Enforcing compliance among sovereign nations is the
fundamental challenge of any international treaty. Essential to the success of the Kyoto
Protocol will be mechanisms that invite sovereign nations to report their emissions
performance with integrity, that provide incentives for sovereigns to comply with their
emissions limitation obligations, and that hold sovereigns accountable for any failures to
At the Workshop on the Kyoto Protocol Mechanisms, held in
Bonn in April 1999, which drew a number of experts from governments, academic
institutions, and environmental and business NGOs, all participating in their individual
capacity, experts from Switzerland and from the Environmental Defense Fund (EDF) put
forward proposals to address compliance. The EDF proposal focused on using a staged set of
progressively stringent accountability and compliance consequences to encourage
compliance, through a blend of "buyer" and "seller" liability. The EDF
proposal is described in "Cooperative Mechanisms and The Kyoto Protocol: The Path
Forward," available at www.edf.org.
Proposals on the same topic have been advanced by the World Wildlife Fund (WWF) (contact firstname.lastname@example.org) and by other organizations,
including Greenpeace. The proposal by the expert from Switzerland, which was referred to
in the Workshop and will be referred to here as "the Swiss proposal," focused on
leveraging compliance through rigorous annual reporting coupled with automatic
restrictions on exports of emissions units. The Swiss proposal is described below.
Following these presentations, a number of experts at the
Workshop recommended a fusion of the two proposals. After summarizing the Swiss proposal,
this article proposes a set of eight rules that fuse the Swiss and EDF proposals. A set of
"Annual Reports of Emissions and Transactions," and a five-year "Emissions
Budget Balance Sheet" for a hypothetical Annex B Party, illustrate the operation of
these eight rules in practice.
The Swiss Proposal. The Swiss expert proposed
that no Annex B Party should be allowed to sell or "export" assigned amount
units (AAUs) under Kyoto Protocol Articles 3.11 and 17, emissions reduction units (ERUs)
under Articles 3.11 and 6, or certified emissions reduction units (CERs) acquired by it
under Article 12 (collectively, "emissions units"), unless it could show, on an
annualized basis, that the emissions units it sought to sell were "extra," i.e.,
that the Party would not need those units to comply with its emissions limitations during
that year. The determination of whether the units were "extra" would be made by
comparing the Partys actual emissions for each budget year with the amount of
allowable emissions units it held in its emissions budget account for that year. The Swiss
proposal assumed that each Partys total allowable emissions would be divided by five
(the number of years in the budget).
For the first year, it would be impossible to tell whether
any emissions units were "extra" in relation to actual emissions until the end
of the year, when the first years actual emissions were counted. Accordingly, under
the Swiss proposal, no sales or exports of AAUs/ERUs/CERs could take place during the
first year of the five-year emissions budget. For each year after the first year, an Annex
B Party could only export "extra" AAUs, ERUs, or CERs, i.e., units "left
over" from the preceding year. For example, if in the first year of the five-year
emissions budget, an Annex B Partys actual emissions were less than one-fifth of its
assigned amount, then, in the second year, the Annex B Party could sell or export those
extra or left over units. If, in the second year of the five-year budget, the Annex B
Partys actual emissions were less than one-fifth of its assigned amount plus any
purchases/imports minus any sales/exports, then, in the third year, the Party could sell
or export those left over units. And so on for each year of the budget.
Discussion of the Swiss Proposal At the Bonn
Workshop. At the Bonn Workshop, experts noted in particular two key features of
the Swiss proposal: the requirement of annual reporting of actual emissions and
transactions; and the automaticity of the mechanisms for accountability.
Experts identified two advantages of the Swiss proposal.
First, by requiring annual reporting of emissions and transactions, the Swiss proposal
communicates to all Parties important information about how each Party is doing in
limiting its emissions in relation to its overall target. Second, by limiting transactions
to only those units which are truly surplus, the proposal essentially would ensure that
all transactions occurred in, effectively, "insured" tons - tons that the
sovereign had deemed to be truly surplus for purposes of meeting its overall target. No
"overselling" could occur, although the problem of encouraging sovereigns to
limit actual emissions to allowable levels would still exist. The Swiss proposal would
provide strong compliance incentives that take effect during the budget period.
Experts also identified four concerns with the Swiss
proposal. First, it was noted that the determination of whether tons were truly
"surplus" could be cumbersome, given that information about actual emissions
will always lag behind information about transactions. Countries indicated that data on
actual emissions for any particular year could take as long as two years to compile,
effectively preventing any transactions for as much as three years. But some countries
also acknowledged that if the market placed value on early reporting, emissions reports
could be reported much sooner, perhaps as early as six months after the close of the
Second, by restricting the determination of
"surplus" emissions units to those that are surplus on an annual basis, the
Swiss proposal would essentially transform the five-year emissions budgets approach of the
Kyoto Protocol into five one-year emissions budgets, eliminating the "temporal"
or "when" flexibility of the emissions budget approach. This could raise
problems for countries whose actual emissions depend to some extent on activities and
events beyond their sovereign control. For example, for countries in electricity grids
where there is a mix of fossil and hydropower, an unexpected drought in the hydro portions
of the grid area - including, potentially, in other nations - could necessitate short-term
increases in fossil generation in order to meet demand. Under the Swiss rule, transactions
in emissions units would be unavailable to those countries during drought years.
Third, it was noted that the Swiss proposal would
discriminate against poorer countries in Annex B. A wealthy Annex B Party might have the
capital on hand to finance new technologies that would enable it to reduce emissions
domestically or purchase emissions units from other nations and thereby end up with
"extra" or left over emissions units. But a poorer Annex B nation might need to
sell some emissions units early in the budget period in order to finance the new
technologies that will enable it to reduce emissions. The Swiss proposal would deprive
poorer nations of the opportunity to leverage emissions units for financing technology
Fourth, it was noted that the Swiss proposal fundamentally
did not address the compliance issue in full. The fact that a country yearly has extra or
left-over emissions units, does not by itself mean that the country will be in compliance
after the commitment period. It is possible that, because of high economic growth or
sectoral problems, a country might encounter significant emissions rises in year 4 or year
5, in total resulting in non-compliance. In that case, some of the already sold emissions
units would then, in effect, be 'over-sold,' and some further provision would need to be
made - e.g., automatic true-up, mandatory deduction, or devaluation of already transferred
emissions units - in order to make the atmosphere whole and to provide a compliance
pressure on Parties.
In light of these concerns, experts then inquired whether
it would be possible to fuse the annual accountability and information-provision features
of the Swiss proposal together with the compliance aspects of the EDF proposal? On that
basis, the following "fused approach" is offered.
A Fused Approach: Eight Rules for Accountability And
One key element of the Swiss proposal that could greatly
enhance the transparency, accountability, and compliance component of the Kyoto Protocol
is its requirement that, on an annual basis, actual emissions must be compared with
emissions units available following transfers. A second key element of the Swiss
proposal is its automaticity. That is, the Swiss proposal provides a set of
accounting consequences that apply automatically, without the need for the political
process associated with compliance systems in international legal instruments.
Building on these sound features, it is possible to match
the flexibility of the five-year budget approach with a set of automatic, progressively
stringent consequences that encourage sovereign compliance, and that leverage compliance
through the transparency of rigorous annual reporting. The elements of the fused approach
would comprise a set of eight rules, as follows.
Rule #1: Annual Monitoring and Reporting of Actual
Emissions. The Kyoto Protocol already requires transparent annual reporting of
emissions of all gases, from all sources, and uptake by all sinks. (Kyoto Protocol,
Articles 5 and 7.) While reporting in terms of carbon dioxide equivalence is already
implied (Article 5.3), the Parties should adopt a rule clarifying that all annual
emissions reporting should be stated in terms of tonnes of carbon dioxide-equivalence.
Rule #2: Real-Time Tracking and Reporting of Emissions
Units, Including Transfers. Articles 3.10-3.12 require the Parties to utilize
specific accounting rules to ensure that all transactions in AAUs, ERUs, and CERs are
recorded as additions to and subtractions from Parties emissions accounts. As the
Swiss proposal makes clear, real-time reporting of transactions and account balances can
be a critical element in fostering accountability and compliance. Building on the
Swiss proposal, the Parties should adopt a rule requiring real-time reporting by all
Parties, to all Parties, directly, or through the Secretariat, or through a website with
appropriate paper back-up, of all AAU, ERU, and CER transactions in serialized units, as
well as real-time reporting of account balances.
Rule #3: Failure To Report: The Parties
should also adopt a rule specifying that failure to report actual emissions, transactions,
or account balances within specified time periods will place a Party in non-compliance.
The rule should specify that one automatic consequence of this type of non-compliance
should be that a Party that fails to report within the specified time period is precluded
from undertaking transfers until the reporting violation is cured.
Rule #4: Defining Non-Compliance With Emissions
Limitations. The key principle on which accounting rules for compliance should be
based is, at the end of the commitment period, are a Partys actual net emissions
less than the assigned amount units it holds, as adjusted for transfers? The Parties
should adopt a rule stating this fundament point: If, at the end of the commitment
period, a Party's actual emissions exceed its assigned amount units adjusted for transfers
(including AAUs, ERUs, and CERs), then the Party is in non-compliance, and is subject to
the compliance measures of Article 18 in addition to the automatic consequences described
Building from that fundamental proposition, a progressively
stringent set of consequences can be fashioned, using the rigorous annual reporting
requirements of the Swiss proposal, and pairing those with accounting rules that provide
compliance incentives both during the budget period and at the end of the budget period.
Compliance Incentives During The Budget Period. The
Parties could adopt rules establishing two progressively stringent compliance consequences
that will be applied automatically during the budget period.
Rule #5: Automatic Discount of Transferred Emissions
Units If Emissions Exceed Trigger Level During the Budget Period. The Parties should
adopt a rule specifying that if actual net emissions during the budget period exceed a
pre-specified trigger point, e.g., 110% of total allowable emissions during the budget
period, then an automatic discount will be applied to all AAUs/ERUs/CERs transferred by
that Party within the past year that have not yet been tendered for compliance purposes.
The discount could be set equal to the amount by which the Partys actual emissions
exceed assigned amounts. For example, if a Partys actual emissions are 110% of
assigned amounts, then any AAUs/ERUs/CERs transferred by that Party in the past year would
be discounted by 10%.
The effect of this automatic discount would be to create
market pressure in favor of compliance among purchasers, sellers, and private entities.
Purchasers of AAUs/ERUs will seek to purchase from Parties whose actual emissions are well
below this trigger point, since purchasers will not want to see the value of their
investments diminished if the sellers emissions go past the trigger point. Selling
nations will compete to try to keep their emissions below the trigger point, in order to
be able to sell "high-quality" or full-value tons in a competitive marketplace.
Private entities in seller nations that have worked hard to reduce emissions and thereby
generate ERUs or extra AAUs, will not wish to see the value of their investment diminished
if their countrys emissions hit the trigger point - so they will urge their national
authorities to do a better job on national compliance, in order to preserve the value of
their investments. In fact, any government that wishes, as a matter of its sovereign
choice, to adopt the full Swiss proposal, could offer "insured" emissions units
for sale. Such "insured" units, in which the selling sovereign nation
effectively guarantees that it will ensure that the units are not affected by the
automatic discount, would command a premium in the marketplace.
Concerns have been raised that such "buyer
liability" would weaken market liquidity, since buyers would be hesitant to purchase
emissions units if they knew those units would be subject to the automatic discount.
However, the time-limited approach described above would maintain market liquidity, since
the discount would apply only to AAUs/ERUs transferred in the past one year, and only to
those AAUs/ERUs which had not yet been tendered for compliance purposes. In fact, the
operation of such a rule would encourage early tenders for compliance - providing yet
another example of the potential of this approach to foster sovereign compliance.
Rule #6: Automatic Prohibition on Sales When
Emissions Exceed Specified Levels. The Parties should adopt a rule specifying that if
actual net emissions during the budget period exceed a later pre-specified trigger point,
e.g., 120% of total allowable emissions during the budget period, then an automatic
prohibition on further transfers by that Party will be applied. The effect of this
rule would be to prevent cascading non-compliance, whereby a Party effectively floats
atmospheric debt in order to buy its way back into compliance.
Compliance Incentives At End of Budget Period. As
noted above, the fundamental rule that Parties would need to agree on is that if at the
end of the budget period, a Partys net emissions exceed the assigned amounts it
holds as adjusted by transfers, then the Party is in non-compliance, and is subject to
compliance consequences under Article 18.
Rule #7: Limited True-Up Period. For Parties
facing Article 18 sanctions, a "True-Up" period (e.g., of 6 months) would gives
sovereigns the opportunity to cure their non-compliance. Economic fluctuations, weather
shifts, and changes in oil prices that occur late in the emissions budget period could
cause unexpected non-compliance at the end of the budget period, even among Parties that
have otherwise taken great efforts, in good faith, to comply with the Protocol. A Party
that is acting in good faith will want to move quickly to cure this non-compliance, and
should be given the opportunity to do so. Accordingly, the Parties should adopt a rule
specifying a limited True-Up period at the end of the compliance period.
Rule #8: Making The Atmosphere Whole. However, a
Party may fail to "True-Up" its emissions account. In that case, the atmosphere
will be burdened by that Partys non-compliance, and it will be burdened by increased
concentrations of long-lived greenhouse gases, whose atmospheric lifetime exceeds the
duration of the next budget period. Accordingly, simply deducting the excess emissions
from the Partys next-period assigned amount is not enough to "make the
atmosphere whole." Therefore, in addition to the compliance consequences the Party
may face under Article 18, the Parties should adopt a rule specifying that if, after
the True-Up period, a Partys actual emissions still exceed its assigned amount, then
the excess must automatically be deducted from the Partys next emissions budget,
with an Atmospheric Penalty (e.g., the deduction could be done at a ratio of 1.2:1.0).
Together, this blend of the rigorous annual reporting
and automaticity of the Swiss proposal, and the system of progressively stringent
compliance consequences of the EDF proposal, could provide a framework that would provide
powerful incentives favoring sovereign compliance.
A "structural" element that would be needed to
make this system work would be an agreement by the Parties that traded emissions units -
AAUs, ERUs, and CERs - will be identified by country and year of origin, and in the case
of ERUs and CERs, by project of origin. This identification would enable the market to
provide feedback to each nation, delivering a powerful incentive for nations to improve
their environmental performance. With such a rule, emissions units from high-performing
nations will be able to command higher market prices, and will also earn better ratings
from the private, non-governmental carbon quality "rating" services that are
likely to develop. Therefore, the requirement of identification of traded emissions units
in a standardized, serialized format is a key element of Reporting under Rule #2 above.
Eight Rules for
Accountability and Compliance
||Annual Monitoring and Reporting of
Emissions: All annual emissions reporting should be stated in terms of tonnes of
||Real-Time Tracking and Reporting of
Emissions Units, Including Transfers: All Parties should be required to report, in
real time, to all other Parties, directly, through the Secretariat, or through a website
with appropriate paper back-up, all AAU, ERU, and CER transactions. Parties should be
required to report, in real time, their emissions account balances. All transactions
should be reported in standardized serialized units that identify the units traded by
country and year of origin, and in the case of ERUs and CERs, by project of origin.
||Failure To Report: A Partys
failure to report actual emissions, transactions, or account balances within specified
time periods will place a Party in non-compliance. The Party may not undertake any further
transfers until the reporting violation is cured.
||Non-Compliance With Emissions Limitations:
If, at the end of the commitment period, a Party's actual emissions exceed its assigned
amount units adjusted for transfers (including AAUs, ERUs, and CERs), then the Party is in
non-compliance, and is subject to the compliance measures of Article 18 in addition to the
automatic consequences established by the other Rules.
||During the Budget Period Automatic Discount
of Transferred Emissions Units If Emissions Exceed Trigger Level: If, during a budget
period, a Partys actual net emissions equal 110% or more of its total allowable
emissions (net of transfers) during the budget period, then any AAUs/ERUs/CERs that the
Party has transferred within the past year that have not yet been tendered by another
Party for compliance purposes will be automatically discounted by the percentage of the
||During the Budget Period Automatic
Prohibition on Sales When Emissions Exceed Specified Levels: If during the budget
period a Partys actual net emissions exceed 120% of total allowable emissions (net
of transfers), then the Party is prohibited from selling/exporting any further
||End of Budget Limited True-Up Period:
At the end of the budget period, a Party whose actual emissions exceed its assigned amount
(net of transfers) faces compliance consequences under Article 18. In addition, the Party
must bring its emissions account into balance within six months.
||End of Budget Period Responsibility To Make
The Atmosphere Whole: If a Party fails to balance its emissions account within six
months, then, in addition to the compliance consequences the Party faces under Article 18,
the difference between its actual emissions and its assigned amount (net of transfers)
shall be deducted from the Partys next emissions budget at a ratio of 1.2:1.0.