edition) All rights reserved Cover design by Circle Graphics Photos by Circle Graphics and Anne Arquit Niederberger This publication is a joint product of staff from the Chinese Ministry of Science and Technology (MOST), The Deutsche Gesellschaft für Technische Zusammenarbeit, German Technical Cooper- ation unit (GTZ) of the Federal Ministry for Economic Cooperation and Development, Swiss State Secretariat for Economic Affairs (SECO), the World Bank, and others (see acknowledg- ments). While consultations have been considerable, the judgments herein do not necessarily reflect the views of their respective governing bodies, or when applicable, the countries there represented. Notes All tons are metric tons. All dollars are U.S. dollars. Currency name = Renminbi (RMB) Currency unit = Yuan 1 Yuan = 100 fen Y 1.00 = $0.12 (as of February 2004) $1.00 = Y 8.28 (as of February 2004) C = Carbon CO2 = carbon dioxide CO2 values can be converted to C values by multiplying the CO2 value by 12/44 (the ratio of the molecular weight of C to CO2). Table of Contents ABBREVIATIONS AND ACRONYMS ix FOREWORD xiii ACKNOWLEDGMENTS xv EXECUTIVE SUMMARY xvii INTRODUCTION xix International and Domestic Context for CDM in China xix Ongoing CDM-related Activities in China xxi China CDM Study Background xxv TECHNICAL SUMMARY xxix Methodological Guidelines and Institutions for CDM xxix Findings of Project Case Studies xxxiii Potential CDM in China xxxv PART 1: CDM METHODOLOGY AND CASE STUDIES 1 1 Objectives, Methodologies, and Approach of Part I 3 Objectives 3 Methodological Approach 4 Key Issues 5 2 Institutional Framework and Methodological Guidelines for CDM 7 Relevant Institutions and CDM Project Cycle 7 Project Boundary and Leakage Evaluation 9 Baseline Setting 14 Additionality Assessment 25 Project-Based Emission Reduction Cost Calculation 30 Institutional Arrangements for Facilitating CDM in China 36 3 Findings from CDM Case Studies 41 Basic Considerations: The Power Market 41 Selection of Case Study Projects 43 C D M I N C H I N A iii C O N T E N T S Brief Description of the Six Case Study Projects 49 Discussion of Results from Six Case Studies 60 CDM: Chances, Benefits, Barriers, and Uncertainties 69 Cross Comparison of Findings with Results from Other Studies 72 Conclusions and Recommendations 73 PART II: CHINA'S CDM POTENTIAL 81 4 Objectives, Methodologies, and Approach in Evaluating China's CDM Potential 83 Objectives 83 The Challenge 83 Brief Description of Methodological Framework and Approach 84 5 Analysis of China's CDM Potential 91 Marginal Abatement Cost Curves 91 Global Carbon Market Analysis under Different Scenarios 96 China's CDM Potential by Major Sectors 109 Analysis of Demand-Side Barriers 114 Conclusion 118 6 Impact Assessment of CDM Implementation on China's Socioeconomic Development 121 Methodological Framework of IPAC-SGM 121 Main Assumptions and Energy Demand 122 Impact Assessment of CDM Implementation on GDP 125 Model Limitations and Conclusion 125 7 Policy Insights and Recommendations 127 Policy Insights 127 Recommendations 132 Epilogue: CDM Conference Report 139 Introduction 139 Context for CDM in China 139 Interim Measures and Implications for CDM in China 140 Overcoming Barriers to CDM Implementation in China 141 The Power Sector 142 Future Activities in Cooperation with Foreign Partners 143 ANNEXES A1 Decisions by the COP and the CDM EB after COP 7 up to the 12th CDM EB Meeting Relevant to Methodological Issues 145 A2 Detailed Description of the CDM Institutions 153 A3 Detailed Description of the CDM Project Cycle 157 A4 Interim Measures for Operation and Management at Clean Development Mechanism Projects in China 161 REFERENCES 169 CD-ROM USER GUIDE iv C H I N A C D M S T U D Y C O N T E N T S CD-ROM (Attachment) MAIN REPORT ANNEXES TO MAIN REPORT AI Six CDM Case Studies AII Project Development Documents (PDDs) AIII Methodological Annexes to Chapter 5 and 6 AIV Matrix of Major International-Funded CDM Studies in China AV Relevant Materials from Other CDM projects in China AVI Key Literature on CDM in China AVII Participants and Minutes from CDM Stakeholder Meetings AVIII Project Participants (Persons and Institutions) AVIX Written CDM Conference Materials AX Video Presentation of the CDM Conference FIGURES I.1 CO2 Emissions in China from 1990 to 2002 xxi I.2 CO2 Emissions by Sector xxii I.3 Overview of Main Outputs and Inter-linkages Among Tasks 1,2, and 3 xxvii T.1 MACs for Carbon in 2010 from IPAC-Emission Model xxxvi T.2 Annex II Countries ER Demand Under the KP and the Market Offset Share by Three Kyoto Mechanisms xxxviii T.3 Distribution of Carbon Emission Reductions among Domestic Action (DA), JI, ET, and CDM under the Base Scenario xxxviii T.4 Marginal Abatement Cost Curves by Sectors xxxix 2.1 CDM Institutions 8 2.2 Manufacturing Process for CDM/JI Emission Reductions 9 2.3 Project Boundary Considering the Whole Life 12 2.4 Possible Baseline Trajectory and Emission Reductions of a CDM Project Activity 15 2.5 Decision Tree for Baseline Determination 20 2.6 Output and Input in Baseline Scenario 31 2.7 Output and Input of CDM Projects 31 3.1 Location of China's CDM Project Activities with Case Studies 72 3.2 Specific Investment Costs of the CDM Case Studies in China 76 3.3 Total CO2 Emission Reductions Related to the Incremental Costs of Emissions Reduction (ICER) of the CDM Case Studies 76 4.1 Framework of IPAC Emission Model 85 4.2 Structure of IPAC-AIM Technology Model 86 4.3 Linkage Framework of the Models 90 5.1 MACs for carbon dioxide in 2010 (from IPAC-emission model) 94 5.2 MACs for Carbon Dioxide in 2010 (from EPPA) 94 C H I N A C D M S T U D Y v C O N T E N T S 5.3 MACs for Carbon Dioxide-only in 2010 (from GTEM) 95 5.4 MACs for all GHGs in 2010 (from GTEM) 95 5.5 Comparison of MACs for the U.S. from Different Sources (carbon dioxide only) 96 5.6 Comparison of MACs for OECD (without U.S.) from Different Sources (carbon dioxide only) 96 5.7 Comparison of MACs for EFSU from Different Sources (carbon dioxide only) 97 5.8 Comparison of MACs for China from Different Sources (carbon dioxide only) 97 5.9 Comparison of Emission Reduction Requirements in 2010 for Different Regions from Different Sources with Sink Credits Deducted 100 5.10 Distribution of Kyoto Mechanism Profits among Regions ($ Billions, 2000 prices) 102 5.11 Global and China's Potentials and Price under Different BAU Projections and MACs 103 5.12 Impact of Different Factors on Carbon Price 106 5.13 Impact of Different Factors on Global CDM Potential 106 5.14 Impact of Different Factors on China's CDM Potential 107 5.15 Carbon Emissions for Three Different Scenarios in IPAC-AIM Technology Model 109 5.16 Share of Carbon Emissions by End-use Sector for the Market Scenario 110 5.17 Marginal Abatement Cost Curves by Sector 110 5.18 Emission Reduction Potential by Sector 111 5.19 Impact of Transaction Cost and CER Price on Commercial Viability of CDM Projects 112 5.20 Comparing Bottom-up Emission Abatement Potential (50$/tC) with Top-down Estimated CDM Potential (22$/tC), 2010 113 6.1 GDP Change by CDM Implementation in China 126 TABLES I.1 Structure of Primary Energy Consumption in China xxi I.2 Key Information in Ongoing CDM Study Activities in China, 2004 xxiii T.1 Key Methodological Terms in the CDM Process xxx T.2 Key Data on the Investigated Case Studies xxxiv T.3 Cost and Priority Ranking of Project Type xxxv T.4 Annex II Countries GHG Reduction Demand, Market Share by KP Mechanisms and Their Domestic Actions, and Estimated CER Price Range xxxvii 1.1 Selected Case Studies 6 2.1 The Spectrum of Baseline Methods 16 2.2 Variation in Calculated Carbon Offsets under Different Baselines 16 vi C H I N A C D M S T U D Y C O N T E N T S 2.3 Pros and Cons of Different Baseline Methods 17 2.4 General Information about CDM/AIJ Project Case Studies in China 19 2.5 Project Types and Corresponding Baseline Methods 19 2.6 Carbon Intensity Scenarios 23 2.7 Characteristics of Additionality Assessment from Different Aspects 29 2.8 Calculation of ICER and ICERT in the Case Studies 33 2.9 Estimation of Transaction Cost of CDM Project Activity (US$) 35 3.1 Shares of Installed Power Capacity and Power Generation in the Provinces where Potential CDM Project Activities are Located (2001) 42 3.2 Efficiency of Thermal Power Generation and Power Transmission Losses 42 3.3 Major Characteristics of Power Sector Relevant to CDM 44 3.4 List of 25Potential CDM Project Activities by Technology Category 45 3.5 Set of Criteria for the Evaluation of Promising CDM Projects 50 3.6 The Ranked Projects and the Pipeline of CDM Project Activities 51 3.7 Major Parameters for Huaneng-SC 53 3.8 Major Parameters for GSCC-TriGen 54 3.9 Data and Information to Verify GHG Emission Reductions 54 3.10 Major Parameters for BJ3TPP-GSCC 55 3.11 Standard Technical Specifications for 300MW Thermal Power Plant 56 3.12 Data to be Recorded and Gathered for the CDM Project 56 3.13 Major Parameters for SH-Wind-Farm Project 57 3.14 Major Parameters for Taicang-Biogas Project 58 3.15 Major Parameters for Zhuhai-LFG Project 59 3.16 Baseline Setting of the Six Case Study Projects 61 3.17 Impact of Different Baseline Approaches on CO2 Emission Reduction 63 3.18 Additionality Assessment Summary for Six Cases 65 3.19 Major Emission Reduction and ICER Data of the CDM Case Studies 67 3.20 Summary of Chances and Benefits from CDM Based on the Findings of Six Case Studies 70 3.21 Overview of Perceived Barriers and Suggested Mitigation Measures based on the Six Case Studies 71 3.22 Overview and Summary Table Comprising Other CDM Project Case Studies 74 3.23 Cost and Priority Ranking of Project Types 78 4.1 Classification of Energy End-use Sectors and Subsectors 86 4.2 Major Technologies Considered in the Model 87 5.1 Population of the Nine Regions 92 5.2 GDP of the Nine Regions 92 5.3 Reference Primary Energy Demand for the Nine Regions from IPAC-Emission Model (EJ) 93 5.4 Reference Carbon Emissions from Fossil Fuel Combustion for the Nine Regions (from IPAC-Emission Model) (GtC) 93 5.5 MACs Approximation of Coefficients for CO2 (from IPAC-Emission Model) 93 C H I N A C D M S T U D Y vii C O N T E N T S 5.6 Kyoto Target using all GHG Emissions in 1990 (MtC) 97 5.7 Kyoto Target using Carbon Dioxide Emissions only in 1990 (MtC) 98 5.8 Business-as-usual Projections from Different Models for 2010 (MtC) 98 5.9 Reduction Requirements to Achieve the Kyoto Target for 2010 (MtC) 98 5.10 Credits from Carbon sequestration for Domestic Action and JI Projects, (MtC) 99 5.11 Reduction, Marginal Cost, and Total Abatement Cost for Annex I without CDM, JI, and ET 101 5.12 Modeling Results for the Base Scenario 101 5.13 Impact of BAU Projections and MACs on Carbon Market 103 5.14 Impact of Implementation Rate on Carbon Market 104 5.15 Impact of U.S. Participation Rate on Carbon Market 104 5.16 Impact of CDM's Transaction Cost on Carbon Market 105 5.17 Impact of Supplementarity on Carbon Market 105 5.18 A Comparison of Assumptions for the Base, High, and Low Scenarios 107 5.19 Comparisons of Future Carbon Market for Different Scenarios 108 5.20 Assumption for China's Future Population (million) 109 5.21 Assumptions for China's Future GDP Growth (%) 109 5.22 Share of Emission Reductions by Sector 111 5.23 Project Size and Transaction Cost 112 5.24 Contribution of Different Sectors to the 21.6 MtC CDM Potential Resulting from CERT Analysis 113 5.25 Technologies Contributing to GHG Emission Reductions in the Short and Middle Term 115 5.26 Annex II Countries Emission Reduction Requirements, CDM Market Size, and CER Price Range Estimated 119 5.27 Annex II Countries GHG Reduction Demand and its Market Offset Share among Kyoto Mechanisms and the Domestic Actions by Annex II Countries in Basic Scenario 119 6.1 Production Sectors and Subsectors 122 6.2 Population Assumed in IPAC-SGM, thousands 123 6.3 GDP Assumption in IPAC-SGM, million Yuan (in 1990 price) 123 6.4 Commercial Primary Energy Consumption (Mtce) 124 6.5 Net Foreign Investment Increase Caused by CDM, (in million US$) 124 6.6 Annual Change in Efficiency Improvement Assumption as a Result of CDM in IPAC-SGM 125 6.7 Investment in Power Sector, billion $ 125 6.8 Value Added in Machinery Sector, billion $ 125 6.9 CDM Impact on China's GDP 126 BOXES 3.1 Baseline Setting and "Power Shortage" 64 3.2 Five-Year Power Development Planning in China 65 viii C H I N A C D M S T U D Y Abbreviations and Acronyms 3-E Energy, Environment and Economy (Institute at Tsinghua University) AAUs Assigned Amount Units ABARE Australian Bureau of Agricultural and Resource Economics AC Alternating Current ADB Asian Development Bank AIJ Activities Implemented Jointly AIM Asian-Pacific Integrated Model ALGAS Asian Least-Cost Greenhouse Gas Abatement Strategy AMI Agro-Meteorology Institute (of CAAS) BAU Business As Usual BJ3TPP Beijing No. 3 Thermal Power Plant BP British Petroleum BOF Basic Oxygen Furnace C5 China-Canada Cooperation on Climate Change CAAS Chinese Academy of Agricultural Sciences CASS Chinese Academy of Social Sciences CCAP Center for Clean Air Policy CDM Clean Development Mechanism CDM M&P CDM Modalities and Procedures ce coal equivalent CERs Certified Emission Reductions CERT Carbon Emission Reduction Trading Model CERUPT Certified Emission Reduction Unit Procurement Tender CFBC Circulating Fluidized Bed Combustion CGE Computable General Equilibrium CHP Combined Heat and Power CH4 Methane CHN China CO2 Carbon Dioxide COD Chemical Oxygen Demand C D M I N C H I N A ix A B B R E V I A T I O N S A N D A C R O N Y M S COP Conference of the Parties COP/MOP Conference of the Parties serving as Meeting of the Parties to the Kyoto Protocol CP Capacity of electric power DA Domestic Action DAE Dynamic Asian Economies DC Direct Current DNA Designated National Authority DOE Designated Operational Entity DTE Department of Thermal Engineering (at Tsinghua University) EASES Environment and Social Development Department of the East Asia and Pacific Region (the World Bank). EB Executive Board of CDM EE Energy Efficiency EEC European Union EEX Energy Exporting countries EF Emission Factor EFSU Eastern Europe and the former Soviet Union EIA/USDOE Energy Information Administration/U.S. Department of Energy EIT Economies in Transition EM GHG Emissions EN Energy Consumption EPPA Emission Prediction and Policy Assessment Model ER GHG Emission Reduction ERB Edmonds-Reilly-Barns ERI Energy Research Institute, NDRC ERUs Emission Reduction Units ET Emission Trading ETH Zürich Swiss Federal Institute of Technology EU European Union FDI Foreign Direct Investment FSU Former Soviet Union gC gram carbon GCCI Global Climate Change Institute (at Tsinghua University) GDP Gross Domestic Product GEF Global Environment Facility GHG Greenhouse Gas GSCC Gas-Steam Combined Cycle GTEM Global Trade and Environment Model GTZ Gesellschaft fur Technische Zusammenarbeit GW Gigawatt HFCs Hydrofluorocarbons ICER Incremental Cost for Emission Reduction IEE Institute of Environmental Economics (at Renmin University) IGCC Integrated Gasification Combined Cycle IMET Italian Ministry of Environment and Territory x C D M I N C H I N A A B B R E V I A T I O N S A N D A C R O N Y M S IND India INET Institute of Nuclear and New Energy Technology (at Tsinghua University). IPAC Integrated Policy Analysis Model for China IPCC Inter-Governmental Panel on Climate Change IPP Independent Power Producer IRR Internal Rate of Return JI Joint Implementation JPN Japan KP Kyoto Protocol kVA kilo-Volt Ampere kWh kilo-Watt tour LA Latin America LFG Landfill Gas LULUCF Land Use, Land Use Change and Forestry MAC Marginal Abatement Cost ME Middle East MFA Ministry of Foreign Affairs MOA Ministry of Agriculture MOF Ministry of Finance MOST Ministry of Science and Technology MP Methodology Panel MPa Mega Pascal MT Million Tons Mtce Million Tons of Coal Equivalent Mtoe Million Tons of Oil Equivalent MVP Monitoring and Verification Plan MW Megawatt N2O Nitrous Oxide NC National Communication NCCC National Coordination Committee for Climate Change NDRC National Development and Reform Commission of China (former SDPC) NEDO New Energy and Industrial Technology Development Organization, Japan NGCC Natural Gas Combined Cycle NGO Nongovernmental Organization NOx Nitrogen oxides NPC National Project Coordinator NPC The National People's Congress NPV Net Present Value NSS National Strategy Study Program (sponsored by the World Bank) O&M Operation and Maintenance ODA Official Development Assistance OE Operational Entity OECD Organisation for Economic Co-operation and Development OECD-P Pacific parts of OECD OECD-W European and Canadian parts of OECD C D M I N C H I N A xi A B B R E V I A T I O N S A N D A C R O N Y M S OHF Open Hearth Furnace OOE Other OECD countries PCF Prototype Carbon Fund PDD Project Design Document PFBC Pressurized Fluid Bed Combustion PFCs Perfluorocarbons PNNL Pacific-Northwest National Lab PPA Power Purchase Agreement PR-I 1st Progress Report (or PRI) of the China CDM study project PR-II 2nd Progress Report (or PRII) of the China CDM study project R&D Research and Development RMB Ren Min Bi (Chinese Currency) RMUs Removal Units ROW Rest of the World SA South Asia SC Steering Committee SC Super-Critical SD Sustainable Development SDPC State Development Planning Commission (now NDRC) SECO Swiss State Secretariat for Economic Affairs SEA South and East Asia SEPA State Environmental Protection Administration of China SERC State Electricity Regulatory Commission SETC State Economic and Trade Commission SF6 Sulfur Hexafluoride SGM Second Generation Model SH Shanghai SICP Sino-Italian Co-operation Program for Environmental Protection SO2 Sulfur Dioxide TAG Technical Advisory Group Tce Ton of Coal Equivalent Toe Ton of Oil Equivalent TOR Terms of Reference TRT Top Gas Pressure Recovery Turbine TWh Terawatt-hour UNCED United Nations Conference on Environment and Development UNDP United Nations Development Programme UNFCCC United Nation Framework Convention on Climate Change US United States VAT Value Added Tax WB The World Bank xii C D M I N C H I N A Foreword The Clean Development Mechanism (CDM) study should have a strong upfront focus on offers important opportunities for sustainable CDM case study development in order to opti- development in China. The energy sector, in par- mize its operational relevance. Since other stud- ticular, could benefit through new approaches in ies also were under way in China, the sector energy efficiency and renewable energies. Emis- focus was narrowed to the electric power gener- sions reduction options, which can be trans- ation sector. ferred to industrialized countries to meet their Furthermore, the Chinese Government ex- obligations under the Kyoto Protocol, are also pressed keen interest in obtaining scientifically available in other sectors. based projections of China's potential position The CDM sets out a challenging and complex in an international carbon trading market under procedure to be applied in country-specific cir- different scenarios. The study also needed to cumstances. China still has to decide on a include estimates of CDM's possible impact on detailed national approach for the CDM. In China's national economy. addition, policy issues will also influence the Based on this analysis, the study came to a CDM approach. When initiating this study- number of conclusions. project in late 2001, the four principal spon- First, the study questions the conventional sors--the Chinese Ministry of Science and wisdom that a rather large pool of cheap carbon Technology; the Deutsche Gesellschaft für Tech- dioxide reduction options are available in China, nische Zusammenarbeit (German Technical at least in the power sector. The potential share Cooperation GTZ), on behalf of the Federal for China in the world carbon trading market Ministry for Economic Cooperation and Devel- still appears large--perhaps on the order of opment; the Swiss State Secretariat for Economic 50 percent in the long run. At the same time, Affairs (SECO); and the World Bank--therefore there are large differences in emission reduction realized this would be a challenging task. costs among sectors, indicating that only a lim- The study's sponsors also realized that estab- ited part of the studied sectors--the low-cost lished CDM methodology could be challenged sectors--may immediately be relevant for CDM in the face of China's varied economic condi- application. These factors suggest that China tions and potentially critical role in the interna- may not completely dominate the market. tional climate change regime. From the outset, Second, there is a strong need for capacity the Chinese Government emphasized that the building through actual CDM project develop- C D M I N C H I N A xiii F O R E W O R D ment and in transferring this knowledge to the of the issues reflected in this report. We are provinces and local areas in China where CDM convinced that China will--as it has in so projects are being developed. It is important to many other cases of international coopera- strengthen the linkages between the central gov- tion--shape and implement a policy that ernment's interest in CDM and local initiatives. wisely integrates the achievements of interna- Since the Kyoto Protocol--and thus CDM-- tional agreements with specific Chinese devel- may become a reality, China has many chal- opment demands. lenges ahead in capitalizing on possible CDM We believe this study-project was an impor- options. China is now soundly engaged in for- tant step that will help China's efforts to develop mulating a CDM policy that responds to many a proactive and sustainable approach to CDM. Maria Teresa Serra Hans-Peter Egler Arno Tomowski Wang Xiaofang Sector Director Head of Trade and Director, Infrastructure Director General, EASES, World Bank Clean Tech. Div., SECO & Environment, GTZ Rural & Social Dev. Dep., MOST NOTE TO THE 2ND EDITION Immediately following the publication of the enterprises--working on CDM application in first edition of this report, it was presented at the China. This second edition adds the main out- China CDM Conference in July 2004. At this comes from the conference, including written event, the Government of China also presented material and video clips of important presenta- and discussed the Interim Measures for Operation tions and discussions, as well as the new interim and Management of CDM Projects in China, measures. It also includes some corrections and which was put into effect the day before the con- modifications to the original text. This edition ference. The conference became a forum to discuss also is in response to the unexpectedly large China's CDM potential among the main Chi- audience that has requested information about nese and international institutions--including possible CDM application in China. xiv C D M I N C H I N A Acknowledgments This report is the result of a collaborative re- (3-E), the Institute of Nuclear and New Energy search effort by joint Chinese and international Technology (INET), and the Department of staff. In order to coordinate the work by a large Thermal Engineering (DTE), all at Tsinghua number of Chinese research staff from different University; the Department of Resource Con- Chinese institutions, a Chinese research associa- servation and Comprehensive Utilization of tion was established under the overall coordina- NDRC (formerly part of SETC); the Agro- tion of the Global Climate Change Institute Meteorology Institute (AMI) of the Chinese (GCCI) at Tsinghua University. Additional Academy of Agricultural Sciences (CAAS); and researchers came from Ernst Basler & Partners, the Electric Power Division of NDRC (formerly a World Bank consultant; INTEGRATION, a part of SDPC). GTZ consultant; the World Bank; the Deutsche Researchers in the association included Wu Gesellschaft für Technische Zusammenarbeit Zhongxin (GCCI, Vendor Manager), Liu De- (GTZ); and MOST. For an overview of project shun (GCCI, National Project Director), Duan participants, refer to Annex 8 in the CD-ROM Maosheng (GCCI, team leader for methodology attachment. chapter), Zou Ji (IEE), Li Yu'e (AMI), Su Ming- We would like to express our deepest grati- shan (GCCI), Wang Yanjia (GCCI), Ma Yuqing tude to the Governments of Switzerland and (INET, team leader for case studies), Hao Wei- Germany, which provided the funds to carry out ping (NDRC), Zhao Yong (INET), Zhao the study, publish the findings, and present the Xiusheng (INET), Gu Shuhua (INET), Zhang study results to a larger audience. Without their Xiliang (INET), Lu Chuanyi (3-E), Tong Qing support, the CDM capacity building project and (3-E), LuYingyun (3-E), Wei Zhihong (3-E, the study would not have been possible. team leader for CDM modeling), Jiang Kejun Within the Chinese research association, a (ERI), and Chen Wenying (3-E). The team has wide range of technical research institutions also been supported by other technical experts in contributed substantially to this effort, including the association from local institutions and indus- the Energy Research Institute (ERI) of the tries, including Beijing Zheng Dong Electronic- National Development and Reform Commis- Electricity Co. Ltd., Beijing Municipal sions (NDRC); the Institute of Environmental Commission of Development Planning, Shang- Economics (IEE) at the Renmin University; the hai Wind Power Co. Ltd., Beijing Jingjin Ther- Institute of Energy, Environment and Economy mal Electric Power Co. Ltd., Guangzhou Light C D M I N C H I N A xv A C K N O W L E D G M E N T S Industry Design Institute, QinBei Super Critical Chinese enterprises; refer to Annex 7 in the Project Construction, Huaneng Group Co., CD-ROM attachment for participants and min- Shanghai Meishan Iron and Steel Co. (Nanjing) utes from stakeholder meetings. and Beijing Third Thermal Power Plant. A technical advisory group (TAG) for the Researchers in the Ernst Basler & Partners study--including Zhou Dadi (ERI), Ma Aimin INFRAS team included Othmar Schwank (team (NDRC), Pan Jiahua (Chinese Academy of coordinator), Markus Sommerhalder, Gerard Social Sciences-CASS), Anne Arquit Nieder- Sarlos, Juerg Fuessler and Juerg Gruetter. For the berger (Policy Solutions), and Michael Rumberg INTEGRATION team, researchers included (TÜV Süddeutschland)--presented their report Andreas Oberheitmann (team coordinator), Gert to the SC in December 2003. Thereafter, the Oljeklaus, Fenno Brunken, and Gunther Haupt. TAG actively assisted in drafting the institu- The work was coordinated by a project steer- tional and concluding parts of the report. ing committee (SC), which included representa- Additional inputs, comments, and review of tives from the MOST, GTZ, SECO, and the the text draft were provided by Gao Feng (MFA), World Bank.1 SC participants included Lu Xuedu Li Liyan (NDRC), Zhang Zhonxiang (East-West (MOST, SC Chairman), Holger Liptow (GTZ, Center), Franck Lecocq, Neeraj Prasad, Daniel Climate Protection Programme), Paul Suding, Hoornweg, Todd Johnson, Masaya Inamuro, and Xu Zhiyong (GTZ-China), Gerrard Burger- Liu Feng, Nuyi Tao, Salvador Rivera, Chandra meister and Zhang Huihui (Swiss Embassy in Shekhar Sinha, Andres Liebenthal, Robert Beijing), Peter J. Kalas and Eduardo Dopazo Crooks, Robin Broadfield (World Bank staff) and (World Bank), Jostein Nygard (World Bank Task Qi Zhai (World Bank intern). Team Leader), and Andrea De Angelis (Italian The report was edited by Robert Livernash Ministry of Environment and Territory).2 Project (consultant). Circle Graphics did the design and operations have mainly been managed by Liu managed the typesetting. Production was super- Deshun, Jostein Nygard, and Holger Liptow. vised by Denise Marie Bergeron. Photos have As part of the research process, several work- been provided by Circle Graphics and Anne shops were arranged that included external par- Arquit Niederberger. ticipants from other government agencies and 1NDRC, Ministry of Finance (MOF) and Ministry of For- eign Affairs (MFA) have also participated in several of the critical study review meetings. 2IMET, through their representative in the Sino-Italian Cooperation Program for Environmental Protection, par- ticipated in the SC based upon a separate activity focusing on CDM application in energy efficiency in buildings and industrial production projects. The result from this study is being published separately. xvi C D M I N C H I N A Executive Summary The China CDM study analyzes key method- to capitalize on its CDM potential during the ological issues related to the Clean Development first commitment period from 2008 to 2012. Mechanism from China's perspective. It includes · Chinese enterprises face barriers to CDM devel- six case studies of potential CDM projects--five opment and implementation in practice. power generation projects and one landfill gas project--and evaluates China's CDM potential Based on the assessment of the significance of through 2010. CDM opportunities for China, the study consid- Based on the analytical results and experience ers barriers to CDM project implementation, gained through the China CDM study, and con- including needs for capacity building based on sidering both the evolution of the international China's special circumstances and interests. In CDM regime and China's particular national cir- addition, the study makes a number of recom- cumstances, this report outlines a Chinese CDM mendations for decision makers regarding: approach that: · China's CDM strategy, policy, and implementa- · Emphasizes sustainable CDM by ensuring the tion plans: adopt a proactive and sustainable contribution of CDM project activities to sus- CDM policy. tainable development in China. · Urgent steps to facilitate CDM transactions: pro- · Takes a proactive approach to take early advan- vide basic services to allow CDM in China; tage of CDM opportunities during the first ensure that critical capacity is developed; and commitment period. encourage CDM project identification and The recommended approach is based on the implementation. following main insights from the methodologi- · Longer-term considerations: consolidate results/ cal, case study, and modeling work undertaken enhance synergies across CDM initiatives and by the study team: undertake follow-up analysis on key issues. · Implementation of the CDM in China can Combining a top-down with a bottom-up deliver significant local economic and sustain- approach, the study sought to analyze China's real able development co-benefits. circumstances. The study presents a comprehen- · China's CDM potential represents a substan- sive package of conclusions and recommendations tial component of the global carbon market. to the Chinese Government, potential project pro- · CDM projects must be identified and devel- ponents, and the interested national and inter- oped within the next couple of years for China national audience. C D M I N C H I N A xvii Introduction INTERNATIONAL AND DOMESTIC issues (in particular, the CDM) was adopted as CONTEXT FOR CDM IN CHINA documented in the Marrakech Accords. This agreement paved the way for Annex I Parties to Introduction to the CDM ratify the Kyoto Protocol and thus bring it into force. The Marrakech Accords elaborated the The Clean Development Mechanism (CDM) is modalities and procedures for the CDM, includ- one of the three flexible mechanisms established ing institutional, methodological, technical, and under the Kyoto Protocol (KP 1997). The CDM procedural aspects, with a view to a prompt start allows developed countries listed in Annex 1 of to CDM project implementation, even before the United Nations Framework Convention on entry into force of the Kyoto Protocol. Under the Climate Change (UNFCCC) to invest in green- Marrakech mandate, the CDM Executive Board house gas (GHG) emission reduction projects in (EB) and affiliated panels--such as the Method- non-Annex 1 developing countries and to claim ology Panel, Small-Scale CDM Panel, and Oper- the resulting Certified Emission Reductions ational Entity Accreditation Panel--were estab- (CERs) to assist them in compliance with their lished to make the CDM operational. binding GHG emission reduction commitments under the Protocol. At the same time, CDM proj- ect activities contribute to sustainable develop- China's Climate Change and other ment in the host developing countries. The CDM Related Policies is thus conceived as a project-based win-win China signed the UN Framework Convention on mechanism that can provide increased flexibility Climate Change in 1992, but climate policies (temporal, geographical, sectoral) to developed have not been high on the agenda of government countries, which can reduce their overall cost of decision makers, and no explicit climate mitiga- compliance with Kyoto commitments, while pro- tion or adaptation policies are in place. China's viding the CDM project hosting partners with pursuit of sustainable development, however, has additional funds and advanced technology. in many respects been consistent with climate pro- At the Seventh Session of the Conference of tection. China takes active part in international the Parties to the UNFCCC (COP-7) convened and domestic activities regarding global climate in Marrakech in November 2001, a package of change. Furthermore, China ratified the Kyoto high-level political decisions on Kyoto Protocol Protocol in August 2002, making the country C D M I N C H I N A xix I N T R O D U C T I O N eligible for CDM participation in competition 7.8x105 km in 2001, 7.7 percent greater than that with other developing countries. China's initial in 2000, while the corresponding transformer national communication is in the final stage of capacity rose to 1.1x109 kVA (kilo-Volt Ampere), preparation and is expected to be approved by the a 12.2 percent increase over the level in 2000. central government in 2004. This will provide The central government of China's long-term official greenhouse gas emission inventory data, target is an average economic growth rate slightly which are important for assessing priority areas for higher than 7 percent, which will lead to a four- CDM projects. fold GDP increase by 2020. It is estimated that Sustainable development is a national strategy, the annual increased rate of electricity demand and related policies and measures also generate cli- will range from 5.5 to 6.0 percent, which could be mate benefits. During the past two decades or so, as high as 6.5 to 7.0 percent through 2010. China has promulgated dozens of laws and regu- During the period from 1980 to 2000, energy lations that promote sustainable development, consumption in China doubled (Table I.1). with positive impacts on climate change, includ- Because of energy resource limitations, coal dom- ing laws on environmental protection, energy inates energy use in China, accounting for nearly conservation, development of new and renewable 66 percent of total primary energy consumption energy, reforestation, soil and water conservation, in 2000. There was a decrease of energy con- and the like. From 1998 through 2002, a total of sumption after 1997 and a rebound since 2000, 580 billion yuan, accounting for 1.29 percent of with energy consumption increasing to 924 Mtoe GDP, was invested in improvement of the envi- in 2001, 1,015 Mtoe in 2002, and about 1,080 ronment and preservation of ecosystems. Efforts Mtoe in 2003. are now under way to prepare regulations or Greenhouse gas emissions detailed policies to implement the China Energy Conservation Law. Forest cover has increased Even though no official national GHG emissions from 13 percent in 1988 to 16.7 percent today, inventoryhasbeen published so far, several studies which contributes to carbon sequestration. Inter- have developed emissions data for 1990. These national cooperation has been strengthened to inventories mainly cover emissions of carbon diox- assist with building capacity to address global cli- ide (CO2) and methane from different sources, mate change. including fossil fuel combustion; fugitive emis- sions from coal mines and natural gas and oil Energy Consumption and exploitation; emissions from industrial process; and Greenhouse Gas Emissions in China emissions from agriculture and land use change. Estimates of carbon dioxide emissions from Energy consumption fossil fuel combustion range from 2,050 to 2,445 Together with rapid economic growth, energy million tons of CO2. Emissions from industrial production and consumption in China have in- processes range from 81 to 104 million tons of creased quickly. China's power industry has been CO2. Fugitive emissions from fossil fuel produc- experiencing rapid development in recent years, tion range from 5.7 to 18.5 million tons of CH4, with 338.6 GW (Gigawatt) installed capacity and while emissions from agriculture, land use, and 1483.8 TWh (Terawatt-hour) annual generation land use change range from 12.6 to 20.9 million as of 2001, and with capacity and generation in- tons of CH4. The biological carbon sink associ- creasing at 6.0 percent and 8.4 percent annually, ated with land use and land use change ranges respectively. Coal-fired power plants accounted from -154 to 315 million tons CO2. for 81 percent of total electricity generation in The total emissions of CO2 for the period 2001. Construction of transmission lines at the 1990-2002 are estimated in Figure I.1. Studies to 35 kV (kilo-Volt) and higher voltage levels reached compile emission inventories have estimated that xx C D M I N C H I N A I N T R O D U C T I O N emissions from fossil fuel combustion account for T A B L E I . 1 Structure of Primary Energy Consumption around 80 percent of total emissions. The break- in China down of CO2 emissions from fossil fuel combus- tion is calculated and presented in Figure I.2. Shares(%) Carbon dioxide emissions from the power gener- ation sector represent the biggest share of primary Energy energy consumption (41 percent). Taking account Consumption Natural (Mtoe) Coal Oil Gas Hydropower Nuclear of other GHGs (N2O, HFCs, PFCs and SF6), the share of CO2-equivalent emissions captured by the 1980 422 72.2 20.7 3.1 4.0 0 power generation sector would be lower. 1990 691 76.2 16.6 2.1 5.1 0 Not all power sector technologies are suitable 2000 912 65.9 24.5 2.5 6.7 0.4 for CDM project activities. In this study, tech- nologies to be evaluated in the case studies were Source: State Statistical Bureau selected according to their contribution to the overall attractiveness of projects in a CDM proj- ONGOING CDM-RELATED ect pipeline, including their (a) potential to reduce ACTIVITIES IN CHINA GHG emissions significantly; (b) local environ- mental benefits; and (c) the availability of data Overview of the Various Initiatives regarding the status of project progress. The case studies selected thus cover a consid- A number of major CDM activities (capacity erable share of the total emission reduction building, analysis, case studies, pilot CDM pro- potential in the Chinese power sector. jects) sponsored by international donors are cur- F I G U R E I . 1 CO2 Emissions in China from 1990 to 2002 3000 2500 2000 ) Coal Combustion 2 1500 Oil Combustion Gas Combustion (Tg-CO 1000 Biofuel Combustion Cement Production 500 Biomass Burning Emissions Carbon Uptake 0 ­500 ­1000 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 Year C D M I N C H I N A xxi I N T R O D U C T I O N Several CDM financing workshops were held F I G U R E I . 2 CO2 Emissions by Sectors in past few years in China to bring together Chi- nese CDM proponents and potential interna- Transport Residential tional investors. After several years' preparation 8.7% 5.6% and negotiation, some progress has been achieved, Service and there are a number of CDM projects currently 2.7% being developed for implementation in China. The following two examples are renewable energy Power projects, a wind farm project and a hydropower Generation 41.1% project. Industry 34.3% Huitengxile windfarm project The first CDM project in China is the Huitengx- ile windfarm project. Participants in the project are the project proponents (Inner Mongolian Heat Wind Power Corporation, together with Chinese 5.1% Agriculture Renewable Energy Industries Association) and 2.6% the investor (CERUPT, the Dutch Government's CDM credit procurement program). The project is located in Huitengxile, Inner Mongolia, with rently ongoing in China (Table I.2). To avoid total wind power capacity around 34.5 MW. overlap with other ongoing CDM study efforts, Nine turbines of 600 kW each were installed in the case studies in this project include three fossil 2001 and put into operation in January 2002. thermal and three renewable projects in the elec- Another ten 600 kW turbines were installed in tricity generation sector, while other studies focus 2002 and put into operation in December 2002. on other sectors. Of course, the full picture of Construction of the last of turbines was scheduled potential CDM projects in China would be best to commence in September 2003. reflected by integrating achievements from all the The annual average CO2 reduction of the case studies carried out in these ongoing CDM CDM project is calculated as 60,024.8 tons and project studies, including this World Bank/GTZ the crediting period is taken as 10 years, result- Germany/SECO Swiss sponsored project. ing in total CO2 reduction credits of 600,248 tons. This project has been selected as a supplier of carbon credits by the Dutch Government. Progress on Ongoing CDM Projects After years of negotiation, the contract of this In addition to undertaking CDM project case CERUPT project between the Governments of studies, it would be desirable to utilize the capac- the Netherlands and China was signed in the ity built through such efforts to develop some second half of 2002. All CO2 credits generated of the case studies into realistic CDM projects. by the project will be purchased by the investor, Because CDM activities are in the very begin- and the investor will have the first right of refusal ning stage in China, proponents of the CDM to purchase any surplus credits. According to the project case studies have great difficulties to contract, the price being paid for the CERs is process CDM projects without initial financial 5.4 Euros per ton of CO2. support, so assistance to find appropriate sources At the request of the investor, key project doc- of financing and donors interested in CDM proj- uments are currently undergoing revision (for ects is crucial. example, the PDD must be improved to meet the xxii C D M I N C H I N A ) coal- Pack- pre- Project Building provide energy and studies project CDM CDM technical continued( and and methane China Policy Training Development Implementation pilot study efficiency bed CDM Support, CDM age and Prepare feasibility and facilitation Develop website on-going support maintenance UNDP Case Renewables, Across 1. 2. 3. 4. evalu- CDM power to regulatory technical study the sector and study ate potential BP Case Electric Guangdong Policy, building Guangxi study ADB Case Renewables Gansu, Capacity sur- cost 2004 sector on Hebei, China expert the and onsite in power Mongolia, China, (3-E) and China in CDM vey interview provinces, Inner Shanxi) potential of Japan Regional Electric North (3 Estimating Activities and out- studies urban Study and and case (C5) CDM training, reach, transportation sink outreach impacts communications Canada Staff Renewables, Ningxia Awareness Adaptation National CDM Ongoing on case pol- sector and and barriers Power Shanghai renewables) Henan, and models studies Modeling analysis, studies methodology potential Price insights, CDM Information modeling studies; generation (fossil, case Guangdong Jiangsu, applicability, icy recommendations for WB/GTZ Case Macro Workshops Economy-wide Beijing, Global CDM CDM MAC, CER Impact Benefits Key I.2 issues TABLE methodologies applied addressed Donor Study Sectors Regions Key C D M I N C H I N A xxiii case CDM outreach of PDDs recommen- capacity CDM website CDM training CDM policy China CDM dations, building, study, Assessment in CDM materials Three A UNDP 2004-2006 CDM 1. 2. 3. 4. study case report BP 2002-2003 CDM PDD Study report building ) projects small-scale study for CDM ADB 2002-2003 Capacity PDD Case Continued( 2004 CDM Poten- CDM, of potentials CDM China, ER (3-E) costs PDD in China methodology, GHG and in tials, Japan 2001-2005 Promoting Sectoral Activities to on & Study reduction, inter-s climate and building, objectives (C5) rules advice studies contribute CDM poverty and Canada' national change Information CDM procedures Case Methodological analysis policy Canada 2002-2004 Capacity 1. 2. 3. Ongoing on of case CDM the for by PDDs the on work- PDD China, assessment building, in China context and in findings study in the report study Information case development methodological guidelines CDM assessment studies, of market global study reports shop preparation WB/GTZ 2002-2004 Capacity Final Six Final Training Key I.2 period TABLE Donor Time Objectives Output xxiv C D M I N C H I N A I N T R O D U C T I O N requirements and standards issued by CDM tion. While preparing the necessary reports and Executive Board with respect to baseline method- sending them to the World Bank, the proponent ology, monitoring methodology, and plan). As (XHP) and the Bank were also processing a State- this CERUPT project is a pioneer CDM project ment of Intent for creating the PCF project. For in China, the cumulative experience gained from this XHP project, the CO2 price was set through preparation of the necessary documents, sub- negotiation at around $4 per ton of CO2. Con- mission to the host country's designated agency sidering the closing date of PCF, the ERPA for approval, the price negotiation process, and (Emission Reduction Purchase Agreement) of project implementation and monitoring will be PCF XHP is expected to be signed in the fourth very helpful for promoting CDM projects in quarter of 2004. future years. CHINA CDM STUDY BACKGROUND Xiaogushan hydropower plant In 1997, the World Bank launched the National The second CDM project in China is the Xiao- Strategy Study Program (NSS) together with the gushan hydropower plant (XHP) project. The government of Switzerland. Since then, the Pro- project proponent is the Xiaogushan Hydropower gram has expanded to include other donor coun- Company and the investor is the Prototype Car- tries, including Germany, Italy, Finland, and bon Fund (PCF) of the World Bank (WB). The Australia, to assist its partner developing countries XHP project is located in Zhangye in Gansu in exploring the opportunities and benefits of par- Province. It is a run-of-river power plant with a ticipating in CDM projects. One form of assis- total hydropower capacity of 98 MW and includes tance is to support country studies that develop a diversion weir, intake tunnel, power plant, a road CDM methodologies and analyze GHG emission connecting the weir and power plant, and 110 kV reduction potentials in different regions by iden- transmission line for power evacuation. The tifying promising CDM technology categories project construction started in early 2003 and and project-type options with cheap GHG emis- will be completed in early 2005. All compo- sion reduction costs. The program also would like nents of the project lie within the same sparsely to assist the partner countries to explore possible populated county. The project will contribute policies and measures and to create a sound to easing power supply shortages, protecting enabling environment and platform to enhance the environment, and removing poverty in capacity building for the CDM and overcome local regions. existing barriers to CDM project implementa- The annual average CO2 reduction of the tion, based on the partner country's real circum- CDM project is calculated as 372,300 tons, the stances and interests. credit period is taken as 10 years and the total The study program also focuses on CDM CO2 reduction credit produced by the project project case studies leading to development of amounts to 3,723,000 tons. Recommended by CDM Project Design Documents (PDD) and the National Climate Change Coordination preparation of proposals for feasible CDM project Office of China, the WB selected XHP as one of options in the selected sectors. the potential PCF projects in China. In October Based on common understanding and inter- 2003, the Chinese side completed the Project ests, the World Bank/GTZ Germany/SECO Concept Note and submitted it to WB, which Swiss reached an agreement with MOST on sent a team of WB officials and international behalf of the Chinese Government to carry out the experts in November 2003 to Gansu Province for proposed China CDM Study project funded by a site visit to collect relevant data and informa- the Governments of Switzerland and Germany.1 C D M I N C H I N A xxv I N T R O D U C T I O N Motivation and Objectives ing a project pipeline with industries in China of the Study and abroad. · Better understand the market opportunities The China CDM Study was developed to meet and economic benefits for China when partici- the following needs for China: pating in CDM by identifying China's CERs 1. There is a need for China's academic and con- supply potential; analyzing marginal abatement sultant institutions to develop a better under- cost curves (MAC) and priority technology and standing of CDM methodologies and how to sector areas; simulating the market price trends prepare better applications for CDM projects of CERs and China's market share in the world based on China's real circumstances. CDM carbon market under selected scenarios; 2. At the micro level, there is a need for China's assessing the impacts of CDM on China's eco- project participants (public and private sec- nomic development; and evaluating barriers, so tors) to learn how to identify, develop, and as to identify the policy implications of CDM implement an eligible CDM project in the for China. whole project cycle. A practical way to meet the need is "learning by doing" through CDM In general, these objectives also mean an over- project case studies. all far-reaching objective: to enhance overall 3. At the macro level, there is a need for China's capacity building for China to participate in policymakers to know the potential demand CDM. The structure of the study follows these for CERs in the world carbon trade market, objectives. as well as price trends. In order to formulate appropriate CDM strategy and policy for China, they also need to know the least-cost Structure of the Study Report CERs/CDM supply potential and priority The Chinese Government and World Bank/ areas by technology and sector in China, as GTZ Germany/SECO Swiss agreed that the con- well as their policy implications and the tent of the study is based on the real needs and impact of CDM on China's economy. interests of the Chinese side. The project activi- ties were structured as three tasks: Hence, the overall concept of the China CDM Study project is to enhance capacity build- · Task 1: Methodological and technical issues ing in implementation of CDM at the level of for CDM. individual projects (micro level), while simulta- · Task 2: CDM project case studies. neously developing CDM strategy and policy at · Task 3: Analysis of China's CDM potential the macro level for the Chinese side. The overall and impacts on economic development. objectives of the study are to: Meanwhile, inter-linkages between the three · Better understand CDM methodological and tasks were established to support each other. The technical issues in order to provide technical linkages are illustrated in Figure I.3. advice on how best to apply the CDM method- The inter-linkage between Task 1 and Task 2 ology guidelines to real CDM projects in China. was established in such a way that Task 1 pro- · Build up capacity and experiences in CDM vided technical training and assistance to Task 2 project development through typical case regarding methodological and technical issues in studies in the electric power generation sector the case studies, and discussed with Task 2 the (fossil, renewable) in China, with a view toward appropriate application of related CDM method- preparing eligible CDM PDDs and establish- ologies in case studies. Task 2 then ensured that xxvi C D M I N C H I N A I N T R O D U C T I O N F I G U R E I . 3 Overview of Main Outputs and Inter-linkages Among Tasks 1, 2, and 3 T3: CERT: Global CER demand, price, China's market share T3: economic impact of T3 AIM: bottom up GHG CDM emissions & CER supply potential by major sector, key technologies Task 3: CER supply/demand, price, CDM impact on development T3/1 interaction T2/3 interaction Task 1 Task 2 Streamlining Mainstreaming key tech- CDM methodologies nologies for CDM pipeline; Demonstration of whole CDM project cycle T1/2 interaction each of the CDM methodological issues addressed The final report is divided into two Parts. by Task 1 was studied in-depth in one selected Part I covers the CDM Methodology and Case case study, in cooperation with Task 1. Studies, which contains the results of Task 1 Moreover, as far as the inter-linkage between and Task 2. Part II covers China's CDM poten- Task 3 and Task 2 is concerned, the linkage is tial and an impact assessment of CDM on established in such a way that Task 3 provided China's socioeconomic development, which results of the IPAC-AIM technology model covers the results of Task 3, as well as conclu- regarding CO2 emission mitigation potential in sions and recommendation. China and their share by sectors for 2010, as well as the priority list of technology options for CO2 emission reductions, including the advanced Study Partners electric power technologies. Task 3 also supplied the marginal abatement cost analysis for most key The China CDM Study was primarily conducted sectors, including the power generation sector. by Chinese experts from the leading institutions This information proved to be a useful reference in cooperation with the international experts des- for Task 2 to identify and select appropriate sec- ignated by the World Bank/GTZ Germany/ tors, and then energy technologies suitable for SECO Swiss under the general guidance of a the CDM project case study in the electric power Steering Committee, consisting of MOST of sector. China (Chair) and supported by other concerned C D M I N C H I N A xxvii I N T R O D U C T I O N agencies, including the GTZ of Germany, the by the project coordinator. The list of the national Government of Switzerland, the World Bank, and international experts team can be found in and the SICP of Italy. Annex VIII on the CD-ROM. The national expert team is divided into three The role of the Steering Committee was to task teams responsible for the three tasks. Recom- guide the project team, perform overall monitor- mended by the Steering Committee, the Global ing of the study activities, make decisions regard- Climate Change Institute (GCCI), Tsinghua ing essential components of the study, and adopt University, is designated as the National Project the inception report, the progress reports, and the Coordinator (NPC) unit, and the GCCI, INET, final report. The member list of the Steering Com- and 3-E institutes of Tsinghua University are mittee is also in the Annex VIII on the CD-ROM. selected as the executing agencies responsible for In addition, a Technical Advisory Group con- Tasks 1, 2, and 3, as well as for the organization of sisting of three Chinese and two international the national expert teams in cooperation with experts performed an in-depth, on-site peer review other local institutions and industries. Therefore, of the draft final report, and international experts, the GCCI represents a role as an association, the World Bank, and the German GTZ also involving several competent institutions and reviewed and provided comments at various stages industrial experts within and outside Tsinghua of report preparation. Representatives of several University under the project framework, as shown Chinese Government ministries provided com- in Annex VIII on the CD-ROM. The domestic ments on key elements of the report before it was experts could thus fully use their interdisciplinary finalized. expertise and knowledge in the association co- ordinated by the NPC. The role of the inter- Endnote/Reference national experts is to provide advisory suggestions, 1. Italy joined the World Bank/GTZ Germany/SECO relevant information, and necessary technical Swiss China CDM Study Project later, but its work is assistance, as stipulated by the TOR and requested separately developed. xxviii C D M I N C H I N A Technical Summary The China CDM Study was supervised by the ous stages and studies that are required for a proj- Ministry of Science and Technology of the Chi- ect to realize revenues from the CDM market. nese Government and supported by the Swiss The correct application of these methodologies Government, the German Agency for Technical will ensure that a proposed CDM project activity Cooperation (GTZ), and the World Bank. The results in real, measurable, and long-term green- objectives of the study were to: house gas emission reduction benefits. A better understanding of methodological and technical · Project China's CDM supply potential and pri- issues related to CDM projects (in particular base- oritize under different scenarios the technology lines and additionality) would provide guidance options for CER supply for case studies conducted at the sectoral level. · Estimate the size of the global CDM market The findings in this study will help CDM project and factors influencing China's market oppor- proponents in the country make well-informed tunities, as well as the likely range of economic decisions at various stages of project development benefits and implementation. · Contribute to a better understanding of the Table T.1 provides a brief overview of the methodological issues related to application of most important terms in the CDM process and CDM under China's national circumstances their definitions by the Conference of the Parties · Build capacity and experience in CDM proj- or--if not defined by UNFCCC bodies--the ect development through investigation of six definition used in this study. Following that, the case studies from the electrical power and the methodological results of the study are presented. renewable energy sectors · Assess the impacts of CDM on China's eco- nomic development and related barriers Project Boundary and Leakage · Identify policy implications of CDM and frame A rational project boundary is essential to recommendationsforpolicymakers accordingly. accurately measure the emission reduction benefits of a CDM project activity and to mit- METHODOLOGICAL GUIDELINES igate leakage. Leakage can be caused by activ- AND INSTITUTIONS FOR CDM ity shifting, which happens when people (or In the first part of the study, a series of method- capital) change location; changes in product ological issues were investigated. There are vari- price; life-cycle emissions shifting, such as an C D M I N C H I N A xxix T E C H N I C A L S U M M A R Y T A B L E T . 1 Key Methodological Terms in the CDM Process Project boundary ". . . shall encompass all anthropogenic emissions by sources and/or removals by sinks of greenhouse gases under the control of the project participants that are significant and reasonably attributable to the CDM project activity." Leakage "Net change of anthropogenic emissions by sources of greenhouse gases which occurs outside the project boundary, and which is measurable and attributable to the CDM project activity." Baseline "The baseline for a CDM project activity is the scenario that reasonably represents the anthropogenic emissions by sources of greenhouse gases that would occur in the absence of the proposed project activity. A baseline shall cover emissions from all gases, sectors and source categories listed in Annex A within the project boundary." Additionality "A CDM project activity is additional if anthropogenic emissions of greenhouse gases by sources are reduced below those that would have occurred in the absence of the registered CDM project activity." Project-based incremental emission reduction cost Based on economic theory, the calculation method of project-based emission reduction cost for a CDM project depends on the cost allocation options among the domestic benefits (such as products and/or service) and the CER benefits from different points of view; that is, the cost could be defined as an incremental cost for achieving the CERs or for achieving domestic benefits. The CDM is designed to provide benefits for both project investor and host. It should help non-Annex I (developing) countries achieve sustainable development, and help Annex-I (industrialized) countries fulfill their quantitative obligations under the Kyoto Protocol. According to this share of benefits, there has to be a subse- quent cost-share arrangement. Since it is easy to measure the project costs and complicated to mea- sure the benefits, this study views this issue from the cost perspective; that is, CDM project developers will bear additional costs other than those that occur in the baseline scenario. upstream or downstream emissions increase project on the existing supply of and demand caused by the project; and change in GHG for goods and services, and seek to change this fluxes resulting from ecosystem-level changes supply/demand or meet this supply/demand in surrounding areas. through alternative actions. Using project de- Four principles are useful in identifying emis- sign to avoid leakage is more difficult when sion sources and sinks that should be included in economic goods (e.g., energy or timber) are the project boundary: (1) comprehensiveness of involved. the boundary, or balancing the comprehensiveness · Extension of project boundary. Tracking house- in boundary definition and the accompanying hold energy use after installation of a more cost; (2) control over emissions and maintenance efficient appliance, for example could catch of proper incentives; (3) avoidance of double leakage resulting from homeowner perceptions counting (credits can only be issued once for a that energy has become less expensive. Some project activity); and (4) materiality of emission, observers have carried this argument further, or setting a threshold for "significant". asserting that global energy models should be Taking these principles into account, leakage run on individual projects to identify their net can be mitigated by various means: global impacts. Unfortunately, the impacts of individual projects, however real, will rarely, if · Rational project selection and design. A devel- ever show up at the level of aggregation associ- oper can evaluate the likely impacts of the ated with a global model. xxx C D M I N C H I N A T E C H N I C A L S U M M A R Y · Development of non-project specific leakage bench- such as the real situation, transparency, accu- marks or coefficients. This approach would create racy, verifiability, and transaction cost. and apply a series of project-level national or · National baselines are not appropriate. China international leakage coefficients that can be is a large country with significant differences used to adjust the estimate of project benefits in between regions, so baseline methodologies a more standardized way to account for leakage. based on national average data are not an appro- priate choice. If the project boundary permits, those based on regional data could strike a good Baseline balance among different considerations as a Project-specific baseline methodologies have been default value. used most widely in past AIJ projects, in both · Project-specific baselines are the best option. Most China and elsewhere. A project-specific baseline projects adopted project-specific baselines, in implies low costs for data collection in the short part because of the lighter workload for data term, less data collection work, and universal collection compared to multi-project baselines, applicability, while it implies less transparency as well as the fact that baseline data were easier and in the long term a high cost of data collec- to get because there were currently existing sim- tion. Standardized baselines have opposite impli- ilar projects under construction or under design cations. Standardized baselines would be suitable in the same region, and because of the low cost for new construction projects, projects with sim- of data collection. ple and easy-to-measure output, and projects with single technologies. A project-specific baseline is Project proponents planning to undertake suitable for technical retrofit projects, projects that CDM projects in China should take these obser- focus on better management to improve energy vations into account. efficiency, and projects with diversified output. In practice, project-specific baselines are used most Additionality commonly. Baselines can also be categorized as either sta- Additionality assessment is important in the sense tic, quasi-dynamic, or dynamic. Dynamic base- of safeguarding the environmental integrity of the lines may be necessary considering factors such as Kyoto Protocol. Various institutions are involved technological progress, energy efficiency improve- in the additionality assessment process. Cooper- ments, or changes in the regulatory or legal envi- ation among these institutions is a necessity to ronment, fuel price, fuel availability, or product reduce costs and increase the accuracy of addi- structure. tionality assessment. Technically, the additional- Although various baseline methodologies ity of a CDM project activity can be demonstrated have been proposed by different sources and dis- from various aspects, including emissions aspect, cussed in this study, it does not necessarily mean financial aspect, investment barrier, technology that all of them could be appropriate choices for barrier, or other barriers. Based on the method- CDM projects hosted by China. Some conclu- ological analysis, this study makes the following sions include: recommendations for additionality assessment: · A balanced choice of baseline is an important · Meeting of efficiency criteria. They should reflect prerequisite for project integrity. To choose the as much as possible specific circumstances of the most appropriate baseline methodology for a project to be assessed, and reflect to some extent CDM project activity, one needs to strike a general situations of a specific sector/region good balance among different considerations, where the project is to be located. In addition, C D M I N C H I N A xxxi T E C H N I C A L S U M M A R Y they should have rational or even limited data emission reduction costs. It identifies the major requirements, very limited system errors, rela- parameters necessary for the calculation. This tively low uncertainties, acceptable transaction cost serves as one of the criteria for project pro- cost, and very limited subjective judgment. ponents to determine whether or not to accept · Use of integrated approaches. The results of an offered price for CERs. assessment from different aspects for a same · Depending on the evaluation of the circum- project activity could be different, so the addi- stances, other methods are possible. Based on the tionality should be assessed from an integrated distribution of risks and benefits, other cost- point of view. sharing arrangements could be applied. Although various additionality criteria have Transaction Costs been proposed, this does not mean that all the criteria could or should be applied in a proposed CDM provides an opportunity for project devel- CDM project activity, nor does it mean that a opers to sell certified emission reductions (CERs) project activity should pass all the assessments that are generated when the project commences before it could be viewed as additional. operation. It primarily provides revenue streams for a project activity that need to be contracted on or around the time of financial closure of the Project-based Incremental Costs for project. In its simplest form, CDM thus does not Emission Reduction provide financing for projects. One of the objectives of a CDM project is to gen- In the context of CDM, transaction costs refer erate emission reduction benefits compared to the to all expenditures made by buyers and sellers baseline project. The incremental costs for emis- of CERs to complete a transaction for exchange sion reduction (ICER) only cover the costs going of CERs. The transaction cost associated with a beyond the baseline project, such as a coal-fired CDM project activity includes project search cost; power plant that would be replaced by a gas gen- project document development cost; negotiation eration unit under the CDM. The CDM is cost; validation cost; registration cost; monitor- intended to help Annex I countries fulfill their ing cost; verification and certification cost; and quantitative obligations toward the Kyoto Proto- share of proceeds. Methodologically, the follow- col and at the same time to help non-Annex I ing recommendations regarding the transaction countries to achieve sustainable development. costs should be taken into account by project The cost-sharing arrangement may follow this proponents: share of benefits. From the methodological point of view, this study considered the following: · Since the economic impact of transaction costs is considerable, the concept should be clear. Given · Generally, the above-mentioned cost sharing ap- the complexity of CDM projects, it is impor- proach means that the incremental costs are borne tant to understand the components and signif- by the project investor. Additionally, assum- icance of any possible transaction costs that are ing adequate data availability, the calculation likely to be involved in the initiation and imple- method of incremental emission reduction cost mentation of CDM projects. As part of a mar- per unit of CERs is preferred, as discussed ket process, the costs of CER generation and below and applied in the case studies. associated transaction costs will--to a large · The ICER method is applied in this study. This extent--influence the CDM market. study uses the incremental cost for emission · The main factors affecting transaction costs have reduction (ICER) method to calculate GHG to be observed closely. In general, transaction xxxii C D M I N C H I N A T E C H N I C A L S U M M A R Y costs depend on the volume of CER trade, geographical coverage and in terms of project which depends on the project size; the number types. The study outline targeted the energy sec- of parties and project sites involved in a project; tor. Further, given the emphasis on capacity build- the enabling environment within the host and ing and the agreed focus on the power sector and the investor countries; and CDM methodolog- project development, the study team also endeav- ical, contractual, or project financing issues. ored to consider projects for which the method- ological basis is relatively less developed. Guided A case study project involving power genera- by the steering committee and findings from pre- tion and the anaerobic treatment of effluent pro- vious studies, a long list of possible CDM cases was vides an example of estimating the transaction developed for the fossil-fuel-based power genera- cost, and the estimated transaction cost is about tion and renewable energy sectors in China, which $0.8/t-CO2 equivalent currently. These costs in have substantial potential for CDM activities. Eli- the mid-term future may be reduced to about gibility criteria and indicators were then evaluated $0.6/tCO2 equivalent, but do not fully account for the long list, resulting in six CDM case studies. for the cost of time inputs by the project devel- Their key features are displayed in Table T.2. oper and the investor. Transaction costs associ- A case study report was developed for each ated with prevailing low prices for carbon offsets case addressing baseline, additionality, credit- will act as a significant barrier for potential CDM ing period, and local environmental and socio- project deals to reach the market. economic impacts, as well as stakeholders' com- ments, perceived barriers, and risks, (see annex AI on the CD-ROM). Six project design documents FINDINGS OF PROJECT were prepared, (see annex AII on the CD-ROM). CASE STUDIES In general, the case studies are in compliance with the methodologies regulated by the Executive The study has conducted case studies that could Board of CDM, while specific measures are taken lead to CDM deals. This effort in capacity build- to consolidate the quality of the study, such as: ing was undertaken in order to achieve the fol- lowing objectives: · The latest decisions made by the CDM Exec- · To learn how to identify and select promising utive Board are reviewed and adopted as CDM projects in the electric power and renew- appropriate able energy areas by applying eligibility cri- · New methodologies and PDDs published at teria and procedures for the CDM project the UNFCCC web site are studied and taken selections as references · To build up capacity and experience in the · Intensive inter-task communication contrib- development of CDM projects in the whole uted to make the six cases robust and consis- project cycle by carrying out several CDM proj- tent with each other ect case studies in the selected areas · Rules and good practices for economic assess- · To demonstrate the applicability of the CDM ment (as issued by concerned governmental agencies) were followed methodology and operation procedures based · Close interaction and technical training pro- on China's real circumstances vided to the industries involved contributed to · To establish a pipeline of promising CDM building capacity in terms of project develop- projects and prepare feasible CDM project ment and future implementation of such CDM design documents. activities. The case studies selected were intended to present The case studies applied state-of-the-art a relevant distribution of projects, both in terms of methodologies for design of CDM projects in C D M I N C H I N A xxxiii T E C H N I C A L S U M M A R Y T A B L E T . 2 Key Data on the Investigated Case Studies CO2-equivalent emission reduction Case study Installed capacity per year (1000t) 1. Huaneng-Qinbei Supercritical Coal-Fired Power Project 1136 MW 876 (Phase II) 2. Beijing Dianzicheng Gas-fired Combined Cycle Tri- 128 MW 534 generation Project 3. Gas-Steam Combined Cycle Power Project (Phase II) in 404 MW 650 Beijing No. 3 Thermal Power Plant (BJ3TPP) 4. Shanghai Wind Farm Project (Phase II) 20 MW 36 5. Anaerobic Treatment of Effluent and Power Generation 4 MW 27 in Taicang Xin Tai Alcohol Co. Ltd. 6. Landfill Gas Recovery Power Generation Project in 1.7 MW 72 Zhuhai, Guangdong Province the power sector. The main methodological · Based on the real circumstances in China, findings were as follows: approach 48.a) is not appropriate as a power · Physical project boundary is preferred. It is baseline for China's fast growing economy. shown in the case studies that the physical · The operating margin is the most appropri- boundary CDM project is usually a good choice ate baseline methodology in the case of to set the project and system boundary for small renewable energy power generation-- GHG calculation. Leakages in these CDM cases depending on the requirements for a pre- could be omitted because of the lesser quantity dictable, and reliable power supply. compared to direct emissions, although differ- · The built margin is the most appropriate ent potential sources of leakages might be in baseline methodology for large-scale projects. existence. · Additionality is the key parameter determining · Baseline determination is critical. Baselines typi- CDM market potential. Additionality can be jus- cally vary according to different technology and tified in terms of technology, financial perfor- project design characteristics. The following mance, and other factors. The case studies issues should be considered: show that those advanced technologies with · A PDD offering a portfolio of possible base- higher electricity generation cost and lower line options is important and necessary. The market share could be qualified CDM choices, conservative principle, stipulated by the Mar- as not accepted broadly in the business as rakech Accords and relative decisions made usual. by EB, usually is the most important criteria in selecting an appropriate baseline and in The technology assessment presented in Table calculating emission reductions. While the T.3 intends to promote further discussion among approaches defined in 48(b) and 48(c) of all stakeholders on the findings of the case studies. Decision 17/CP7 are followed more fre- The development of a larger project pipeline quently than that in 48(a), two methodolo- would take into consideration parameters such as gies are incorporated in the determination of concentration on projects perceived as "low" risk baselines in the case studies: "operating mar- and technological advancement in the respective gin" and "built margin." sectors. Also important is the assessment of miti- xxxiv C D M I N C H I N A T E C H N I C A L S U M M A R Y gation cost; the assessment of the project devel- impacts on the local environment and socio- oper's risks associated with demonstration of economic system and thus make contributions additionality; the related technological and finan- to the sustainable development of the hosting cial risks; as well as stakeholders' views based on area and the hosting country. such criteria and other barriers. Table T.3 shows the perceived interaction of risks and costs. CDM POTENTIAL IN CHINA Through wider analysis of results obtained by dif- ferent groups of project proponents, a more con- Addressing global climate change poses a signifi- sistent assessment of technology priority for cant challenge to China's policymakers for strate- CDM could be established. gically assessing the opportunities of the emerging The six CDM case studies investigated in this carbon offset market at the macro and micro lev- study cover a total annual reduction potential of els. What are the economic, social, and environ- about 2.5 MtCO2 equivalents. The incremental mental benefits of participating in the CDM cost for emission reduction (ICER) ranges be- regime? The potential supply and demand for tween $3.60 and $50/tCO2. The economic CERs in the global carbon market, carbon price incentive available from a CER price in the range trends, and how best bring to the market Chinese of $5.20 to $6.50/tCO2 will not be sufficient to CERs are questions pursued in Part II of the make renewable energy projects such as wind study. What are the priority areas for carbon power a commercially viable technology option. investments, especially in the energy-related sectors? To answer these questions, an energy- · High fuel prices (e.g. natural gas for gas tur- economy model framework was developed that bines), higher capital costs, and less operation consists of energy technology models (IPAC- hours (e.g. for wind generation units) result in emission and IPAC-AIM technology), a carbon an ICER in four of six cases significantly market equilibrium model (CERT), and a com- above the $10/tCO2 threshold. Comprehen- putable general equilibrium model (IPAC-SGM). sive financing packages and efforts to make the The model system works out future carbon emis- CDM project cycle shorter and the transaction sion projections and generates marginal abate- cost lower would be needed to make some ment cost curves for different regions in the renewable CDM options more attractive. world. It addresses equilibrium carbon quota · Besides substantial benefits of emission reduc- prices in the world carbon market and the possible tion, these CDM projects will create beneficial carbon trade, and then examines carbon reduction T A B L E T . 3 Cost and Priority Ranking of Project Types Barriers and associated risk for demonstrating additionality Abatement cost Low risk +/- High risk Medium to high cost · Wind power · Biomass gasification > 10 USD/t CO2 · Biogas · Tri-generation · Fuel switch: Gas combined cycle Low cost · Landfill methane gas · Energy efficiency in · Supercritical coal < 10 USD/tCO2 recovery industry C D M I N C H I N A xxxv T E C H N I C A L S U M M A R Y potentials by major sectors as well as technology share to the increasing demand from the power priorities for CDM in China. and industry sectors. The model system's results provide the policy Marginal abatement cost curves were calculated implications for CDM potential in China, and by the IPAC emission model for nine regions of the impact of CDM on China's economy. It the world by introducing progressively higher car- would be helpful for China's climate change pol- bon taxes (Figure T.1). Other top-down studies icymakers to formulate appropriate CDM strat- such as EPPA and GTEM have projected a sig- egy and policy for China. nificantly flatter MAC curve for China than the The reference scenario used in this study was IPAC emission model does. Factors contributing developed based on results of related studies and to this are more efficient technologies entering the projections up to 2010. World carbon emissions built margin during the 1990s, and further effi- from fossil fuel combustion are by 2010 expected ciency gains contributing to reduce the growth to grow by 36.5 percent from the 1990 level. By trend for GHG emissions up to 2010. In IPAC, 2010, renewable energy may account for 7.8 per- China has a relatively low reference carbon emis- cent of total primary energy demand globally. sion projection. The annual average energy efficiency improve- Based on the IPAC emission model projec- ment rate is assumed as 1.18 percent from 2000 to tion, the Annex II countries' reduction require- 2010. In a reference scenario, the greenhouse gas ment is estimated on the order of 1371 MtCO2, emissions from China's energy sector were pro- taking into consideration forest management jected to increase from 3080 MtCO2 in 2000 to sink credits and the assumed voluntary U.S. par- 4000 MtCO2, with coal contributing a significant ticipation in the carbon offset market (10 per- F I G U R E T . 1 MACs for Carbon in 2010 from IPAC-Emission Model 700 600 USA 2000) 500 OECD-P OECD-W (US$/tC 400 EFSU cost China 300 S.E. Asia abatement ME 200 Africa Marginal LA 100 0 0 100 200 300 400 500 600 700 Emission reductions (MtC) xxxvi C D M I N C H I N A T E C H N I C A L S U M M A R Y cent participation rate). The projection for ios, China captures nearly 50 percent of the total potential hot air supply from countries with market CDM demand (estimated at between 52- economies in transition (EITs) is 800MtCO2. 240 MtCO2). The largest share of the carbon off- Through application of the results for both, the set market goes to JI and hot air. A number of emission projection and MACs from the IPAC Eastern European countries use hot air to trade emission model feeding into the CERT model, ERUs under JI. The disaggregated information is the CDM market size in 2010 is estimated in shown in Figure T.2. the base scenario to be 164 MtCO2. These Figures T.2 and T.3 highlight that China's results were obtained assuming a limited scale of share in the global carbon market is 11 percent, 10 percent voluntary U.S. participation1 in the and around 50 percent in the CDM market. global carbon offset market, price leadership of China's CDM potential of 79.2 MtCO2 for EFSU, 30 percent CDM implementation rates 2010 is, however, still substantial. Supplying this for all non-Annex I Parties, 50 percent supple- amount of CERs would require a significant mentarity for the EU, and $0.54/tCO2 transac- number of newly built larger power projects tion cost associated with CDM deals. Price (300MW-600MW) registered as CDM projects, leadership of EFSU and hence the Russian rati- as well as several dozen to as many as 100 re- fication of the Kyoto Protocol is the main fac- newable power projects put into operation by tor leading to a significant CDM market size as 2006­07. It is important to note that besides well as carbon offset price in projected range. reductions in CO2 from electricity generation, Table T.4 shows the results of this study, com- CDM potentials from other energy end-use paring them with findings of other WB-NSS and from abatement of other gases and other completed since 2001 as well as with the out- source and sink categories must also be taken into come of selected carbon offset market studies account in estimating China's total CDM poten- completed in 2003. tial and its impact on market dynamics. Based on three market scenarios, this study Sensitivity analysis performed on the base estimated China's energy-related CDM market scenario resulted in an even wider range of esti- potential2 in the year 2010 at between 24.9-111.6 mates. Chinese CDM potential is estimated at MtCO2, based on an equilibrium certificate price 0­211 MtCO2, with an equilibrium price esti- of $5.20 to $6.50/tCO2. Under all three scenar- mated at $0­7.30/tCO2. This can be attributed T A B L E T . 4 Annex II Countries GHG Reduction Demand, Market Share by KP Mechanisms and Their Domestic Actions, and Estimated CER Price Range Annex II reduction requirement CDM market size CER price range Mt CO2 (2010) MtCO2 (2010) USD/CO2 IPAC Emission model, without U.S. 1243 0­161 0­6 IPAC Emission model, US voluntary 1371 0­164 0­7 participation (10%) Grubb 2003 415­1250** 50­180 0­13.8 Selected WB-NSS* studies 1300­(3000) 300­(2000) 1.7­(10) completed since 2001 EU Trading Scheme study 11402 330­360 6­12 (Criqui and others 2003) ** * Vietnam, Peru, Indonesia ** assuming 50 percent of reduction requirement met by domestic action in EU 15 C D M I N C H I N A xxxvii T E C H N I C A L S U M M A R Y sellers; the market structure (competition vs. price F I G U R E T . 2 Annex II Countries ER Demand Under the KP leadership); the fraction of CDM potential that and the Market Offset is actually realized by 2010 (implementation Share by Three Kyoto rate); the assumed participation rate of the United Mechanisms States; the way in which countries choose to oper- ate supplementarity; and the level of transac- tion costs. The present early CDM market is buyer- JI, dominated. The preference of investors for "high 331.8MT-CO2, quality" and "low risk" projects is likely to shape 46% ET(AAU/Hot air), the market for carbon offsets. In reality, there 226MT-CO2, 31.3% will be no one uniform carbon price for different transferable emission units (RMUs, CERs, ERUs, and AAUs). Relevant market observers see evi- dence for a likely price differentiation between the project-based mechanisms JI and CDM on the CDM/ one hand and ET (trading AAUs) on the other. LA&Africa, CDM/China, 28.6MT-CO2, CDM/ 79.2MT-CO2, In the real world, the global CDM market may 4% SE&S Asia, 11% be smaller than the projected 164 Mt-CO2/year, 56MT-CO2, while the CER price could, considering the pre- 7.8% vailing uncertainties about the ratification of the Kyoto Protocol, also be higher than projected by to uncertainty in the following factors (in order of CERT, if the Protocol is ratified late and falls into importance): business-as-usual emissions projec- the $7 to $12 /tCO2 range. tions (demand side and supply of hot air) and By applying the bottom-up IPAC-AIM marginal abatement costs of potential buyers and technology model, a significant carbon reduc- F I G U R E T . 3 Distribution of Carbon Emission Reductions among Domestic Action (DA), JI, ET, and CDM under the Base Scenario 140 120 100 80 MtC 60 40 20 0 DA, DA, DA, Hot JI CDM, CDM, CDM, CDM, CDM, USA OECD-P OECD-W air SEA&SA China ME Africa LA xxxviii C D M I N C H I N A T E C H N I C A L S U M M A R Y tion potential (760 MtCO2/year) was identi- sectors, like the rural/urban commercial and resi- fied by sectors in the $13.60/tCO2 range, consis- dential or transportation sectors. Based on expert tent with China's sustainable energy development judgment, the power generation sector could strategy. The efforts undertaken in this study to account for around 50 percent of total CDM link the top-down projected CDM potential for potential in China. China's power generation sec- China of 79 MtCO2 with sectors and technologies tor contributed 24 percent of the total carbon for CDM did underscore the significant role that emissions of the energy sector in 2000, and is still barriers such as deal size, transaction cost, and expected to contribute 26 percent by 2010. Con- time lag play in a project-based mechanism. The sidering the options for demonstrating technology evaluation of consistency between the two mod- additionality and cost effectiveness, significant els applied revealed that MAC curve-based CDM potential also exists in various other sectors: approaches estimating the CER supply potential steel making and the cement sector (10 percent); at a given CER price would substantially overesti- the chemical industry such as ammonia produc- mate the potential CDM deal flow. A significant tion, calcium, soda ash (5 percent); industries such amount of abatement measures are economically as glass sector, brick production, aluminum, cop- feasible at (for example) $5/tCO2 from small-scale per, zinc&lead, paper making, ethylene, transport, industry. The commercial and residential sec- service sector, urban and rural residential (15 per- tors are unlikely to reach the CDM market due cent); and projects abating non-CO2 GHGs in the to high transaction costs associated with smaller industrial sector (10 percent). trade volumes. The advanced technologies for mitigation in The marginal abatement cost (MAC) analysis the power sector were identified as fuel-switching by sectors (Figure T.4) displays that the industry/ to combined cycle gas power plants; wind power generation sector has a relatively flat mar- power; landfill gas conversion to power; and ginal abatement cost curve compared with other hydropower. F I G U R E T . 4 Marginal Abatement Cost Curves by Sectors 140 120 Agriculture 100 Industry 80 Transport US$/t-C 60 Service COst, 40 Urban Rural 20 0 0 50 100 150 200 250 300 350 400 450 500 Accumulated Emission Reduction, Mt-C Note: The industry sector, displaying the flattest MAC, includes the power sector C D M I N C H I N A xxxix T E C H N I C A L S U M M A R Y Technologies that may prove to have signifi- nology progress and environmental side benefits, cant potential and other environmental benefits and contribute to regional and local sustainable but could not be covered within the methodology development. of this study are coal-bed methane recovery; bio- mass-based cogeneration; biogas from agricultural, industrial, and urban waste; power generation Endnotes/References from municipal solid waste; and non-CO2 emis- 1. The climate change strategy of the United States sion abatement technologies (methane, HFCs). announced by President Bush on February 14, 2002, sets As might be expected, the study showed that a voluntary target for the nation to achieve an 18 percent the Clean Development Mechanism will not reduction in emissions intensity between 2002-12, which will allow absolute emissions to increase 13 percent over have a significant impact on overall economic the same period. Under the Bush plan, emissions in 2012 growth in China in the timeframe considered (up would be 29 percent above the 1990 level and 36 percent to 2010­2020). The profits from the estimated above the U.S.'s Kyoto target. The corresponding busi- range of CER sales (25 to117 MtCO2) would ness as usual levels would be +15 percent, +31 percent, and +38 percent, respectively. If the voluntary target is be $77 million to $311 million per year. They are achieved, the "implementation rate" would be 5 percent small and have essentially no significant effect on ((38-36)/ 38)*100). There is a significant uncertainty in GDP Growth. CDM implementation, however, BAU projections across Annex I countries, which also will be beneficial for energy project proponents influences the availability of hot air. and relevant stakeholders in China, who will be 2. Source: Criqui, P. and others 2003; external trading en- larged EU 128 MtCO2e; external trading rest of Annex B able to familiarize themselves with an emerging 242 MtCO2, EU internal trade with 10 new EU states market, strengthen investment portfolios, tech- 36 MtCO2e, domestic action Annex B 734 MtCO2e xl C D M I N C H I N A I CDM METHODOLOGY AND CASE STUDIES 1 Objectives, Methodologies, and Approach of Part I OBJECTIVES · Developing an approach to assess and test the additionality of proposed CDM projects The main focus of this study is to identify the pre- in China, taking into account the recent requisites and existing barriers to development and guidance and clarifications given by the EB implementation of the Clean Development · Learning how to estimate the incremental Mechanism in China, as well as to analyze the emission reduction cost of CDM projects, and need for capacity building based on the partner estimating how the revenues from CER trad- country's special circumstances and interests. ing could improve the financial performance The provisions of the Kyoto Protocol, as well of the CDM project. as the relevant decisions of the Conferences of the Parties, prescribe various preconditions to be In order to build practical experience with met for projects to be eligible as a CDM activity. respect to technology options and CDM method- To meet these preconditions, methodological ological issues, the analysis includes six case and technical issues for CDM include: studies in the power and renewable energy sec- tors. These studies will help build the capacity · Learning how to develop appropriate base- of Chinese stakeholders to participate in CDM line methodologies by applying the baseline project activities--within the context of the approaches set out in the CDM modalities provisions of the Marrakesh Accords and sub- and procedures in the Marrakech Accords and sequent decisions, as well as China's current the relevant clarifications and guidance by the priorities and long-term goals for sustainable CDM Executive Board development. · Understanding and applying dynamic base- The CDM project case studies are intended lines to determine the crediting period of a to help: CDM project activity from the options pro- vided in the Marrakech Accords · Learn how to identify and select promising · Determining project boundaries by using CDM projects in the electric power sector and appropriate principles and approaches, and the renewable energy field by applying eligi- identifying and estimating the leakage of a bility assessment criteria and procedures for CDM project activity the CDM project selections C D M I N C H I N A 3 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S · Build capacity and experience in the develop- its application under specific circumstances in ment of CDM projects through the whole China, and recommendations either for the project cycle CDM process in general or its application in · Demonstrate the applicability of the CDM China. The methodological guidelines reflect methodology and operational procedures based the most important prerequisites and method- on China's real circumstances ological issues for CDM in China, including · Establish a pipeline of promising CDM projects baseline, project boundary and leakage, addi- and prepare CDM project design documents. tionality, and project-based emission reduction costs. The methodological approach of the study In Chapter 1, the study develops a suitable (a) follows official documents, especially relevant methodological approach and addresses a series decisions adopted by the CDM Executive Board; of key issues for the implementation of CDM in (b) reviews currently available achievements; China. (c) combines a theoretical study with practical application in case studies; and (d) considers China's specific circumstances. METHODOLOGICAL APPROACH Official documents released by the Confer- CDM has primarily two objectives: (1) assist- ence of the Parties and its subsidiary bodies ing non-Annex I Parties in achieving sustain- provide basic rules for the CDM regime, which able development; and (2) assisting Annex I are the basis and starting point for this research. Parties in realizing their quantified emission This study fully follows the Kyoto Protocol, limitation and reduction commitments. Each the Bonn Political Agreements, the Marrakech CDM project activity is intended to result in Accords, and the CDM Executive Board deci- real, measurable, and long-term greenhouse gas sions. For instance, when discussing the dynamic emission reduction benefits that are additional baseline issue, we understand that the Marrakech to any that would occur in the absence of the Accords provide for such possibilities. When project activity. To assess whether a proposed discussing the possible criteria for additionality CDM project activity could meet these require- assessment, we are aware that the international ments, several methodological issues need to be agreements provide very limited specific guidance addressed. Against the background of the needs on this issue. The host-country governments may for capacity building, and based on China's have their own criteria, and the opinions of dif- special circumstances and interests, the subse- ferent governments may diverge. Furthermore, quent methodological approaches of this study great efforts have been made in this study to are (a) to develop methodological guidelines for reflect all relevant decisions adopted by the CDM CDM project development in China; and (b) to Executive Board. use case studies to assess these methodological As a result of various efforts, there have already guidelines. been significant achievements in our understand- In the following section, we will describe these ing of CDM methodological issues; and they two components. serve as a good basis for this study. Review and understanding of the current achievements can make the discussion more pertinent and instruc- Development of Methodological tive, save time and effort, and avoid discussing Guidelines for CDM in China issues that are already generally settled. For The development of guidelines for specific example, the baseline section includes a compre- methodological and technical issues includes hensive review of the literature and summarizes the description of the concept, the analysis of their major findings, including possible baseline 4 C D M I N C H I N A O B J E C T I V E S , M E T H O D O L O G I E S , A N D A P P R O A C H O F P A R T I determination methods, their pros and cons, KEY ISSUES and their applicability. Based on the objectives of the study, Chapters 2 As part of the efforts to make the recom- and 3 below are expected to facilitate a better mendations as practical and sound as possible, understanding of CDM methodological issues the study combines theoretical analysis with by Chinese experts and government officials. practical application of methodologies in selected Chapter 2 presents a general analysis of the key case studies. To achieve the aims of this method- CDM methodological issues and analyzes the ological approach, various analytical instruments applicability of different methodologies under are used, such as (a) decision trees for the baseline China's specific circumstances. Chapter 3 applies determination; (b) flow charts for the project some methodologies to selected case studies, and boundary consideration; (c) uniform overview includes some recommendations on the appro- tables for the description of the case studies; priate choice and application of methodologies. and (d) standardized calculation formulas for Several key methodological issues are addressed the calculation of the incremental costs of emis- in Chapter 2, including: sion reductions. To make the study more useful, China's spe- Baseline cific circumstances are fully considered in the discussion and methodology development. According to the Marrakesh Accords, the baseline for a CDM project activity is the scenario that rea- sonably represents the anthropogenic emissions Assessment of the Methodological by sources of greenhouse gases that would occur Guidelines by Case Studies in the absence of the proposed project activity. A The assessment of the methodological guidelines baseline should cover emissions from all gases, will apply the methodology to the real circum- sectors, and source categories listed in Annex A stances of the case studies--taking their regional within the project boundary. To define the base- and site-specific conditions into account. The line scenario, which does not actually exist and findings will be based on different instruments, thus could not be observed, three approaches including: have been put forward based on different consid- erations. To use these approaches, different base- · Sensitivity analysis, which assesses the impact line methods have been proposed. They vary of changes in exogenous factors on the eligi- greatly in terms of integration or standardization, bility of the project, GHG emission reduc- and have their own advantages and disadvantages. tions, incremental costs, or other important In this part, different baseline determination dimensions methods are assessed. Dynamic baselines are also · Standardized comparison of the case studies, discussed in detail, and we make some recom- environmental impact assessments, and esti- mendations on the selection of appropriate meth- mation of uncertainties within different mon- ods based on China's real circumstances. itoring activities. Project boundary and leakage On the basis of the analysis of the case studies The project boundary refers to a project's spatial and comparison with the results of other ongo- scope and should encompass all anthropogenic ing CDM studies, the study presents recommen- emissions by sources of greenhouse gases under dations regarding the policies and measures that the control of the project participants that are sig- should be undertaken to tackle the perceived nificant and reasonably attributable to the CDM challenges, as well as the likely benefits. project activity. Leakage is the net change of C D M I N C H I N A 5 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S anthropogenic emissions by sources of green- basic considerations for selecting the power sec- house gases that occurs outside the project tor as an appropriate field for the case studies. boundary and is measurable and attributable to The following section selects the case studies the CDM project activity. This part identifies within the power sector. To make the selection possible direct and indirect sources of leakage and approach transparent, the chapter elaborates on their categories; discusses methods to design a the selection criteria and the selection procedure. rational project boundary to effectively address Among a long list of 25 possible projects, we leakage; and discusses possible approaches to select the six most appropriate cases (Table 1.1). deal effectively and reasonably with the leakage The chapter briefly describes the six case issue. studies, using a uniform description to help the reader compare the six case studies. It discusses Additionality the results and findings from the case studies Additionality refers to the concept that any emis- regarding baseline, project boundary and leakage, sion reductions to be ascribed to a CDM project additionality, project-based reduction costs, and activity should be additional to those that would the major findings from the stakeholder consul- occur in the absence of the proposed CDM proj- tation. The results and findings from the case ect activity. It is prescribed in the Marrakesh studies are cross-compared with results from Accords that a CDM project activity is additional other CDM studies. if anthropogenic emissions of greenhouse gases by Based on this analysis, we consider supply sources are reduced below those that would have barriers and risks. So far, the key issues assessed occurred in the absence of the registered CDM here reflect the main chapters of a CDM Project project activity. This part analyzes the concepts of Design Document. At the end of Part I, we pres- evaluating additionality from different aspects, ent conclusions and recommendations. based on different considerations, and assesses the characteristics of proposed additionality assess- ment criteria. T A B L E 1 . 1 Selected Case Studies Project-based emission reduction cost To achieve GHG emission reduction benefits, Case study 1: Huaneng-Qinbei Supercritical CDM project participants will bear additional Coal-Fired Power Project (Phase II) costs other than those that occur in the baseline Case study 2: Beijing Dianzicheng Gas-fired scenario (incremental costs of emission reduction, Combined Cycle Tri- ICER). Such costs serve as one of the criteria for generation Project the host-country entity to determine whether or Case study 3: Gas-Steam Combined Cycle Power Project (Phase II) in not to accept an offered price for CERs. This part Beijing No. 3 Thermal Power identifies major components of project-based Plant (BJ3TPP) reduction costs; discusses the incremental cost Case study 4: Shanghai Wind Farm Project (Phase II) approach for GHG emission reduction bene- Case study 5: Anaerobic Treatment of Effluent fits; identifies major parameters used in the and Power Generation in reduction cost calculation; identifies the com- Taicang Xin Tai Alcohol Co. Ltd. ponents of transaction costs; and estimates a Case study 6: Landfill Gas Recovery Power case study's transaction cost. Generation Project in Zhuhai, Chapter 3 presents the findings from the case Guangdong Province studies. An introductory section presents the 6 C D M I N C H I N A 2 Institutional Framework and Methodological Guidelines for CDM As a sequel to the United Nations Conference on overview of the institutional framework in Fig- Environment and Development (UNCED) in ure 2.1 shows the essence of some methodologi- 1992,theCleanDevelopment Mechanism process cal issues, as well as how these issues have and and subsequent methodology was developed from could be addressed at the international level. the provisions in Article 12 of the 1997 Kyoto There are a number of milestones in the inter- Protocol, the subsequent Marrakesh Accords, and national community's efforts to address global cli- decisions of the CDM Executive Board. mate change, including the 1992 United Nations To help support capacity building in China Framework Convention on Climate Change and provide a transparent analytical framework (UNFCCC), the 1997 Kyoto Protocol, and more for the assessment of the case studies, this chap- recently the 2001 Bonn Agreement and the 2001 ter provides some methodological background Marrakech Accords. and guidance to the case studies. For example: The UNFCCC is the fundamental basis for international cooperation on climate change. It -- We provide an overview of the CDM-related set an objective for the international community institutional framework to help readers who and outlined the principles to guide actions taken are not familiar with the CDM terminology by the Parties to achieve the objective. and process The Kyoto Protocol sets quantitative emissions -- We analyze the relevant methodological issues limitation and reduction commitments for Annex for implementing the CDM in China I Parties. The Protocol's Article 12 establishes the -- We describe the institutional arrangements Clean Development Mechanism (CDM). The provided by the Chinese Government to CDM has two purposes: (1) to assist Parties not facilitate CDM in China. included in Annex I in achieving sustainable This chapter could be used as a handbook for development and in contributing to the ultimate the practical application of the CDM in China. objective of the UNFCCC; and (2) to assist Par- ties included in Annex I in achieving compliance with their quantified emission limitation and RELEVANT INSTITUTIONS AND reduction commitments under Article 3. CDM PROJECT CYCLE The Bonn Political Agreements and the Mar- The international CDM regime is complex, rakech Accords marked the completion of the involving organizations at different levels. An Buenos Aires Plan of Action and the end of four C D M I N C H I N A 7 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S F I G U R E 2 . 1 CDM Institutions Parties COP/MOP Supporting institutions Guidance Recommendations (Meth Panel, Assignments Accreditation Panel, Small-scale Panel) CDM EB Recommendations Approval Designation Share of proceeds Registration CDM Application Project Credits Project proponents Validation, Investment verification and Operational Investing entity certification. Entity PDD Mutual agreements Host entity Comments Other stakeholders years of international negotiations on the prin- Board) and other stakeholders (industry, non- ciples, guidelines, and rules for the Kyoto Mech- governmental organizations etc.) provide com- anisms, including the CDM, which are crucial ments on the proposed project and act as an to the entry into force of the Kyoto Protocol. At intermediary between the investor and the host the 7th Conference of the Parties, the CDM of the CDM project. Executive Board was established. According to At the second level, institutions are acting on the Marrakech Accords, institutions involved in behalf of the primary participants, such as the the international CDM regime include project operational entities contracted by project devel- proponents, COP/MOP, the CDM Executive opers for validation and certification purpose, Board, operational entities, Parties, supporting supporting institutions of the Executive Board, institutions, and other stakeholders. technology suppliers and contractors, or brokers There are different participants at different and traders (Oberheitmann 1999). A detailed levels in the CDM process. The first level includes description of the relevant institutions can be the primary participants in the investing country found in the Annex. and the host country (project proponents such There are various stages and studies that are as private companies, national governments as required for a CDM project. The main steps in the the UNFCCC-Parties), who are carrying out process are (a) preparation of a project design doc- the project or are directly involved in national ument, a baseline study, and the monitoring plan; project approval. The UNFCCC bodies and (b) validation; (c) negotiation of project arrange- institutions (COP/MOP, CDM Executive ments, construction, and startup; (d) registration; 8 C D M I N C H I N A I N S T I T U T I O N A L F R A M E W O R K A N D M E T H O D O L O G I C A L G U I D E L I N E S F O R C D M (e) monitoring, verification and certification; and menting a project within the first commitment (f) issuance of CERs. period. The time frame presented is only an aver- The project cycle in Figure 2.2 describes the age; single projects can be completed in less time. manufacturing process for CDM/JI emission reductions. A detailed description of the shown PROJECT BOUNDARY AND CDM project cycle can be found in the Annex 3. LEAKAGE EVALUATION Based on the experience of the Prototype Car- bon Fund (PCF), it can take up to three and a half When a CDM project is being designed, one of years from the preparation and review of a project the most important tasks is to set a reasonable to the certification of project emission reductions. boundary for the project to determine the proj- In other words, a project beginning in 2004 ect's emissions and possible leakage. Otherwise, might not reach the certification stage until 2007 given a reasonable amount of determination costs, or even 2008. Such a long time scale puts consid- the emission reductions or other environmental erable time pressure on the Chinese Government benefits of the project could be overestimated. to develop a project pipeline and the necessary This chapter includes a description of the con- institutions for implementing the CDM in China cept and regulations, leakage sources and leakage to assure that a reasonable time is left for imple- treatment, and subsequent recommendations. F I G U R E 2 . 2 Manufacturing Process for CDM/JI Emission Reductions Preparation and Review of the Project · Project Idea Note Project completion · Project Concept Note · Project Concept Document (or equivalent) 3 Baseline Study and Monitoring and Verification Plan (MVP) Periodic verification Up to 21years months · Project Design Document & certification · Baseline study and ER projections · Verification report · Monitoring and Verification Plan · Supervision report 2 m 1 3­years on sht Validation process · Validation protocol and report 3 months 2 months Construction and start up Negotiation of Project Agreements · Initial verification report · Project Appraisal and related documentation · Term sheet · Emissions Reduction Purchase Agreement Source: Carbon Finance Strategy of the World Bank, a presentation by Michael Rubino at KfW Conference. Berlin, May 21, 2003. C D M I N C H I N A 9 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S Concept, Rules, and Regulations; ciency improvements, and changes in other basic Leakage Sources and their variables such as development of markets for a Categories project's products. A project boundary is defined in the UNFCCC Leakage can be caused by (Schwarze and others documents for the reduction purposes of esti- 2002): mating the project's net GHG reduction impact. Activity shifting. A project or policy can dis- It encompasses all anthropogenic emissions by place an activity or change the likelihood of an sources and/or removals by sinks of greenhouse activity outside the project boundary. One exam- gases under the control of the project partici- ple of negative activity-shifting leakage would be pants that are significant and reasonably attrib- a high-efficiency boiler project that displaces old utable to the CDM project activity (UNFCCC low-efficiency boilers, which are then used in 2001b). To some extent, the possibility of leak- other places. age is a function of the size of the project bound- Market effects. A project or policy can alter ary; the larger the boundary, the greater the supply, demand, and the equilibrium price of likelihood that all impacts will be accounted goods or services, causing changes in emitting for. Hence, one approach to mitigate leakage is activities elsewhere. For example, a boiler effi- to set an acceptably large project boundary. ciency project that decreases coal consumption Leakage is defined as the net change of anthro- could result in a slight downward shift in coal pogenic emissions by sources of greenhouse gases prices, which could then stimulate an increase in that occurs outside the project boundary, and coal consumption. that is measurable and attributable to the CDM Market-driven leakage is caused by a change in project activity (UNFCCC 2001b). the price of goods, whereas activity shifting hap- Leakage concerns have arisen most promi- pens when human or other capital changes loca- nently with forest protection activities. However, tion. These two leakage types may in some cases the basic concept extends to all types of carbon be inversely related. If a project displaces people mitigation activities, since they invariably affect and activities to adjacent areas, market leakage the demand for or supply of products that emit may diminish. This is because activity-shifting or sequester GHGs. A shift in either the demand leakage moves economic activity, while market for or supply of a GHG emitting product such as leakage occurs through net changes in production coal will, in an unhindered market, affect the for a given regional distribution of activities. product's price. These altered market prices will Two other types of leakage also bear men- affect the level of product consumption outside tioning. the project boundary. The fundamental chal- Life-cycle emissions shifting. Mitigation activi- lenge is to determine under what conditions this ties may increase emissions in upstream or "price effect" is significant and warrants account- downstream activities. For example, a renewable ing. In December 2003, COP 9 dealt with the energy power project will not include the emis- project boundary and leakage issues in the sions caused by the production of equipment. LULUCF context. More complex definitions of Ecological leakage. This refers to a change in project boundary and leakage are described in the GHG fluxes caused by ecosystem-level changes rules and procedures for afforestation and refor- in surrounding areas. The ecological leakage estation CDM project (UNFCCC 2003a). generally occurs in sink projects. The magnitude of leakage is determined by There are currently no explicit CDM Execu- many factors, such as changes in relevant regula- tive Board decisions on project boundary and tions and laws, the trend in autonomous effi- leakage. 10 C D M I N C H I N A I N S T I T U T I O N A L F R A M E W O R K A N D M E T H O D O L O G I C A L G U I D E L I N E S F O R C D M Reasonable Project Boundary and be quantified because the necessary measure- Leakage Treatment ment, monitoring, and verification would be prohibitively expensive. A second option is to To avoid leakage and ensure GHG emissions establish a cost limit beyond which the propo- reduction performance, it is important to identify nent is not required to further expand the proj- a reasonable project boundary before undertaking ect boundary--for example, if measurement, the CDM project design. All direct GHG emis- monitoring, and verification costs exceed 10 per- sions in both the CDM and the baseline cases cent of total project costs. However, if important should be covered in the project boundary. The- uncertainties regarding indirect or off-site emis- oretically, it is essential to define a project bound- sions still remain, it may be questionable as to ary that is large enough to form a GHG "bubble" whether the project should proceed. A third system, so that all upstream and downstream option, where potential significant boundary indirect effects on GHG emissions are covered in effects cannot be readily addressed through accept- the project boundary in both the CDM project able, cost-effective methods, is to request that pro- and baseline cases [Liu Deshun 2000]. ponents hold in reserve a fraction of their claimed In practice, such exercises are often not feasible, reductions subject to the future development of especially when projects are affected by micro- adequate monitoring and verification methods economic pressures, have possible macroeconomic (Lasco, Michealowa, and Miline 2001). effects, or may conflict with territory principles. Control over emissions. All the controllable The project boundary is usually defined as the emissions should be involved inside the system physical site of both the CDM project and the boundary. By including those emissions over baseline project in a project-specific manner. In which the proponent can exercise control, proj- some cases, when the CDM project activities are ect boundaries can provide opportunities and associated with mutually connected energy net- incentives to achieve emissions reductions works or pipeline systems--for example, electric whether on-site or off-site. For example, narrow power grids and natural gas distribution systems-- boundaries could create perverse incentives if the project boundary should be extended to them, credits were claimed for activities that simply in order to avoid easily definable leakage. Figure outsource emissions (for example, by replacing 2.3 gives an example of project boundary setting on-site with grid electricity generation that was with the life cycle analysis approach. Current not accounted for). Control over emissions can CDM rules and procedures do not require that all be defined in two ways. upstream and downstream effects are included in The first option is to equate control with pro- the leakage analysis of a proposed CDM project ponents' ownership or management of facilities. activity. This interpretation implies that a consumer (of In order to set a reasonable boundary and a fuel, electricity, commodity, or other product) determine leakage, the following issues should has no control over the off-site emissions result- be considered. ing from the production, processing, transport, Comprehensiveness of the boundary. The wider disposal, etc, because those stages in a product's the boundaries, the more complete the account- lifecycle are out of control. The second option is ing of a project's emissions impacts, but the "control over whether or not emissions occur." greater the costs. Several options could be con- This interpretation is consistent with life cycle or sidered for helping proponents resolve the ten- "footprint" analysis, implying that consumers of sion between cost and comprehensiveness in a product control off-site emissions to the extent boundary definition. The first option is to simply that those emissions are a consequence of the exclude projects whose emissions impacts cannot amount of product consumed. C D M I N C H I N A 11 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S F I G U R E 2 . 3 Project Boundary Considering the Whole Life Energy Raw materials Exploitation of raw material Equipments and site Recycle and abandon Trans. and storage of Equipments Recycle and abandon raw material Tri-generation process Equipments and site Recycle and abandon Transmission and distribution Equipments Recycle and abandon of the products Energy Pollutants (products) The second definition more effectively con- be neglected, but it might be difficult to apply in veys the proper incentives for mitigation activi- practice without simple estimates, access to ties and might be more appropriate in the con- default data, or expert judgment. text of a credit trading regime. The "ownership/ Avoidance of double counting. Multiple pro- management" definition might be preferable in ponents should not get credits for the same emis- the context of an anticipated allowance trading sions reductions. This is an important problem regime. in determining leakage. For a simple example, Materiality of emissions. According to the def- one proponent switching a boiler from coal to inition of leakage, emissions sources and sinks biomass use might claim upstream benefits for should be analyzed only if they will significantly reducing coal-bed methane emissions, while a affect the project's total GHG emission impacts. second project developer might claim credits for "Significant" can be indicated by "materiality." methane capture at coal mines. For example, a guideline could be issued to state The potential for double counting could be that impacts must be included that present a dealt with in several ways. The simplest would be 50 percent or greater likelihood of accounting for to exclude off-site emissions from consideration, more than 5 percent of the project's total claimed thereby eliminating most of the potential for proj- reductions. Such a materiality threshold might ect boundaries to overlap. Important effects could assist proponents in knowing which effects could thereby be neglected, however. A second option 12 C D M I N C H I N A I N S T I T U T I O N A L F R A M E W O R K A N D M E T H O D O L O G I C A L G U I D E L I N E S F O R C D M would be to require proponents to review poten- standardized way to account for leakage (IPCC, tial project activities that might affect reported 2000). Its applicability is premised on a condi- indirect emissions estimates. Double counting tion that project-specific leakage assessments are will be avoided if the baseline is consistent with almost impossible to perform. Although in some the project. Good project registration across vari- sense less site-specific than a project-level leakage ous incentive programs, as is being designed for review, the benchmarking approach would be green power program, could greatly assist in this much easier to apply at the project level, and task. A third option is to ensure monitoring and could avoid the potentially overwhelming ana- verification of claimed off-site and indirect emis- lytical problem of being called upon to expand sions reductions. projects' boundaries further and further to deal Generally, there are three methods to reduce with leakage concerns. leakage: In a specific project, the following steps can Mitigate leakage through project design. Leak- be followed to address the leakage issue. age sometimes can be addressed in project selec- First, the possible emissions outside the proj- tion and design. For example, a developer can ect boundary should be determined. As stated evaluate the likely impacts of the project on the above, they may be caused by activity shifting, existing supply of and demand for goods and ser- market effects, life cycle effects, or ecological vices, and seek to change this supply/demand or effects. meet this supply/demand through alternative Second, adjust the project boundary accord- actions. Using project design to avoid leakage is ing to the controllable principle. The project more difficult when economic goods such as boundary should also be adjusted if there are energy or timber are involved. double counting problems. Hence, the leakages Extend the project monitoring boundary. Ex- involved in the case are known. panding the project boundary can sometimes Third, identify the cost-effective solutions for catch potential leakage. Tracking household each type of leakage. Generally speaking, leakage energy use after installation of a more efficient caused by activity shifting can be determined appliance, for example, could catch leakage result- through the tracing of the project activities; leak- ing from homeowner perceptions that energy has age caused by market effects can be omitted, since become less expensive. Some observers have car- it is generally too small to be considered; and leak- ried this argument further, asserting that global age caused by life-cycle effects should be dealt energy or timber models should be run on in- with according to the real situation. dividual projects to identify their net global Fourth, the leakage emissions and then CERs impacts. Unfortunately, the impacts of individual can be determined. projects, however real, will rarely (if ever) show up at the level of aggregation associated with a global Recommendations model. The developer can attempt to predict where To reduce possible leakage, it is very important to leakage is likely to occur, monitor leakage impacts set a proper project boundary. Furthermore, leak- over time, and adjust the estimate of project ben- age of certain types of activities is more significant efits accordingly. than others. However, the identification and cal- Develop non-project specific leakage benchmarks culation of leakage is usually very complex, so it is or coefficients. This approach would create and not very cost-effective to calculate leakage on a apply a series of project-level national or inter- project-by-project basis. It is very necessary and national leakage coefficients that can be used to useful to develop leakage coefficients for certain adjust the estimate of project benefits in a more types of project activities, so that leakage could be C D M I N C H I N A 13 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S estimated easily and cost-effectively. Leakage fac- Protocol--CO2, CH4, N2O, HFCs, PFCs, and tors for certain types of activities should be devel- SF6--and the sectors/source categories of green- oped based on the Chinese situation. However, house gases, including energy, industrial pro- in the case that Chinese data are not available, cesses, solvent and other product use, agriculture, data from other sources such as the IPCC could and waste.) Since 2001, the CDM Executive be used. Board has formulated a series of decisions regard- Whether or not a source of emissions consti- ing baseline setting for CDM projects (see Annex tutes leakage depends on whether or not it is 1). If a CDM project is applying a new baseline "significant," so it is important to set a bench- method, it has to be submitted by the project pro- mark for "significant." With this benchmark, the ponents to the Executive Board for approval. Prior project proponents could judge clearly whether to the thirteenth EB meeting held in March 2004, or not a specific source of leakage could be omit- nine methodologies--including landfill gas recov- ted, and whether or not a project's emission ery and biogas cogeneration--had been approved. reduction benefits should therefore be adjusted Further information on baseline and monitoring accordingly. methodologies approved and/or under considera- tion can be obtained on the UNFCCC website http://cdm.unfccc.int/methodologies. BASELINE SETTING A baseline is actually an emissions trajectory in Baseline setting is of fundamental importance to the baseline scenario, and a function of such vari- every CDM project activity. It has direct and sig- ables as time, product of output, and emissions nificant impacts on almost every aspect of a proj- intensity. An ideal baseline should be environ- ect, since it describes the situation without the mentally credible, transparent and verifiable, sim- project activities. Hence, the baseline is the yard- ple and inexpensive to determine, and provide a stick for the calculation of the project-related reasonable level of certainty regarding credits for emission reductions. This study provides a de- investors. In practice, any baseline determination scription of the concept, rules and regulations, an is likely to involve a trade-off among these criteria. assessment of different baseline methods, the Baseline setting is a key step in the process of applicability of different methods, a detailed study identifying emission reductions of a CDM proj- of dynamic baselines, and recommendations. ect activity. A higher emissions baseline is more attractive to both CDM project hosts and investors because of the larger amount of CERs Concept, Rules, and Regulations and higher return on investment. There have been various definitions of baseline in There are several ways to describe the baseline the past (Matsuo 2000; Ellis 1999; NVROM in terms of emissions. Figure 2.4 shows the pos- 2001). The Marrakech Accords established a clear sible baselines and GHG emissions of a proposed definition of baseline: "The baseline for a CDM CDM project activity along with the project life- project activity is the scenario that reasonably rep- time. Shapes of the baseline trajectory are deter- resents the anthropogenic emissions by sources of mined by the characteristics of baseline scenarios greenhouse gases that would occur in the absence and could be represented by different types of of the proposed project activity. A baseline shall time functions. The first figure illustrates a sce- cover emissions from all gases, sectors and source nario under which the baselines stay unchanged categories listed in Annex A within the project during the whole crediting period. The second boundary." (Annex A of the Kyoto Protocol lists figure illustrates a scenario under which the base- the greenhouse gases that are considered in the line emissions change during the crediting period. 14 C D M I N C H I N A I N S T I T U T I O N A L F R A M E W O R K A N D M E T H O D O L O G I C A L G U I D E L I N E S F O R C D M Assessment of Different Baseline F I G U R E 2 . 4 Possible Baseline Trajectory and Emission Settings Reductions of a CDM Project Activity Emission reductions expected from a proposed Baseline CDM project could be calculated by subtracting project emissions from the baseline. The Mar- Emission reductions rakech Accords provide three general baseline (ton-c) approaches for a CDM project activity: (1) exist- ing actual or historical emissions, as applicable; (2) emissions from a technology that represents Emissions an economically attractive course of action, Year taking into account barriers to investment; or Crediting period (3) the average emissions of similar project activities undertaken in the previous five years in similar social, economic, environmental, and Baseline technological circumstances, and whose perfor- mance is among the top 20 percent of their Emission reductions (ton-c) category. People have various interpretations of these approaches, and the possibility is still open CDM project Emissions to choose different methodologies based on the real circumstances. The following methods are Year often discussed: Crediting period · Project-specific baseline methods · Multi-project baseline methods · Technology benchmark baseline methods can be viewed as standard-oriented. Hybrid · "Top-down" sectoral baseline methods baseline methods are actually a combination of · "Top-down" nationwide baseline methods project-oriented methods and standard-oriented · Hybrid baseline methods ones. With standard-oriented methods, baselines are developed using some standardized parame- Classification of baseline methods ters, such as the average emissions intensity of a Different baseline methods have different indica- specific electric power grid or the technical para- tions for application. In general, project-specific meters of a specific type of technology. In the baselines present non-standardized and disaggre- case of project-specific methods, baselines are gated characteristics, while benchmark baselines developed with specific parameters of a relevant could be designed and applied at different levels project activity. For example, when a gas-fired of project aggregation, such as one technology power plant replaces a coal-fired one, the coal- category in several similar projects, in one sector, fired plant could be taken as the baseline project. in one region, or even in one country. Thus, such specific parameters of the project as From a standardization point of view, baseline energy efficiency, load curve, load factors, opera- methods could be classified as either standard- tion hours, type of coal delivered, and even com- oriented or project-oriented. Multi-project base- bustion condition have to be considered in line methods, technology benchmark baseline baseline development. methods, sector-level or "top-down" sectoral base- Table 2.1 compares project-specific base-line line methods, and nationwide baseline methods methods and standardized ones (Lazarus 1999). C D M I N C H I N A 15 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S OECD, 2000; Ellis and Bosi 1999) and some of T A B L E 2 . 1 The Spectrum of Baseline Methods them are even advocating sector-level, area-level, or industry-level baselines (Baumert 1998; Har- Benchmark methods Project-specific methods grave and others 1999). While acknowledging "perfectly standardized" "completely un-standardized" some possible merits of these approaches, we Same baseline for each Different baseline for each project are not of the view that sector-level, area-level, or project industry-level baselines would be a good choice Uniform, rigid Tailored, ad hoc Additionality test reflects Additionality test reflects for CDM projects--at least for some project types only emission intensity emissions intensity and level of to be hosted by China, considering the scale and activity complex structure of China's industries and very Based on category-wide Based on site-specific information information different situations in different areas. Further- Aims to be credible for Aims to be credible for individual more, the Chinese government is also of the view family of projects projects that the baseline should be set on a project-specific basis. Table 2.2 lists some of the pros and cons of different baseline methods. The aggregation level of a baseline is usually in Baseline experience parallel with its standardization level; that is, the The UNFCCC secretariat listed 95 AIJ pro- more standardized, the more aggregated, and vice jects (UNFCCC, 1998) in its second synthesis versa. A project-specific baseline is the least aggre- report on activities implemented jointly, most gated type, while multi-project and technology of which have used project-specific baselines benchmark baselines seek to standardize emission (Ellis 1999). levels or rates and are applicable to multiple pro- The US/Russia Rusafor Project (Michaelowa jects of a similar type. Between these two types of 1998) used a hybrid baseline with both site- baseline, there is a gray area called hybrid baselines specific data and technology-based data. An AIJ that would be more aggregated and standardized project--hosted by the Czech Republic and than project-specific baselines, while less aggre- funded by the Government of Switzerland-- gated and standardized than multi-project (bench- used four baseline approaches (Basler 1999) mark) baselines (Ellis 1999). and two types of projects--fuel switching (coal Standardized baseline approaches seem to be to biomass) and energy efficiency improve- attractive to many people and organizations (IEA, ments. Table 2.2 shows the significant difference in results with different baseline methods. Table 2.3 reveals that assumptions have sig- T A B L E 2 . 2 Variation in Calculated Carbon Offsets nificant effects on the emission reduction bene- under Different Baselines fits of a specific project. For example, in the case of fuel switching, emission reduction benefits of Project type the project could vary by a factor of 2.5 when Offsets under different different baselines (technology-based baseline vs. baselines (t CO2) Fuel switch Cogeneration project-specific baseline) are used. However, we cannot draw a simple conclusion from the table Project-specific 175,000 41,000 regarding which type of baseline is the most con- Technology-based 430,000 43,000 servative. The Marrakech Accords provide clear Sectoral-based 180,000 21,000 Top-down 195,000 22,000 guidance on baseline determination. The Center for Clean Air Policy (CCAP) also Source: Adapted from Basler 1999 conducted a qualitative analysis on the impacts of 16 C D M I N C H I N A I N S T I T U T I O N A L F R A M E W O R K A N D M E T H O D O L O G I C A L G U I D E L I N E S F O R C D M T A B L E 2 . 3 Pros and Cons of Different Baseline Methods Baseline method Pros Cons Top-down nationwide · Low cost for long-term data · High cost for data collection baseline methods collection in short-term · Easy to get the data · Poor reflection of the spe- · High transparency of data cific circumstances · Easy to estimate emission · Not acceptable from political reductions of following point of view projects Project-specific baseline · Low cost for data collection · High cost for data collection methods in short term in long term · Easy to get the data · Less transparency for data · Applicable to every project collection · Good reflection of specific · Difficult to verify data situations · Difficult to estimate credits from the project activity at the design stage Multi-project baseline · Low cost for data collection · High cost for data collection methods in long term at the beginning stage · More transparency regard- · Not easy to get data ing data collection · Difficult to verify data · Easy to estimate credits · Not applicable to every from the following project project activity activities Technology benchmark · Low cost for data collection · Application limited to baseline methods · Easy to get the data projects with a single · Transparent regarding data technology collection · Poor reflection of the · Easy to estimate credits project-specific situations from the relevant project activities Sector-level baseline methods · Easy to get the data · Possible high cost for data · Low cost for data collection collection at the beginning in long-term stage · Transparent regarding data · Poor reflection of the collection project-specific situations · Easy to estimate credits from the relevant project activities Hybrid baseline methods · Easy to get the data · High cost for data collection · Medium cost for data col- in short term lection in long term · Less transparency for · Transparency of some data project-specific data used · Complex from technical · Emission reductions from point of view following project activities could be roughly estimated from the beginning · A good balance between reflection of the specific cir- cumstance and transparency C D M I N C H I N A 17 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S different baselines on an AIJ project in Decin, new construction project; (b) output that is sim- Czech Republic (CCAP 1999). Results show that ple and easy to measure; and (c) adoption of a sin- different baseline assumptions can significantly gle technology. affect the amount of credits to be generated-- Project-specific baseline methods are suitable sometimes by a factor of three. for projects with the following characteristics: More and more projects now are using multi- (a) technical retrofit projects; (b) energy effi- project baselines, in which the assumptions ciency improvement through better manage- diverge based on the specific sectors and nations. ment; and (c) output that is diversified by using Multi-project baselines, based on existing elec- multiple processes and energy flows. tricity capacity and recent capacity additions, are also used in a study focusing on projects in the Applicability of Different power sectors of Brazil, India, and Morocco (Bois Methodologies Under China's 2000). Recent capacity additions included such Circumstances items as all source and only fossil fuels, source- specific, sub-national, and load-specific. The A survey was conducted to review baseline devel- implications of different assumptions, in terms of opment practice in China. The information for stringency, are different for different countries. 10 cases was collected and is summarized in The source-specific multi-project baseline, partic- Table 2.4. Table 2.5 shows the relationship be- ularly in the case of coal, may result in perverse tween baseline methods and types of project. incentives, but might promote a cleaner use of The following observations could also be made coal reserves. Developing a separate multi-project from the investigation. baseline for peak-load electricity may be desirable, as those plants are typically different from base- · No case study in China adopted a nationwide load plants. baseline because of the significant disparities in Similar studies have also been conducted in socioeconomic development, technical level, the fields of transportation (Salon 2001) and natural resources, and weather conditions energy efficiency improvement (Violette 2000). among different regions and sectors. If the proj- The former study set up a sub-sector technical ect boundary permits, regional baselines could baseline for a transportation project and consid- be an option as a default value (e.g. the average ered the modification of the historical baseline to CO2-factor of the regional grid). allow a mode-shifting project. A single-region · Only a small portion of projects adopted multi- transportation baseline and worldwide regional project baselines because of the huge data col- baseline were also discussed. Taking lighting and lection demands. motors as examples, the energy efficiency study · Most projects adopted project-specific baselines analyzed data needs, quality, and availability for for the following reasons: (a) lighter workload baseline calculation. Based on seven cases, the for data collection compared to multi-project study discussed the issues of determining stan- baseline; (b) easy-to-get baseline data because of dard baseline performance, standard calculation the currently existing similar projects under and data protocols, and of standardizing operat- construction or under design in the same ing and performance parameters. region; and (c) low cost for data collection. Two conclusions can be drawn from the · For some types of projects, a technology bench- above-mentioned cases in terms of applicability mark baseline could be the best choice consid- of different baseline methods. ering data collection and cost reduction. Multi-project baseline methods are suitable for · For energy efficiency projects, identifying the projects with the following characteristics: (a) a appropriate project boundary is a difficult point 18 C D M I N C H I N A I N S T I T U T I O N A L F R A M E W O R K A N D M E T H O D O L O G I C A L G U I D E L I N E S F O R C D M T A B L E 2.4 General Information about CDM/AIJ Project Case Studies in China number of projects Project sector Power generation 3 Heat supply 3 Energy efficiency improvement 4 Baseline method Project-specific (P) 5 Multi-project baseline (M) 2 Hybrid baseline Technology benchmark baseline (T) 1 Sector-level baseline (S) 3 Regional/national-wide baseline Workload of data Small collection from the case Medium 8 study team perspective Large 1 Huge 1 Main difficulties in the case Baseline method 4 studies from the study Data collection 5 team perspective Cooperation from project developers 3 Assessment of additionality 1 Identification of reference technology 1 System boundary identification 1 Technical factor identification 1 T A B L E 2 . 5 Project Types and Corresponding Baseline Methods Baseline method Case No. Type of Project P M T S 1 Energy saving by implementation of ground-source coupled heat-pumps & aquifer thermal energy 2 Wind power 3 Municipal waste incineration for heat recovery 4 PFBC power generation 5 Municipal waste incineration for power generation 6 Energy efficiency improvement for cement industry 7 Energy efficiency improvement for ferroalloy refining industry 8 Switching coal-fired boiler to gas-fired boiler for space heating 9 CFBC/CHP 10 Coke dry quenching Note: P--Project-specific baseline method M--Multi-project baseline method T--Technology benchmark baseline method S--Sector-level baseline method C D M I N C H I N A 19 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S because most such projects consume secondary CDM project activity, could be classified as either energy. static/constant/fixed or dynamic. However, there · For projects with GHG emissions besides are no commonly accepted definitions of static CO2, the lack of related research makes it dif- and dynamic, and the views diverge. ficult to calculate the emissions and identify Some researchers (Michaelowa 1999) believe technical factors. that a baseline is static if either constant emissions · Workload for data collection is one of the or a constant emissions benchmark are assumed decisive factors affecting the choice of baseline throughout the crediting period of the project, approaches. and that a baseline is dynamic if only changing · Constrained by budget, data availability, and emissions (not due to changes in activity levels) or time schedule, etc., only one case study adopted a changing benchmark are assumed. Some prefer more than one kind of baseline methods. a broader dynamic definition, which include a baseline with changing emissions caused by the A decision tree for baseline setting is shown changes of output level. And some others (Ellis in Figure 2.5. and Bosi 1999; Chomitz 1998) would like to see an even narrower definition, which includes only a baseline that is revised during the lifetime of the Dynamic Baseline project activity without specifications at the out- set on how the revision(s) will be made. Concept Baselines with changing emissions could also Baselines, according to whether or not they are be divided into dynamic and quasi- dynamic. fixed during the crediting period of a proposed For a dynamic baseline, either the emission lev- F I G U R E 2 . 5 Decision Tree for Baseline Determination Proposed CDM project activity Are there any approved No Select from the three baseline methodologies for similar approaches the most suitable one projects? Yes Submit a new baseline methodology Are any of the No proposal to the CDM EB for approval methodologies applicable? Yes Approved by the EB Develop baseline with the selected methodology 20 C D M I N C H I N A I N S T I T U T I O N A L F R A M E W O R K A N D M E T H O D O L O G I C A L G U I D E L I N E S F O R C D M els change for other reasons than changes in category. The Accords also provide two options activity levels or a changing benchmark is used, for crediting period: (1) a maximum of seven while the changing rate is not pre-specified. A years, which may be renewed at most two times, quasi-dynamic baseline varies through time with provided that for each renewal a designated a trend indicator that would be specified from operational entity determines and informs the the beginning of the project. To be more accu- executive board that the original project baseline rate and to help the analysis, this study classifies is still valid or has been updated, taking account baselines into three types: static, quasi-dynamic, of new data where applicable; or (2) a maximum and dynamic. Although in some cases, emissions of 10 years, with no option of renewal. With the in a dynamic baseline could rise due to specific change of environments, the economic perfor- reasons, it is likely that in most cases the emis- mance of technologies and thus the average emis- sions will decrease. sions of projects will change. Therefore, the latter two options imply the possibility and necessity Desirability of dynamic baseline emission rates. Besides, the Static and dynamic baselines have their own variation in output of a CDM project activity advantages and disadvantages. Which type to could also cause a change in baseline emissions choose in a specific project depends on the specific during the crediting period. circumstances and main considerations of the At its ninth meeting, the CDM Executive project developers. In some cases, dynamic base- Board decided that for an electricity generation lines could better reflect the real situation than CDM project, the baseline emission rates could static ones and thus are more suitable. Chomitz be calculated ex post provided that (a) proper (1998) argues that dynamic baselines are espe- justification was provided; and (b) baseline emis- cially desirable in two circumstances: (1) in sion rates calculated ex ante were reported replacement/retrofit projects, when retirement of explicitly in the draft CDM-PDD. the existing facility is sensitive to unpredictable Most of the experience obtained to date changes in prices or interest rates; or (2) when regarding baseline determination comes from the emissions are volatile because of variable and un- AIJ pilot phase. Although static baselines are used predictable facility loads. in most of the AIJ projects, dynamic ones are also Willems (2000) suggests that it may be impor- available. The France/Czech cement production tant to use a dynamic baseline in sectors where the project in Cizkovice uses a baseline that will be rate of change in performance is relatively high; revisited after the first five years of project oper- where the baseline is inherently dynamic (e.g. in ation, and many AIJ projects supported by the the case of a reforestation project on land where Government of Switzerland revised their emission the carbon stock is naturally regenerating, but at baselines between the first and subsequent reports a lower rate); or where the crediting period and/or to the UNFCCC. the time between setting and revising a baseline is relatively long. Factors causing the change of According to the Marrakech Accords, a baseline emissions baseline methodology should be selected from Many factors could possibly cause the change of (a) existing actual or historical emissions; (b) emis- baseline emissions of a CDM project activity. sions from a technology that is economically Generally speaking, most factors will make the attractive; or (c) the average emissions of similar baseline emissions decline with time. Therefore, project activities undertaken in the previous five the emission reduction benefits of a CDM proj- years, in similar circumstances, and whose per- ect activity, when measured against a dynamic formance is among the top 20 per cent of their baseline, usually shrink with time. C D M I N C H I N A 21 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S Technologies evolve continuously in their types. Cost is always an important consideration. own way and are not necessarily associated with Changing fuel prices could change the economic GHG mitigation considerations. However, in competitiveness of different types of fuels and most cases, autonomous technology development thus the decision of project operators on fuel could improve the energy efficiency and thus type. In the same manner, it could possibly cause reduce the carbon intensity of some technologies, the change of energy consumption structure in installations, sectors, and/or industries. This will certain industries/sectors, especially the energy- inevitably make baseline emissions change with intensive industries/sectors. Different fuels could time. For example, during the lifetime of a CDM be obviously different in emissions intensity, so project activity, the old equipment or technology, the baseline or the emissions benchmark could which is used in the baseline case, could be re- also change with fuel price. Fuel switching always placed by new equipment or technology even means additional equipment or retrofit invest- without the incentives from CDM. Therefore, ment, so little price change may not cause signif- the baseline should be re-estimated. A dynamic icant fuel switching. However, when fuel price baseline would more accurately reflect what the changes happen, the baseline should be revisited emissions will be without the project activity. and possibly reassessed. Energy efficiency improvements could happen Even in the case of no fuel switching, a change autonomously with time and thus reduce the in fuel prices could also cause a change in base- emissions intensity of related products or services. line emissions. For example, in the case of low This is not necessarily associated with technology energy prices, project operators may be unwill- development. The improvement in management ing to implement an energy conservation plan and the optimization of load and operation could because the organizational cost might be higher also result in higher energy efficiency. Energy effi- than the benefits from energy conservation. With ciency improvements will reduce the emissions in the increase in energy prices, the situation may a baseline scenario; a dynamic baseline is neces- change. Economic benefits from energy saving sary, especially in case of a high changing rate. may accelerate the technological retrofitting pro- Otherwise, excess credits will be issued and envi- cess in some factories, sectors and/or industries, ronmental integrity undermined. and thus change the baseline scenario. A change in the regulatory or legal environ- Changes in resource availability sometimes ment--such as a renewable energy development may also make it necessary to set a dynamic base- plan, a new environmental policy, or new envi- line. For example, in an area where the only avail- ronmental standards--could change the BAU able fuel is coal, the reference fuel for energy scenario, and thus make dynamic baselines a conservation projects should be coal, and thus the necessity. For example, a wind energy project is baseline should be emissions from the energy uti- carbon free and usually should be eligible to gen- lization of coal. If other fuels such as natural gas erate emission reduction credits at lease for a or diesel oil are available, the energy consumption period of 10 years, which is allowed by the Mar- structure of the area will change, and thus the rakech Accords. If the host country government reference fuels should be different. The possible already has a plan to develop a wind energy proj- differences between the carbon intensities of dif- ect in the same site as the wind CDM project-- ferent fuels could therefore change the baseline. perhaps five years later--the CDM project activity When new technologies are available, they is eligible to generate credits for only five years. would compete with conventional ones in the Subsequently, it should become a baseline project. same market, and thus could possibly change the In most cases, project operators could choose technology structure of that market. If conven- the most suitable fuel type from several available tional technologies and new ones have different 22 C D M I N C H I N A I N S T I T U T I O N A L F R A M E W O R K A N D M E T H O D O L O G I C A L G U I D E L I N E S F O R C D M emissions intensities, the emissions benchmark However, compared with static baselines, of specific industries and/or sectors will change. dynamic ones usually mean more baseline esti- It is also possible that new technologies become mation work, more validation work, and a heav- the new conventional technologies, and the old ier monitoring, reporting, and data collection conventional ones are phased out. burden. All of these will inevitably increase a Different products could differ in emission project's transaction costs. intensities, and therefore the change of product If a static baseline is used in a proposed project structure could possibly change the overall emis- activity, the investors could know in advance the sions feature of certain industries, sectors, and/or amount of credits they would get from that proj- regions, and thus the baseline. ect, and thus could make their decisions with These are some of the external macro factors some certainty. In the case of a dynamic baseline, that could cause a change in the baseline. Micro the investors could not know the amount of cred- inherent factors could also cause a change of its in advance, as they could not know what would baseline. For example, it is likely that the longer possibly happen during the lifetime of the project a boiler has been used, the lower its energy effi- activity and thus how the baseline would be ad- ciency. Therefore, when this boiler is used to rep- justed. This will increase uncertainty for investors resent the baseline scenario, the emissions will and make a CDM project less attractive. likely change with the boiler's service time. In most circumstances, dynamic baselines mean that the baseline will decrease with time. Characteristics of dynamic baselines However, it is possible that the emissions may rise Dynamic baselines need to be re-estimated at in specific cases. For example, in an area where certain intervals if some significant changes rele- nuclear power accounts for a large part of total vant to the project activity have taken place dur- electricity production, the average carbon inten- ing the crediting, and thus could reflect more sity of electricity production in that area may rise precisely what will happen in the baseline sce- if the nuclear power is phased out while renewable nario than static ones. In cases such as improved energy could not fully satisfy the demand gap. The energy efficiency or stricter environmental regu- Marrakech Accords allow a baseline that includes lations, the baseline could be adjusted down- a scenario where future emissions are projected to wards and thus fewer credits would be issued. rise above current levels. Table 2.6 illustrates such This could help to safeguard a project's environ- a scenario, under which the average carbon inten- mental integrity. sity of power generation is used as the baseline. T A B L E 2 . 6 Carbon Intensity Scenarios Average carbon Renewable Fossil fuel intensity of sources sources Nuclear power generation Carbon intensity of 0 300 gC/kWh 0 power generation Composition of the power Original 10 50 40 150 gC/kWh generation (%) Changed 20 60 20 180 gC/kWh Source: GCCI calculation. C D M I N C H I N A 23 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S For simplicity, imagine that electric power in a One of the major challenges of using this certain area comes from three types of sources: approach is how to update the baseline. First of renewable sources, fossil fuel sources, and nuclear all, there should be a careful study of related legal sources, and related carbon intensities are also and regulatory environments to see if any signif- given. Under the original market structure, the icant changes have already taken place. If there average carbon intensity of power generation in have, the baseline shall be updated accordingly. that area is 150 gC/kWh. If the share of the fossil Secondly, the market should be analyzed to see sources increases, the average could increase to whether the baseline technology could still rep- 180 gC/kWh. resent the most attractive choice for investors or whether the situation has changed. If it is still Set dynamic baselines in an affordable way attractive, the baseline could remain unchanged. In the Marrakech Accords, two alternative ap- Otherwise, a new baseline should be developed. proaches are provided for crediting period selec- This process is actually similar to developing a tion: (1) a maximum of seven years, which may be baseline at the outset. renewed at most two times; or (2) a maximum of Another significant challenge lies in the diffi- ten years with no option of renewal. If the seven- culty of defining a rational changing rate for the year period is selected, the baseline will be revis- baseline. If a clear historical change trend can be ited at the interval no longer than seven years observed in a sector, area, and/or industry, this during the crediting lifetime of the project activ- trend may serve as a reference for the future ity, and there is the possibility that a dynamic change. Otherwise, a subjective trend will have baseline will be developed. to be set. Actually, technological progress often When updating the baseline for a project activ- happens unexpectedly, so subjective judgment is ity, all the above-mentioned factors should be unavoidable in this process. taken into consideration to make the revision Dynamic baselines are not always a good more precise. Failing to do so may potentially choice. Where a large investment has been avoided inflate the baseline, whereas a too rigorous process and the lifetime of the project could be much may mean more transaction costs and uncer- longer than the crediting period, such as the power tainties for investors and could thus hinder their plant, it is unlikely that a newly built one will be decision at the beginning. Too-short updating replaced in a short term. Therefore, a static base- intervals may create similar concerns for investors. line is more rational than a dynamic one. A trade-off has to be made between different considerations. Recommendations Quasi-dynamic baselines and mixed ones could be good choices. In the case of quasi-dynamic Although various baseline methodologies have baselines, the baseline will change during the cred- been proposed by different sources and discussed iting lifetime of the project activity, while the rate in this chapter, it does not necessarily mean that is specified at the very outset. This could accom- all of them could be appropriate choices for modate both the environmental concern and the CDM projects hosted by China. Choosing the desire of some certainty by investors. There are most appropriate baseline methodology for a two options for the mixed baselines. One option is CDM project activity requires striking a balance that the baseline will be re-estimated at a prede- among different considerations, such as the real fined interval, while between two estimations the situation, transparency, accuracy, verifiability, baseline is fixed. The other option is that during and transaction cost. two estimations, the baseline is not a fixed one, but Theoretically, the higher or broader the level at a quasi-dynamic one. which the baseline methodology is determined, 24 C D M I N C H I N A I N S T I T U T I O N A L F R A M E W O R K A N D M E T H O D O L O G I C A L G U I D E L I N E S F O R C D M the more transparent the methodology and the conservative of the following options: (a) The out- result because it is much easier to get and verify put-weighted average emissions of the top 20 per aggregated rather than disaggregated data. How- cent of similar project activities undertaken in the ever, such a choice also usually means a higher ini- previous five years in similar circumstances; tial baseline determination cost, a lower cost for (b) The output-weighted average emissions of following projects, and a lower average cost in the similar project activities undertaken in the previ- case of a large number of CDM projects. ous five years under similar circumstances that are China is a large county with significant differ- also in the top 20 per cent of all current operating ences between different regions in aspects such as projects in their category (i.e. in similar circum- natural resources, technology development, and stances as defined above)." Such an exercise socioeconomic development. Baseline method- requires a large amount of data about the whole ologies based on national average data could market. However, most of the data are considered overestimate the GHG emission reduction bene- confidential/internal and are not publicly avail- fits of projects to be implemented in economically able in China. This will inevitably increase the and technologically advanced areas, while under- transaction cost and restrict the transparency and estimating the benefits for potential projects in verifiability of the methodologies. other areas. Therefore, such methodologies are Data availability will be one of the most seri- not appropriate for CDM projects in China. ous challenges that project developers have to Baseline methodologies based on regional data face during baseline determination in China, be- could reflect to a large extent the real situation cause of the poor statistical basis of the country, where the project is to be implemented, reduce to limited publicly available information, and less a certain extent the transaction cost of baseline transparent statistical data. determination, and retain an acceptable level of In comparison with static baselines, dynamic transparency. They are thus an attractive option. baselines usually mean more data requirements A baseline associated with the average emis- and less transparency. Furthermore, such method- sions of similar project activities whose perfor- ologies also mean more uncertainties for project mance is among the top 20 per cent in its category proponents and thus are not currently attractive is not an attractive and appropriate choice for and appropriate when the CDM is still in its some types of CDM project activities, at least infancy. In the case of a dynamic baseline, the under China's current situation. Take power pro- amount of available historical data will have jects as an example. In China's current power obvious effects on the projections of future sce- market, some high-efficiency projects, such as narios and thus the emissions baseline to be used natural gas-fired projects, are to be built as in the project. However, more historical data demonstrations. However, in a specific area, there would not necessarily mean a more rational rep- are only a limited number of newly planned or resentation of the current trend. built power plants, and one such project could account for a large portion of the newly added ADDITIONALITY ASSESSMENT capacity in that area. Baseline methodology based on this approach could possibly underestimate This section discusses three points about addi- the baseline and thus not provide enough incen- tionality: the concept, the assessment criteria, tives to CDM project proponents. Further- and the procedures for additionality assessment. more, the CDM Executive Board decided at its Additionality represents the environmental ben- 8th meeting that: "Project participants wishing to efit of the project by proving the project mandate use this approach and a related approved method- is fulfilled with regard to the baseline and gener- ology shall assess the applicability and use the most ating the unit of economic transaction, i.e. certi- C D M I N C H I N A 25 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S fied emissions reductions (Oberheitmann 1999). ble project activities and safeguard the integrity Hence, it is a core element of the CDM. Here we of the Kyoto Protocol. describe the concept of additionality, its assess- Spill-over benefits to the host country. CDM ment criteria, and recommendations. project activities that have passed the addition- ality assessment could really promote sustain- Concept and Importance of able development of the host countries and thus Additionality create spill-over benefits to those countries, such as improvement of local environmental quality, Concept, rules and regulations transfer of environmentally sound technologies According to the Marrakech Accords, "a CDM from developed countries, more public or pri- project activity is additional if anthropogenic vate investment from developed countries, and emissions of greenhouse gases by sources are the elimination of market barriers in host reduced below those that would have occurred in countries. the absence of the registered CDM project activ- ity" (UNFCCC 2001b). Based on that, the CDM Additionality Assessment Criteria Executive Board has (as of December 2003) for- mulated further decisions on how to demonstrate Generally speaking, ideal criteria for assessing the additionality of a proposed CDM project the additionality of a proposed CDM project activity (see below; for details refer to Annex 1). activity should reflect as much as possible spe- Assessing whether a proposed CDM project cific circumstances of the project to be assessed; activity is additional involves two issues: (1) iden- reflect to some extent general situations of a spe- tifying the baseline scenario in the absence of the cific sector/region where the project is to be proposed project activity; and (2) explaining why located; require rational or even limited data; the project's emissions will be reduced below the have limited system errors; have relatively lower baseline, or why the emission reductions to be uncertainties; have acceptable cost; and have achieved by the proposed CDM project activity limited or even no subjective judgment. will not otherwise happen. Until now, there is no consensus by the inter- national community on specific criteria for addi- Significance of additionality tionality assessment. Some guidance has already Additionality assessment is a very important step been provided by the COP and the CDM Exec- in assuring that the proposed CDM project activ- utive Board. ity will result in real, measurable, and long-term In the Marrakesh Accords, paragraphs 43 and GHG emissions reduction benefits, and that these 44 stipulate that: reductions are additional to any that would occur 43. A CDM project activity is additional if in the absence of the certified project activity. It anthropogenic emissions of greenhouse gases by sources has two particularly significant aspects. are reduced below those that would have occurred in Safeguard integrity of the Kyoto Protocol. Once the absence of the registered CDM project activity. specific criteria have been established, an addi- 44. The baseline for a CDM project activity is tionality test becomes an effective instrument to the scenario that reasonably represents the anthro- manage the operation of CDM projects. With pogenic emissions by sources of greenhouse gases that related assessment criteria, designated opera- would occur in the absence of the proposed project tional entities could distinguish clearly and more activity. A baseline shall cover emissions from all easily between projects with real and additional gases, sectors and source categories listed in Annex reductions in emissions and those without, and A within the project boundary. A baseline shall be thus assure that CERs are awarded only to eligi- deemed to reasonably represent the anthropogenic 26 C D M I N C H I N A I N S T I T U T I O N A L F R A M E W O R K A N D M E T H O D O L O G I C A L G U I D E L I N E S F O R C D M emissions by sources that would occur in the absence that were once widely used in the past--such as of the proposed project activity if it is derived using emissions additionality and technology addition- a baseline methodology referred to in paragraphs ality--will be avoided in this report. However, it 37 and 38 above. is still necessary to demonstrate various aspects of the project's additionality. Therefore, we propose At its 9th meeting, the CDM EB required and discuss a series of additionality assessment cri- that project participants should refrain from pro- teria, though they are not necessarily suitable for viding glossaries or using key terminology not every project. These criteria deal with emissions used in the COP documents and the CDM glos- aspects, financial aspects, investment barriers, sary (environmental/investment additionality). technology barriers, and other barriers. At its 10th meeting, the EB provided further Emissions aspects. Paragraphs 43 and 44 of the clarification on additionality: Marrakech Accords provide a clear indication 1. As part of the basis for determining the regarding how to demonstrate additionality from baseline scenario an explanation shall be the emissions perspective. made of how, through the use of the It is widely agreed that an emissions-related methodology, it can be demonstrated criterion is most important because of its direct that a project activity is additional and and quantitative characteristics as well as univer- therefore not the baseline scenario. sal applicability. The comparison between emis- 2. Examples of tools that may be used to sions of a CDM project and the baseline gives a demonstrate that a project activity is clear and quantitative understanding of the emis- additional and therefore not the baseline sions reduction benefits of a proposed CDM proj- scenario include, among others: ect activity, and this comparison can and must be (a) A flow-chart or series of questions undertaken for any CDM project to be imple- that lead to a narrowing of potential mented in any sector and country. baseline options; and/or The index to scale the emissions level is rather (b) A qualitative or quantitative assess- simple: the amount of GHG emissions. But it is ment of different potential options sometimes more convincing to calculate the and an indication of why the non- GHG emissions rate (i.e. tCO2/GWh) instead project option is more likely; and/or of the total amount (e.g. tCO2). This is also (c) A qualitative or quantitative assess- a requirement put forward by the EB at its ment of one or more barriers facing 8th meeting. For example, in the case of a thermal the proposed project activity (such as power plant, two possible indexes--CO2 emis- those laid out for small-scale CDM sions per unit of electricity supply, or CO2 emis- sions per unit of heat supply--could be used to projects); and/or assess the project's additionality from an emissions (d) An indication that the project type is perspective. not common practice (e.g. occurs in Data requirements for an emissions-based less than [ 1MW costs performance per turbine risk Case-5: 0.02676 Comparatively Higher perfor- Hardly predictable Not yet, encouraged by Taicang-Biogas high up-front mance risk power supply legal regulations costs due to volatile expected after 2010 gas quality Case-6: 0.072 Investment cost Higher perfor- Institutional Common practice is not Zhuhai-LFG are higher than mance risk barriers to capture the landfill in baseline case due to volatile gas at all gas quality B O X 3 . 2 Five-Year Power Development Planning in China The Chinese government maps out five-year plans on a regular basis in all sectors, including the electric power industry. The general process can be summarized as follows: The practice of formulating a five-year economic development plan has been adopted in China since the 1950s, particularly during the period when the economy was centrally planned. Long- term development programs and five-year plans are normally in line with the blueprints mapped out at the National Congress of the Communist Party of China (CPC). The NDRC (former SDPC) will organize the drafting of the next five-year socioeconomic plan. In the specific development plan for the electric power industry, the growth rate, priority technologies, and some important projects could be proposed for consideration or implementation. After being subject to review and debate, the draft plans will be submitted to the National Development and Reform Commission(NDRC) for consolidation, then to the State Council for further deliberations, and then to the National People's Congress (NPC) for final approval. Once the national five-year bill is through the NPC, sector-specific plans will be subject to updating or revision, and then made public as guidelines for the electric power sector. C D M I N C H I N A 65 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S the projects listed in the planning document may parts. However, the overall economic perfor- be or may not be developed in reality, depending mance of GSCC power plants turns out to be less on whether the necessary resources are available competitive, with the current price of natural gas or not. Taking the super-critical technology as an three times that for coal (even considering the example, being listed as one of the priority areas favorable terms granted by the Beijing municipal in the five-year planning document means it is government). The common practice is therefore supported by the government, but there is no to choose a coal-fired power plant rather than a guaranteed financial assistance or other aid. too-expensive GSCC installation, which requires Early action needed in order to take advantage of additional capital to cover the running cost. CDM. The projects that are submitted to the gov- Newly installed environmental regulations and ernment for their approval are in most cases at an legislation can remove a project's additionality, early stage and still need to secure external (finan- depending on the region; early action is needed to cial) resources and technical assistance. However, if make use of a longer crediting period and higher the proposed projects get officially approved, then amount of CERs. With China's rapid socio- this generally implies that the financial resources for economic development, the importance of en- implementation could have been promised or vironmental protection has been increasingly secured. On the other hand, the project proposal recognized. The National People's Congress could be possibly turned down even with the avail- (NPC) of China has made great efforts in environ- ability of financing sources, due to the problems of mental legislation in order to improve air quality technological choices or regional balance. and stem the increasing nationwide environmental It is therefore important to identify potential degradation. This is particularly true in many large CDM project activities that are in line with the cities and environmentally fragile regions. government's priorities--by, for example, being In Beijing, for example, more stringent envi- listed in the Five-Year-Plan--and are at the time ronmental codes and standards have been im- of project development not (yet) economically fea- posed by the municipal government in the lead-up sible. The identification of those projects should to the Olympic Games in 2008. As part of this occur before the submission of a project to gov- effort, coal-derived CO2 emissions and other pol- ernment authorities for approval. Furthermore, lutants have been strictly controlled. The Olympic projects that are not economically viable at first Action Plan has been formulated to develop re- sight may improve their economic performance sponse measures for clean air quality. This initia- with CDM, and hence have a higher probability tive is only one of many government-sponsored to be approved by the government. efforts to push the use of those advanced and Power tariffs or fuel price have an important im- energy-efficient technologies. Therefore, the op- pact on additionality. Power tariffs and fuel prices portunity to launch certain CDM project activi- play an important role in the context of addi- ties is limited until they are common practice; tionality. In many cases, renewable and advanced that is, the baseline case. energy technologies, which either have unafford- Dilemma of data availability vs. additionality or able O&M costs or entail prohibitively higher up- "the chicken and egg challenge" in the context of front investments, would appear economically CDM in China. In the course of the work on the uncompetitive with other conventional options. case studies, it has sometimes been difficult to get For instance, the front-end investments for launch- the data needed to prepare a PDD. However, the ing the BJ3TPP Gas-Steam Combined Cycle PDD is essential for CDM since the EB is going and the Beijing Dianzicheng Gas-Steam Tri- to approve or reject a potential CDM project generation projects are supposed to be roughly activity based on the PDD. On the other hand, equal or even lower than their coal-fired counter- each large new (or retrofit) power plant project 66 C D M I N C H I N A F I N D I N G S F R O M C D M C A S E S T U D I E S must also be handed in to the NDRC to get offi- tions and the calculation of incremental costs of cial approval. Once officially approved by the emission reductions (ICER). NDRC, the project planning can go ahead with In case 1, investment per kW is 5571Yuan/ all required pre-feasibility studies fully prepared kW, which is 15 percent higher than the base- and the financial resources in place. In short, line project, and the supply cost for generating is no pre-feasibility study or technical preparation 0.01Yuan/kWh higher. But since the efficiency would have been carried out before the normal has been improved, the decline in fuel use will approval procedure, leaving the necessary data for make up for the increase in the supply cost in the a complete PDD (for a third party) unavailable. CDM project. Table 3.19 shows that ICER for case 1 is 8.47US$/t CO2, comparatively low in Emission Reduction and the 6 cases. Abatement Costs After analyzing cases 2 and 3, the combined cycle steam power plants, it is obvious that the Overview of the main data regarding higher price of natural gas compared to coal causes emission reduction and abatement costs CDM project costs to increase significantly. In Bei- In Table 3.19, we present the main data for the jing, the price of gas is 1.4Yuan/m3 six case study projects regarding emission reduc- (0.154Yuan/kWh) and coal is 0.29Yuan/kgce T A B L E 3 . 1 9 Major Emission Reduction and ICER Data of the CDM Case Studies Case 1. Case 2. Case 3. Case 4. Case 5. Case 6. Case Study Data Huaneng-SC GSCC-TriGen BJ3TPP-GSCC SH-Wind Farm Taicang-Biogas Zhuhai-Landfill Total CO2 equiv. 12,264,000 5,358,500 9,099,650 508,200 267,760 724,700 Emission Reduction over the Crediting Period (t CO2 equiv.) Average Annual CO2 876,000 535,850 649,975 36,260 26,760 72,470 Emission Reduction over the Crediting Period1) (t CO2/a) Emission Reduction 1.08 4.03 2.17 1.8 7 459.3 per kW (t CO2/kW) Total CO2 Emission 858.97 1105.4 1129.08 209.24 47.9 23.632 Reduction Costs over the Crediting Period (Mill, RMB) Average Annual CO2 61.36 110.54 121.75 14.93 4.79 2.363 Emission Reduction Costs over the Crediting Period (Mill, RMB/a) Average Incremental 8.47 24.94 15.00 49.79 21.67 3.94 Cost of Emission Reductions (ICER) or Average Specific CO2 Emission ReductionCosts (US$/t CO2) 1)In the case of a crediting period of 3 × 7 years, the annual emission reduction is multiplied by 14 for the calculation of the total emis- sion reduction. In the case of a 10-year crediting period, the factor is 10. C D M I N C H I N A 67 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S (0.03536Yuan/kWh). The coal price is just than that of cases 2 and 3. Analysis shows that 23 percent of the gas price. In the CDM project, decreasing initial investment and operating costs fuel cost accounts for 52 percent of the total gen- are the key factors in the declining incremental eration cost; in the baseline project, the percentage abatement cost of such projects. is only 38 percent. Therefore, the generation cost Case 6 concerns landfill methane recovery per kWh of the CDM project is 72 percent higher for power generation in Zhuhai City. The main than that of the baseline project. However, the part of the emission cost is the initial investment, low initial investment of the CDM project-- 23.2 million Yuan, and investment per kW can 4106Yuan/kW, compared to a baseline cost of reach 13,300Yuan. Key factors to decrease ICER 4848Yuan/kWh--can to some extent counteract are designing reasonable recovery systems and the high ER cost. The ICER of case 3 is $15/t CO2. lowering investment. Total emission cost in this Case 4 is phase II of the 20MW Shanghai case is about 23.20 million Yuan, and annual wind farm project. As is shown in Table 3.19, the CO2 emission saving is 72,470 t because of the average specific CO2 emission cost of case 4 is large greenhouse effect of CH4. The ICER is then $50/tCO2. The main reason why the ICER is so a comparatively low $3.94/tCO2. high is because of the high initial investment, reaching 9128Yuan/kW. The data was obtained Analysis of driving factors on incremental from the phase I Shanghai wind farm project. cost of emission reductions With the rapid development of the wind power Impacts of crediting period on ICER. Cases 2, 5, generation market, investment per kW has de- and 6 have selected a fixed crediting time of clined to around 7,000Yuan, 23 percent lower 10 years. Cases 1, 3, and 4 have selected a renew- than the data used in calculation. Similar to case 5, able crediting period of 3 × 7 years. The longer the key factor in declining incremental abatement the crediting period, the higher the total emission cost is to decrease initial investment. Another reductions and profits from the CDM project important factor is the annual operating hours of activity. However, long crediting periods also the wind farm. In Shanghai, 2,000 hours of full- bring some problems, such as uncertainty, espe- load electricity is connected to the grid, which cially to the cases that take the average fuel rate of is less than the 2,300 to 2,500 hours in Inner the grid as baselines. In the coming 20 years, Mongolia and Sinkiang. The less annual supply, the less CO2 ER, and ICER will increase. China's GDP will about 7 percent annually, so Case 5--a renewable energy generation electrical generation will grow at about the same project--deals with the anaerobic treatment of rate. Clean coal technology, fuel replacement, effluent and power generation at the Taicang and renewable energy generation will be devel- Xin Tai Alcohol Co. The capacity of this CDM oped mainly in order to protect the environment. project is only 4MW, but the initial investment Furthermore, out-dated mid-sized and small is as high as 45 million Yuan. Its specific invest- coal-fired plants will be phased out rapidly. It can ment is 11,250Yuan/kW, much higher than for- be anticipated that the fuel structure on the grid mer cases, because effluent treating equipment in China will change significantly in the future, has been involved as well as biogas generating which causes uncertainty for CERs. equipment. In addition, the operating cost of Impacts of coal prices and gas prices on ICER. effluent treatment is also very expensive, about The coal price in China is lower than the world 4.5 million Yuan yearly. After combining these market price. China has an abundance of coal res- two parts, the biogas generating cost reaches ources. Coal takes 67 percent of primary energy 0.392 Yuan/kWh, 56.8 percent higher than in China, and is more than 80 percent of fuel fired average cost of the grid, which is 0.25Yuan/kWh. for electrical generation. Because of the low coal The case 5 ICER is $21.67/tCO2, a little higher price, when CDM projects choose the average 68 C D M I N C H I N A F I N D I N G S F R O M C D M C A S E S T U D I E S fuel rate of the grid as baselines, ICER results will Findings and Conclusion be relatively high. Cases 1, 2 and 5 are located in After analyzing the most important driving fac- Henan province, Beijing, and Shanghai, where tors on ICERs in the six cases, the main findings coal prices are $24.9/toe, $53.4/toe and $65.3/ and conclusions are as follows: toe respectively. But in Japan, England, and the OECD, the prices are $110.2/toe, $97.76/toe, · Due to high natural gas prices and low carbon and $61/toe (Data from IEA Energy Prices and prices in China, the ICER in fuel-switching Taxes). The average international market price is CDM project activities is rather high. at least 20 percent higher than the price in China. In case 3, when the OECD coal price serves as an · ICERs in renewable energy generation CDM opportunity cost in the sensitive analysis, the project activities could be reduced if the initial result shows that if the price is 34 percent higher, investment is lower and the full-load operat- the ICER will be 39 percent lower, changing from ing hours of the plant higher. $25/toe to $15.3/toe. On the contrary, natural · Improving the landfill methane capturing rate gas prices in China are higher than world market in the respective CDM project activity may price. Data from IEA Energy Prices and Taxes decrease ICERs. reveals that price of gas in China is $0.17/m3 · If CDM projects choose the average fuel rate (1.40Yuan/m3), almost twice the American price on the grid as a baseline, the coal price will have of $0.09/m3. Case 3 also provides sensitive analy- a significant impact on ICERs. sis in this direction. If the gas price declines from · Power purchase agreements (PPAs) will help to 1.4Yuan/m3 to 1.13Yuan/m3, the ICER will improve the economic performance of renew- change from $30/tCO2 to $15/tCO2, decreasing able energy generation projects, as well as de- 50 percent. After analyzing this, it is clear that coal crease their ICERs. and natural gas prices have a big impact on ICER. · As a potential CDM activity, advanced coal- Relevance of power purchase agreement (PPA) fired generator technology provides a high for ICER. Many countries have set regulations and amount of CERs and low ICER. policies to promote the development of renewable · Renewable energy generation projects have energy generation. For example, in Germany, high potential emission reductions, while their PPAs with public utilities provide higher tariffs initial investments are very high. However, for green power supplied into the grid, such as for with policy support (such as PPA) such pro- wind parks. Although the Chinese government jects are promising. has not announced such regulations, some docu- · With lower gas prices in China, fuel switching ments have been developed to promote renewable may become an interesting CDM project energy. In 2003, the NDRC approved two 100 activity. MW wind farms in Rudong county, Jiangsu province and in Huilai county. Guangdong province would invite public bidding to construct CDM: CHANCES, BENEFITS, the plants. The owner of the wind farm and local BARRIERS, AND UNCERTAINTIES power company could also negotiate a favor- able fixed price (this is PPA). In the near future, Chances and Benefits for China 10 wind farms will be constructed. The availabil- Deriving from CDM ity of higher price PPAs and bidding may decrease the ICER considerably, and may render wind Besides the obvious reduction of greenhouse gas projects more competitive compared to other emissions and the mitigation of climate change, technologies. CDM has other benefits for China. Based on the C D M I N C H I N A 69 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S six case studies, Table 3.20 lists the chances and Barriers for the Preparation and benefits. The right side of the table provides Implementation of CDM and selected examples from the case studies. (For Respective Mitigation Measures more detailed information, refer to the separate case study reports in Annex 1 on the CD-ROM.) In the course of the elaboration of the case The benefits derived from CDM and CDM studies, different barriers were encountered. itself fits and supports all three major objectives These barriers represent the present status at of China's energy policy; that is, to reduce the the end of 2003. However, there also exist a environmental impacts of coal fired generation set of measures to tackle and overcome the by 1) diversifying the fuel mix; 2) promoting barriers, given the commitment of the gov- energy efficiency and clean coal technologies; ernment and all other involved stakeholders and 3) promoting renewable energy. (Table 3.21). T A B L E 3 . 2 0 Summary of Chances and Benefits from CDM Based on the Findings of Six Case Studies Chances and Benefits from CDM for China Selected examples from the Case Study Projects Economical Chances and Benefits Increase in tax revenues 17% VAT for power sale, business tax for project implementation (5% of turnover), 33% income tax for employees Transfer of state-of-the-art technology to China Gas engine and turbine for biogas use for the that would stimulate scientific and technolog- effluent treatment Taicang Alcohol plant ical progress coming from the United States Additional revenues coming from CER improve All case studies the financial performance of a project Help to start up new domestic industry sectors Manufacturing of wind turbines larger than 1 MW (e.g. by franchising system) Expand employment All case studies Ecological Benefits Reduction of GHG emission and mitigation of In all case studies climate change Improvement of local air, water, and ground- a) Reduction of SO2 emissions, NOx emissions water quality and particulates. b) Improvement of water quality of Taicang river Diversification of electricity generation sources Fuel switch from coal to natural gas, renewable energies such as wind, biomass Saving natural resources by the use of renewable Power generation by landfill gas, gas from energies anaerobic digestion and wind Support and help to accelerate the development Wind, landfill gas of renewable energies Social Benefits Creation of new jobs In all six case studies Awareness raising for environmental challenges Information and education center on site of the at the local level wind power plant in Shanghai Improving household living standards Switch from coal to gas for heating boiler in households in the case study project #3 70 C D M I N C H I N A F I N D I N G S F R O M C D M C A S E S T U D I E S T A B L E 3 . 2 1 Overview of Perceived Barriers and Suggested Mitigation Measures based on the Six Case Studies Challenge, Barrier Mitigation Measure Stakeholder Barriers The central government (NDRC, MOST, SEPA, Information and promoting CDM at the provin- MOA, MOF, MOFA, China Meteorology cial and local level. These can be done by sev- Bureau, MOT etc.) is familiar with CDM. How- eral means, such as by workshops, or carrying ever, on the provincial and city level, knowl- out of CDM pilot projects. edge and awareness of CDM is low. Improving the energy efficiencies of power a) Governmental incentives, e.g. lower value- plants and enlarging the share of renewable added tax for renewable energies (for exam- energies are stated objectives, but govern- ple, a 6% VAT for small-scale hydropower mental support has not been provided. instead of 17%). b) Binding and favorable regulation on tariffs of electricity purchased by power companies when the electricity is coming from renew- able energies. Since the Kyoto Protocol has not entered into Establish DNA and provide guidance for the force, the designated national authority has- CDM procedure in China. n't been established yet. Local residents near future large power plants Suitable financial subsides for inhabitants. may be worried about the increase of air pol- lution or the loss of land. Financial­Technical Challenges The level of transaction cost of the (potential) a) Bundling of small-scale CDM projects CDM project activity (costs for negotiation, b) Enabling unilateral CDM projects, i.e. the validation, monitoring, and verification) is project is developed, financed, and imple- expected to be high, above all for small-scale mented by the project host only CDM project activities. Some CDM project activities may involve tech- a) Introduce experienced technicians (including nology transfer from abroad. Other CDM proj- introduce technicians from foreign countries) ect activities will work with fuel of varying b) Strict quality control during manufacturing quality. Therefore, some time could be of equipment and erection of plants needed to sustain reliable operation of the c) Thorough commissioning of the plant, docu- respective plants. mentation and training of the designated operations staff. Environmental Challenges Methane leaks in the natural gas pipeline. . . . Stakeholders Perspective on based projects. By 2007­8, the opportunity to Requirements to Facilitate start larger-scale CDM projects may have passed CDM in China because of the uncertainty regarding the 2nd com- mitment period, since by then less then 7 years An important uncertainty is whether and when would fall into the first commitment period. A the Kyoto Protocol will enter into force. Another commercial bank in this situation would prefer to uncertainty is how the EB may consider baseline finance projects that are economically viable. and monitoring methodologies proposed for Larger-scale no-regrets projects would in turn face larger-scale energy efficiency and large fossil-fuel- difficulties in demonstrating additionality. C D M I N C H I N A 71 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S Based on the stakeholder assessment and CROSS COMPARISON OF focusing on the CDM potential in the first com- FINDINGS WITH RESULTS mitment period, the subsequent main require- FROM OTHER STUDIES ments are as follows: Figure 3.1 and Table 3.22 provide an overview of CDM Case Study projects in China. On one · Transparent, simple, and straight-forward hand, there are the six case studies that have been CDM procedures for project developers conducted within the present study; on the other · Maximum certainty regarding the amount of hand, there are case study projects from other CERs and approval by the EB studies. These further case studies are the BP-1 · Short time between preparing PDDs, the offi- project (sponsored by British Petrolium) the cial approval of the CDM project activity by ADB-1 to ADB-7 case studies (sponsored by the EB, and the CER revenues the Asian Development Bank), as well as the 3E1, · Assessment and minimization of risks associ- 3E2 and 3E3 case studies (sponsored by New ated with CDM project activities. Energy and Industrial Technology Development F I G U R E 3 . 1 Location of China's CDM Project Activities with Case Studies ADB5 3E1 3E2 WB/GTZ2, WB/GTZ3,3E3 WB/GTZ1 WB/GTZ5 ADB6 WB/GTZ4 ADB7 ADB2 WB/GTZ6,BP1 ADB1 ADB3 ADB4 Note: status at the end of 2003 72 C D M I N C H I N A F I N D I N G S F R O M C D M C A S E S T U D I E S Organization NEDO, Japan). All together, 17 reduction potential. In sector "D" there are two case studies have been considered. One is based natural-gas based projects, a cogeneration proj- on coal, four are based on natural gas, and the ect (WB/GTZ2), a combined cycle project (WB/ other 12 are based on renewable energy and waste. GTZ3), and two renewable-based projects. The Two of the waste utilization processes are related wind project (WB/GTZ4) has the highest ICER to industrial processes. of all case studies shown and simultaneously a low Figure 3.2 shows the specific investment costs quantity of CO2 emission reduction potential. of the case studies with available data. Generally speaking, renewable-energy-based The first four case studies are based on fossil projects have a comparatively low CO2 emission fuels; the others are renewable energy power gen- reduction potential as a single project, but a very eration projects. The average specific investment high replication potential. The large-scale fossil costs of the fossil-fuel projects are about half of fuel power plants have a comparatively higher the investment costs of the renewable energy potential for CO2 emission reductions. projects. This is mainly due to the much higher capacities of the fossil power generation projects. CONCLUSIONS AND In the case of the renewable energy projects, the RECOMMENDATIONS operational costs are very low due to the fact that the fuel costs are (almost) zero. Based on the application of the CDM method- Figure 3.3 shows the emission reductions and ologies in the selected six case studies in the elec- the costs of CO2 emission reductions of the case tric power sector and the renewable energy fields studies. (Note that we did not check the data from (for power generation), the major conclusions the other case studies.) The figure is divided into and recommendations are as follows. the sectors A, B, C, and D. In sector "A," the proj- ect case studies with high CO2 emission reduction The Applicability of CDM quantities and low ICER are indicated. Projects Methodology under the Specific within this sector have the highest priority as Conditions of China CDM projects. In this sector, you can find the BP-1 project, a fuel-switching natural gas com- Project system boundary and leakages bined cycle power plant; the WB/GTZ1 project, All case studies selected the physical boundary of a coal-fired super-critical steam turbine power the projects as defined in the CDM Glossary. For plant; and the 3E3 project, a plant related to an most cases, the one-step upstream and down- industrial process. No renewable energy-based stream leakages were evaluated. The results show project is in sector "A." that normally in comparison with total emissions The case studies in sector "B" are character- during the project lifetime, the leakage could be ized by relatively low CO2 emission reduction neglected. These findings could be applicable in quantities and low ICER. This sector includes an most other projects as a simple and workable industrial-process-related plant (3E2) and a small approach to deal with the on-site direct project landfill gas-to-energy power plant (WB/GTZ6). emissions reductions within the project bound- The landfill gas plant has very low ICER, but the ary and leakage issues. specific investment costs are the highest of all case study projects as shown in Figure 3.3. Baseline setting In sector "C," there is only one project (3E1), There are three kinds of baseline approaches iden- a natural gas-fired combined cycle. tified by the Executive Board, paragraphs 48a to Sector "D" projects have relatively high ICER 48c, which build the basis for baseline method- and at the same time a relatively low emission ology. In a fast-growing economy like China's, C D M I N C H I N A 73 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S T A B L E 3 . 2 2 Overview and Summary Table Comprising Other CDM Project Case Studies WB/GTZ1 WB/GTZ2 WB/GTZ3 WB/GTZ4 WB/GTZ5 WB/GTZ6 BP-1 Project Huaneng- Beijing BJ3TPP SH-Wind Taichang- Zhuhai- Zhuhai II Name Qinbei Dianzich Farm Biogas LFG eng Project [City, Wulongko Beijing Beijing Shanghai Taichang, Zhuhai Zhuhai Location Province] u Jiyuan, Jiangsu City, City, Henan Guang- Guang- dong dong Sector [According energy energy energy energy waste waste energy to IPCC] CDM [Brief Super- Gas-fired Gas- Wind Power Landfill Combined Project descrip- critical Com- Steam power from the Gas for Cycle Activity tion] coal- bined Com- gen- anaero- Power Power fired Cycle bined eration bic treat- Gen- power Tri- Cycle ment eration genera- gen- Power tion eration Baseline [48.a; 48.b; 48 b) 1.48 b) 48 b) 48 b) 48 b) 1.48 a) 48 a) Approach 48.c] 2.48 a) 2.48 a) 3.48 b) Crediting [years] Renewable Fixed 10 Renewable Renewable Fixed 10 Fixed 10 Fixed 10 Period 3×7 3 × 7 3 × 7 Capacity [MWe] 2×600 133 400 20 4.1 1.74 3×700 Energy [GWhe/a] 6,250 548 1413.6 40 29.1 8.7 84001 Generation [MWhth/a] 875 CO2- [Mt CO2/a] 0.88 0.536 0.65 0.036 0.027 0.072 3.701 Reduction Investment [Mil. US$] 765.54 88.84 193.56 22.08 5.44 2.81 914.873 ICER [US$/t CO2] 8.47 24.94 15.0 49.79 21.7 3.94 11.624 Default exchange rate = 8.27 RMB/US$ 1/ medium scenario, annual operating time:4000hr, in 2010. 2/ CO2-emission reduction/Energy Generation, calculated by Zheng Zhaoning 3/ static investment costs 4/ medium scenario, annual operating time:4000hr. discount rate: 8% 5/ calculated by Zheng Zhaoning based on the CO2 emission intensity per unit electricity generation additional power plant capacity is needed, while ment of a CDM market according to the Kyoto at the same time autonomous development in Protocol--are very high. technology by means of higher efficiencies is Operating Margin is regarded as the most expected. The 48a approach is consequently not appropriate baseline methodology in the case of chosen for the power baseline of the six case stud- small, renewable energy power generation pro- ies under investigation. For approach 48c, the jects. The key issue is the standard set for a reliable data requirements are too much and the uncer- power supply. tainties regarding improvements in technology In a power grid system with relative new power over the crediting period--as well as the develop- plants, the type of baseline approach and baseline 74 C D M I N C H I N A F I N D I N G S F R O M C D M C A S E S T U D I E S ADB-1 ADB-2 ADB-3 ADB-4 ADB-5 ADB-6 ADB-7 3E1 3E2 3E3 Guilin MSW Guangxi Guitang Biogas Gansu Luertai Niaojiaga Baotou Laigang- Liulihe Bio- Bagasse Digesters Yumen Hydro- Hydro- CC TRT Cement organic power power Guilin City, Laibin, Guigang Nanning, Yumen, Lintan Diebu Baotou, Laiwu, Beijing Guangdxi Liuzhou, City, Guilin Gansu County, County, Inner, Shai- Guangdxi Guangdxi Baise in Gannan Gansu Mon- dong Guangxi Tibetan, gonia Gansu waste waste waste waste energy energy energy Industrial Industrial Pro- Pro- cesses cesses municipal organic treat waste anaerobic Wind Hydro- Hydro- Gas-Steam Power Waste gas waste to fertilizer water digester Power power power Com- gen- power generate gen- gen- gen- bined eration gen- energy eration eration eration Cycle from eration TRT simplified simplified simplified simplified simplified simplified simplified 48 c) simplified simplified Fixed 10 Fixed 10 Fixed 10 Fixed 10 Fixed 10 Fixed 10 Fixed 10 Renew- Fixed 10 Fixed 10 able 3×7 12 15 12.2 12.9 2×300 3 3 64 41.65 49.55 49.79 3791 14.8 14.9 0.13163 0.04284 0.01553 0.01797 0.03023 0.13374 0.17855 0.965 0.98 1.9 12.04 1.02 4.12 0.91 14.22 13.28 13.28 3.02 8.9 NA NA NA NA NA NA NA NA NA NA methodology has a limited impact on the baseline methodology available that takes into account emissions. such long-term power shortage conditions. The Due to the economic growth in China and expected power shortages, however, do not allow the time requirements for building new power CDM projects to replace power. To derive addi- plants, it can be expected that China will face tionality for these specific situations, there is a severe power shortages in the future. These need to develop a (simplified) baseline method- power shortages may last beyond the crediting ology. Standardized baselines, which should be period of most CDM project. For the time adjusted from time to time for the grids in China being, there is no adequate baseline approach or and could be used for all CDM projects, can sig- C D M I N C H I N A 75 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S F I G U R E 3 . 2 Specific Investment Costs of the CDM Case Studies in China Specific Investment Costs [US$/kW] 1800 1600 1400 1200 1000 800 600 400 200 0 BP-1 WB/ WB/ WB/ ADB-5 ADB-1 WB/ 3 E2 ADB-7 ADB-6 WB/ WB/ ADB-2 ADB-3 ADB-4 3 E1 3 E3 GTZ3 GTZ1 GTZ2 GTZ4 GTZ5 GTZ6 F I G U R E 3 . 3 Total CO2 Emission Reductions Related to the Incremental Costs of Emissions Reduction (ICER) of the CDM Case Studies 40 BP-1 35 ] 2 CO 30 [Mt 25 A C Reduction 20 3E3 Emission 15 2 WB/GTZ1 3E1 CO 10 WB/GTZ3 3E2 Total WB/GTZ2 5 B D WB/GTZ6 WB/GTZ5 WB/GTZ4 0 0 10 20 30 40 50 60 ICER [US$/t CO2] 76 C D M I N C H I N A F I N D I N G S F R O M C D M C A S E S T U D I E S nificantly reduce the work load for setting up The benefits derived from CDM support all CDM projects. three major objectives of China's energy policy within the 10th Five-Year Plan; that is, to reduce Additionality the environmental impacts of coal-fired genera- One might argue that projects listed in the Five- tion by 1) diversifying the fuel mix; 2) promot- Year-Plans will be built anyway, even in the ing energy efficiency and clean coal technologies; absence of CDM. For a potential CDM project and 3) promoting renewable energy. that is listed in the plan, it has to be shown that Barriers for the implementation of the project would not receive the necessary financ- CDM in China ing, even though it is part of the Five-Year-Plan (This may be a criteria of exemption from the The barriers and possible risks for CDM imple- project pipeline). mentation in China have been analyzed systemati- Early action is needed in order to catch the cally. There are potential barriers at different levels. opportunities provided by CDM. Therefore, it is For the stakeholders, important barriers in- necessary to identify potential CDM project clude the following: a) the central government is activities that are in line with the government pri- knowledgeable about CDM, but there is relatively orities listed in the Five-Year-Plan, and are at the little awareness of CDM at the provincial and local time not (yet) economically feasible for project levels; b) the government has stated its objectives development. These projects should be identified to improve the energy efficiencies of power plants before the submission of a project to the govern- and enlarge the share of renewable energy, but has ment authorities for approval. Furthermore, pro- not yet provided the needed support; c) power jects that are not economically viable at first sight utilities are crucial in order to get the data to cre- may improve their economic performance with ate a solid baseline, but the utilities only benefit CDM, and hence have a higher probability to be from CDM when it involves their own plants. approved by the government. The present prevailing uncertainty concerns the date when the Kyoto Protocol will enter into force. Since the Kyoto Protocol has not yet en- Benefits from CDM and Barriers for tered into force, the DNA (designated national its Implementation authority) hasn't been established yet. There is a need for transparent, simple, and straight-forward Benefits from CDM to China CDM procedures for project developers. Beside the obvious goals of CDM project Different factors affect the financial perfor- activities--the reduction of GHG emissions and mance of a CDM project activity. Some of them mitigation of climate change--there are other are perceived as risk, such as uncertainties about significant benefits for China. These include the technology performance, electricity tariffs, and a) transfer of state-of-the-art technology to China additional revenues from CER. In addition, the that will stimulate scientific and technological level of transaction cost of the CDM project activ- progress; b) additional revenues coming from ity is expected to be high, especially for small-scale CER that will improve the financial performance CDM project activities. of a project; c) help to start up new, domestic industry sectors; d) improvements in local air, CDM Project Activity water, and groundwater quality; e) diversification Opportunities for China of electricity generation sources; f) support and help to accelerate the development of renewable The incremental costs of emission reduction energies; and g) creation of new jobs. (ICER) of the six cases are $3.94/t CO2 for C D M I N C H I N A 77 C D M M E T H O D O L O G Y A N D C A S E S T U D I E S t-CO2eq. The technology assessment presented T A B L E 3 . 2 3 Cost and Priority Ranking of Project Types in Table 3.23 intends to facilitate further discus- sion among all stakeholders on the findings of Barriers and associated risk for demonstrating additionality this investigation. The development of a larger project pipeline Abatement cost low risk +/- higher risk would take into consideration the parameters such as concentration on projects perceived as Medium to Wind power Biomass "low" risk as well as technological advancement high cost Biogas gasification 10 US$/ Trigeneration in the respective sectors. Other important issues t CO2 Fuel switch: include the assessment of abatement cost; assess- Gas ment of the project developer's risks associated combined cycle with demonstration of additionality; the related Low cost Landfill Energy Supercritical technology and financial risks; and stakeholders' < 10 US$/ Methane efficiency coal views based on the above mentioned criteria. tCO2 gas in industry Table 3.23 shows the interaction of risks and recovery costs. Through wider analysis of results obtained by different groups of project proponents, we could establish a more consistent assessment of technology priorities for CDM. The table is spe- Zhuhai-Landfill gas, $8.47 for the Huaneng cific to this WB/GTZ-aided project only, not a super-critical power plant, $15 for the gas-steam generic conclusion. combined cycle trigeneration, $21.67 for Taicang biogas, $24.94 for BJ3TPP-GSCC, and $49.79 Recommendations to Facilitate for the Shanghai wind farm. The case studies CDM in China show that the low ICER results from either large GWP of methane or high efficiency improve- These recommendations are based on the find- ment. On the other hand, high ICERs result from ings of the six case studies and the lessons learned high initial investment costs, comparatively short from the interactions with different stakehold- annual operation hours of a plant, or high natural ers. The recommendations should facilitate gas prices. CDM in China by making opportunities pro- In general, it seems that most of the ICER is vided by CDM more visible, removing perceived higher than that the current market price and barriers, and setting incentives that support anticipated level of abatement cost in China. CDM. However, the current low market price of CERs Regulations, incentives. Provide lower, prefer- does not reflect the future CER market price, able taxes on electricity sales to the public grid given the uncertainty of the Kyoto Protocol's from renewable energy sources. entry into force. On the other hand, sensitiv- Issue a directive for power utilities that a cer- ity analysis shows there may be some room for tain share (e.g., 5 percent) of their power gener- decreasing ICERs, since the value of some para- ation has to come from renewable energy sources. meters is expected to decline, such as natural gas Tools. Generate a power baseline for regions prices or longer crediting periods. with high potential for CDM project activities. This study has investigated 6 CDM case Investigate and generate simplified baselines for studies from the power sector with a total reduc- power shortage situations tion potential of about 2.2 MtCO2 equivalent Information, communication. Promote CDM annually at the weighted average ICER of $15/ in target provinces and cities through workshops, 78 C D M I N C H I N A F I N D I N G S F R O M C D M C A S E S T U D I E S case studies, and training courses to improve Set up an arrangement for power utilities to knowledge and know-how about CDM. Estab- get the data and information needed for a solid lish a roundtable to make use of experiences baseline. gained from the different ongoing CDM activi- ties, with a focus on case studies. Endnotes/References Institutional arrangements. Integrate CDM 1. E.g. monitor that also remote areas are going to be sup- into the existing application and approval cycle plied with electricity, not only urban areas. of power plant projects in China, taking into 2. Sustainable strategy according to the 10th Five-Year-Plan: account the opportunities of CER from CDM i) Adhering to the basic state policy on family planning. ii) Protecting natural resources and using them properly. to improve the economic viability of a project at iii) Improving ecological conservation and strengthening an early stage. environmental protection. C D M I N C H I N A 79 II CHINA'S CDM POTENTIAL 4 Objectives, Methodologies, and Approach in Evaluating China's CDM Potential OBJECTIVES opportunities and economic benefits of partici- pating in the CDM regime; that is, understand- In Part II, we assess the potential supply of CERs ing the potential supply and demand for CERs in in China and their marginal abatement cost curve the world carbon trade market, price trends, how (MAC) in view of the supply and demand poten- to better use and manage potential Chinese CDM tial in the world carbon market. This analysis is projects, and how to promote technology trans- intended to improve our understanding of the fer and sustainable development, especially in opportunities and the economic benefits for China the energy sector. To answer these questions, this provided by participating in the CDM regime. study employed several energy-economy models, The specific objectives are as follows: including two energy technology models (IPAC- · To assess global carbon trading supply and Emission model and IPAC-AIM/Technology demand based on selected scenarios under the model), a carbon market equilibrium model Kyoto Protocol (CERT), and a computable general equilibrium · To determine the potential supply of CERs model (IPAC-SGM). The model system will from CDM projects in China under different project future carbon emissions and generate scenarios marginal abatement cost curves for different · To assess the impacts of CDM implementa- regions in the world; address the possible carbon tion on China's economic development and trade and equilibrium carbon quota price with a identify opportunities and economic benefits view to better understand the role of CDM in the created by CDM in China world carbon market; examine carbon reduction · To make recommendations on key CDM pol- potential by major sectors; and identify technol- icy implications for China ogy priorities for CDM in China. The model sys- · To build capacity in the application of analyt- tem will also provide insights into the policy ical methods and modeling tools in China for implications of CDM in China and the impact of CDM carbon trade economics and policy CDM on China's economy. Since there have assessment. been few comparable studies, using these model- ing tools to analyze CDM price, potential, and THE CHALLENGE impact is a difficult challenge. An important challenge for China's policymakers The 7th Conference of the Parties adopted a is to understand at the macroeconomic level the package of decisions on Kyoto Protocol issues, C D M I N C H I N A 83 C H I N A ' S C D M P O T E N T I A L especially on CDM. These decisions are docu- and population as future development drivers, mented in the Marrakech Accords. This political combined with other energy-related parameters achievement should pave the way for Annex I to forecast energy demand based on the supply Parties to ratify the Kyoto Protocol and thus and demand balance. The end-use module is bring it into force soon. Under the political originally a part of the Asian-Pacific Integrated agreement, the CDM regime was elaborated in Model (AIM), a bottom-up energy-technology principle at the technical and procedural levels, model that was developed by the National Insti- which will enable CDM to become operational tute for Environment Studies and Kyoto Univer- when the Protocol enters into force. Other emerg- sity of Japan. The land-use module was developed ing post-COP7 issues include the impact of the from the Agriculture Land Use Model developed United States' withdrawal, the offsetting effect by Pacific-Northwest National Lab (PNNL) to of carbon sequestration in Russia's forests on estimate GHG emissions from land use. Russia's target emissions, the potential for the The macroeconomy module calculates future development of carbon sink projects, the partic- energy service demand for three end-use sectors-- ipation rate of the major developing countries, industry, commercial/residential, and transport-- and possible CDM market structures. Some of based on exogenous future potential GDP growth. these issues, which are critical for China's inter- The end-use module calculates energy technology ests, can be addressed by using the modeling efficiency and final energy demand from the cur- approach in this study. rent period to 2030. After 2030, the macro econ- omy module calculates energy demand for the BRIEF DESCRIPTION OF three energy end-use sectors and energy reserve METHODOLOGICAL FRAMEWORK and its relative cost. In the long term, technology AND APPROACH progress is the main basis of energy demand. The IPAC Emission Model The IPAC-AIM Technology Model The IPAC emission model was a global model The IPAC-AIM technology model is a single- developed for greenhouse gas emission scenarios. region model for China. It includes three mod- It divides the world into nine regions: (1) the ules: (1) an energy service demand projection United States (US); (2) Pacific OECD (OECD- module; (2) an energy efficiency estimation P); (3) Europe OECD and Canada (OECD-W); module; and (3) a technology selection module. (4) Eastern Europe and the former Soviet It is a typical bottom-up type model. The struc- Union (EFSU); (5) Middle East (ME); (6) China; ture of this model is given in Figure 4.2. The (7) other Asia (Southeast Asia); (8) Africa; and demand sector is divided into industrial, agri- (9) Latin America (LA). Major emission sources-- cultural, service, residential, and transportation. including energy activities, industries, land use, These sectors are further divided into sub-sectors agriculture, and forests--can be simulated in (Table 4.1). For both the demand and supply the model framework. The model consists of side, more than 400 technologies are considered, three modules: a macroeconomy module, end- including existing as well as future technologies use module, and land-use module, as shown in (Table 4.2). Future sector output services (such Figure 4.1. The macroeconomy module was as steel output) are a key driver. In order to pro- developed based on the Edmonds-Reilly-Barns vide these output services, a group of technolo- (ERB) model (Edmonds and others 1983), a gies will be selected. Energy demand could then macroeconomic partial-equilibrium model that be calculated for these technologies. The model forecasts long-term energy demand. It uses GDP searches for the least-cost technology mix to 84 C D M I N C H I N A O B J E C T I V E S , M E T H O D O L O G I E S , A N D A P P R O A C H I N E V A L U A T I N G C H I N A ' S C D M P O T E N T I A L F I G U R E 4 . 1 Framework of IPAC Emission Model Socio-Economic Scenarios GDP Population Resource Base Lifestyle M/ Em is si on- Ri nk ag e IPAC-Emission Bottom-up Model Endo Use Social Food Industrial Technology Industrial Energy Energy Consumption Process Change Production Efficiency Efficiency Pattern Change GDP Resource Exploitation GDP Other Base Technology Inputs Population Population Energy Energy Resource Goods & Goods & Service Energy Price Service Service Demand Demand Supply Primary Feedback Social Energy Energy Final Energy Final Energy Supply Biomass Goods and Efficiency Demand Supply Energy Service Price Change Energy Demand Conversion End Use Technology Land Input Technology Efficiency Efficiency Cropland Energy Pasture End Use Conversion Technology Technology Forest Energy-Economic Model Biomass Farm Other Land Land Equilibrium Model GHGs Emissions AIM/Climate Model AIM/Impact Model C D M I N C H I N A 85 C H I N A ' S C D M P O T E N T I A L F I G U R E 4 . 2 Structure of IPAC-AIM Technology Model Energy Energy Technology Energy Service - Oil - Boiler - Heating - Coal - Power generation - Lighting - Gas - Blast furnace - Steel products - Solar - Air conditioner - Cooling - (Electricity) - Automobile - Transportation Energy Consumption Technology Service Demands Service Demands CO2 Emissions Selection Energy Database for China Technology Database for China Socio-economic Scenario for China - Energy type - Technology price - Population growth - Energy price - Energy consumption - Economic growth - Energy constraints - Service supplied - Industrial structure - CO2 emission factor - Share - Employees - Lifetime - Lifestyle meet the given energy service demand. Policies T A B L E 4 . 1 Classification of Energy End-use Sectors and Subsectors and countermeasures for technology selection, progress, and energy price could be simulated in Sectors Sub-sectors the model. Data for these technologies were col- lected from reports, journals, and publications, Agriculture Irrigation, farming, agricultural products pro- and by consulting experts. The data is continu- cessing, fisheries, animal husbandry ously updated to include new information. Industry Iron & steel, non-ferrous, building materials, chemical industry, petrochemical industry, papermaking, textiles Household Urban: space heating, cooling, lighting, The CERT Model cooking and hot water, household electric appliance The CERT (Carbon Emission Reduction Trad- Rural: space heating, cooling, lighting, ing) model was developed in 2001 by Grütter cooking and hot water, household electric Consulting together with ETH Zürich on behalf appliance of the World Bank (Kappel and others 2002). Service Space heating, cooling, lighting, cooking and hot water, electric appliance CERT is a partial equilibrium model to simulate Transportation Passenger: railway, highway, waterway, the emerging market of GHG emission reduc- airway tions. It uses inputs of GHG emission projec- Freight: railway, highway, waterway, airway tions and marginal abatement cost curves from other models. For whatever market considered, CERT adds up the quantities (x-axis) potentially supplied and 86 C D M I N C H I N A O B J E C T I V E S , M E T H O D O L O G I E S , A N D A P P R O A C H I N E V A L U A T I N G C H I N A ' S C D M P O T E N T I A L T A B L E 4 . 2 Major Technologies Considered in the Model Classification Technologies (equipment) Iron & steel Coke oven, sintering machine, blast furnace, open hearth furnace (OHF), basic oxygen furnace (BOF), AC-electric arc furnace, DC- electric arc furnace, ingot casting machine, continuous cast- ing machine, continuous casting machine with rolling machine, steel rolling machine, continuous steel rolling machine, coke dry quenching, coke wet quenching, electric power generated with residue pressure on top of blast furnace (TRT), coke oven gas, OHF gas and BOF gas recovery, cogeneration Non-ferrous metal Aluminum production with sintering process, aluminum produc- tion with combination process, aluminum with Bayer, electrolytic aluminum with upper-insert cell, electrolytic aluminum with side- insert cell, crude copper production with flash furnace, crude copper production with electric furnace, blast furnace, reverbera- tor furnace, lead smelting-sintering in blast furnace, lead smelt- ing with closed blast furnace, zinc smelting with wet method, zinc smelting with vertical pot method Building materials Cement: Mechanized shaft kiln, ordinary shaft kiln, wet process kiln, lepol kiln, ling dry kiln, rotary kiln with pro-heater, dry process rotary kiln with pre-calciner, self-owned electric power generator, electric power generator with residue heat Brick & Tile: Hoffman kiln, tunnel kiln Lime: Ordinary shaft kiln, mechanized shaft kiln Glass: Floating process, vertical process, Colburn process, smelter Chemical industry Synthetic ammonia production: Converter, gasification furnace, gas-making furnace, synthetic column, shifting equipment of sulphur removing Caustic soda production: Electronic cell with graphite process, two-stage effects evaporator, multi-stage effects evaporator, rectification, ion membrane method Calcium carbine production: Limestone calciner, closed carbine furnace, open carbine furnace, residue heat recovery Soda ash production: Ammonia & salt water preparation, lime- stone calcining, distillation column, filter Fertilizer production: Organic products production, residue heat utilization Petrochemical industry Atmospheric & vacuum distillation, rectification, catalyzing & cracking, cracking with hydrogen, delayed coking, light carbon cracking, sequential separator, naphtha cracker, de-ethane separator, diesel cracker, de-propane cracker, residue heat utilization from ethylene Papermaking Cooker, distillation, washing, bleaching, evaporator, crusher, de- watering, finishing, residue heat utilization, black liquor recov- ery, cogenerator, back pressure electric power generator, condensing electric power generator Textile Cotton weaving, chemical fiber, wool weaving & textiles, silk, printing & dyeing process, garment making, air conditioner, lighting, space heating (continued) C D M I N C H I N A 87 C H I N A ' S C D M P O T E N T I A L T A B L E 4 . 2 Major Technologies Considered in the Model (Continued) Classification Technologies (equipment) Machinery Ingot process: cupola, electric arc furnace, fan Forging process: coal-fired pre-heater, gas-fired pre-heater, oil- fired pre-heater, steam hammer, electric-hydraulic hammer, pressing machine Facilities for heat processing: Coal-fired heat processing furnace, oil-fired heat processing furnace, gas-fired heat processing furnace, electric processing furnace Cutting process: Ordinary cutting, high-speed cutting Irrigation Diesel engine, electric induct motor Farming works Tractor, other agricultural machinery Agricultural products process Diesel engine, electric induct motor, processing machine, coal- fired facilities Fishery Diesel engine, electric induct motor Animal husbandry Diesel engine, electric induct motor, other machines Residential space heating Heat supplying boiler in thermal power plant, district heating boiler, dispersed boiler, small coal-fired stove, electric heater, brick bed linked with stove (Chinese KANG) Residential cooling Air conditioner, electric fan Residential lighting Incandescent lamp, fluorescent lamp, kerosene lamp Residential cooking & hot water Gas burner, bulk coal-fired stove, briquette-fired stove, kerosene stove, electric cooker, cow dung-fired stove, firewood-fired stove, methane-fired stove Electric appliance Television, cloth washing machine, refrigerator, others Space heating in service sector Heat supplying boiler in the thermal power plant, district heating boiler, dispersed boiler, electric heater Cooling Central air conditioner system, air conditioner, electric fan Lighting Incandescent lamp, fluorescent lamp Cooking & hot water Gas burner, electric cooker, hot water pipeline, coal-fired stove Electric appliance Duplicating machine, computer, elevator, others Passenger & freight transport Railway (passenger & freight): Steam locomotive, internal com- bustion engine locomotive, electric locomotive Highway (passenger & freight): Public diesel vehicle, public gaso- line vehicle, private vehicle, large diesel freight truck, large gasoline vehicle, small freight truck. Waterway (passenger & freight): Ocean-going ship, coastal ship, inland ship. Aviation (passenger & freight): Freight airplane, passenger air- plane Common technologies Electric motor, frequency adjustable electric motor, coal-fired boiler, high efficiency coal-fired boiler, natural gas-fired boiler, oil-fired boiler Power generation Low parameter coal-fired generator, high pressure critical coal- fired generator, super critical coal-fired generator, PFBC, IGCC, natural gas-fired generator, NGCC, nuclear generator, wind tur- bine, hydropower, solar power generation, oil-fired generator, biomass power generation, landfill power generation 88 C D M I N C H I N A O B J E C T I V E S , M E T H O D O L O G I E S , A N D A P P R O A C H I N E V A L U A T I N G C H I N A ' S C D M P O T E N T I A L those potentially demanded at each price (y-axis) Three kinds of market structures could be across the constituent regions. As one varies the simulated in CERT 1.3: perfect competition, price, the demand and supply curves for this mar- monopoly, and price leadership. In the perfect ket are described, and their intersection indicates competition market, all countries' marginal abate- the market clearing price on the y-axis (Kappel ment cost would be equal to the equilibrium price, and others 2002). The market is cleared for the which would reflect the lowest cost of global emis- first commitment period in 2008­2012, and the sion reductions. For example, since economies in year 2010 is taken as a representative value for transition (EITs) have sufficiently large amounts that period. of greenhouse emissions to control the market CERT incorporates a variety of switches, such price, the model could simulate an EIT monop- as implementation rate, transaction cost, supple- oly. The calculation is made by maximizing mentarity, participation rate of the United States, revenues for EITs plus non-Annex B nations. and market structure to analyze the impact of However, if EITs restrict their offer to control different factors on the market. the price, a trade-off problem would develop in The implementation rate is the percentage of which a high price would lead to a large quantity CERs actually implemented by non-Annex I of free-riders who sell at this price, thus enlarging countries. An implementation rate below 100 per- the offer and limiting the sales and the income of cent means that not all possible projects (MACs) EITs. While a working cartel is not expected-- will be realized. If the implementation rate is set too many countries are involved and partial inter- over 100 percent, then banking of projects prior to ests are diverse--an oligopolistic situation or some the period 2008­2012 is assumed. The calculation form of price leadership is much more probable of the implementation rate is performed by calcu- (Kappel and others 2002). lating a proportional upward or downward shift In the CERT model, the world is grouped into in the supply curve (Kappel and others 2002). 12 regions: six for Annex I parties, including the Transaction costs are added to the cost of the United States, Japan (JPN), European Union credits (Kappel and others 2002). (EEC), other OECD countries (OOE), the for- Supplementarity is modeled as an import ceil- mer Soviet Union (FSU), and other Economies in ing (restrictions to the amount an Annex B coun- Transition (EIT); and the other six for non- try can import to comply with its reduction Annex I Parties, including China (CHN), India commitment). Supplementarity means an Annex (IND), Brazil (BRA), Energy Exporting countries B country can import a certain percentage of the (EEX), dynamic Asian Economies (DAE), and reduction requirement. In this case, the demand the rest of the world (ROW). When applying the curve of the market would be changed. carbon emission projections and marginal abate- The U.S. withdrawal from the Kyoto Proto- ment cost curves from the IPAC emission model col would significantly shrink the carbon mar- in CERT, the world can be easily regrouped to be ket. States such as California might use the three consistent with the regional division in the IPAC mechanisms defined in the Kyoto Protocol--JI, emission model. CDM, and ET--to help realize some of their domestic air quality regulations. The participa- Linkages Between Models tion rate of the United States could be simulated in CERT 1.3. Limited participation by the The IPAC emission model generates reference United States leads to a corresponding reduction emission scenarios for the year 2010 and MACs in the BAU-Kyoto target; the parameters of the for the nine regions. With the reference emis- MAC for the United States are adjusted accord- sion scenarios and MACs from the IPAC emis- ingly (Kappel and others 2002). sion model and other models, the CERT model C D M I N C H I N A 89 C H I N A ' S C D M P O T E N T I A L China. China's profits from CDM (from the F I G U R E 4 . 3 Linkage Framework of the Models CERT model) are passed to the IPAC-SGM model (introduced in chapter 6) to analyze the IPAC-Emission model impact of CDM on China's economy. (1) BAU projections for the Because CDM is a project-based trading nine regions mechanism, it is a challenge to simulate CDM in (1) MACs for the nine regions (0) BAU projections the overall analysis. So far there is no good model CERT model and MACs from to cover all the issues targeted in this study. So we other models used several models for this purpose. We faced IPAC-AIM/ challenges to maintain good consistency among Technology model (2) World equilibrium these models, because there is no hard link carbon price (2) China's CDM potential among them and the models have different purposes. There are no specific parameters for CDM in these models. Simulation for CDM in IPAC-SGM model these models is given by assumptions for CDM. (3) China's CDM Another difficulty concerns the differences in distribution by sector CDM model methodology and the structure of the technology (4) CDM's impact models. This caused the difference in the baseline priorities on China's scenario in the IPAC emission model, IPAC- economy, etc. AIM technology model, and IPAC-SGM model, even though similar assumptions were used for these models. Therefore the modeling study tries to understand limited aspects of CDM. The calculates the world carbon price, China's poten- IPAC-AIM technology model is weakly linked tial CERs supply volume (referred to as CDM with other models used in this study because of potential in the following text), and profits from differences in model characteristics and structure. selling CERs when demand and supply reaches The IPAC-AIM technology model is only used equilibrium in the world carbon market. Research to identify the potential distribution of CDM results from the IPAC-AIM technology model are projects by sector. In the IPAC emission model, used to provide a picture of China's CDM poten- 1990 is the base year, while data for 2000 was tial by sectors, and technology priorities by harmonized to follow actual data. assuming various technologies for CDM based Figure 4.3 displays the linkage framework of on the study for emission reduction potential in the models. 90 C D M I N C H I N A 5 Analysis of China's CDM Potential MARGINAL ABATEMENT (from fossil fuel combustion only) from the IPAC COST CURVES emission model are shown in Tables 5.3 and 5.4. By 2010, world carbon emissions from fossil fuel Reference Emission Scenarios combustion are expected to grow 36.5 percent from the 1990 level. For Annex I Parties, growth The reference scenario used in this study was is forecast to be 5.5 percent. By 2010, renewable developed from the results of related studies energy is forecast to account for 7.8 percent of and projects up to 2010. Results from the total global primary energy demand. Energy effi- AIM project--a collaboration among various ciency is expected to improve at an annual aver- Asian countries, including Japan, China, India, age rate of 1.18 percent from 2000 to 2010. In Korea, Indonesia, and Thailand--were used in China, coal's share declines from 71 percent in the IPAC emission model. Other sources of 2000 to 62 percent in 2010, suggesting a shift information--including national communica- from coal to natural gas and oil. tions to UNFCCC, the International Energy Note: Since most references for the modeling Agency's World Energy Outlook, and the U.S. work in this chapter apply tons Carbon (tC) rather Department of Energy's International Energy than carbon dioxide (CO2), the tC unit will be Outlook--were used to prepare a reference sce- applied throughout the chapter. Since the Tech- nario. The quantified key scenario drivers and nical Summary uses the conventionally applied assumptions for the world and nine regions are CO2, the equivalent CO2 value is added in a listed in Tables 5.1 and 5.2. bracket behind the tC value. CO2 values can be Data used for the model were also collected converted to C values by multiplying the CO2 from several other sources, including the Inter- value by 12/44 (the ratio of the molecular weight national Energy Agency's energy statistics year- of C to CO2). book, the United Nations Food and Agriculture Organization's agricultural statistics yearbook, Marginal Abatement Cost Curves the World Bank's population forecast, the Inter- national Institute of Applied Systems Analysis Using the IPAC emission model, marginal abate- GDP forecast, and national statistical yearbooks. ment cost curves (MACs) are derived by intro- The modeling results for the reference sce- ducing progressively higher carbon taxes on the nario of energy demand and carbon emissions basis of the reference emission scenario and C D M I N C H I N A 91 C H I N A ' S C D M P O T E N T I A L Figure 5.1 displays the results for the MACs T A B L E 5 . 1 Population of the Nine Regions in the nine regions for the year 2010. Because of their high reference emissions, Population (billions) 1990 2000 2010 China and the United States have the flattest mar- OECD total 0.86 0.92 0.94 ginal abatement cost curves. The Middle East, USA 0.25 0.28 0.30 Africa, and Latin America have the steepest Europe OECD and Canada 0.46 0.48 0.49 marginal abatement cost curves. The Middle Pacific OECD 0.14 0.15 0.15 Eastern Europe and Former East, where oil and gas are the dominant energy Soviet Union 0.41 0.42 0.42 sources, and Latin America, where relatively Pacific Asia 1.14 1.29 1.35 clean energy sources such as hydropower and bio- China 1.14 1.29 1.35 South and south-east Asia 1.56 1.86 2.13 gasoline are widely used in countries such as Rest of World 2.75 3.38 4.02 Brazil, show higher reduction costs and less reduc- Middle East 0.13 0.17 0.22 tion potential. Africa 0.63 0.83 1.09 Latin America 0.43 0.51 0.58 World 5.16 6.00 6.73 Comparison of MACs from Different Sources recording the resulting quantity of abated emis- The MAC curves for different regions in the sions. The MACs from the IPAC emission model world could also be observed from several other could be represented as: models, like the Emission Prediction and Pol- icy Assessment model (EPPA) model developed MC = aQ2 + bQ by MIT's Joint Program on the Science and Policy of Global Change, and the Global Trade Where MC is marginal abatement cost for and Environment model (GTEM) developed the year 2010, in 1990$/tC, and Q is the abate- by the Australian Bureau of Agricultural and ment amount in MtC. The coefficients of a, b, Resource Economics (ABARE). Both the EPPA and R2 are given in Table 5.5. and GTEM models are recursive computable general equilibrium models of the world econ- omy (Ellerman and others 1998; Tulpule and T A B L E 5 . 2 GDP of the Nine Regions others 1998). Figures 5.2, 5.3, and 5.4 display the MACs GDP (Trillion $, 1990$) 1990 2000 2010 curves for different regions from EPPA for CO2 only, from GTEM for both CO2 only and all OECD total 16.30 21.07 24.47 GHGs respectively based on the formula and USA 5.50 7.52 8.95 Europe OECD and Canada 7.58 9.50 11.03 coefficients given in Annex 3. Pacific OECD 3.28 4.05 4.49 Figures 5.5, 5.6, and 5.7 compare the MACs Eastern Europe and Former for the United States, OECD other than the Soviet Union 1.08 0.96 1.36 Pacific Asia 0.47 1.23 2.31 U.S., and EFSU from different sources. For the China 0.47 1.23 2.47 United States, the MAC from the IPAC emission South and south-east Asia 1.03 2.06 3.64 model is quite close to that from EPPA when the Rest of World 2.96 4.73 7.69 Middle East 0.45 0.62 0.92 reduction amount is less than 550MtC (2,017 Africa 0.39 0.53 0.86 MtCO2), but becomes steeper than that from Latin America 1.08 1.52 2.28 EPPA when the reduction amount is larger than World 20.87 27.99 35.98 550MtC. The GTEM model results in the steep- est curve for the United States. For OECD with- 92 C D M I N C H I N A A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L out the U.S., the IPAC emission model provides T A B L E 5 . 3 Reference Primary Energy Demand for the the flattest MAC. For EFSU, when the reduction Nine Regions from IPAC Emission Model (EJ) amount is less than 350MtC (1,283 MtCO2) the MACs from IPAC emission, EPPA, and GTEM 1990 2000 2010 are very close. When the reduction amount is larger than 350MtC, the MACs from IPAC USA 69.5 82.7 89.5 emission and EPPA are still very close, while Pacific OECD 66.1 70.1 73.4 Europe OECD and Canada 22.1 24.5 25.5 GTEM's is much steeper. Eastern Europe and Former Figure 5.8 compares the MACs for China Soviet Union 69.3 53.9 60.6 from different sources. The MAC from the IPAC China1 28.2 38.4 54.4 South and Southeast Asia 17.1 25.7 45.5 emission model is much steeper than those from Middle East 10.6 15.4 21.0 GTEM and EPPA. Africa 7.9 10.4 14.9 BAU emission projections are the basis for Latin America 14.1 18.1 22.5 World 304.9 337.5 408.6 deriving MACs from models. In the IPAC emission model, China's 2010 BAU emissions are projected to be 1094MtC (4011 MtCO2)-- assuming some abatement countermeasures such T A B L E 5 . 4 Reference Carbon Emissions from Fossil Fuel Combustion for the Nine Regions as energy efficiency improvements, hydropower (from IPAC Emission Model) (GtC) development, nuclear development, and effi- ciency improvements. These improvements are 1990 2000 2010 consistent with China's energy development strat- egy. EPPA projects BAU emissions as high as USA 1.33 1.50 1.62 1792MtC (6571 MtCO2) for China. To further Pacific OECD 0.47 0.46 0.47 Europe OECD and Canada 1.11 1.20 1.24 reduce emissions from a relatively low BAU Eastern Europe and Former would elevate abatement costs. But even with Soviet Union 1.25 0.95 1.06 similar BAU projections, the MACs generated China 0.66 0.84 1.09 South and Southeast Asia 0.33 0.49 0.86 from various models could also be different. Middle East 0.18 0.26 0.36 The main reasons for the disparity in MACs Africa 0.15 0.20 0.28 generated from different models could be sum- Latin America 0.22 0.29 0.37 World 6.02 6.68 8.22 marized as follows: Differences in modeling approach and model structure. EPPA and GTEM are top-town CGE models, while IPAC emission is a partial general T A B L E 5 . 5 MACs Approximation of Coefficients for CO2 (from IPAC Emission Model) equilibrium model with a focus on energy sys- tems. In CGE models, the revenues from carbon USA OECD-P OECD-W EFSU -- taxation are normally recycled to the economy. In addition, trade and income effects are taken into a 0.0008 0.0075 0.0017 0.0012 -- account, while the energy system models consider b -0.0079 0.2223 -0.0841 0.0773 only the adjustment achieved in the energy sys- R2 0.9913 0.9963 0.9892 0.9959 tem. Although MACs from energy system models don't take into account the full range of impacts China S.E. Asia M.E. Africa L.A. of reduction policies, they will be close to abate- a 0.0008 0.0014 0.0265 0.0018 0.0003 ment costs incurred at a microeconomic level. b 0.1596 0.2358 1.4692 1.9744 1.7344 Different basic assumptions. Different basic R2 0.9972 0.9988 0.999 0.9975 0.9 assumptions for factors such as GDP growth, C D M I N C H I N A 93 C H I N A ' S C D M P O T E N T I A L F I G U R E 5 . 1 MACs for carbon dioxide in 2010 (from IPAC emission model) 700 600 USA 2000) 500 OECD-P OECD-W (US$/tC 400 EFSU cost China 300 S.E. Asia abatement ME 200 Africa Marginal LA 100 0 0 100 200 300 400 500 600 700 Emission reduction (MtC) Note: The original results from IPAC emission model are expressed in 1990 $/tC, but converted into 2000 $/tC using deflators of 1.196 for 1990 and 1.495 for 2000. This allows easier comparison with the results from different models. F I G U R E 5 . 2 MACs for carbon dioxide in 2010 (from EPPA) 1200 1100 USA 1000 JPN 2000) 900 EEC 800 OOE (US$/tC 700 EET cost FSU 600 CHN 500 IND abatement 400 BRA 300 EEX Marginal 200 DAE ROW 100 0 0 100 200 300 400 500 600 700 Emission reduction (MtC) Note: The original results from EPPA are expressed in 1985 $/tC but converted into 2000 $/tC using deflators of 1 for 1985 and 1.495 for 2000. This allows for easier comparison with the results from different models. 94 C D M I N C H I N A A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L F I G U R E 5 . 3 MACs for carbon dioxide only in 2010 (from GTEM) 1200 1100 USA 1000 JPN 2000) 900 EEC 800 OOE (US$/tC 700 EET cost FSU 600 CHN 500 IND abatement 400 BRA 300 EEX Marginal 200 DAE ROW 100 0 0 100 200 300 400 500 600 700 Emission reduction (MtC) Note: The original results from GTEM are expressed in 1995 $/tC but converted into 2000 $/tC using deflators of 1.36 for 1995 and 1.495 for 2000. This allows for easier comparison with the results from different models. F I G U R E 5 . 4 MACs for all GHGs in 2010 (from GTEM) 1200 1100 USA 1000 JPN 2000) 900 EEC 800 OOE (US$/tC EET 700 cost FSU 600 CHN 500 IND abatement 400 BRA 300 EEX Marginal 200 DAE ROW 100 0 0 100 200 300 400 500 600 700 Emission reduction (MtC) Note: The original results from GTEM are expressed in 1995 $/tC but converted into 2000 $/tC using deflators of 1.36 for 1995 and 1.495 for 2000. This allows for easier comparison with the results from different models. C D M I N C H I N A 95 C H I N A ' S C D M P O T E N T I A L population growth, and GDP structure lead to F I G U R E 5 . 5 Comparison of MACs for the U.S. from Different Sources (carbon dioxide only) diverse reference scenario emissions and thus disparate MACs. 700 Diverse mitigation measures. Diverse no-regrets EPPA 600 mitigation measures, including lower cost and cost GTEM 500 IPAC-Emission even some high-cost mitigation measures are considered in the reference scenario in different 2000) 400 models. The more mitigation measures consid- abatement 300 ered in the reference scenario, the lower the refer- (US$/tC 200 ence scenario emissions and the higher MACs. Marginal 100 For example, in the IPAC emission model's refer- 0 ence scenario nuclear power capacity in 2010 is 0 100 200 300 400 500 600 700 800 Emission reduction (MtC) 10 GW and hydropower 110GW, which con- tribute to relatively lower reference emissions. 200 In addition, energy conservation policies were EPPA emphasized in line with the energy conservation GTEM 150 rate over the last 20 years in China. Other factors IPAC-Emission contributing to the steeper MAC curves for 2000) 100 China in the IPAC emission model are more effi- MAC cient technologies entering the built margin dur- (US$/tC 50 ing the 1990s, which are reflected in 2000 energy statistical data for China. Accordingly, IPAC 0 projects a lower growth trend for GHG emis- 0 50 100 150 200 250 300 sions up to 2010 compared to EPPA or GTEM. Emission reduction (MtC) Different energy substitution possibilities. Differ- ent energy substitution possibilities are assumed in each model. The higher possibility for energy substitution, the lower MACs would be. Different cost assumptions. Different cost assumptions for technologies in various models. F I G U R E 5 . 6 Comparison of MACs for OECD (without The higher cost assumptions would result in U.S.) from Different Sources (carbon higher MACs. dioxide only) Different abatement opportunities. Different abatement opportunities, as represented by the 700 EPPA estimated MACs in various models. 600 cost GTEM 500 IPAC-Emission GLOBAL CARBON MARKET 2000) 400 ANALYSIS UNDER DIFFERENT abatement 300 SCENARIOS (US$/tC 200 Marginal 100 Analysis of Emission Reduction 0 Requirements 0 100 200 300 400 500 600 700 800 Emission reduction (MtC) The Kyoto Protocol set binding quantified reduc- tion commitments for a basket of six greenhouse 96 C H I N A C D M S T U D Y A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L gases (CO2, CH4, N2O, SF6, PFCs, and HFCs) F I G U R E 5 . 7 Comparison of MACs for EFSU from for the Annex I Parties during the period 2008 to Different Sources (Carbon dioxide only) 2012. Each Annex I Party has its own reduction target ranging from an 8 percent reduction to a 700 10 percent increase from the 1990 base year. The EPPA 600 GTEM average reduction commitment is 5.2 percent for cost 500 IPAC-Emission all Annex I Parties. 2000) 400 Table 5.6 shows the Kyoto target using total abatement 300 emissions of the six GHG gases in 1990, while (US$/tC 200 Table 5.7 shows the Kyoto target using CO2 100 emissions only in 1990. There is a significant Marginal difference between applying all GHG emissions 0 0 100 200 300 400 500 600 700 or CO2-only emissions to set the Kyoto target. Emission reduction (MtC) Table 5.8 compares BAU projections from dif- ferent sources for the year 2010, including three scenarios (low, medium, and high) generated by the U.S. Department of Energy's Energy Infor- mation Administration in its latest International Energy Outlook, the EPPA model, the GTEM F I G U R E 5 . 8 Comparison of MACs for China from Different Sources (carbon dioxide only) model, the second national communications, and the IPAC emission model (EIA/USDOE 700 2002; Grütter, 2002; UNFCCC 1998). EPPA With the projected carbon emissions and 600 cost GTEM the Kyoto target, emission reduction require- 500 IPAC-Emission ments are calculated in Table 5.9. The reduction 2000) 400 requirements range from 378 to 641 MtC (1,386- abatement 300 2,380 MtCO2) for the United States, 24 to 85 (US$/tC200 MtC (88-312 MtCO2) for Japan, 9 to 308 MtC Marginal 100 for the EEC, and 53 to 117 MtC (194-429 0 MtCO2) for OOE. All model results show that 0 100 200 300 400 500 600 700 800 the former Soviet Union and other Economies in Emission reduction (MtC) Transition would have a surplus assigned amount (termed hot air-see the Technical Summary for a discussion of hot air), but the range varies sharply from 42MtC to 397MtC (154-1,456 MtCO2). Total reduction requirements for Annex I T A B L E 5 . 6 Kyoto Target using all GHG Emissions in countries differ from 387MtC to 951MtC 1990 (MtC) (1,419-3,487 MtCO2), but shrink to 162MtC to 333MtC (594-1,221 MtCO2) after the United All All States' withdrawal. The minus values indicate that with without USA JPN EEC OOE FSU EET USA USA the surplus assigned amount for the Economies in Transition is larger than Annex II Parties' emis- 1534 311 1056 330 1112 348 4691 3157 sion reduction requirements, and no emission reduction measure is needed to achieve the Kyoto (Note: 1990 emissions are taken from the second National Communication, target. The total reduction requirements from and the reduction commitments are taken from the Kyoto Protocol) C D M I N C H I N A 97 C H I N A ' S C D M P O T E N T I A L T A B L E 5 . 7 Kyoto Target using Carbon Dioxide Emissions only in 1990 (MtC) All All with without USA JPN EEC OOE OECD-P OECD-W FSU EET EET USA USA 1246 288 230 834 377 975 865 279 1144 3742 2496 (Note: 1990 emissions are taken from the second National Communication, and the reduction commitments are taken from the Kyoto Protocol) T A B L E 5 . 8 Business-as-usual Projections from Different Models for 2010 (MtC) EIA EIA EIA IPAC- GTEM all NC all Low Medium High EPPA GTEM NC Emission GHGs GHGs USA 1795 1835 1887 1864 1870 1669 1624 2060 1946 JPN 312 343 359 373 341 369 385 389 OOE 311 331 347 305 309 286 428 383 EEC 964 1013 1066 1142 951 889 1161 1065 OECD-P 477 OECD-W 1246 FSU 540 587 641 735 631 810 810 1029 EET 207 226 243 274 240 292 296 321 EFSU 926 All with USA 4129 4335 4543 4693 4341 4315 4272 5140 5133 All without USA 2334 2500 2656 2829 2472 2646 2648 3080 3187 Note: All projections are for CO2-only, except for GTEM and NC, which are all GHGs. T A B L E 5 . 9 Reduction Requirements to Achieve the Kyoto Target for 2010 (MtC) EIA EIA EIA IPAC- GTEM all NC all Low Medium High EPPA GTEM NC Emission GHGs GHGs USA 549 589 641 618 624 423 378 526 412 JPN 24 55 71 85 53 1 74 78 OOE 81 101 117 75 79 56 98 53 EEC 130 179 232 308 117 55 105 9 OECD-P 100 OECD-W 271 FSU -325 -278 -224 -130 -234 -55 -302 -83 EET -72 -53 -36 -5 -39 13 -52 -27 EFSU -218 All with USA 387 593 801 951 599 573 530 449 442 All without USA -162 4 160 333 -24 150 152 -77 30 98 C D M I N C H I N A A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L T A B L E 5 . 1 0 Credits from Carbon sequestration for Domestic Action and JI projects, (MtC) All All with without USA JPN EEC OOE OECD-P OECD-W FSU EET EFSU USA USA 28 13 13.11 5.17 13.2 18.08 34.83 3.76 39 97.87 69.87 Source: UNFCCC, 2001. the IPAC emission model are 530MtC (1,943 MtCO2), which is close to EIA's projections (260 MtCO2) with U.S. participation and 152MtC to 397MtC, or 9,553-1,456 MtCO2) but higher (557 MtCO2) without U.S. participation. than IPAC emission's projection (218MtC, or The Bonn Agreements (FCCC 2001), Mar- 799 MtCO2). Grubb also estimates 30MtC rakesh Accords, and the Marrakesh Declaration (110 MtCO2) of managed forest allowance for (FCCC 2001) define two categories of eligible the EU plus Japan and Canada, and 40MtC activities for sinks under Article 3.3 and 3.4 of (147 MtCO2) for EITs. These numbers are very the Kyoto Protocol: (1) forests, including close to the data shown in Table 5.10. afforestation, reforestation, and deforestation; In this study, the emission projection from and (2) agriculture, covering revegetation, crop- the IPAC emission model will be used in the land management, and grazing land manage- base scenario for carbon market analysis. ment. A specific cap for each Annex I Party to use the credit from carbon sequestration result- Global Carbon Market Simulation ing from forest activities from both domestic with Application of CERT actions and JI projects is stipulated in the deci- sions of both COP-6 and COP-7 (Appendix Z), Apart from the BAU projection in each Annex I as shown in Table 5.10. These sink credits are country/region and MACs for each Annex I and simulated as zero cost sinks and the reduction non-Annex I country/region in the year 2010, requirements for each Annex I countries/regions several other parameters should be set before are deducted by these sink credits in CERT. using CERT to analyze the global carbon market Figure 5.9 compares the emission reduction for the first commitment period. A base scenario requirements in 2010 for different regions from was designed in this study with the following different sources with sink credits deducted. main assumptions: Grubb (2003) analyzed supply-demand bal- ance in the Kyoto system and concluded that car- · Reference carbon emission and MACs from bon emissions for the EU, Japan, and Canada IPAC emission might be 84 to 239MtC (308-876 MtCO2) above · A 2 percent CERs for adaptation fund as their Kyoto allocation. Grubb estimated carbon stipulated in the Marrakech Accords and emission credits in the range of 106 to 196 MtC Marrakech Declaration. (389-719 MtCO2) for Russia, 67 to 87 MtC (246- · Transaction costs of $2/tC ($0.54/t-CO2) for 319 MtCO2) for the Ukraine, 45 to 75 MtC (165- CDM and $1/tC ($0.27/t-CO2) for JI. This is 275 MtCO2) for the Accession 10, and 24 to based on the PCF's transaction cost experience 36 MtC (88-132 MtCO2) for other EITs. In the for current CDM projects, and assumes that the Grubb analysis, the total carbon credits provided CDM procedure--including validation and by EITs ranges from 242 to 394MtC (887-1455 registration, monitoring, verification and certi- C D M I N C H I N A 99 C H I N A ' S C D M P O T E N T I A L F I G U R E 5 . 9 Comparison of Emission Reduction Requirements in 2010 for Different Regions from Different Sources with Sink Credits Deducted 1000 EIA Low NC EIA Medium GTEM, all GHGs 800 EIA High NC, all GHGs EPPA IPAC/AIM GTEM 600 400 MtC 200 0 ­200 ­400 USA JPN OOE EEC FSU EET OECD-P OECD-W EFSU All with All USA without USA fication, and issuance--is more complex than other Annex I countries/regions, through this JI. (U.S. dollars are in 2000 constant prices.) doesn't mean that they will not take any · An implementation rate of 30 percent for all domestic action. In CERT, the percentage of non-Annex I countries based on the combined domestic actions in the reduction commit- consideration of non-Annex I countries' absorp- ments for these countries will be determined tion capacity, the complex procedure for CDM by the marginal abatement cost curves. projects, and an early start for CDM projects · Price leadership of EFSU and price followers before 2008. for other suppliers. · A 10 percent participation rate by the United States--considering that various U.S. states Moreover, in assessing China's CDM poten- such as California, New Hampshire, Massa- tial this study modeled supply-side competition chusetts, New Jersey, Oregon, and Wisconsin based solely on differences in national marginal would realize their domestic carbon reduction abatement cost curves under perfectly functioning targets through CDM, JI, or ET. equilibrium market conditions. All developing · A 50 percent supplementarity rate for the EU countries were assigned the same implementation based upon declarations of the EU and various rate (capacity to identify, develop, and implement member states--including the Netherlands potential CDM projects); all CDM projects were and Germany--to introduce voluntary sup- assumed to have the same level of transaction plementarity levels; 0 percent is assumed for costs; and no consideration was given to the rela- 100 C D M I N C H I N A A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L tive attractiveness of China as a host for CDM T A B L E 5 . 1 1 Reduction, Marginal Cost, and Total projects. In the real world, the attractiveness of Abatement Cost for Annex I without China as a CDM host will depend on many fac- CDM, JI, and ET tors, not necessarily a theoretical market clearing price, or the aggregate marginal abatement cost or Marginal Cost Total Cost incremental cost of individual Chinese projects. Reduction (MtC) ($/tC, 2000 price) (M$, 2000 price) Table 5.11 shows the marginal abatement cost U.S. (10%) 35 119 1369 and total abatement cost for Annex I countries/ OECD-P 86 93 3015 regions under IPAC emission projections and OECD-W 252 108 7998 MACs without CDM, JI, and ET. The reduc- Total 374 12382 tion requirements are 86MtC (315 MtCO2) for OECD-P, 252MtC (924 MtCO2) for OECD-W, and 35MtC (128 MtCO2) for the U.S. (at a 10 percent participation rate, or 350MtC due to the cheaper abatement cost in non-Annex (1,283 MtCO2) at 100 percent. Sink credits, I countries and EITs as well as zero cost of hot shown in Table 5.10, are deducted from the cor- air. The market price is expected to be $22/tC responding number in Table 5.9. ($6/tCO2). Thus, the total cost for these three The marginal cost was calculated using the regions to achieve the reduction requirement formula MC = aQ2 + bQ. The coefficients of a, would decrease to only $5.5 billion, with cost sav- b are from Table 5.5; the dollar deflators are ing of $6.9 billion. The amount of hot air used for 1.196 for 1990 and 1.495 for 2000. The total EFSU would be only 61.6MtC (226 MtCO2), cost was calculated using the following formula: T A B L E 5 . 1 2 Modeling Results for the Base Scenario Q TC = (aQ 2 +bQ dQ = aQ3 + bQ2 ) 1 1 0 3 2 Carbon Carbon Profitsa amount amount (MUS$, For partial U.S. participation, a and b should (MtC) (MtCO2) 2000 price) be adjusted accordingly as follows: Domestic action 177.1 649.4 aadjusted = aoriginal 1.495 1.196 USA 15.0 55.0 845 (1 participation rate) OECD-P 34.8 127.6 1670 2 OECD-W 127.3 466.8 4801 badjusted = boriginal Hot air 61.6 225.9 2495b 1.495 1.196 EFSU 61.6 225.9 (1 participation rate) JI 90.5 331.8 EFSU 90.5 331.8 The marginal abatement cost for the U.S. CDM 44.7 163.9 514 S.E. Asia 15.3 56.1 178 (10 percent participation rate), OECD-P, and China 21.6 79.2 257 OECD-W is high and in the range of $93­119/ Middle East 2.7 9.9 30 tC ($23-32/tCO2). Their total abatement cost Africa 2.4 8.8 23 Latin America 2.7 9.9 27 is as high as $12.4 billion. Total 374.0 1371.3 Table 5.12 and Figure 5.10 display the mod- Price ($/tC, 2000 price) 22.0 eling results of the carbon market for the base sce- Price ($/t-CO2, 2000 price) 6.0 nario. With the three mechanisms, domestic reduction for U.S. (10 percent), OECD-P and a Profits mean cost savings for Annex II countries, and revenues from selling OECD-W would drop sharply from 374MtC minus abatement costs for EITs and Non-Annex I countries. (1,371 MtCO2) to only 177MtC (649 MtCO2) bThis number is the total profits for EFSU from both JI and hot air. C D M I N C H I N A 101 C H I N A ' S C D M P O T E N T I A L F I G U R E 5 . 1 0 Distribution of Kyoto Mechanism Profits among Regions ($ Billions, 2000 Prices) 5 4 3 billions $ 2 1 0 USA OECD-P OECD-W EFSU CDM, CDM, CDM, CDM, CDM, SEA&SA China ME Africa LA sharing 24 percent of the total, and JI 90.5MtC and b) emission reduction requirements that dif- (332 MtCO2). Both of them would cause as much fer considerably among different models. Global as a $2.5 billion profit for EFSU, the price leader CDM potential is expected to be in the range of of the market. The CDM potential would be 7 to 95MtC (26-348 MtCO2), with a mean value 44.7MtC (164 MtCO2), with China accounting of 49MtC (180 MtCO2), and the total profit for 48 percent of the total. One of the main rea- gained from CDM for non-Annex I countries sons for the smaller CDM potential compared range from $1.5 million to $790 million, with an with JI potential is that the implementation rate of average of $299 million. China's CDM potential 30 percent was assumed for CDM in all non- is expected to be in the range of 4 to 57.5MtC Annex I countries, while JI is assumed to be 100 (15-211 MtCO2), with a mean value of 30.5MtC percent. The total profit for non-Annex I coun- (112 MtCO2), while profit is in the range of tries gained from CDM is expected to be $0.5 bil- $0.9 million to $566 million, with an average of lion, only 5 percent of that of Annex I countries. $187 million. China's profit is expected to be $0.26 billion with The base scenario assumed price leadership of 21.6MtC ($79.2 MtCO2) of CDM potential. EFSU for the market structure, a 10 percent par- Table 5.13 and Figure 5.11 show the impact of ticipation rate by the U.S., 30 percent implemen- different BAU projection and MACs on the car- tation rates for all non-Annex I countries, $2/tC bon market, assuming that all assumptions except ($0.55/tCO2) of transaction cost for CDM, and the BAU projection and MACs are the same as a 50 percent supplementarity for the EU. How- the base scenario. The resulting carbon prices ever, these factors are uncertain, and sensitivity would fall in the range from $2.5/tC to $22/tC analysis based on the base scenario (IPAC emis- ($0.68-6/tCO2) with an average of $10.60/tC sion reference emission and MACs)--with one ($2.90/tCO2). In the base scenario, with price factor (the factor for the sensitivity analysis) leadership the highest price results from the IPAC changed at one time while keeping the others emission model due to a) comparatively steeper constant--is needed to analyze these factors' MACs for China in the IPAC emission model; potential impacts on the carbon market. 102 C D M I N C H I N A A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L T A B L E 5 . 1 3 Impact of BAU Projections and MACs on Carbon Market Global CDM China CDM Price Potentialsa Potentialsa China's profits BAU projections MACs ($/tC, 2000 price) (MtC) (MtC) (M$, 2000 price) IPAC emission IPAC emission 22.0 44.7 21.6 256.8 EPPA EPPA 13.0 95.3 57.5 397.7 GTEM GTEM 9.2 35.7 25.4 96.2 EIA Medium growth EPPA 6.2 45.3 27.1 63.9 EIA High growth EPPA 10.2 76.5 46.1 229.1 EIA Low growth EPPA 2.5 6.9 4.0 0.9 EIA Medium growth GTEM 11.8 47.0 33.3 175.6 EIA High growth GTEM 19.8 79.2 55.2 565.6 EIA Low growth GTEM 4.0 10.6 7.6 7.4 GTEM, all GHGs GTEM, all GHGs 7.4 48.9 27.1 76.8 Average 10.61 49.0 30.5 187.0 Standard Deviation 6.36 28.0 18.1 181.6 Note: The BAU projections and MACs are all for CO2-only except the last scenario (GTEM, all GHGs). aCDM potentials derived from CERT are potential traded volumes of CERs when the market is clearing. If the market structure is perfect competition, toring, verification, certification, and issuance-- and all other parameters remain the same as the would slow CDM implementation speed and base scenario, then the modeling result would pro- lessen CDM credits. However, a prompt start of vide zero price and zero traded CDM volumes. All CDM projects--resulting in banking of CERs available hot air of 257MtC (942 MtCO2) would prior to 2008--would enlarge CDM potential. In be used. order to analyze the impact of these two factors, as CDM's complex operation process or project well as the limited absorption capacity of non- cycle--from validation and registration, to moni- Annex I Parties on the carbon market, we com- F I G U R E 5 . 1 1 Global and China's CDM Potentials and Price under Different BAU Projections and MACs 120 25 Global CDM 100 China CDM 20 Price 80 15 US$/tC MtC 60 10 40 20 5 0 0 IPAC EIA M, EIA L, EIA H, EIA M, EIA L, EIA H, EPPA GTEM GTEM EPPA EPPA EPPA GTEM GTEM GTEM GHGs Note: EIA L(M, H) means EIA Low(Medium, High) growth. C D M I N C H I N A 103 C H I N A ' S C D M P O T E N T I A L T A B L E 5 . 1 4 Impact of Implementation Rate on Carbon Market Global CDM China CDM Implementation Price Potentials Potentials China's profits Rate (%) ($/tC, 2000 price) (MtC) (MtC) (M$, 2000 price) 10 24.3 16.3 7.8 108.5 20 22.7 30.6 14.8 185.0 30 22.0 44.7 21.6 256.8 40 20.6 56.1 27.2 294.1 50 18.2 62.3 30.3 277.6 pleted a sensitivity analysis of implementation potential than on the equilibrium price. Thus, rates. The result is shown in Table 5.14. Increas- increasing the implementation rate from 10 per- ing implementation rates will lower the equilib- cent to 50 percent would increase China's profits rium price, while elevating CDM potential. If from $108.5 million to $277.6 million in spite of all non-Annex I countries' implementation rates the lower market price. decrease to only 10 percent, then the carbon price The participation rate of the United States would go up to $24.3/tC ($6.60/tCO2), but will have an important impact on the total global and China CDM potentials would shrink reduction requirement and demand for the car- to only 16.3MtC (60 MtCO2) and 7.8MtC bon market, and consequently further influence (28.6 MtCO2) respectively. If all non-Annex I the price of the carbon market and CDM poten- countries' implementation rates are increased to tial. Table 5.15 shows the impact of USA's par- 50 percent, then the market price would fall to ticipation rate on carbon market under the price $18.2/tC, while global and China CDM poten- leadership of EFSU. It could be found that par- tials would rise to 62.3MtC (228.4 MtCO2) and ticipation rate of USA has less impact on the 30.3MtC (111.1 MtCO2) respectively. China's carbon market (price and CDM potentials etc.) share of CDM potential in the total would not than implementation rate does. If the U.S. par- change, remaining around 50 percent, if all non- ticipation rate varies from 0 to 30 percent, the Annex I countries' implementation rates are the equilibrium price will be around $20­22/tC same. Under the price leadership of EFSU, the ($5.5-6/tCO2), while traded CDM volumes implementation rate has a larger impact on CDM for China are in the range of 19.8­21.6MtC T A B L E 5 . 1 5 Impact of U.S. Participation Rate on Carbon Market U.S. Global CDM China CDM Participation Price Potentials Potentials China's profits Rate (%) ($/tC, 2000 price) (MtC) (MtC) (M$, 2000 price) 0 21.7 44.0 21.3 247.6 5 21.3 43.3 20.9 238.8 10 22.0 44.7 21.6 256.8 20 19.9 40.8 19.8 208.1 30 21.2 43.1 20.9 236.6 104 C D M I N C H I N A A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L T A B L E 5 . 1 6 Impact of CDM's Transaction Cost on Carbon Market Global CDM China CDM Transaction cost Price Potentials Potentials China's profits ($/tC, 2000 price) ($/tC, 2000 price) (MtC) (MtC) (M$, 2000 price) 1 21.9 46.2 22.3 277.9 2 22 44.7 21.6 256.8 5 21.3 37.7 18.4 173.3 (72.6-79.2 MtCO2). However, if the market of EFSU. By varying the transaction cost from $1 structure is perfect competition, the U.S. partic- to $5/tC ($0.27-1.36/tCO2), the price almost ipation rate will have a large impact on the car- remains the same, while global CDM potential bon market; for example, by increasing the U.S. dropsfrom46.2MtC(169.4 MtCO2) to 37.7MtC participation rate from 0 to 30 percent, the equi- (138.2 MtCO2) and China's CDM potential librium price would increase from 0 to $4.40/tC from 22.3MtC (81.8 MtCO2) to 18.4MtC ($0-1.20 tCO2). (67.5 MtCO2). The transaction cost would depend on the Although COP-7 decided on no compulsory executive board's administrative cost, designed supplementarity level, various countries are con- operational entities' charge, and the cost for the sidering introducing voluntary supplementarity whole process--including project searching, proj- levels, especially in the EU. Like various partici- ect design, validation and registration, monitor- pation rates for the United States, different sup- ing, verification and certification, and issuance. plementarity levels for Annex I countries would Transaction costs can differ according to the spe- increase demand for a carbon market, and accord- cific project. The rule of simplified modalities ingly effect carbon market prices and CDM and procedures for small-scale projects would potential. The impact of supplementarity on the lessen their transaction costs. Table 5.16 displays carbon market is shown in Table 5.17 under the the results of a sensitivity analysis of transaction price leadership of EFSU. If there were no supple- costs on the carbon market under the price lead- mentarity for all Annex I countries, then the price ership of EFSU. Increasing transaction costs of would decrease to $18.1/tC ($4.90/tCO2) and the CDM will decrease CDM potential. How- China's CDM potential would decrease to ever, the impact of transaction costs on the equi- 18.1MtC (49.5 MtCO2). If 50 percent supple- librium price is limited under the price leadership mentarity is applied to all Annex I countries, then T A B L E 5 . 1 7 Impact of Supplementarity on Carbon Market Global CDM China CDM Price Potentials Potentials China's profits Supplementarity % ($/tC, 2000 price) (MtC) (MtC) (M$, 2000 price) EU 50 22.0 44.7 21.6 256.8 All 50 20.9 42.5 20.6 229.1 All 0 18.1 37.1 18.1 168.4 C D M I N C H I N A 105 C H I N A ' S C D M P O T E N T I A L F I G U R E 5 . 1 2 Impact of Different Factors on Carbon Price 25 20 price 15 2000 10 US$/tC, 5 0 Market Implementation USA Transaction BAU, MACs Supplementarity structure rate participation cost Lowest 2.5 0.0 18.2 19.9 21.3 18.1 Highest 22.0 22.0 24.3 22.0 22.0 22.0 the price would be $20.9/tC ($5.70/tCO2) and The impact of different factors on the carbon China's CDM potential would be 20.6MtC market can be roughly ordered from high to (75.5 MtCO2). low as BAU projections and MACs, the market Figures 5.12, 5.13, and 5.14 summarize the regime, the implementation rate, supplementar- impact of these factors on the carbon price, global ity, the U.S. participation rate (0 to 30 percent), CDM potential, and China's CDM potential. and transaction costs. F I G U R E 5 . 1 3 Impact of Different Factors on Global CDM Potential 100 80 60 MtC 40 20 0 Market Implementation USA Transaction BAU, MACs Supplementarity structure rate participation cost Lowest 6.9 0.0 16.3 40.8 37.7 37.1 Highest 95.3 44.7 62.3 44.7 46.2 44.7 106 C H I N A C D M S T U D Y A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L F I G U R E 5 . 1 4 Impact of Different Factors on China's CDM Potential 60 50 40 MtC30 20 10 0 Market Implementation USA Transaction BAU, MACs Supplementarity structure rate participation cost Lowest 4.0 0.0 7.81 9.8 18.4 18.1 Highest 57.5 21.6 30.3 21.6 22.3 21.6 For the equilibrium quota price, global and the carbon market. Since transaction costs are China CDM potential, the sensitivity analy- strongly sensitive to project size, the computation sis estimates are $0­24.30/tC ($0-6.60/tCO2), in CERT does not accurately display the real $0­95.30/tC ($0-26/tCO2), and $0­57.50/tC impacts of transaction costs on market dynamics. ($0-15.70/tCO2) respectively. The zero price Apart from the base scenario, the High and and zero CDM potential is provided by the case Low CDM scenarios were designed to present a of perfect competition. The highest estimation of reasonable range of China's traded CDM vol- global as well as China's CDM potential was umes. The reference carbon emission and MACs derived from EPPA BAU projection and EPPA from the IPAC emission model were also applied MACs. One of the main reasons for this is that to both the High and Low CDM scenarios. All EPPA projected the lowest available hot air parameters--except transaction cost, implemen- (135MtC, or 495 MtCO2). The highest price of tation rate, and U.S. participation rate--are the $24.30/tC ($6.60/tCO2) is provided by the low- same for the three scenarios. Table 5.18 compares est implementation rate assumed in the analysis; these three parameters for the Base, High, and that is, 10 percent. Increasing the implementa- Low CDM scenarios. tion rate will decrease the equilibrium price, while enhancing CDM potential. The U.S. par- ticipation rate and supplementarity are important T A B L E 5 . 1 8 A Comparison of Assumptions for the factors influencing carbon market demand. If the Base, High, and Low Scenarios market is characterized by perfect competition, demand will significantly influence the equilib- Transaction Implementation U.S. Participation rium price and CDM potential. However, under Scenarios Cost ($/tC) Rate (%) Rate (%) the price leadership of EFSU, which owns a large Base 2 30 10 amount of hot air, the demand will have limited High CDM 2 50 30 impact on the market. In the CERT simulation, Low CDM 5 10 5 the transaction cost has a relatively low impact on C D M I N C H I N A 107 C H I N A ' S C D M P O T E N T I A L Table 5.19 compares the modeling results for (1,247 MtCO2) for Annex II Parties without the the Base, High CDM, and Low CDM scenarios. U.S., and 374 MtC (1,371 MtCO2) for Annex The High CDM scenario provides $19.20/tC II Parties with 10 percent U.S. participation. In ($5.20/tCO2) of equilibrium price, lower than total, there are 257MtC (942 MtCO2) of surplus the Base, and 31.8MtC (116.6 MtCO2) of CDM AAUs and sink credits available from EITs. traded volumes for China, around 10MtC higher GHG emission reduction requirements are the than the Base. The Low CDM scenario results in main determining factor for the shape of the future the highest equilibrium price of $23.7/tC ($6.50/ carbon market, followed by the marginal abate- tCO2), and only 6.8MtC (24.9 MtCO2) of ment cost curves for both market supply and CDM traded volumes for China. China's prof- demand. The IPAC emission, EPPA, and GTEM its range from $76.6 to $310.8 million, and models all illustrate that China has a relatively flat global traded CDM volumes from 14.1 to marginal abatement cost curve (expressed in costs 65.5MtC (51.7-240 MtCO2). vs. reduction amount) compared with other coun- tries, owing to her large emission base as well as rel- atively cheap reduction costs. However, the Discussion of Results from Market marginal abatement cost curve for China from the Simulation with Application of CERT IPAC emission model is much steeper than those The IPAC emission model shows carbon reduc- from EPPA and GTEM. In the IPAC emission tion requirements of 371MtC (1,360 MtCO2) model, the relatively low reference carbon emis- for Annex II Parties (without the U.S.), close to sion projection--with a lot of carbon reduction EIA's latest medium-growth projection (335MtC, countermeasures, which is consistent with China's or 1,228 MtCO2). The projection of hot air car- sustainable energy development strategy--is one bon supply for EITs from the IPAC emission of the main contributors to the discrepancy. model is 218MtC (799 MtCO2), lower than With the reference emission projections and EIA's latest projections (260­397MtC, or 953- MACs from the IPAC emission model--together 1,456 MtCO2). The IPAC emission model pro- with the assumptions of price leadership of the jected that U.S. carbon reduction requirements EFSU for the future carbon market structure, a would be 378MtC (1,386 MtCO2). This is 10 percent U.S. participation rate, 30 percent much lower than EIA's projections, but quite implementation rates for all non-Annex I Parties, close to the projection based on national com- 50 percent supplementary for the EU, and $2/tC munications (423MtC, or 1,551 MtCO2). ($0.55/tCO2) of transaction cost for CDM--the Taking into account sink credits, the IPAC CERT simulation shows $22/tC ($6/tCO2) for emission model provides reduction requirements the future equilibrium carbon price; 21.6MtC of 690 MtC for all Annex II Parties, 340 MtC (79Mt-CO2)ofChina's CDM potential, account- T A B L E 5 . 1 9 Comparisons of Future Carbon Market for Different Scenarios Global CDM China CDM Price Potentials Potentials China's profits Scenario ($/tC, 2000 price) (MtC) (MtC) (M$) Base 22.0 44.7 21.6 256.8 High CDM 19.2 65.5 31.8 310.8 Low CDM 23.7 14.1 6.8 76.6 108 C D M I N C H I N A A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L ing for around 50 percent of the total CDM bon tax and investment of the carbon tax rev- potential; and $0.26 billion profit for China enues as subsidies for selected technologies.2 In gained from CERs. With the reference emission the IPAC-AIM technology model, technology projections and MACs from the IPAC emission fixed costs, energy costs, and other operational model, the estimation of possible China CDM costs are included. These emission scenarios potential will fall in the range of 6.8­31.8MtC were used to identify emission reduction poten- (25­117MtCO2). tial by sectors.3 The CDM potential results for 2010 by sector are given by identifying tech- CHINA'S CDM POTENTIAL BY nologies for CDM projects in each sector. MAJOR SECTORS T A B L E 5 . 2 0 Assumptions for China's China's Carbon Emissions and MACs Future Population (million) by Sector The IPAC-AIM technology model is an energy 1990 2000 2010 model for China with a detailed disaggregation Total 1141 1284 1393 of sectors and detailed description of technology. Urban 302 413 531 This model identifies carbon emissions, MACs, Rural 840 872 862 and carbon reduction potential by sector. The IPAC-AIM technology model was developed in collaboration with Japan's National Institute for Environment Studies. For the last several years T A B L E 5 . 2 1 Assumptions for China's this model was used to simulate emission scenar- Future GDP Growth (%) ios up to 2030 for China, and identify the contri- bution from technologies for emission reduction. 1990­2000 2000­2010 Policies to promote advanced technologies were also discussed using this model. These results, GDP Growth rate 9 7.9 which identify CDM potential for sectors, are based on the study for emission reduction poten- tial in China in ERI by the IPAC modeling team. Technologies suitable for CDM collabo- F I G U R E 5 . 1 5 Carbon Emissions for Three ration were specified in the modeling study. Different Scenarios in IPAC-AIM Tables 5.20 and Table 5.21 display the basic Technology Model assumptions for future population and GDP growth respectively. 1600 1500 Policy Figure 5.15 provides the modeling results of 1400 Market carbon emissions for three scenarios--technology Frozen 1300 frozen, market, and policy--from the IPAC-AIM 1200 technology model. The Technology Frozen sce- 1100 Mt-C nario assumed that the future technology mix 1000 would stay the same as in 2000 (no technology 900 selection in the model). The Market scenario 800 700 assumed technology would be introduced based 600 on the market, which means technologies will be 2000 2002 2004 2006 2008 2010 selected by model based on least cost. The Policy Year scenario used a $12.10/tC ($3.30/tCO2) car- C D M I N C H I N A 109 C H I N A ' S C D M P O T E N T I A L which presents the reduction cost by sectors in F I G U R E 5 . 1 6 Share of Carbon Emissions by End-use Sector for the Market Scenario China. In this figure, axis Y is the average cost for CO2 emission reductions. Subsidies in four cost 100 cases are expressed here. Axis X is the accumulated 90 CO2 reduction from 2000 (when the subsidy 80 begins) to 2010, compared with the market case. 70 Rural 60 Urban China's Emission Abatement 50 Transport Potential by Sector Percent 40 Service The study from the IPAC-AIM technology model 30 Industry identified the potential for CDM projects in vari- 20 ous sectors, including steel-making, cement, glass, 10 brick production, ammonia production, calcium, 0 2000 2002 2004 2006 2008 2010 soda ash, aluminum, copper, zinc and lead, paper Year making, ethylene, transport, services, urban resi- dential, rural residential, and power generation. In Note: CO2 emissions from end-use sectors includes emissions from electric- contrast to emission reduction potential analysis, ity by accounting for energy use in the power generation sector this analysis for CDM potential considered tech- nology additionality (advanced technologies, espe- The market scenario is taken as the base sce- cially technologies that are not mature in China), nario to analyze carbon emissions and MACs by cost effectiveness, and possible penetration of sectors. Figure 5.16 shows the share of carbon advanced technologies. Technology additionality emissions by sector for the Market scenario. is a focal point for CDM project collaboration in The study based on the IPAC-AIM technol- China. Advanced technologies are one of the ogy model on cost analysis is given in Figure 5.17, objectives of CDM to support sustainable devel- opment in developing countries. Advanced tech- nologies or clean technologies are the key for future GHG mitigation and local air pollutant F I G U R E 5 . 1 7 Marginal Abatement Cost Curves by Sectors emission reductions. Widespread adoption of advanced technologies in China could contribute 1200 widely to environmental protection and local eco- nomic and sustainable development. Compared 1000 with technologies already widely used and pro- duced in China, some advanced technologies cur- 800 rently used in the developed world could be much more effective in meeting the objectives of CDM. US$/t-C 600 Therefore a group of technologies suitable for Agriculture COst, CDM projects was identified in the model. The 400 Industry selection of advanced technologies for CDM pro- Transport Service jects is based on emission reduction potential and 200 Urban local availability.4 The methodology used in this Rural model reflects abatement cost only, and does not 0 0 50 100 150 200 250 300 350 400 450 500 take into consideration factors such as CER prices Accumulated Emission Reduction, Mt-C or transaction costs, as simulated in the CERT model. 110 C D M I N C H I N A A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L The reduction potential by sector was simu- T A B L E 5 . 2 2 Share of Emission lated with a wider cost range of up to $50/tC Reductions by Sector ($13.60/tCO2). Figure 5.18 and Table 5.22 shows emission reduction potential by sectors with Sector Share (%) costs less than $50/tC ($13.60/tCO2). The IPAC-AIM technology model results indi- Steel 10.7 cate that (in 2010) the difference in carbon emis- Ammonia 4.4 sions between the policy scenario (with carbon tax Ethylene 1.2 and investment of revenues as subsidies) and mar- fertilizer 1.0 Calcium 0.0 ket scenario (the baseline scenario) is 138MtC/a Cement 10.4 (506 MtCO2). Brick 6.8 Glass 0.4 Aluminum 0.6 The Influence of Transaction Costs on Copper 0.3 CDM Potential Paper 0.4 Commerce 4.4 The technology-based analysis of emission reduc- Transport 7.7 Urban 3.3 tion potential reveals that top-down approaches Rural 8.1 based on MAC curves estimating the CER sup- Power Generation Sector 37.3 ply potential at a given CER price substantially Other 2.9 overestimate the potential CDM deal flow. This is largely because a considerable amount of smaller scale carbon offset projects with an abate- ment potential below 10,000t CO2/year have very high compared to large-scale projects, as been included in this emission reduction poten- shown in Table 5.23. tial. But such small-scale projects are not eco- This section links the top-down CDM poten- nomically viable and are unattractive for foreign tial projected for China (79 MtCO2, or 21.6 investors because of their high transaction cost. MtC) with priority technologies for CDM. This Even if the absolute transaction costs for analysis underscores the significant role transac- small-scale CDM projects seem low, the ratio of tion costs play in a project-based mechanism. At the transaction cost to the total project cost is an assumed CER price of 5 $/tCO2, a minimal F I G U R E 5 . 1 8 Emission reduction potential by sector 80 70 No Cost Less than US$50/t-C 60 50 40 MtC/a 30 20 10 0 ­10 Steel Ammonia Ethylene Fertilizer Calcium Cement Brick Glass Aluminum Copper Paper Commerce Transport Urban Rural Power Other C D M I N C H I N A 111 C H I N A ' S C D M P O T E N T I A L in the industry, transport, rural, urban, and com- T A B L E 5 . 2 3 Project Size and Transaction Cost mercial sectors (demand-side management)-- would not be commercially attractive as CDM Reduction Transaction Cost Project size (t CO2/y) ($/t CO2) project because the transaction costs will be as high as $2­20/tCO2. Transaction costs for small- Very large > 200,000 0.1 size projects makes smaller emission reduction Large 20,000­200,000 0.4­1.3 options economically unfeasible, although abate- Small 2,000­20,000 13 Mini 200­2,000 130 ment costs may fall into the CER price range of Micro < 200 1,300 up to $6/t CO2 ($22/t C). The deal-size thresh- old is very sensitive to the CER price, As indicated (Source: Michaelowa/Jotzo, 2003) by Figure 5.19. deal size of close to 10,000tCO2/year is required China's CDM Potential by Sector to make a CDM project commercially viable. For this, based upon expert judgements and investor The emission reduction potential by sectors-- views, the discounted total CER revenues should at a cost of $50/tC ($13.60/tCO2)--reflects the be at least twice the amount of the transaction mitigation potential induced by switching over to cost (Figure 5.19). The lower band in Figure 5.19 advanced lower carbon intensive technologies. illustrates the range of possible transaction costs The technical abatement potential is estimated at for CDM projects related to their project sizes in 170 MtC (624 MtCO2) in 2010; however, the tCO2/a (hatched area). The upper band (range CER market potential is substantially less than between the dashed lines) and above shows the this for several reasons, including (a) only about area where CER revenues should be (twice the 50 percent or 85 MtC/year (312 MtCO2) of the amount of the transaction costs) for a project to total CO2 reduction potential can be achieved at be commercially viable. Given that, a significant costs below $22/tC ($6/tCO2); (b) it is assumed number of small-scale CDM projects with less that transaction costs for smaller projects than 10,000 tCO2 annual abatement potential-- (<10,000 tCO2 emission reductions per year) will be prohibitive to their implementation under the CDM at the range of market prices estimated in F I G U R E 5 . 1 9 Impact of Transaction Cost and CER Price this study; (c) not all of the emission reduction on Commercial Viability of CDM Projects potential will meet the additionality criterion for CDM approval, and (d) not all of the remaining 10US$/t-CO2 5US$/t-CO2 3.5US$/t-CO2 potentially viable and eligible CDM project 0.5 Project viability/ opportunities can be implemented to generate MUS$ CER Revenues CERs by 2010, due to various barriers (such as the 0.4 time lag from CDM dealmaking until the start of Revenue Transaction cost 0.3 operations, the lack of awareness of CDM oppor- tunities, the failure of the Kyoto Protocol to enter Cost/CER 0.2 into force so far, and lack of project preparation capacity). 0.1 Figure 5.20 compares the results of two mod- Transaction els--the IPAC emission model and CERT on the 10000 20000 30000 one hand, and the bottom-up IPAC-AIM tech- Project size t-CO2/a nology model on the other. As the IPAC-AIM technology model does take into consideration Note: (transaction data source5: section 3-6-2, crediting period 7-10 years) no-regrets options, while the IPAC emission 112 C D M I N C H I N A A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L model does not, the MAC curve in the IPAC- F I G U R E 5 . 2 0 Comparing Bottom-up Emission AIM technology model is flatter. At $22/tC Abatement Potential (50$/tC) with ($6/tCO2), the IPAC-AIM/technology MAC Top-down Estimated CDM Potential curve projects an abatement potential of around (22$/tC), 2010 85 MtC (312 MtCO2), while the IPAC MAC projects 72 MtC (264 MtCO2). In addition, the IPAC Emission Model IPAC-AIM technology model suggests--with 50 some CDM-eligible no-regrets options--the abatement potential would be around 170 MtC (624 MtCO2). By application of the CERT IPAC-AIM Technology Model model using the IPAC MAC curves, and assum- ing a 30 percent implementation rate of CDM projects, the deal size at $22/tC has been esti- US$/tC mated at 21.6 MtC. The 30 percent implemen- 22 tation rate taken into account is the dimension B in Figure 5.20. Hence, Figure 5.20 provides evi- B dence that the emission reduction potential iden- tified through the IPAC-AIM technology model (170 MtC/year, or 624 MtCO2) at $50/tC cost 21.6 50 72 85 100 150 170 200 ($13.60/tCO2), and the CDM potential iden- MtC tified by application of the CERT model-- 21.6 MtC/ year or 79.2 MtCO2 at $22/tC B = Barriers reducing the share of abatement potential at equilibrium price ($6/tCO2)--seem to be in plausible and consis- which is CDM-able (deal size, time lag, demonstration of additionality ect.) tent relation with each other. This cross-check provides evidence that the 30 percent implemen- · The minimal deal size (which would put the tation rate assumed for the CERT base scenario small-scale commercial and residential sector (based on IPAC) is a plausible assumption, also at a disadvantage) taking into consideration that some no-regrets · Risks associated with demonstration of addi- abatement potential could qualify for CDM. tionality of the potential CDM project type/ Table 5.24 gives a preliminary idea of the dis- technology. tribution of CDM potential by sector that is feasible at a cost of $22/tC ($6/tCO2). This esti- mate relates to the cost of technologies, not to the market price. The study has estimated the share T A B L E 5 . 2 4 Contribution of Different Sectors to the of CDM project potential for selected sectors 21.6 MtC CDM Potential Resulting from CERT Analysis based on the sectoral distribution displayed in table Table 5.24. Sectors contained in the IPAC- Amount (MtC/a) SGM model used for impact analysis (see chap- Sector Share (%) 2008­2012 average ter 6) were assessed by expert judgment; the study authors took into consideration criteria such as: Steel Making 10 2.16 Cement 10 2.16 · The price of CERs from the CERT model and Chemical Industry 5 1.08 the sectoral MAC curves (Figure 5.17 ) Power Generation 50 10.8 Other sector 15 3.24 · Size of sector, sector risk, and expression of Non-CO2 project 10 2.16 interest by stakeholders to go for CDM proj- Total 100 21.6 ect deals C D M I N C H I N A 113 C H I N A ' S C D M P O T E N T I A L Because project proponents have recently 2010 in China is projected as 21.6 MtC/a (79.2 given much attention to the power sector, and MtCO2) (Table 5.25). the related MAC curve is flatter than the ones for other sectors, the study has allocated a ANALYSIS OF DEMAND- higher share in the power sector. The shares of SIDE BARRIERS CDM potential in different sectors are assumed as 50 percent for the power generation sector, The global carbon market size and price is influ- 10 percent for both the steelmaking and cement enced by a whole range of factors. The key factors sectors, 5 percent for the chemical industry, and include the uncertainty of emission projections 15 percent for the other industry sectors. Ten up to 2010; MACs of countries and sectors; the percent of China's CDM potential was allocated market regime; the CDM implementation rate, to non-energy non-CO2 CDM projects from the which is influenced by supply-side factors such industry sector. The calculated distribution of as the host-county regulatory environment (tax- the annual 21.6 MtC (79.2 MtCO2) CDM ation); expected carbon price and transaction potential (CERT base scenario) to the various costs; the level of domestic action undertaken by sectors is shown in Table 5.24. Annex I parties; and the mitigation efforts in The allocation of CDM potential to non-CO2 Annex I parties not ratifying the Kyoto Protocol projects not covered by the IPAC/AIM technol- (United States and Australia). ogy model is justified as follows: Michaelowa The IPAC emission model calculates total (2003) has estimated the emission reduction reduction requirements for Annex I Parties of potential in methane from gas flaring in China to 374 MtC (1,371 MtCO2) (based on the reference be 1­2 percent of total CER sales. In addition, scenario, with an assumed CDM potential imple- China has a significant potential for HFC-23 mentation rate of 30 percent, and with 10 percent decomposition, which can be based on methodol- U.S. participation). The global CDM market ogy AM0001 already approved by the CDM size in 2010 is accordingly projected at 44.7 MtC Executive Board. Accordingly, an allocation of 10 (164 MtCO2), of which China could imple- percent of China's CDM potential to non-CO2 ment close to 50 percent of the total (21.6 projects seems plausible. The sector split as dis- MtC, or 79.2 MtCO2). The CERT sensitivity played in Table 5.24 should be seen as tentative. It analysis shows that China's CDM potential will require a more detailed analysis that is beyond would vary from 0 to 57.5MtC (211 MtCO2). the reach of the model applied in this study. The respective CER price would range from $0 to $24.30/tC (or $6.60/tCO2). Other recent publications on market and Technology Priority for CDM CER price development divert only slightly from The major energy and industry sector technolo- the IPAC/CERT model projections made in this gies suitable for CDM and significantly con- study. Grubb (2003) compared different mod- tributing to emission reductions are listed in els' estimations for the equilibrium carbon price Table 5.25. Within the reduction potential of under Kyoto, and found a price ranging from 85 MtC (312 MtCO2) estimated through the $55 to $190/tC ($15 to 52/tCO2) with U.S. IPAC-AIM technology model (at a reference participation, and "close to zero" to $50/tC scenario CER price of $22/tC or $6/tCO2) the ($13.6/tCO2) without any U.S. participation. In total of deals qualifying for CDM is significantly his medium-range estimation, the price falls from lower because of (a) the transaction cost of such $55/tC ($15/tCO2) to $18/tC ($5/tCO2) with- deals; and (b) the consideration of project addi- out the U.S. Depending on CER prices, the esti- tionality. Accordingly, the CDM potential in mates of CDM supply spanned a range between 114 C D M I N C H I N A A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L T A B L E 5 . 2 5 Technologies Contributing to GHG Emission Reductions in the Short and Middle Term Sector Technologies Steel Industry Large-size equipment (coke oven, blast furnace, basic oxygen furnace), coke dry quenching, continuous casting machine, TRT, continuous rolling machine, coke oven gas, OH gas and blast furnace gas recovery, DC-electric arc furnace Chemical Industry Large-size equipment for chemical production, waste-heat recovery system, ion membrane technology, existing improved technologies Paper Making Cogeneration systems, residue heat utilization, black liquor recovery system, continuous distillation system Textile Cogeneration systems, shuttleless loom, high-speed printing and dyeing Non-ferrous metal Reverberator furnace, waste-heat recovery system, QSL for lead and zinc production Building Materials Dry process rotary kiln with pre-calciner, electric power generator with residue heat, Colburn process, Hoffman kiln, tunnel kiln Machinery High-speed cutting, electric-hydraulic hammer, heat preservation furnace Residential Cooking by gas, centralized space heating system, energy-saving electric appliances efficient lighting, solar thermal for hot water, insulation of buildings, energy-efficient windows Service Centralized space heating systems, centralized cooling-heating systems, cogeneration systems, energy-saving electric appliances, efficient lighting Transport Diesel truck, low energy-use car, electric car, natural gas car, electric railway locomotives Common Use Technology High-efficiency boiler, fluid bed combustion technology, high efficiency electric motor, speed adjustable motor, centrifugal electric fan, energy-saving lighting Power generation Super critical unit, natural gas combined cycle, pressurized fluid bed combustion boiler, wind turbine, integrated gasification combined cycle, small-scale hydropower, biomass-based power generation 15 and 50 MtC (54 to 180 MtCO2) per year, ply curves of the costs of limiting GHG emis- after the withdrawal of the U.S. By comparison, sions in developing countries. Haites (1998), the U.S. government (1998), The present, early carbon offset market has Austin (1998), and Ellermann and others (1998) been shaped by deals affected by the Dutch all provided higher estimates of the size of CERUPT Programme and the World Bank's CDM of 27 to 572MtC (99-2,108 MtCO2), Prototype Carbon Fund and is buyer-dominated. 273 to 723MtC (1,001-2,651 MtCO2), 397 The pricing is so far largely dependent on the to 503MtC (1,456-1,844 MtCO2), and 100 to buyers' willingness to pay, the types of projects to 188MtC (367-689 MtCO2) respectively. The generate emission reductions, the price signal in lower values in the estimates mainly result from the market, and the risk-sharing between buyers scenarios with supplementarity restrictions (cited and sellers. Accordingly, the price for CERs is in Grubb 2003). Grubb (2003) also indicated currently in the range of $10 to $20/tC ($2.5 to that due to the project-based nature of the CDM $5/tCO2), which is close to the evaluation based and various related institutional, legal, and finan- on the IPAC emission model and CERT. cial barriers, far lower estimates of CDM poten- tial resulted than when generating them from · Through the World Bank's Prototype Carbon "top-down" assessments based on marginal sup- Fund, the CERUPT Programme, Japanese C D M I N C H I N A 115 C H I N A ' S C D M P O T E N T I A L Industries activities, and initiatives by several (164 MtCO2/yr) and the projected potential in other market players, about two dozen CDM China (21.6 MtC or 79.2 MtCO2) will be diffi- projects could possibly be registered by the cult to be realized on an average during the first end of 2004. commitment period. So, in essence, the global · The European Emission Trading Scheme (EU CDM market in reality is likely to be smaller than ETS) may open for carbon offsets from JI and the projected 44.7MtC/yr (164 MtCO2/yr), but CDM projects from 2005 onwards. A recent the CER price could be higher than projected study on the impacts of linking JI and CDM by CERT and fall into the $20 to $40/tC ($5 credits to the EU ETS has estimated the mar- to $10/tCO2) range. ket potential for JI and CDM to maximally The following institutional and method- 100 MtC (360 MtCO2) in 2010 with a CER ological parameters seem to have a significant price of $43/tC ($12/tCO2) (Criqui and influence on buyers' preferences and the actual Kitous 2003).6 China is expected to be the CER price: largest CDM credit supplier (55 percent of all CERs). But the access of the 10 new EU mem- · Crucial for the further development of the ber states is likely to make JI projects particu- CDM market is an early entrance into force of larly attractive under the EU ETS, as the the Kyoto Protocol, as only CDM projects respective transaction cost seems to be lower coming into operation before 2006 will bene- under JI than under CDM. fit from a full 7-year crediting period up to · Some market observers see evidence for a likely 2012. Some domestic regulations in Annex I price differentiation between the project-based countries are still awaiting parliamentary rati- mechanisms JI and CDM on one hand, and fication, which is scheduled to follow when the ET (trading AAUs) on the other hand (Grubb Kyoto Protocol has been ratified by Russia as 2003). There is also a private and public sector well. Another decisive factor for a CDM mar- demand for "green carbon offsets" emerging ket will also be second commitment period tar- from renewable energy CDM and JI projects, gets (if any), which will influence banking some of it complying with the "gold standard" decisions and thereby affect the carbon market proposed by WWF. On the other hand, Grubb during the first commitment period. (2003) expects that a significant part of the · The uncertainty regarding the carbon offset carbon offset demand from countries such as demand and prices emerging under JI and Canada or Japan would choose the least-cost CDM as well as the uncertain availability of option; that is, emission trading (AAUs). assigned amounts (AAU) on the emission trad- ing market make market intermediaries and the The literature research and analysis done by financial sector still standing rather aloof with the study team provide ample evidence for a regard to upfront investments. Associated with large uncertainty with regard to CDM potentials this is a comparatively low level of involvement as well as the carbon offset price. So far, only a and CDM awareness of commercial banks and small proportion of the potential CDM market financial intermediaries. The institutions offer- size has taken shape yet. The factors influencing ing carbon finance services do compete within the pace at which the carbon offset demand a still comparatively small market--at least if develops further are therefore highly relevant for compared to the requirements of a 44.7MtC/yr understanding prevailing market incentives and (164 MtCO2/yr) CDM market in 2008. barriers. Unless the demand for CERs does pick · Considering the considerable size of transaction up significantly until 2006 the IPAC-projected costs, many potential investors from Annex I global CDM potential in 2010 of 44.7MtC/yr countries make carbon trading investments a 116 C D M I N C H I N A A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L second priority and first look for carbon offsets to the market. At present, demand is channeled within the enterprise. But Lecoq and Capoor to renewable energy projects, where additional- (2003) report an increasing participation of ity can be justified comparatively easily and firms in the carbon offset market, in particular where a project size of 5 to 50 MW does not from Japan. On the other hand, the business pose significant project risks. However, such community in Europe is heavily engaged in the projects would account for only a small fraction discussions on National Allocation Plans for of the GHG abatement potential in large devel- the EU-ETS, and does not share their govern- oping economies such as China. ments' views that it is beneficial or urgent to get involved in an early action with regard to pro- Various groups of stakeholders do apply dif- curement of CERs or ERU options. The busi- fering strategies in selecting technologies and ness community thinks that there is still time to prioritizing their project pipeline for CDM make decisions. In most Annex I countries, the investments. The EU emission trading scheme Kyoto regulatory framework is still at a stage of and other national regulations potentially offer voluntary measures. The political process to additional incentives for private investment in the make it legally binding is ongoing. This largely carbon offset market. Key stakeholders shaping explains the "we cross the bridge when we reach the demand in today's "buyers market" include the river" attitude still prevailing in the corpo- a) OECD governments, b) large institutional and rate sector within key Annex I economies. international agencies, c) the corporate sector, and · Significant amounts of private non-carbon d) the NGO sector. For example: capital are required to make proposed CDM deals bankable and reach the respective finan- · Many EU member states and other OECD cial closure. As long as the CER-based revenue governments are in the process of establishing stream is associated with a significant project domestic emission trading systems and/or JI/ risk, the financial sector prefers investments in CDM programs. highly profitable and larger-scale projects. But · Many governments are launching their own in such projects, carbon finance risks are per- ERU and CER procurement programs, includ- ceived as higher and more sensitive due to ing the Dutch CERUPT, the Finish small- uncertainty about project completion dates. scale CDM program, the Danish CDM/JI Important project risks perceived by investors initiative, the German JI/CDM fund (through are the regulatory framework, the needed KFW), and more recently the programs of clearances from the legal systems in host countries, transaction costs, and uncertainties Austria, Sweden, and Australia. about whether CERs will be taxed in China. · Government and multilateral funds have so far · Uncertainty also prevails on how additionality played central roles on the buyer side in poten- can be demonstrated through appropriate meth- tial CDM project transactions. To date, Annex ods in more demanding but attractive sectors for I governments are investing in CDM mainly business, such as energy efficiency in industry. because of country-level compliance. Govern- For sectors with significant GHG abatement ments also are putting aside funds for invest- potentials and significant sustainable develop- ment in emerging private undertakings as ment benefits--but with more demanding well, creating public-private-partnerships. This CDM methodological issues, such as demand- could help attract private investments to carbon side management in commercial and residential funds, and thus support such funds through a buildings, energy efficiency in small-scale indus- difficult introductory phase, when uncertainty try, rural electrification or transport--public about the status of the Kyoto Protocol still puts finance is likely be required to get such projects off many potential CDM investors. C D M I N C H I N A 117 C H I N A ' S C D M P O T E N T I A L · Institutional buyers such as the World Bank's first commitment period--differ, largely because Prototype Carbon Fund, IFC, the Asian Devel- of differences in modeling approaches, model opment Bank, or the EBRD are partly acting structures, and assumptions. on behalf of OECD governments or on behalf Based on the IPAC emission model projec- of large corporations. They play an important tion, the Annex II countries' reduction require- role as market-place facilitators. ments are estimated on the order of 374 MtC · Funds support the development of the market (1371 Mt-CO2), taking into consideration for- by promoting pilot projects and the acquisi- est management sink credits and the assumed tion of the first verified and certified emission voluntary U.S. participation in the carbon offset reductions. By establishing certificate pools market (10 percent participation rate). Through for investors and buyers from the public and application of the results for both the emission private sector, such initiatives are important projection and MACs from the IPAC emission efficiency instruments to reach the Kyoto Pro- model into the CERT model--and assuming tocol's emission reduction targets. EFSU price leadership for the future carbon mar- · Large Japanese and European GHG emitters ket, a 10 percent participation rate by the United from energy-intensive industries and the power States, 30 percent implementation rates for all sector are in the process of making direct invest- non-Annex I Parties, 50 percent supplementary ments into the emerging CDM and JI market, for EU, and a $2/tC ($0.55/tCO2) of transaction or are developing their own carbon offset port- cost for CDM--the CDM market size in 2010 folio. is estimated to be 44.7 MtC (164 MtCO2). · Multinational corporations, committed to Table 5.26 shows the results of this study, com- mitigate their carbon risks and demonstrating paring it with findings of selected other WB-NSS their corporate responsibility toward environ- completed since 2001 as well as with the out- ment issues, are in the process of developing come of selected carbon offset market studies their own carbon offset portfolio. completed in 2003. · Commercial banks and large financial sector As shown in Table 5.27, China's share in the players are still significantly underrepresented global carbon market is 11 percent and in the global in the market place. They may assess the risk CDM market around 50 percent. China's CDM associated with an early involvement as still potential is 21.6 MtC (79.2 Mt-CO2) for 2010, being too high. which is substantial. Supplying this amount of · Project developers and brokers, such as special CERs would require a significant number of newly departments in internationally operating enter- built larger power projects (300MW-600MW) prises and specialized consulting companies, registered as CDM projects, as well as up to 100 together with NGOs are the most active stake- operating renewable power projects by 2006/07. In holders in the current global carbon market. addition to reductions in CO2 from electricity gen- eration, projects in other categories--including abatement of other gases and other source and sink CONCLUSION categories--should also be taken into account in The Kyoto Protocol set a GHG emission target for estimating China's total CDM potential and its the first commitment period for Annex I Parties. impact on market dynamics. But the real emission reduction to be achieved The current market price for carbon offsets under the Protocol by Annex I Parties is uncer- certified as per Kyoto rules is in the $3 to $5/t tain due to projected economic development CO2 range. This range is close to the results of and the related future growth of GHG emis- the scenario evaluation based on the IPAC emis- sions. GHG emission projections for the year sion model and CERT ($0 to $7/tCO2). The 2010--the year taken as representative of the price resulting from these models is an equilib- 118 C D M I N C H I N A A N A L Y S I S O F C H I N A ' S C D M P O T E N T I A L T A B L E 5 . 2 6 Annex II Countries Emission Reduction Requirements, CDM Market Size, and CER Price Range Estimated Annex II Countries reduction requirement CDM market size CER price range Mt CO2 (2010) MtCO2 (2010) USD/CO2 IPAC emission model, 30% CDM implementation rate, without U.S. participation 1,243 0­161 0­6 IPAC emission model, 30% CDM implementation rate, 10% U.S. participation 1,371 0­164 0­7 Selected WB-NSS* studies completed since 2001 1,300­(3,000) 300­(2,000) 1.7­(10) International Energy Outlook, EIA/USDOE 2002 860­1,540 80­465 -- Supply-demand balance study, Grubb 2003 415­1,250** 50­180 0­13.8 EU Emission Trading Study (Criqui et al, 2003) 1,1407 330­360 6­12 Transaction cost study, Michaelowa/Jotzo, 2003 1,105 363 < 4 *Vietnam, Peru, Indonesia **Assuming 50 percent of reduction requirement met by domestic action in the 15 EU member states rium price under a ratified Kyoto regime. In might affect the price of their credits. Grubb reality, there will not be one uniform carbon (2003) as well as Criqui and Kitous (2003) for price for different transferable emission units the EU emission trading system tried to assess (RMUs, CERs, ERUs and AAUs), and even not the effect of a differentiated carbon offset mar- a common price for the same transferable emis- ket (Table 5.26). Simulations in which Euro- sion units resulted from different kinds of pro- pean market participants give a clear preference jects in various countries. The preference of to JI/CDM credits conclude that under such a investors for "high-quality," "low-risk" projects regime CER prices may increase by up to $6 to T A B L E 5 . 2 7 Annex II Countries GHG Reduction Demand and its Market Offset Share among Kyoto Mechanisms and the Domestic Actions by Annex II Countries in Basic Scenario GHG reduction by: Mt-CO2 (2010) Mt-C (2010) Allocation (%) Total reduction requirement 1371.3 374.0 Domestic action Annex II 649.4 177.1 Subtotal Kyoto Mechanisms 721.6 196.8 100.0 ET: AAU/hot air with EITs; 225.9 61.6 31.3 JI 331.8 90.5 46.0 CDM 163.9 44.7 22.7 CDM, China's share 79.2 21.6 11.0 CDM, SE&S Asia 56.1 15.3 7.8 CDM, LA & Africa + mid. East 28.6 7.8 4.0 C D M I N C H I N A 119 C H I N A ' S C D M P O T E N T I A L $12/tCO2. Such pricing for CERs would in- abatement potential. Priority technologies in this creasingly help to cover the incremental abate- sector proposed for further investigation are: ment and transaction costs of CDM projects. · Equipment for coke dry quenching Negotiations between investors and host coun- · DC-electric arc furnace tries should target this CER price frame, which · Waste heat recovery systems (chemical industry) does more realistically reflect the on-the-ground · CFBC-boilers for process heat abatement cost of robust additional projects. · Dry process rotary kiln with pre-calciner China's power generation sector contributed 36 (cement industry) percent of the total carbon emissions of the energy · Biofuels for the transport sector sector in 2000. This share is expected to increase to · Demand-side management, for example using 38 percent by 2010. As the MACs of China's advanced electrical motors. power generation sector (IPAC-AIM technology model) display a relatively flat marginal abatement The scope of this study was confined to the cost curve compared to other sectors (such as trans- energy sector and related CO2 emissions; non- portation and other industries), it is expected that CO2 emissions from the industrial energy sector the power sector will capture a major share of the were not covered under this study. Other non- potential CDM market in China. If the power CO2 GHG emissions, such as HFCs, may offer generation sector accounts for around 50 percent significantly lower-cost abatement potential. of the projected CDM potential of 79.2 Mt CO2/a by 2010, supplying this amount of CERs would require a considerable number of newly built larger References power projects (registered as CDM projects, 1. Recent energy data show a rapid increase in energy use assuming the capacity range of new fossil fuel- and production in China. Some newly developed energy based power projects is around 300MW-600MW) scenarios forecast higher energy demand in 2010 and as well as some 100 operating renewable power 2020. This adds uncertainty to the energy demand fore- projects by 2006/2007. The priority technologies cast in China. 2. The effect is roughly equivalent to a carbon tax of $50/tC for this sector are identified as: 3. The carbon emission from the IPAC-AIM technology · Fuels switching to combined cycle gas power model is higher than that from the IPAC emission model plants because of different assumptions about emissions in 2000, technology trends, and scenarios. The scenario used in the · Wind power IPAC-AIM technology model is not well linked with the · Landfill methane gas conversion to power reference scenario from the IPAC emission model because · Hydropower. of different study purposes. This needs to be improved, especially by following recently published data. Technologies that may prove to have signifi- 4. In the Kyoto Protocol, there is no specific requirement cant potential and other environmental benefits for technology selection in CDM projects, as this could but could not be covered within the methodol- increase the cost of replacement. ogy of this study are: 5. The annual part of transaction costs was estimated by expert judgment to be on the order of $1/tCO2 for a · Coal bed methane recovery project size of 10'000 tCO2/a and fall to $0.5/tCO2 for · Biomass-based cogeneration 30'000 tCO2/a. The annual transaction cost may stabi- · Biogas from agricultural, industrial, and urban lize for 500'000 tCO2/a at $0.2/tCO2. 6. Additional evidence: The delegates at the Annual General waste Meeting of the International Emission Trading Association · Power generation from municipal solid waste (IETA) on October 30, 2003 estimated the carbon price in · Non-CO2 emission abatement technologies 2010 at $14.3/tCO2e (www.carbonpoint.com) (methane, HFCs). 7. The external trading enlarged EU 128 MtCO2e; exter- nal trading for the rest of Annex B 242 MtCO2; EU Besides the power sector, the steel, cement, internal trade with 10 new EU states 36 MtCO2e; and chemical industries show the second largest domestic action Annex B 734 MtCO2e. 120 C D M I N C H I N A 6 Impact Assessment of CDM Implementation on China's Socioeconomic Development METHODOLOGICAL FRAMEWORK OF The model has nine production sectors and IPAC-SGM eleven consumption sectors. It focuses on energy production, capital stocks, and a suite of anthro- Framework of IPAC-SGM pogenic greenhouse gases (Table 6.1). The model was developed in recognition of the fact that In order to analyze the socioeconomic impact of energy production and use is the most important CDM implementation in China, a computable set of human activities associated with greenhouse general equilibrium (CGE) model, IPAC-SGM, gas emissions. was selected from the IPAC model family. CGE Some of the sectors, such as electricity gener- models play an important role in policy assess- ation, also contain subsectors. Each production ment. Many modeling teams use CGE models sector in the IPAC-SGM model represents a for simulation of economic activities and policy unique product with its own unique equilibrium implementation. IPAC-SGM projects economic price. Subsectors within a sector represent dif- activity, energy consumption, and carbon emis- ferent ways of producing the same product. For sions for 12 world regions. To better fit China's example, there are many technologies for gener- circumstances, IPAC-SGM was revised with data ating electricity, which are represented by the for some non-market-based sectors such as bio- several electricity subsectors. mass, nuclear, and hydropower. It is designed specifically to address issues associated with energy activities and global change, with a special empha- Methodology of CDM sis on providing estimates of the following: Implementation Analysis by IPAC-SGM · Environmentally important emissions associ- Because there are few similar studies that assess ated with human activities, especially from the impacts of CDM implementation on Chi- energy activities nese economic development, several assumptions · The consequences of global environmental were made in using the IPAC-SGM model. For change, with particular emphasis on human example: activities · The economic consequences of actions to miti- · Foreign investment increase due to sale of CERs. gate and adapt to global environmental change. A simple assumption was made that total C D M I N C H I N A 121 C H I N A ' S C D M P O T E N T I A L T A B L E 6 . 1 Production Sectors and Subsectors Sector No. Sector Sub-sectors 1 Agriculture 2 Other sectors 3 Crude oil production 4 Natural gas production 5 Coal production 6 Coke production 7 Products from coal 8 [Hydrogen fuel] 9 Heat supply 10 Wood production 11 Electricity generation Oil, Gas, Coal, Biomass, Nuclear, Hydro, Solar/Wind 12 Oil refining 13 Distributed gas 14 Chemicals 15 Cement 16 Primary metals 17 Food processing 18 Other industry and construction 19 Passenger transport [by transport mode] 20 Freight transport [by transport mode] income from sales of CERs would be a net ity by applying the localized advanced tech- increase in foreign investment for sectors in nology, so as to enhance the competitiveness of IPAC-SGM. Parameters for investment will China's economy. The impact assessment of be changed to include the increase in foreign the CDM-driven technology transfer on tech- investment. nology progress will be focused on middle- and · Technology progress in China due to technol- long-term effects over several decades. The tar- ogy transfer through CDM. CDM projects lead get year of this simulation is 2030. to transfer of advanced technology to China in · Extension of productivity in the machinery man- the period 2005­10. It was assumed that the ufacturing sector. Localization of transferred CDM investment attracted by the 1st com- technologies will increase the production activ- mitment period will be taking place early in ities for machinery manufacturing in China. order to benefit fully from a 7-year crediting period up to 2012. Technology progress in this period was calculated based on the scale of MAIN ASSUMPTIONS AND CDM projects and location of these CDM ENERGY DEMAND projects by sectors. We assumed that CDM Major assumptions for IPAC-SGM in this sim- project investment will promote technology ulation include the following: transfer to China, followed by the localization of advanced technology in China. This will · Population growth. We assumed that the fertil- therefore impact technology progress after 2010 ity rate, death rate, and birth rate (and future and could have a larger impact because of much trends) occurring currently in Japan would be more technology diffusion. Technology diffu- similar to that in China by 2030. This popula- sion will increase domestic production capac- tion scenario is similar to that in the IPAC 122 C D M I N C H I N A I M P A C T A S S E S S M E N T O F C D M I M P L E M E N T A T I O N O N C H I N A ' S S O C I O - E C O N O M I C D E V E L O P M E N T T A B L E 6 . 2 Population Assumed in IPAC-SGM, thousands Year Tot.Pop Working AGE Man Working AGE Female Working AGE Total Employed 1990 1067931 358554 343661 702215 476928 1995 1165023 397988 380687 778675 528857 2000 1244045 426376 407488 833863 566340 2005 1309099 453367 431687 885055 601108 2010 1357580 489652 466795 956446 649596 2015 1399020 514309 489518 1003828 681776 2020 1440727 526122 499638 1025760 696671 2025 1475316 524281 496482 1020763 693278 2030 1495370 529332 500471 1029804 699418 Data source: Energy Year Book 2002, for data from 1990 to 2000. emission model. Table 6.2 gives the population was developed using the IPAC-SGM model scenario in IPAC-SGM. (Table 6.4). This provided a baseline energy sce- · GDP growth. The government target was basi- nario for this analysis. No large-scale use of bio- cally followed, in which GDP per capita in mass and modern renewable energy is assumed. 2050 will reach the level of developed countries · Net foreign investment increase from CDEM in early 1990. The IPAC model adopted a sim- implementation. Selling CDM/CERs to devel- ilar economic growth trend, which is included oping countries could bring additional foreign in IPAC-SGM (Table 6.3). investment funding to China. Here it is as- · Technology progress. It is assumed that the effi- sumed that the CDM leads to a net incremen- ciency improvement trend observed in the past tal increase in foreign investment1 compared to 20 years in China, but--based on research re- the baseline foreign investment (Table 6.5). sults from other studies--with a declining rate The value for 2010 is the product of the equi- in the future. librium market price and China's CDM · Energy demand and mix. Using the above as- potential derived from the CERT model. It is sumptions, a baseline energy demand scenario assumed that the investment will start to flow T A B L E 6 . 3 GDP Assumption in IPAC-SGM, million Yuan (in 1990 price) GDP GDP per Government Net Growth Capita, Year Consumption Investment expenditure Export GDP Rate 1000 yuan 1990 1000291 473131 61373 218566 1753362 3.218 1995 1351561 804618 214707 218569 2589454 0.081 4.9 2000 2256274 1351287 472525 218560 4298645 0.107 7.59 2005 3624311 1945574 696229 218566 6484680 0.086 10.79 2010 5519115 2621077 1055124 284134 9479450 0.079 14.593 2015 7759009 3245157 1393635 369374 12767175 0.061 18.727 2020 10315084 3958638 1731273 369401 16374397 0.051 23.505 2025 12954654 4710539 2057167 369375 20091735 0.042 28.981 2030 15979505 5773584 2493823 369376 24616288 0.041 35.196 C D M I N C H I N A 123 C H I N A ' S C D M P O T E N T I A L T A B L E 6 . 4 Commercial Primary Energy Consumption (Mtce) Natural Other Year Crude Oil Gas Coal Biomass Nuclear Hydro Renewables Total 1990 164.00 20.64 753.73 0.00 0.03 15.96 0.00 954.36 1995 229.50 27.32 983.40 0.00 0.10 20.15 0.00 1260.47 2000 320.50 32.57 889.55 0.00 0.44 27.32 0.27 1270.65 2005 392.42 40.71 1166.06 0.00 1.13 36.78 0.64 1637.73 2010 484.74 48.52 1301.00 0.00 1.91 46.12 1.25 1883.54 2015 590.33 57.59 1474.87 0.03 2.73 56.09 1.86 2183.49 2020 701.46 65.77 1637.01 0.27 3.31 63.58 3.00 2474.40 2025 814.98 73.70 1781.94 0.58 3.34 62.94 4.12 2741.61 2030 948.70 84.10 1972.43 1.23 3.65 68.07 5.64 3083.82 Note: Traditional biomass use is not included here from 2005 onwards in order to generate the ogy transfer by CDM projects. The assumption projected CER volumes in 2010, beginning in technology progress rate used in IPAC-SGM with incremental CDM investments in 2005 at is given in Table 6.6. half the level of 2010. After 2010, it is assumed · Localization of advanced technologies. In the that the foreign investment in CDM will gen- simulation, advanced technologies transferred erally decrease--as other policies that limit through CDM projects could be localized, emissions (both domestically and internation- which is critical for further diffusion in China. ally) are put in place and decrease the volume Localization of advanced technologies con- of CDM transactions--and will end by 2030. tributes to local economic development and It is also assumed that the CDM will continue environmental protection. In the IPAC model, to operate after 2010. it is assumed that localization of technology · Technology progress by CDM implementation. started five years later than CDM project im- CDM projects will have a positive impact on plementation, and that localization will intro- the technology improvement rate. According duce earlier diffusion of these technologies in to the results from CDM potential analysis the period from 2010 to 2030. The technol- by sectors, the power generation sector and ogy diffusion rate will converge to the baseline energy-intensive sectors will benefit from ad- diffusion rate after 2030. This will increase vanced technology diffusion through technol- energy efficiency improvements after 2010 (see Annex 3 in the CD-ROM attachment for assumptions). T A B L E 6 . 5 Net Foreign Investment · Productivity increase in the machinery manufac- Increase Caused by CDM, turing sector. Table 6.7 provides an overview of (in million US$) the expenditures for technology imports to the power generation sector. Based on this informa- Net foreign investment increase tion, it is assumed that half of the expenditure 2005 237.6 for technology imports (foreign investment) will 2010 475.2 be shifted to domestic purchases. 2015 356.4 2020 237.6 Table 6.8 provides the value added from machin- ery manufacturing as a share of total industry 124 C D M I N C H I N A I M P A C T A S S E S S M E N T O F C D M I M P L E M E N T A T I O N O N C H I N A ' S S O C I O - E C O N O M I C D E V E L O P M E N T (around 10 percent). This added value share will T A B L E 6 . 6 Annual Change in Efficiency Improvement increase from 2010 onwards. In the simulation, Assumption as a Result of CDM in it is assumed that capital productivity in the IPAC-SGM machinery manufacture sector will increase 0.1 percent annually from 2010 to 2030. % increase Base case* with CDM due to 2005 (%) 2005+t (%) CDM (%) IMPACT ASSESSMENT OF CDM IMPLEMENTATION ON GDP Steel Making 4.0 0.2 5.0 Cement 6.0 0.3 5.0 Taking into account the incremental foreign Chemical Industry 4.4 0.1 2.3 Power Generation 0.07 CDM investment, efficiency improvements, and -- gas fired plants 0.8 0.1 12.5 technology localization (which lowers the cost of -- coal fired plants 0.2 0.06 25.0 manufacturing capital goods), the model simula- Other sector 5.0 0.2 4.0 tion leads to an increase in GDP of 0.03 percent in 2010, 0.34 percent in 2020, and 0.52 percent *This table gives a snapshot of base case efficiency improvements for the year 2005 for comparison with the CDM effect; the full time series for the in 2030 (Table 6.9). base case is available in the CD-ROM attachment. After that, the effects of technology will gen- erally disappear, because technologies transferred by CDM will be introduced into the baseline sce- T A B L E 6 . 7 Investment in Power Sector, billion $ nario. The GDP increase peaks in approximately 2030 to 0.52 percent compared with the baseline 1995 1996 1999 2000 scenario (Figure 6.1). Over the entire 25-year period up to 2030, the CDM leads to a GDP Total Investment 12.6 15.4 22.2 25.7 Foreign investment 0.9 1.4 2.7 2.5 increase of 0.68 percent, compared with the base case without CDM. On an annualized basis, the Source: China Year Book 2002. rate of increase in GDP over this period due to the CDM is 0.022 percent. AIM technology models could be applied to the The analysis only considers macro-level, aggre- IPAC-SGM model. Given these limits, we made gate effects of increased CDM investment on simplified assumptions about the impact of CDM GDP. Macroeconomic feedbacks at the sec- implementation. Critical limitations in the mod- toral level--such as on competitiveness, struc- eling assumptions include: tural change, energy costs, or access to capital/ capital cost--are not taken into account. · Net increase of foreign investment for CDM implementation. In this study, we assumes that MODEL LIMITATIONS AND CONCLUSION T A B L E 6 . 8 Value Added in Machinery This study of the economic impact of CDM im- Sector, billion $ plementation in China is a preliminary research activity. So far, there are few similar studies. 1997 1999 2001 There were limitations in the overall methodol- Total 240.1 261.1 343.0 ogy framework, including parameter assumptions Machinery (1) 26.1 27.4 36.2 for foreign investment, efficiency improvements, and localization of technologies. There were also Notes: (1) including ordinary machinery, special purpose limits in how the results in the CERT and IPAC- equipment, and electric equipment and machinery. C D M I N C H I N A 125 C H I N A ' S C D M P O T E N T I A L · The IPAC-SGM model assumed a technology T A B L E 6 . 9 CDM Impact on China's GDP progress rate. Because this is a CGE model, there is an indirect linkage between technology GDP GDP Increase % GDP base with in GDP increase progress in the IPAC-SGM model and tech- case CDM from due to nology progress in the IPAC-AIM technology (B $) (B $) CDM (B $) CDM model. 2005 750.6 750.6 Despite analytical uncertainties, some pre- 2010 1109.2 1109.6 0.4 0.033 liminary observations from the study include the 2020 1965.5 1972.2 6.7 0.34 2030 3025.2 3040.8 15.6 0.52 following: GDP increase 2005­2030 2274.6 2290.2 15.6 0.68 Annual growth rate 0.022 · CDM implementation could contribute to increase in GDP for China's economic development by extending the period 2005­2030 foreign investment, localization of advanced technologies, and technology efficiency im- provement in China. Major contributions from CDM transactions would result in a net in- CDM implementation in China to the local crease in foreign investment. In some cases, economy include a net increase of foreign there may be tradeoffs between CDM invest- investment in China by CDM projects, tech- ment and conventional FDI investment, such nology efficiency improvements, and localiza- that CDM investment would not be additional tion of advanced technologies. to baseline FDI investment. · CDM implementation could have long-term · CDM profit treated as investment. It is assumed benefits for China. The results show GDP that CDM profits are reinvested in the econ- increases by 0.03 percent in 2010, 0.34 per- omy. In reality, profits could be used for other cent in 2020, and 0.52 percent in 2030. This purposes. shows the early introduction of technologies · CDM transactions may take the form of CER and localization effects. sales. This would put more of the burden for · Further study is necessary to determine the project finance (and risk) on the project owner impact of CDM implementation. By reviewing and may have different economic impacts than related studies on the impact of CDM projects, CDM investment. This issue requires further we observed ancillary benefits from CDM study. implementation. Several studies ( Jiang and others 1998; Guo and others 2003) present the co-benefits on local air pollution abatement and health impacts from the introduction of F I G U R E 6 . 1 GDP Change by CDM Implementation in China clean technology to China. CDM projects could help bring clean technologies to China. 0.60 This should be further analyzed within the 0.50 IPAC-SGM model. 0.40 0.30 Percent 0.20 Endnote/Reference 0.10 1. The prevailing CDM transaction type at present is not 0.00 direct investment in a CDM project, but the sale of CERs 1990 1995 2000 2005 2010 2015 2020 2025 2030 through carbon purchase agreements. This analysis sug- Year gests that there are different development implications for these two transaction types. 126 C D M I N C H I N A 7 Policy Insights and Recommendations POLICY INSIGHTS short to medium term (up to 2010). Assuming the Kyoto Protocol enters into force soon, some The Rationale for a Sustainable and positive macroeconomic effects are nonetheless Proactive CDM apparent, including: Based on the knowledge and experience gained · An increase in net foreign investment (via through the China CDM study, and considering CDM deal inflows to China) up to $475 mil- both the evolution of the international CDM lion annually in 2010 (including both incre- regime and the particular national circumstances mental abatement cost and profit) of China, this chapter outlines the justification · Higher rates of efficiency improvement in the for a Chinese CDM approach that: energy end-use and electricity generation sec- tors, resulting in greater resource productivity · Emphasizes sustainable CDM by ensuring the · A CDM contribution of about 0.5 percent of contribution of CDM project activities to sus- GDP annually in the year 2030 as a result of tainable development in China CDM investments made from 2005 to 2030, · Takes a proactive approach to take early advan- mainly due to the transfer and localization of tage of CDM opportunities during the first advanced technology that is not yet mature commitment period. in China. In the 2005­2010 timeframe, total Significance of CDM opportunities for incremental CDM investments of $1.78 bil- China: Local co-benefits lion (base case) result in a corresponding GDP increase of $2.13 billion. In other words, every CDM projects will contribute to greenhouse dollar invested in Chinese CDM projects boosts gas emission reductions and help developed the Chinese economy, measured in GDP terms, country parties meet part of their commitments through 2010 by an additional $0.20 (as a under the Climate Convention and the Kyoto result of technology localization and efficiency Protocol. In addition, they will assist China in improvements). This multiplier effect is ex- achieving sustainable development by absorb- pected to increase over time as technology ing additional financial resources and promot- localization advances. ing technology transfer. CDM will not have a significant impact on In addition, CDM can have a range of sus- overall economic growth rates in China in the tainable development co-benefits in line with C D M I N C H I N A 127 C H I N A ' S C D M P O T E N T I A L China's domestic policy priorities, including price of $5.2 to $6.5/tCO2. The marginal abate- positive effects1 on: ment cost curves for energy end-use sectors used in this analysis are rather preliminary, but some · Local economic development--promoting no-cost measures in the industrial end-use sector local economies through technology localiza- were identified. Project developers are likely to tion, increasing local tax revenue, creating new find many more CDM opportunities in the var- (skilled) jobs, and building local capacity ious end-use sectors that are competitive under · Resource efficiency--more efficient use of prevailing market conditions, but this study only energy and using waste for energy generation looked in detail at power generation options. · Local environment--reductions in air pollu- Based on three carbon market scenarios, this tants such as sulphur dioxide, nitrous oxide and study estimated China's energy-related CDM dust;2 improved water quality, including reduc- market potential in the year 2010 at between 25 tions in organic oxygen demand; and nature/ and 117 MtCO2 annually, based on an equilib- forest conservation. rium certificate price of $5.2­6.5/tCO2.3 Under all three scenarios, China captures nearly 50 per- Properly selected and designed CDM projects cent of the total market CDM demand (esti- can provide financial leverage to speed technology mated at between 52 and 240 MtCO2), resulting progress in the electricity generation and energy in CER profits4 of $77­$311 million annually in end-use sectors. The resulting co-benefits can 2010. If a market structure of perfect competi- have significant long-term effects on economic tion is assumed, the model results provide close growth and China's quality of life. However, not to zero price and CER trade volumes. The esti- all projects that generate real, measurable, and mated CDM potential refers to reductions in long-term greenhouse gas reductions also make CO2 from electricity generation and energy end- an unambiguous contribution to local sustainable use only (which account for over 80 percent of development, so it is imperative that potential total CO2 emissions). CDM potential for other projects be carefully selected to be consistent with gases (such as HFC 23 decomposition) and other China's sustainable development strategy and source and sink categories must also be taken into Action Plan, which is a high priority of the account in estimating China's total CDM poten- government. tial and its impact on market dynamics. Sensitivity analysis indicates that the largest China's critical role in the sources of uncertainty in these estimates (in order global carbon market of importance) are (a) the amount of surplus Three fossil and three renewable case studies that allowances in EIT countries; (b) business-as-usual represent a good cross-section of electricity gen- emissions projections (demand side) and mar- eration options in China were analyzed. Four of ginal abatement costs of potential buyers and sell- them had average specific abatement costs at or ers; (c) the level of supply-side competition in the above $10/tCO2, and would likely not be com- market (competition vs. price leadership); (d) the petitive under current market conditions. Taking fraction of CDM potential that is actually realized advantage of synergies with existing government by 2010 (implementation rate); (e) the trade-off technology progress programs could enhance the between hot air supply and the amount of carbon financial viability of CDM projects that employ offsets reaching the market in the form of JI cred- advanced technologies. its;(f )theassumedparticipation rate of the United The top-down modeling results for the energy States; (g) the way in which countries choose to sector as a whole, on the other hand, indicate sig- operationalize supplementarity; and (h) the level nificant potential below the modeled equilibrium of transaction costs. 128 C D M I N C H I N A P O L I C Y I N S I G H T S A N D R E C O M M E N D A T I O N In assessing China's CDM potential, this study implemented over the next couple of years, have modeled supply-side competition based solely on low specific abatement costs, and/or have credit- differences in national marginal abatement cost ing times that do not extend far beyond 2012. curves under perfectly functioning equilibrium Other strategic options are to use CDM invest- market conditions. Future work will have to con- ment (or proceeds from sales of CERs, depending sider the nature of emerging carbon markets (frag- on the transaction model) merely to supplement mented, illiquid, non-standardized, risk-averse), government initiatives to introduce advanced the implications of different CDM transaction technologies (clean coal, new and renewable tech- types (equity investment in CDM projects, for- nologies, energy efficiency) without the expecta- ward contracts to purchase CERs, trade in CERs tion of full incremental cost recovery. on secondary markets), the differing motivations In order for the Chinese Government to lever- of market players, and how China can compete age CDM investment/CER proceeds in support successfully under these real-world conditions. of its technology promotion activities, a transpar- Time pressure to capitalize on ent baseline methodology to demonstrate the CDM opportunity additionality of such efforts is required. Identify- ing CDM opportunities linked to energy sector The shape of the international climate policy and municipal infrastructure projects that receive regime for the post-2012 period will determine government subsidies to promote technology pro- whether CERs generated after 2012 have value gress or sustainable development could be one for China and other host countries. If the Kyoto means of rapidly developing viable CDM projects. Protocol were to enter into force in time, negoti- To take full advantage of the modeled CDM ations on commitments for subsequent periods potential in the power sector, up to several hun- for Annex I Parties--which will take the form of dred projects--including a considerable num- amendments to Annex B of the Kyoto Protocol-- ber of larger, newly built fossil power projects would be launched by the end of 2005. If this path is followed, and commitments can be nego- (i.e.,capacityrange:300­600MW),aswellas some tiated successfully, the CDM will likely be part 100 renewable electricity generation projects-- of the future policy mix, under a continuation would have to be registered as CDM projects and of the Kyoto regime. Otherwise, and this risk is under operation by 2005/6. substantial, the validity and value of CERs after Furthermore, some potential CDM projects, 2012 is uncertain. such as the super-critical coal-fired power plant As a result, investors are only interested at pres- project analyzed as a case study, may lose their ent in making financial commitments to CDM CDM eligibility in a rather short timeframe, as projects for CERs generated through 2012. If we the underlying technologies come into wide- assume that the CDM projects to be implemented spread use and must be considered in the base- by China have a 7-year crediting time, these pro- line. In other words, delay in moving forward jects would have to be operational by the end of with CDM implementation can result in irre- 2005 to capture the full value of the project's eli- versible loss of opportunities. gible CERs during the first commitment period. As large power projects generally have construc- Identification and Removal of tion times of several years or more, it is clear that CDM Barriers some of the value of the potential CDM projects would not be generated in time to enter into Chinese enterprises face barriers to CDM investors' calculations. implementation in practice To be competitive, therefore, China may have As identified in the course of the case study work to act rapidly and focus on projects that can be and through industry stakeholder consultations C D M I N C H I N A 129 C H I N A ' S C D M P O T E N T I A L (see Annex 7 in the attached CD-ROM), project and opportunities (such as taking into account developers are currently confronted with myriad the additional requirements for monitoring, significant barriers to CDM implementation. reporting, and verification of CDM projects) Some barriers are faced by all project developers · The challenge of reconciling the need to across the world. China alone cannot remove demonstrate the additionality of CDM project such barriers; including: activities within the 5-year planning process · Lack of incentives for utility participation as · Uncertainty whether and when the Kyoto crucial stakeholders for power sector CDM Protocol will/may enter into force deals, as grid-connected power projects require · Uncertainty about carbon offset prices in the data on the greenhouse gas emissions of the emerging global carbon market for the Kyoto existing power grid (baseline, leakage). How- mechanisms, which makes it difficult for enter- ever, these enterprises have no financial in- prises to assess in a robust way the potential net centive to deliver the necessary data for CDM financial benefits from CDM transactions project developers, as they are generally not · Low CER price offers in the current buyer- partners in the CDM deal. driven market, which limits the volume of potential projects for which CDM financing Although some potential CDM projects are actually covers the incremental cost of addi- under development, and some Chinese enter- tional climate protection projects prises are eager to initiate CDM projects, other · Uncertainty regarding international approval Chinese enterprises are not fully aware of CDM procedures opportunities or are waiting for additional assis- · Complexity of the CDM project cycle. Most tance before launching actual CDM projects, enterprises, particularly smaller ones (which are even though there is interest in learning more prevalent in China), simply do not have the (capacity building, engaging in pilot projects required capacity; that is, a range of technical/ under low-risk arrangements), even in the period engineering/economic know-how to prepare before major uncertainties can be removed and PDDs, command of English, and experience the institutional framework is established. In dia- with monitoring systems. logue with the private sector, the government should explore how to overcome these barriers. However, some barriers could be removed, including: China's actions to facilitate CDM Whether China will be able to achieve its full · Institutional and legal systems in China to CDM potential will depend on China's compet- enable project developers to enter into CDM itive position in the carbon market. These incen- project activities (such as DNA to give formal tives might include creating attractive investment approval to CDM projects; transparent and or carbon purchase arrangements from the per- unambiguous rules on project eligibility and spective of CDM investors or CER buyers; ensur- procedures for project approval; CDM prop- ing efficient institutional arrangements and state erty rights; CER taxation policy; laws and assistance to lower transaction costs; adopting incentives for renewable energy projects) favorable conditions for the uptake of advanced · Lack of awareness among decisionmakers in the technologies, in particular, renewables; and pro- financial sector and enterprises regarding cli- viding incentives and capacity building to foster mate change (greenhouse gas emissions, reduc- rapid development of CDM projects that can be tion potentials, Kyoto/CDM framework), plus offered at competitive prices. The current initia- knowledge and skills to evaluate CDM risks tives of the National Peoples Congress to create a 130 C D M I N C H I N A P O L I C Y I N S I G H T S A N D R E C O M M E N D A T I O N law for the promotion of renewable energy and to Progress is also being made internationally revise the electricity and energy-saving laws are with respect to both institutional arrangements promising and should offer points of entry for the and CDM investment promotion and financing/ CDM. carbon purchase vehicles. In the recommendation Despite the uncertainties surrounding the that follow, we propose specific steps that the Gov- Kyoto Protocol's entry into force and CDM costs ernment of China could take to facilitate CDM and benefits, opportunities exist to facilitate the project activities. removal of some of the main barriers to CDM implementation, and China is beginning to act Thoughts on Priority Sectors and on them: Project Types · Several studies and capacity building pro- One of the general requirements for CDM proj- grams have been carried out in China with ect approval under the current Chinese interim international assistance. They have proven ben- arrangements is that the CDM project activity eficial to enhance awareness on climate change should promote the transfer of environmentally and CDM among governmental and indus- friendly technology. In addition, energy effi- trial audiences, as well as to analyze CDM ciency improvements and new and renewable opportunities. energy are listed as priority areas for CDM coop- · Although the DNA of China has not been offi- eration. In general, the central government's main cially announced, the current "Climate Change goals are technology progress (advanced technol- Office" in the National Development and Re- ogy, localization) and broader contributions to form Commission has been mandated to per- sustainable development, rather than merely form the tasks of the DNA in the pre-validation attracting additional foreign investment. phase of CDM project development. A draft In addition to political priorities, however, interim regulation to formally designate China's DNA and to define the domestic approval pro- CDM potential (volume, price) must also be cedures for CDM projects is under preparation taken into account in considering priority sectors and expected to be adopted in the first half and project types. Through the IPAC-AIM tech- of 2004. nology model simulation of the entire Chinese · The government is also developing additional economy, the study concluded that the largest bilateral cooperation programs with foreign CDM potential would exist in the electric power governments and international organizations sector, which attributed to China 50 percent in facilitating the development and implemen- of the total CDM potential of 25­117Mt CO2 tation of CDM projects. annually per year in 2010. The case studies dem- · A national CDM website is under development onstrate that under prevailing market conditions, and will be ready soon to provide both domes- the added value of CER sales under current mar- tic and foreign CDM developers the necessary ket prices will be insufficient to cover the incre- information. mental costs of four of the six power projects · China has a member on the CDM Executive analyzed. Only the landfill gas recovery and power Board for 2004­06, had an alternate member generation project ($3.9/tCO2) and perhaps the on the CDM Executive Board for 2001­03, supercritical coal-fired project ($8.5/tCO2) would and has a member on the CDM Executive appear viable CDM projects on their own.5 Board's Methodology Panel. These advantages In the provinces in which the six case study have been used to disseminate relevant infor- projects are located, the share of thermal power mation, in particular the updated progress in generation ranges from 85 to 100 percent, most these two bodies. of which is coal-fired. As the use of advanced C D M I N C H I N A 131 C H I N A ' S C D M P O T E N T I A L technology can increase the efficiency of coal- (15 percent collectively), and non-CO2 projects fired power generation significantly, it would be (remaining 10 percent of total potential). Further logical to seek ways to ensure that new thermal in-depth analysis of emission reduction potential power generation is as efficient as possible. How- across sectors and for individual technology ever, at current market prices, the additional options is needed to improve the reliability of financial incentive that could be derived from these estimates. sales of CERs is simply insufficient to encourage Further work is also needed to assess the rela- enterprises in the energy supply sector (backed tive attractiveness of sectors and generic project by the incremental cost calculations for the case types. It might be instructive to qualitatively assess studies) to reconsider alternative, climate-friendly factors such as the ease of baseline setting (data project designs for mid- to large-scale electric availability, complexity of project, grid data), ease power generation projects, which they would of demonstrating additionality, the incremental have excluded at the outset of their project design costs, the total amount of greenhouse gas re- process (due to factors such as lack of access to ductions, project ownership characteristics, the capital to cover incremental costs, insufficient potential for replication, and the contribution to return on investment, high transaction costs, or sustainable development for the detailed case high risk). To overcome this dilemma, energy studies prepared under this study, as well as for supply companies suggested that CDM financ- other projects evaluated under other cooperation ing could be applied in the context of clean and programs. efficient energy demonstration projects that are promoted by the Chinese Government through RECOMMENDATIONS preferential policy/regulations, financial incen- tives, subsidies, etc. (see Annex 7 in the attached China's CDM Strategy, Policy, and CD-ROM). It should be possible to demonstrate Implementation Plans the additionality of such projects, as the tech- nologies concerned are neither widely imple- Based on the current state of advancement of mented nor commercially viable under current China's CDM strategy, policy and implementa- national circumstances in China. Such combined tion, and the insights gained from the China incentives could make selected climate-friendly CDM study, it is recommended that China: electricity generation projects attractive to proj- Adopt a proactive and sustainable ect owners, because they would be sufficient to CDM policy cover both the incremental and transaction costs associated with CDM project activities. CDM Sustainable CDM alone cannot cover the full incremental costs of The main driver for China's participation in the most mitigation projects in the energy supply CDM is the promise of local sustainable develop- sector. And with additional CDM finance, the ment benefits in support of China's sustainable limited government financial incentives could development strategy, which is a high priority of have a bigger demonstration impact, also with the government. This study has shown that prop- regard to co-benefits associated with promotion erly selected and designed CDM projects can of cleaner technologies. provide financial leverage to speed technology In addition to the power sector, it is assumed progress (access to advanced technologies, tech- that China's CDM potential is distributed among nology localization, and diffusion) in the electric- the steel and cement industries (10 percent of ity generation and energy end-use sectors. The CDM potential each), the chemical industry resulting co-benefits can have significant long- (5 percent), other industries and end-use sectors term effects on economic growth and quality of 132 C D M I N C H I N A P O L I C Y I N S I G H T S A N D R E C O M M E N D A T I O N life in China. Yet not all projects that might be implications of benefit-sharing and CER pric- eligible under the CDM make an unambiguous ing arrangements between buyers and sellers, contribution to local sustainable development, and promoting the consideration by project so it is imperative that the Chinese Government proponents of these aspects in their negotia- project approval process encourage this policy tion of CDM deals. coherence, for example, by providing clear guid- · Integrating CDM into the sustainable develop- ance on project eligibility to potential project ment strategy and action planning in the sectors developers. (especially the energy sector and energy inten- To achieve sustainable CDM we recommend: sive industrial sectors). Such initiatives could on one hand ensure maximizing the CDM bene- · Defining the desired performance outcome of fits in achieving the sustainable development, the approval process as precisely as possible. and on the other hand, could ensure not losing Initially, some experimentation with the full the CDM opportunity for China during the range of approaches to sustainable development first commitment period, which need to prepare assessment--such as positive or negative tech- and initiate considerable number of CDM pro- nologyorprojectcategory lists; decision analysis jects in the earlier stage. Many relevant energy frameworks for multi-criteria analysis of proj- programs or initiatives (such as clean and ef- ects; inclusion of SD indicators/performance ficient energy action plan, renewable energy standards in CDM project MVPs; and applica- promotion initiative, fuel switching power pro- tion of standards, such as the Gold Standard-- jects, localization program of the super critical could be considered. However, it is important power technology, etc.) are already in place that that the performance indicators at the outset could be a source of projects potentially eligible take into account such practical issues as trans- under the CDM. In the absence of the CDM, action costs to government and other stake- those demonstration projects, which contribute holders, human resource requirements, cred- to climate protection, are dependent on Chi- ibility, and replicability/certainty to project nese Government financial support. Until they developers/investors. So the evaluation system are widely introduced and as long as they re- should be transparent, robust, and lean. Based quire significant Government subsidies to be on early experience gained, the government may financially viable, they could demonstrate addi- wish to limit or prescribe acceptable approaches tionality under the CDM, but this is a limited (for example, at the time the CDM Directive is window of opportunity. finalized). · Developing a strategy to enhance the contribu- · Influencing the international rules for the tion of the CDM to advanced technology CDM. As a major player in the CDM mar- demonstration in the energy sector. For exam- ket, China has the opportunity to ensure that ple, the accelerated introduction of clean coal CDM rules reflect Chinese circumstances and technologies in the coming decades, includ- are supportive of domestic policy priorities. ing overcoming the substantial barriers to their One example is the consideration of the addi- introduction, is needed. Similarly, renewable tionality of new and renewable power genera- energy projects depend on effective regula- tion or energy efficiency projects that receive tions that require electricity grid operators to financial support from the Chinese Govern- purchase electricity at guaranteed prices, as is ment6 (see discussion on the application of already the case in some deregulated markets. CDM finance to demonstration projects). Levying lower VAT taxes on electricity sup- · Building awareness among host country proj- plied to the grid by renewable energy projects ect proponents of the sustainable development could also improve the economic viability of C D M I N C H I N A 133 C H I N A ' S C D M P O T E N T I A L potential CDM projects. Synergies between the interim regulation soon.7 The government CDM and domestic policy priorities appear to should also consider establishing the necessary be underutilized by the responsible authorities institutional arrangements to allow the official at present. approval of CDM projects, as required for vali- dation under the Kyoto Protocol, and issue pro- Proactive CDM implementation cedures for project developers.8 This study has shown that China must act rapidly Clear rules are one of the major prerequisites to facilitate generation of a substantial pipeline of for private sector initiative in developing CDM CDM projects--on the order of hundreds in the project ideas. Such an institutional framework power generation sector alone--within the next has already been elaborated, but needs to be offi- several years if it is to capture its potential CDM cially approved and publicly announced, before market share. In addition, some attractive CDM projects can be officially processed. It is also essen- opportunities will disappear in the mid-term due tial to create a regulatory framework/legal system to technology localization. for CDM business operation in the carbon A proactive approach to capture CDM oppor- credit market. The regulatory framework/legal tunities could involve, for example, the screening system should preferably not be separate or inde- of projects during normal project permitting pendent from the current existing system, but may and/or approval procedures by government offi- just add some CDM-related components or terms cials for potential CDM projects and notification as a supplementary appendix. Industrial stake- of CDM opportunities to the project owners. holders insist that given the new nature of the This would capture CDM opportunities at an CDM trading business, they are not able to parti- early enough stage to make it feasible to integrate cipate in CDM project activities without govern- additional CDM project preparation and approval ment documentation to secure their legal interests. tasks in the normal project cycle. It also implies Furthermore, the government must keep active government efforts to raise awareness of informed of CDM developments and build and CDM opportunities, build the essential capacity maintain adequate capacity to approve and regu- for CDM implementation by governments and late the CDM process, as well as to analyze out- enterprises, promote international rules that sup- standing CDM policy issues from a strategic port China's CDM strategy, and create an institu- perspective. tional and regulatory framework that is effective, but keeps transaction costs to a minimum. Ensure that critical capacity is developed Based on the current status of CDM in China, a Immediate Steps to Facilitate particularly critical focus at present should be CDM Transactions on continued capacity building, including local To implement a proactive and sustainable CDM public awareness, local promotion centers, and strategy that will allow China to capitalize on intermediate agents. Following up on previous CDM opportunities during the first commitment assessments (such as World Bank 2003), the period of the Kyoto Protocol, China will have to China CDM study identified comprehensive develop a comprehensive plan of action that will institutional, financial, technological, and human address the need to: resources needs for capacity building and policy initiatives. Through the case study analysis, which Provide basic services to allow involved cooperation with power plant owners CDM in China in five different regions, it became evident that The Government of China should consider knowledge of climate change, the Kyoto Proto- announcing its policy and putting in place its col, and the CDM was much lower--or non- 134 C D M I N C H I N A P O L I C Y I N S I G H T S A N D R E C O M M E N D A T I O N existent--in areas far from Beijing. To build base for CDM project proposals, to establish a awareness throughout China would be a massive CDM web site, and to build capacity for the undertaking, and may not be effective or realistic, negotiation of CDM project deals. given time and resource constraints. Instead, train- · Build awareness at the strategic level among ing to encourage CDM project preparation efforts decisionmakers at state-owned and private should be directed at promising sectors or proj- enterprises of CDM opportunities, perhaps ect technology types. in collaboration with business associations/ Given the unique nature and complexity of the networks. CDM, which is still at an early stage, we recom- · Enhance viable CDM project development by mend building a modest CDM "infrastructure" local promotion centers and intermediate that is aimed at building and/or strengthening agents. local capacity for CDM project development and · Enhance the CDM financing modality and car- implementation. This infrastructure should: bon offset deal-making in the carbon market. · Elaborate negotiation models for sharing of · Facilitate the organizational development and risks, costs, and benefits of CDM projects with networking of CDM technical support centers/ Annex B investors. In addition, enhance nego- entities, which should be professional and expe- tiation skills to maximize the local benefits of rienced institutions to provide consultant CDM transactions in host countries. services for identification of eligible CDM pro- jects and PDD development for the project Co-financing options and partnerships for proponents, who could thus avoid doing this these initiatives could be sought from multi- and complicated job on their own. bi-lateral development cooperation programs, · Establish a CDM business center network, the local and foreign private sector, and centers which could help project proponents to estab- of excellence. lish a project pipeline and to carry out CDM business activities in the whole CDM project Encourage CDM project identification cycle. Project proponents could thus save sig- and implementation nificant transaction costs and reduce CDM Although the case studies for the current China related risks. CDM study were originally performed as a means · Bridge foreign investors and local partners. of building understanding of CDM concepts and Given that several bilateral or multilateral CDM methods and providing an opportunity for hands- funds have been or will be in place to provide on application of this know-how to real project financial support to the qualified CDM project ideas, they may also provide information that proposals, we recommend building bridges could lead to the rapid identification of demon- between foreign investors and local partners to stration CDM projects. The same may be true of promote promising project options in priority similar study projects analyzed under other areas with significant GHG emission reduction cooperation programs. potential. As suggested above, China should consider · Establish and further improve as soon as pos- how to apply CDM financing in the context of sible the critical national capacity to develop clean and efficient energy demonstration pro- high quality PDDs for Executive Board review jects promoted by the Chinese Government (at of methodology. the national, provincial, and municipal levels) · Enhance the institutional framework and CDM through preferential policy/regulations, financial management at the national and local levels. incentives, and subsidies. It should be possible to This would include assistance to design a data- demonstrate the additionality of such projects, C D M I N C H I N A 135 C H I N A ' S C D M P O T E N T I A L as the technologies concerned are neither widely from among similar guides that have already been implemented nor commercially viable under developed by other CDM host countries, some of current national circumstances in China. Such which would require only minor modifications projects could be launched without delay and to be relevant and appropriate in the Chinese should receive high priority, since rules for such context.9 projects are under consideration by the CDM Executive Board. Longer-term Considerations New CDM proposals initiated by the pri- vate sector should also be encouraged. To quickly Consolidate results / enhance synergies capture CDM opportunities, we recommend across CDM initiatives (1) reaching out to international corporate sector As summarized in the previous section, many key players, who have already announced their CDM-related activities are currently ongoing in interest to go for JI/CDM as part of their company China, ranging from capacity building, to policy emission trading; and (2) screening through nor- analysis and project development. A great, largely mal project permitting and or approval proce- untapped synergy potential thus exists among the dures for potential CDM projects and notifying various activities that could be further developed, project owners accordingly. This would raise for example, through sharing and disseminating awareness and capture CDM opportunities at an the know-how gained and lessons learned. Studies early enough stage to make it feasible to inte- of CDM potential, such as the present one-- grate additional CDM project preparation and which have each tended to focus on a different approval tasks into the normal project cycle. It sector, region, or project type--should be consol- would also focus efforts on project ideas that idated to ensure consistency of results and to are already well-developed and likely viable for obtain an overall picture of Chinese CDM poten- implementation in the 2005­ 07 timeframe. tial. Appropriate local CDM networks, knowledge In addition to awareness-raising at the level of management systems, and know-how transfer decisionmakers and basic CDM skill training for platforms could foster the desired consolidation technical experts (see above), a China CDM Busi- and synergies among diverse CDM stakeholders, ness Guide for potential project developers and and would also provide a much stronger basis for owners, drafted with their needs and capacities in CDM project development. mind, could help them identify and pursue CDM The numerous CDM activities in China in- project opportunities. The CDM is quite com- volve many institutions, individual experts, plex, and many private sector decisionmakers are foreign donors, and, increasingly, private enter- overwhelmed. While large companies generally prises. A professional knowledge management have the resources and can build the skills to system and an outcome-oriented (performance- devote to project development, smaller compa- based) system to manage CDM-related capacity nies and institutions might not. Such a guide building initiatives could ensure optimal use of should provide comprehensive, yet concise infor- scarce resources. mation on how to identify, analyze, and develop projects; manage risks; obtain project financing; Undertake follow-up analysis on key issues seek domestic and international project approvals; As is often the case, the research conducted under and implement and monitor CDM projects. It the China CDM study has raised many additional would also lower transaction costs for potential issues that require further study. Although they CDM investors/CER purchasers. For this task, may have a long lead time (data requirements, China can build on the most relevant material study duration), some of them are quite urgent, as 136 C D M I N C H I N A P O L I C Y I N S I G H T S A N D R E C O M M E N D A T I O N they are linked to CDM implementation issues, CDM transaction costs and incentives and should be initiated as soon as possible. The for enterprises issues identified over the course of the China · Explore opportunities to reduce transaction CDM study range from work on outstanding costs--for example, by developing regional, domestic and international CDM policy issues grid-level baselines for power projects, or base- to questions of the practical implementation of line methodologies for the most promising CDM projects in China, but this list is only large power project types, taking advantage of indicative: international donor support. · Investigate the potential contribution of CDM Policy issues to project finance under two basic models: · Advantages and disadvantages and possible (1) up-front investment by CER buyers, com- modalities for CDM co-financing of govern- bined with Power Purchase Agreements (PPA) ment-subsidized advanced technology and on GHG emission reduction credits; and renewable energy demonstration projects. (2) using CDM CERs PPA as a financial guar- · International and Chinese CER taxation policy. antee to apply for soft loans from domestic · Development and testing of multi-criteria banks. decision-analysis systems to ensure transparent, · Evaluate approaches to effectively bundle consistent, and efficient project approval pro- smaller-scale climate mitigation projects (energy cedures that ensure the consistency of CDM efficiency, energy-to-waste, and renewable en- projects with China's sustainable development ergy projects in power generation; small-scale priorities. Such systems have already been tested by other host countries and could offer a start- industry; rural and urban transport; and com- ing point. mercial sectors), for which transaction costs · Sustainable development implications of apply- would otherwise be prohibitive to commercial ing the CDM to projects to reduce the emission investors. of greenhouse gases with high global warming · Investigate models and develop Chinese potential, such as HFC-23 and N2O. strategies for CDM benefit and risk sharing among project partners, considering appro- Chinese CDM potentials and priorities priate price formation modalities, given the · Improve the robustness of (regional and coun- volatility in CER prices over time. trywide) marginal abatement cost curves for China. Evaluate results considering up to date Endnotes/References international MAC information. 1. With the exception of GDP effects and carbon dioxide · A combination of capacity building and analy- emission reductions, the study did not quantify these sis to work with government officials to estab- important co-benefits at the macro level. Some of the lish technology priorities, building on previous case studies, however, did provide quantitative estimates cooperation in specific sectors, such as electric- on reduction potentials in air pollutants such as SO2, ity generation, steel, and chemicals. This could NOx, and dust, and one involved methane emission reductions as the main source of CERs. lead to CDM handbooks and targeted capac- 2. These emission reductions will also contribute to better ity building for priority sectors and project health conditions. types. 3. In the light of the bottom-up analysis, the upper bound · Development and application of tools to qual- of the projected CDM potential of 117 MtCO2 is diffi- cult to achieve, mainly due to the short time span avail- itatively and/or quantitatively evaluate the able up to 2010 (time lag associated with technology local sustainable development co-benefits of diffusion) and the constraints in the development of a potential/actual CDM projects. sufficiently large pipeline of CDM projects. C D M I N C H I N A 137 C H I N A ' S C D M P O T E N T I A L 4. In practice, sharing the producer surplus (which results stration projects may represent a viable channel to facil- when the equilibrium price exceeds the incremental itate rapid CDM project identification and investment abatement cost) between the host country project owner in China's energy supply sector, so China should actively and the CDM investor/CER buyer is a matter of nego- contribute to the work of the Methodology Panel on this tiation and will affect the profit achieved by the former point. and the cost savings to the latter. 7. This was already initiated at a side event at the COP9 in 5. It is anticipated that the specific abatement costs for super- Milan in December 2003. critical plants will drop in the future, as increased local 8. Such an institutional framework consists of three main manufacturing of power plant components reduces capi- entities: (1) the National Coordination Committee for tal investment cost. Climate Change; (2) a National CDM Project Board; 6. The CDM Executive Board will be considering re- and (3) a designated national authority. Similarly, the commendations from its Methodology Panel (in which general requirements for CDM project approval, as well China is represented) on avoiding perverse incentives as the approval procedure, have been outlined in detail, associated with CDM baseline methodologies that would but not yet approved. disadvantage or create disincentives for countries that 9. See, for example: Spalding-Fecher, Randall, 2002: The implement domestic policies intended to reduce local CDM Guidebook--A Resource for Clean Development environmental externalities in ways that also result in lower Mechanism Project Developers in Southern Africa. Cape GHG emissions. Many of China's energy technology Town: Energy and Development Research Centre, Uni- promotion efforts fit this definition and such demon- versity of Cape Town. 138 C D M I N C H I N A Epilogue CDM Conference Report INTRODUCTION effect (see Annex 4). The interim measures provided for the official designation of the To present the results of this study, the Chinese National Development and Reform Commis- Government--in cooperation with the World sion (NDRC) as the Chinese National Author- Bank, the GTZ, and supported by the Govern- ity for the CDM, thus paving the way for host ments of Germany and Switzerland--hosted an country approval of Chinese CDM projects. international conference in Beijing on July 1 and Conference participants were able to interact 2, 2004 (see Annexes IX and X in the CD-ROM with the newly appointed Chinese DNA con- attachment). The meeting marked the conclu- tact person, Mr. Gao Guangsheng (Director sion of the study and provided an opportunity General, NCCCC, NDRC), as well as other for Chinese and international experts to discuss: NCCCC members. · The main results and recommendations of the China CDM Study CONTEXT FOR CDM IN CHINA · The current development of carbon markets and the Clean Development Mechanism Anthropogenic climate change is intimately · China's new policies and institutional arrange- linked to sustainable development, and par- ments for CDM application ticipants at the conference--ranging from gov- · Proactive strategies to remove CDM imple- ernment authorities to development banks, mentation barriers academic researchers, and private sector repre- · Future plans for both formal and information sentatives from a range of sectors--expressed the cooperation. view that climate change is an issue that will be with us for a long time to come. July 1st proved to be a significant day for the CDM in China. In addition to the China CDM "The lifetime of the CDM will be longer than that of the conference, which was attended by about 250 Kyoto Protocol, which is only a first step (until to 2012); Chinese and international experts, the Chinese climate change mitigation is a long-term task." National Climate Change Coordination Com- Gao Guangsheng, NCCCC, NDRC mittee (NCCCC) held its annual meeting, and new "Interim Measures for the Management of Whether or not the Kyoto Protocol will be CDM Project Activities" in China went into the international framework of choice in the C D M I N C H I N A 139 C H I N A ' S C D M P O T E N T I A L period after the first commitment period ends in system on January 1, 2005, provided sufficient 2012 is less certain, but Chinese authorities and foundation for the Government of China to other participants nonetheless expressed their adopt a proactive policy toward the CDM that firm belief that the Clean Development Mecha- is consistent with recommendations in the nism would play an important role in future China CDM Study. global efforts to mitigate climate change. China and other developing countries thus intend to "We are at a critical juncture in China with respect to seek to integrate the CDM into future agree- both reform efforts and sustainable development chal- ments beyond 2012 and to promote and expand lenges. The CDM can help overcome some of the severe carbon markets. bottle-necks, such as electricity shortages, that may oth- Policy remarks by the chairman and members erwise prevent us from attaining our goal of an all of the China NCCCC, as well as a panel dedi- around well off society by 2020. Thus China can take cated to a discussion of "Challenges and Oppor- advantage of the CDM to facilitate the necessary scien- tunities for China CDM," demonstrated that tific approach to development." China regards the CDM as an important instru- Gao Feng, Department of Foreign Affairs ment to enable developing countries to fulfill their "common, but differentiated responsibil- In general, participants expressed confidence ity" under the UNFCCC to reduce their green- and optimism about future CDM development, house gas emissions, while at the same time noting the greater than anticipated conference addressing local sustainable development chal- participation, the active interest shown by both lenges. Chinese and foreign experts, the broad repre- sentation of stakeholder groups, the tremendous "The CDM will be an essential tool for equitable climate learning that had gone on in a very short time, change mitigation . . . China has taken a major decision the fact that the Chinese Government had put to enter into CDM by issuing rules of the game." in place the necessary institutional prerequisites Maria Teresa Serra, The World Bank for CDM implementation, and the significant opportunities that the CDM offers to make To realize the promise of the CDM, however, progress on climate change. The China CDM carbon markets must expand significantly, Study was regarded by Chinese authorities to be which is only possible if the United States, Aus- of great significance to China, and the confer- tralia, and others eventually participate. Chinese ence marked a turning point from study to authorities expressed their gratitude to the implementation. member states of the European Union for their leadership in the global effort to mitigate global INTERIM MEASURES AND climate change. Without ratification of the IMPLICATIONS FOR CDM IN CHINA Kyoto Protocol by either the United States or the Russian Federation, the value of Certified Statements made by officials confirmed that the Emission Reductions (CERs) is largely depen- Chinese Government has fully embraced a dent on demand from the EU Emission Trading "proactive and sustainable" approach to the Scheme (EU-ETS), which is therefore crucial to CDM and is providing significant support. The carbon market development. referred interim management measures repre- The conviction that the CDM is a "win-win" sent a crucial first step. According to the Chinese proposition and that carbon markets will expand authorities, the rationale for adopting interim in the future, coupled with the EU plan to rules, as opposed to more permanent arrange- implement a Community-wide emission trading ments, is to retain flexibility to fine-tune rules, 140 C D M I N C H I N A P O L I C Y I N S I G H T S A N D R E C O M M E N D A T I O N based on experience gained through the imple- 100% foreign owned enterprises, but the issue requires mentation of CDM projects, before they are further consideration, and we welcome your views on finalized in a planned CDM Management these difficult issues." Decree to be approved by the State Council. Lu Xuedu, Division of Resources and Environment, This approach balances the desire to act rapidly Ministry of Science and Technology to implement CDM projects with prudence and a "learning-by-doing" approach to ensure sus- The idea behind the concept of benefits shar- tainable development benefits. ing between enterprises and the state, for exam- ple, is that priority projects with high sustainable "CDM development in China has moved from theory to development benefits, such as renewable energy project level implementation." projects, will not be "taxed" at all, whereas pro- Wang Zhongjing, International Department, jects with relatively low sustainable development Ministry of Finance benefits and low costs (such as HFC-23 decom- position at under $1 per ton of CO2e) would Sun Cuihua (Division Director, NCCCC, have to deliver some revenues to the state. Many NDRC), provided an overview of the Interim participants viewed this provision as an eco- Measures for the Management of CDM Project nomic instrument to allow China to channel Activities in China, including general rules, CDM investment to priority CDM projects, admission requirements, institutional arrange- thereby retaining responsibility for ensuring the ments, project approval procedures, and several sustainable development benefits of CDM pro- other miscellaneous items (see annex 4). These jects that apply baseline methodologies that have provisions are largely consistent with the pre- already been approved by the CDM Executive liminary information published in the China Board. Participants noted that the key to the CDM Study, with two notable additions, which success of such an approach is transparency, con- raised particular concerns among foreign partic- sistency, and predictability, as well as the actions ipants and potential investors and intermedi- of other host countries. aries, namely: OVERCOMING BARRIERS TO CDM · The requirement that the project developer* IMPLEMENTATION IN CHINA shall be a wholly China-owned or China-con- trolled enterprise Participants benefited from a lively panel discus- · The plan to regulate the sharing of benefits sion dedicated to "Industrial Sector Views on between the project developer* and the Chi- Barriers to and Incentives for CDM," as well as nese Government (with the benefits to be the active participation of many representatives owned solely by the project developer prior to of private enterprises throughout the conference. the determination). The key barriers to CDM implementation are divided between those specific to the Chinese The Chinese authorities believe that greater context and more universal barriers. consideration of these important issues is needed Among the serious universal barriers to active and that final decisions should be based on prac- engagement of the private sector in the CDM, tical experience. participants highlighted a lack of market demand--linked to continuing international "The intent [of the Interim Measures] is to reflect the and Annex I domestic regulatory uncertainty spirit of the CDM, not to create barriers to CDM invest- and a lack of political will for some major play- ment . . . The door is not closed for CDM hosting by ers to participate--as well as complex/uncertain C D M I N C H I N A 141 C H I N A ' S C D M P O T E N T I A L rules, high transaction costs (in particular, with mental authorities to clarify the role that CDM respect to small-scale projects), and a lack of can play in implementing priority sustainable up-front funds for project development. development projects; for example, the role of small-scale CDM in alleviating poverty in rural "The potential for CER financing of projects that would China, the CDM contribution to renewable otherwise have been left aside (e.g. renewables) needs to energy projects, the use of advanced coal-fired be seen against perceived market and regulatory risk." power plant technologies, or energy efficiency/ Kai-Uwe B. Schmidt, Cooperative Mechanisms, energy auditing efforts. UNFCCC Secretariat Although the China CDM study only inves- tigated case studies in the power sector (see Many Chinese players (and the China CDM below), private sector participants expressed Study) pointed out that current "market prices" interest in exploring CDM potential in other (< $5/t CO2) are simply too low to cover the full sectors, such as industry (e.g., chemicals, incremental costs of implementing many types cement), commercial and residential buildings, of CDM projects, and that the CDM therefore and sinks. can only facilitate additional climate mitigation in combination with other incentives. Despite the significant mitigation cost savings that the THE POWER SECTOR CDM can represent for some investors, it is Despite the critical importance of the power unlikely that the demand side will be willing to sector for China's future development and its share these savings with host countries, given dominant impact on Chinese greenhouse gas the availability of EU emission allowances at emissions (approximately 40 percent), the sec- 7­8/ton CO2e. As a result, Chinese authorities have been tor was prominent in its absence. This reflects reluctant to encourage industry to enter into the reservations about the CDM due to a range of CDM. Awareness of climate change and the factors: CDM are concentrated in a small pool of experts, centered geographically on Beijing, and CDM · Lack of awareness of the CDM at the strategic has yet to be demonstrated in practice in China. level. Although some individual power plant Recent efforts to overcome information barriers operators have shown an interest in exploring included the launch of a China CDM web site CDM opportunities, strategic decisions at the (www.cdm.ccchina.gov.cn), the establishment of corporate level are needed. CDM centers at the provincial level (such as the · Uncertainty and skepticism about the finan- Ningxia CDM Service Center), and the develop- cial benefits of CDM, coupled with up-front ment of new CDM training programs in cooper- CDM project development costs. ation with international partners. · Recognition that the CDM--under current Enterprises in China also mentioned the market conditions--can only add a small per- "paradox of additionality" (i.e., the fact that at centage to a major power project's IRR. low CER prices, projects that are clearly addi- · Lack of government guidance on the CDM tional are not viable, as the CDM does little to project approval process in relation to existing raise IRR to levels required for host government requirements for Chinese power plant and financial institution approval) and the need approval (which may run counter to addition- to clarify how CDM approval procedures can be ality, as projects must be financially viable and integrated into existing domestic approval employ proven technology to receive NDRC processes. More needs to be done by govern- approval). 142 C D M I N C H I N A P O L I C Y I N S I G H T S A N D R E C O M M E N D A T I O N "Recent and projected electricity shortfalls are being FUTURE ACTIVITIES IN COOPERATION met by mass production of coal-fired power stations WITH FOREIGN PARTNERS manufactured in China, and no one is looking at Another panel--"Efforts to Promote CDM by CDM opportunities . . . There is an urgent need for Donor Organizations and Buyers"--demon- strategic awareness raising and institutional capacity strated that there was readiness on all sides to building." continue cooperation. Donors (e.g., UNDP Paul Suding, GTZ (German Technical Cooperation), CDM Capacity Building Program, ADB CDM Beijing Facility, METI Japan, GTZ), buyers (e.g., Ger- man KfW Carbon Fund, Italian Carbon Fund, Due to pressures resulting from increasing World Bank Carbon Finance funds), and inter- power shortages, which threaten China's eco- mediaries expressed interest/willingness to pur- nomic development, and the frantic pace of chase CERs in China, now that rules of the game power plant construction, the CDM has not have been published. been considered a priority, but participants pointed to the strategic significance of this sec- "The objective of China's future CDM actions is to tor and the need to give immediate considera- build gradually an excellent cooperation environment, tion to means of leveraging the CDM to including clear policies, transparent and efficient man- contribute to a more sustainable energy supply. agement service and capable technological consultancy Engaging the power sector is also a prerequisite for CDM project cooperation and implementation with for developing standardized, regional baselines, foreign partners." which would help lower transaction costs. Both Lu Xuedu, Division of Resources and Environment, aspects require government leadership. Ministry of Science and Technology C D M I N C H I N A 143 A N N E X A1 Decisions by the COP and the CDM EB after COP 7 up to the 12th CDM EB Meeting Relevant to Methodological Issues Meeting Issues Decisions EB 3rd Further clarification on 1. Renewable energy (15MW): an indicative list of energy definitions of eligible sources/eligible project activities; output defined as small-scale CDM installed/rated capacity as indicated by the manufacturer; MW as project activities MW(e) (not MW(p) or MW(th)); (Annex 2) 2. Energy efficiency improvement project activities: an indicative list of eligible project activities/sectors; 3. 15 GWh=54TJ 4. Other types: shall not exceed total direct emissions of 15kt of CO2 equivalent annually and must reduce GHG emissions. 5. Three types of project activities are mutually exclusive; for a proj- ect activity with more than one component to benefit from SMP, each component shall meet the threshold criterion of each applicable type; Background: (i) Renewable energy project activities with a maximum output capacity equivalent of up to 15 megawatts (or an appropriate equivalent); (ii) Energy efficiency improvement project activities that reduce energy consumption, on the supply and/or demand side, by up to the equivalent of 15 gigawatt/hours per year; (iii) Other project activities that both reduce anthropogenic emissions by sources and directly emit less than 15 kilotons of carbon dioxide equivalent annually; EB 5th Baseline and 1. Paragraph 43 of the CDM modalities and procedures stipulate that additionality a CDM project activity is additional if its emissions are below those (Annex 3) of its baseline. The definition of a baseline is contained in para- graph 44 of the CDM modalities and procedures. The Executive Board agreed that no further work is required regarding this issue. Background: 43. A CDM project activity is additional if anthropogenic emissions of greenhouse gases by sources are reduced below those that would have occurred in the absence of the registered CDM project activity. (continued) C D M I N C H I N A 145 A N N E X 1 Meeting Issues Decisions Background: 44. The baseline for a CDM project activity is the scenario that reasonably represents the anthropogenic emissions by sources of greenhouse gases that would occur in the absence of the proposed project activity. A baseline shall cover emissions from all gases, sectors, and source categories listed in Annex A within the project boundary. A baseline shall be deemed to reasonably represent the anthropogenic emissions by sources that would occur in the absence of the proposed project activity if it is derived using a baseline methodology referred to in para- graphs 37 and 38 above. EB 5th Baseline approaches / A methodology is an application of the approaches, defined in Methodology paragraph 48 of the CDM modalities and procedures, to an individual project (reflecting aspects such as sector and region). It further agreed that no methodology should be excluded a priori so that project participants have the opportunity to propose any methodology. In considering paragraph 48, the Executive Board agreed that, in the cases below, the following applies: (a) Case of a new methodology: In developing a baseline methodology, the first step is to identify the most appropriate approach for the project activity and then an applicable methodology. (b) Case of an approved methodology: In opting for an approved methodology, project participants implicitly choose an approach. The board agreed that the three approaches identified in para- graph 48 (a) to (c) are the only ones applicable to CDM project activities. Establishing a baseline in a "transparent and conservative manner" means that assumptions are explicitly explained and choices are substantiated. In case of uncertainty regarding values of variables and parameters, values that generate a lower baseline projection shall be used. The board agreed that no further work is required. Simplified Modalities & If the maximum reference value of a small-scale CDM project activ- Procedures ity is exceeded on an annual average basis during any verified period, CERs should be issued only up to the maximum value. COP8 Simplified Modalities & Modalities and procedures are simplified as follows: Procedures (a) Project activities may be bundled or portfolio bundled at the following stages in the project cycle: the project design docu- ment, validation, registration, monitoring, verification, and cer- tification. The size of the total bundle should not exceed the limits stipulated in paragraph 6 (c) of decision 17/CP.7. (b) The requirements for the project design document are reduced. (c) Baselines methodologies by project category are simplified to reduce the cost of developing a project baseline. (d) Monitoring plans are simplified, including simplified monitoring requirements, to reduce monitoring costs. (e) The same operational entity may undertake validation, and ver- ification and certification. (continued) 146 C D M I N C H I N A A N N E X 1 Meeting Issues Decisions A simplified baseline and monitoring methodology listed in Appendix B (of the simplified M&P) may be used for a small-scale CDM project activity if the project participants are able to demonstrate to a designated operational entity that the project activity would otherwise not be implemented due to the existence of one or more of the barriers listed in attachment A of Appendix B. ( (a) Investment barrier: a financially more viable alternative to the project activity would have led to higher emissions; (b) Technological barrier: a less technologically advanced alter- native to the project activity involves lower risks due to the performance uncertainty or low market share of the new technology adopted for the project activity and so would have led to higher emissions; (c) Barrier due to pre- vailing practice: prevailing practice or existing regulatory or policy requirements would have led to implementa- tion of a technology with higher emissions; (d) Other barriers: without the project activity, for another specific reason identified by the project participant, such as institutional barriers or limited information, managerial resources, organizational capacity, financial resources, or capacity to absorb new technologies, emissions would have been higher.) Where specified in Appendix B for a project category, quantitative evidence that the project activity would otherwise not be implemented may be provided instead of a demonstration based on the barriers listed in attachment A to appendix B. COP8 Simplified Modalities & I. TYPE I - RENEWABLE ENERGY PROJECTS (continued) Procedures (continued) I. A. Electricity generation by the user I. B. Mechanical energy for the user I. C. Thermal energy for the user I. D. Renewable electricity generation for a grid II. TYPE II - ENERGY EFFICIENCY IMPROVEMENT PROJECTS II. A. Supply side energy efficiency improvements ­ transmission and distribution II. B. Supply side energy efficiency improvements ­ generation II. C. Demand-side energy efficiency programs for specific technologies II. D. Energy efficiency and fuel switching measures for industrial facilities II. E. Energy efficiency and fuel switching measures for buildings III. TYPE III - OTHER PROJECT ACTIVITIES III. A. Agriculture III. B. Switching fossil fuels III. C. Emission reductions by low-greenhouse gas emitting vehicles III. D. Methane recovery and avoidance EB 8th Information relevant to When proposing a new baseline methodology, the following infor- baseline methodology mation elements shall be covered and reported through annex 3 to be included in the of the CDM-PDD: PDD (a) Basis for determining the baseline scenario: · Explanation of how the baseline is chosen, taking into account paragraph 45 (e) · Underlying rationale for algorithm/formulae (e.g. marginal vs. average, etc.) · Explanation of how, through the methodology, it is demon- strated that a project activity is additional and therefore not the baseline scenario (section B4 of the CDM-PDD) (b) Formulae/algorithms shall specify: · Type of variables used (e.g. fuel(s) used, fuel consumption rates, etc.) · Spatial level of data (local, regional, national, etc.) (continued) C D M I N C H I N A 147 A N N E X 1 Meeting Issues Decisions EB 8th Information relevant to · Project boundary (gases and sources included, physical (continued) baseline methodology delineation) to be included in the · Vintage of data (relative to project crediting period) PDD (continued) (c) Data sources and assumptions: · Where the data are obtained (official statistics, expert judgment, proprietary data, IPCC, commercial and scientific literature, etc.) · Assumptions used Additional guidance on 1. Project participants wishing to select the "average emissions" the "average emissions" approach shall elaborate in their submission of a proposed new approach baseline methodology, inter alia, on: (a) How they determine "similar social, economic, environmen- tal and technological circumstances." (b) How they assess the "performance among the top 20 per cent of their category" defined as greenhouse gas emissions per- formance (in terms of CO2equ emissions per unit of output). 5. Project participants wishing to use this approach and a related approved methodology shall assess the applicability and use the most conservative of the following options: (a) The output-weighted average emissions of the top 20 per cent of similar project activities undertaken in the previous five years in similar circumstances. (b) The output-weighted average emissions of similar project activities undertaken in the previous five years under similar circumstances that are also in the top 20 per cent of all cur- rent operating projects in their category (i.e. in similar cir- cumstances as defined above). Proposed project If a proposed CDM project activity comprises different "sub-activities" activities applying more requiring different methodologies, project participants may for- than one methodology ward the proposal using one CDM-PDD but shall complete the methodologies sections (sections A.4.2, A.4.3, A.4.4. and B to E of the CDM-PDD) for each "sub-activity." Circumstances and 7. Paragraph 47 stipulates that "the baseline shall be defined in a modalities for way that CERs cannot be earned for decreases in activity levels operationalizing outside the project activity or due to force majeure." paragraph 47 of the 8. An output- or product-linked definition of baseline values (i.e. CDM modalities and CO2equ. per unit of output) shall be applied, unless the project procedures participants can demonstrate why this is not applicable and pro- vide an appropriate alternative. Guidance regarding If a proposed CDM project activity seeks to retrofit or otherwise mod- the treatment of ify an existing facility, the baseline may refer to the characteristics "existing" and "newly (i.e. emissions) of the existing facility only to the extent that the built" facilities project activity does not increase the output or lifetime of the existing facility. For any increase of output or lifetime of the facility which is due to the project activity, a different baseline shall apply. EB 9th Further clarification for 1. Decision tree: When drafting a proposed new baseline method- project participants for ology, project participants shall follow the following steps: drafting a proposal for a (a) Choose and justify why one of the approaches listed in para- new methodology graph 48 of CDM M&P is considered to be the most appropriate. (continued) 148 C D M I N C H I N A A N N E X 1 Meeting Issues Decisions EB 9th Further clarification for (b) Elaborate a proposal for a new methodology, i.e. an appli- (continued) project participants for cation of the selected approach to a project activity, drafting a proposal for a reflecting aspects such as sector, technology and region. new methodology The Board agreed that no methodology is to be excluded (continued) a priori so that project participants have the opportunity to propose any methodology which they consider appropriate. (c) Describe the proposed new methodology in Annexes 3 and 4 of the CDM-PDD taking into account guidance given by the Board at its fifth and eighth meeting as well as the informa- tion provided in the CDM PDD Glossary of Terms. (d) Demonstrate the applicability of the proposed methodology, and, implicitly, that of the approach, to a project activity by providing relevant information in a draft CDM-PDD. 2. In accordance with the Board's guidance at its eighth meeting, a proposed new methodology shall explain how a project activity using the methodology can demonstrate that it is additional. Project participants shall therefore describe how to develop the baseline scenario and "how the baseline methodology addresses...the determination of project additionality." In addi- tion, the methodology shall provide elements to calculate the emissions of the baseline. The project participants shall ensure consistency between the elaboration of the baseline scenario and the procedure and formulae to calculate the emissions of the baseline. 3. Drafting quality: Proposals should be written in a concise and clear manner. Important procedures and concepts should be supported by equations and diagrams. Non-essential informa- tion should be avoided. The Annexes 3 and 4 to the CDM-PDD shall not contain information which is related to the applica- tion of the proposed new methodology to the project activity for illustrative purposes. Project participants shall refrain from providing glossaries or using key terminology not used in the COP documents and the CDM glossary (environmental/ investment additionality), and from rewriting the CDM-PDD instructions. 4. Provide complete Annexes 3 and 4: All algorithms, formulae, and step-by-step procedures for applying the methodology shall be included here. These Annexes shall provide stand- alone replicable methodologies, and avoid reference to any secondary documents if they wish to convey essential informa- tion, except where considered absolutely necessary (e.g. model documentation). 5. Avoid repetitions: Do not unnecessarily repeat in the main CDM-PDD Sections A-E, submitted as a demonstration of the application of the proposed new methodology, text and methodological explanations already provided in the Annexes. The CDM-PDD Sections A-E are meant to provide information on the application of the methodology(ies) to the project activity. (continued) C D M I N C H I N A 149 A N N E X 1 Meeting Issues Decisions EB9th Further clarification for 6. Data requirements and sources: Clearly specify data requirements (continued) project participants for and sources, as well as procedures to be followed if expected drafting a proposal for a data are unavailable. For instance, the methodology could point new methodology to a preferred data source (e.g. national statistics for the past 5 (continued) years), and indicate a priority order for use of additional data (e.g. using longer time series) and/or fall back data sources to pre- ferred sources (e.g. private, international statistics, etc.). Use International System Units (SI units). 7. Titles: Provide an unambiguous title for a proposed methodol- ogy. Avoid project-specific titles. The title, once approved, should allow project participants to get an indication of the applicability of an approved methodology. Clarification on baseline 9. Electricity generation: Justification of exclusion of hydropower methodologies for from operating margin in the case of hydro-dominated grids: electricity generation If an electricity generation CDM project activity which uses an CDM projects operating margin methodology is connected to a primarily hydropowered grid, project participants who want to exclude hydropower from the operating margin must justify this explicitly. EB 10th Clarification on 1. As part of the basis for determining the baseline scenario, an additionality explanation shall be made of how, through the use of the methodology, it can be demonstrated that a project activity is additional and therefore not the baseline scenario. 2. Examples of tools that may be used to demonstrate that a proj- ect activity is additional and therefore not the baseline scenario include, among others: (a) A flow-chart or series of questions that lead to a narrowing of potential baseline options; and/or (b) A qualitative or quantitative assessment of different poten- tial options and an indication of why the non-project option is more likely; and/or (c) A qualitative or quantitative assessment of one or more bar- riers facing the proposed project activity (such as those laid out for small-scale CDM projects); and/or (d) An indication that the project type is not common practice (e.g. occurs in less than [