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lead.jpg (22302 bytes)    Volume 3 
   Number 4
   26 October 1998 

BUSINESS LEADERSHIP AFTER KYOTO
World Business Council for Sustainable Development


Introduction to the WBCSD

The World Business Council for Sustainable Development (WBCSD) is a coalition of 125 international companies united by a shared commitment to the environment and to the principles of economic growth and sustainable development. Its members are drawn from 30 countries and more than 20 major industrial sectors. The WBCSD was formed in January 1995 through a merger between the Business Council for Sustainable Development (BCSD) in Geneva and the World Industry Council for the Environment (WICE), an initiative of the International Chamber of Commerce (ICC), in Paris. Those two parent bodies had been at the forefront of business's response to the challenges arising from the Earth Summit in Rio de Janeiro in 1992. Today, the WBCSD is carrying forward that initiative and has become a pre-eminent business voice on sustainable development.

Climate Change Challenges and the WBCSD

In December 1997, many groups contributed to the Third Conference of the Parties in Kyoto (COP-3). The WBCSD encouraged partnership between government, industry and other stakeholders to create a common vision and make COP-3 a success. The Kyoto Protocol that emerged is, from an international political perspective, a major achievement. Uncertainties still exist and genuine differences of opinion still remain, but the Kyoto Protocol has moved the issue of responding to climate change from "whether?" to "how?"—and it has far reaching consequences, bringing into focus a range of social and economic questions concerning implementation and delivery of the long term goal of stabilizing greenhouse gases.

The social and economic issues of climate change have to be viewed within a global economy in which the movement of information, capital and products cuts across political jurisdictions, and where there is increasing economic interdependence. Business is increasingly an agent for pan-national economic growth through investment and employment but its performance is judged against increasingly higher global standards of environmental and social responsibility. Many of the solutions to social and environmental problems rely on technological innovation in which business plays a key role.

Climate change is set to have a global impact upon environmental and energy policies - and in due course on energy markets. Coming decades will emphasize the "low carbon economy." To achieve this we must retain a global perspective and create conditions that harness human ingenuity, innovation and co-operation.

The Kyoto Protocol

The scale of existing and emerging human activities on greenhouse gas emissions is vast. The energy system emits some six billion tons of carbon into the atmosphere each year and a substantial (but still argued) amount remains there for an extended period. This has given rise to a spectrum of concerns about the consequences (economic, social and otherwise) of gradual warming of the planet.

Today, developed countries generate the major fraction of greenhouse gas emissions. Within a few years, others will account for more than 50% as their economies grow. Dealing with this shift in a politically sensitive way lies at the heart of finding any long-term solution to climate change. The targets, mechanisms and policy measures set out in the Kyoto Protocol concentrate on the 39 developed countries, known as Annex I countries, and as such can only be seen as a first step toward stabilizing atmospheric greenhouse gas levels.

WBCSD Approach to Climate Change

The WBCSD recognizes the significance of the climate change issue and believes that prudent precautionary measures are necessary. Further research is essential, but is unlikely to prove or quantify the scientific, social and economic aspects of the problem in short order. The scale of the greenhouse gas challenge, if real, is so great that it cannot be addressed by subsidies or short-term "fixes." Ways must be found to reduce net emissions long-term or, better still, make emissions unnecessary in the first place. But it is vital that these offer good business propositions and gain widespread commitment and participation within and beyond the Annex I countries. Otherwise, there is unlikely to be substantial investment forthcoming to address the objectives.

The most immediate threat is inertia. Although there is a call to demonstrate progress by 2005, emission limitation obligations do not apply until 2008. Uncertainties about ratification, natural risk aversion and disagreements about approach will tend to hamper substantive action in the short term. Yet lack of progress will lead to loss of credibility—of governments as arbiters of policy and of business as providers of solutions. And a "wait and see" approach may prove expensive to those companies that delay taking preparative steps then find themselves obliged to make rapid changes at a later stage.

The sooner an agreed framework is in place, the sooner experimentation will begin and potential environmental and economic benefits set in motion. The challenge is to create a "virtuous circle" in spite of these uncertainties, because this will simplify subsequent actions and increase the likelihood and expectation of success. It will also minimize the extent to which well-intentioned companies, taking early precautionary action, are penalized by those who delay making a contribution. The only ways to stabilize greenhouse gas levels are to put less into the atmosphere (through improved efficiency or changing consumption patterns) or to take more out (by improving the sinks).

The first commitment period (2008 - 2012) is too close for significant changes to occur in consumption patterns or for major new technologies to emerge and be adopted. The size of existing infrastructures is simply too great. However, short-term attention to energy and carbon efficiency, along with the optimum use of carbon sinks, can be combined with long-term attention to social and technical innovation.

Innovation and Technology

Innovation and technology will be key to reducing resource dependency and environmental impact and improving environmental performance.

  • Step changes require more than new technology in and of itself. Lack of technology is usually not the main impediment to progress.

  • Economic growth and development within the developing world affects their choice of technology, which in turn affects these countries’ greenhouse gas emissions.

  • Innovation based on new technology takes time to produce results. Securing business involvement, lowering economic and technical learning curves, and replacing existing capital stocks cannot happen overnight.

  • Attention to the bottom line gives business its incentive to find and implement innovative cost-effective solutions.

  • Companies and countries can face significant hurdles in gaining acceptance for their own approaches: Improperly judged legislation for protecting intellectual property hampers dissemination, increases costs and fosters mistrust. Existing infrastructures, rigid governmental procurement policies, and lack of suitable skills can create "lock-in" that hinders the adoption of better solutions.

  • Subsidies tend to be given to approaches that have ceased to be economic in their own right and hamper the search for better solutions.

Technology provides business with powerful tools for innovating to meet the challenges of climate change, but also creates challenges for all constituencies to address, in terms of the social and economic issues that surround its development and use. Finding solutions to these issues involves bridging the different languages used by different stakeholders (engineers, economists, politicians, the public, the North and the South).

The Flexibility Mechanisms

The political process distributed the economic burden of carbon reductions by setting national targets for the first commitment period. Not surprisingly, there are limits to the cost nations are willing to bear to achieve emission reductions. Nations will reduce their emissions only if they can maintain the integrity of their economies while doing so. The three flexibility mechanisms, International Emissions Trading, the Clean Development Mechanism (CDM), and Joint Implementation, offer a means to achieve the greatest reductions at a given cost.

The mechanisms internalize pollution control costs so that environmental and economic performance become mutually reinforcing. At their heart is the 'unit of trade' - tradable permits (assigned amounts) and emission reduction credits or an equivalent sequestered amount. It is in everyone's interest to have a 'unit of trade' that has integrity, is fully tradable and equivalent for the three mechanisms.

In order to achieve agreement on the overall policy direction, the Kyoto Protocol delayed in elaborating details. Among the outstanding issues are the following:

  • Clearly defining what is meant by the concept that 'credits are earned only for activities that are additional to what would otherwise would have been done'.

  • Clarifying the extent to which the use of flexible mechanisms can supplement domestic emission reduction programs.

  • Confirming that allowances would be interchangeable between different flexible mechanisms.

  • Agreeing that flexible mechanisms should cover both emission reduction and carbon sequestration.

  • Confirming that companies are allowed to participate in all three flexible mechanisms, and that multinational companies should not be restricted in allocating allowances among affiliates.

  • Putting in place controls to ensure a transparent, verified system of compliance.

  • Finding ways to minimize bureaucracy and transaction costs.

  • Ensuring that Clean Development Mechanism and Joint Implementation projects make economical sense.

Care must be taken to avoid "over-designing" these mechanisms. The priority should be to obtain simple, workable rules, low transaction costs, and a 'level playing field' within which to work. In designing these mechanisms it is important to:

  • Use an open process that allows for trial and error.

  • Start with a simple and workable system.

  • Keep sight of the long term goal.

International Emissions Trading

Trading offers the market flexibility about "when" and "where" to achieve reductions. National targets distribute the economic burden of compliance. An efficient trading system allows the participants to re-distribute that burden amongst themselves in a rational way, recognizing the different marginal costs of abatement.

The Protocol defines compliance explicitly in terms of net emissions performance. In doing so it recognizes that no one particular path leading to emissions reductions is better than any other—the ultimate measure of performance is that greenhouse gas levels stabilize. Some reductions can be achieved at low cost; thereafter the costs increase and the net marginal environmental benefits may fall. High abatement costs may reflect the size of an existing capital infrastructure, the time needed to move along a technological learning curve, or the time required for social adjustments to take place.

Trading allows those participating in the market to search for, and implement, the most efficient ways of reducing emissions. It forces an understanding of one's options and marginal costs of abatement. As a result, it delivers an environmental benefit and stimulates innovation, since successful players can achieve surplus reductions that can then be traded. The success of a trading regime will depend upon there being a commodity or unit of trade that has integrity - an issue of controls on the market, and no unnecessary market constraints - an issue of understanding and confidence.

Legitimacy—a general acceptance of trading in principle—is essential, because of the political and moral implications of seemingly "trading in dirt." Business needs to promote sharing of experience and understanding of how the existence of an international trading system can enhance a company's environmental compliance by triggering innovation and so create new options to achieve emissions reduction.

International Emissions Trading can combine the environmental integrity of a regulation with the flexibility of a market incentive. In implementing a trading regime we should aim for a market in which all stakeholders - companies, governments, and other stakeholders - can participate. Considerations unrelated to performance, such as arbitrary caps on the extent of international trading, that increase complexity and drive up costs should be avoided. For many, emission trading is a new concept, and the design process needs to enable a shared understanding of the environmental benefits it offers.

The Clean Development Mechanism (CDM)

The CDM gives non-Annex I countries a shared interest in emissions reductions by fostering further inward investment. A measure of success is the extent to which it can become the preferred path for such investment. At the same time, it offers countries and business further flexibility in making an efficient transition to lower carbon intensity economies. CDM projects can nurture cooperation between developed and developing nations and provide important price signals to an emerging and evolving trading market. Ultimately the CDM is a vehicle of foreign direct investment. Investment will only occur if there are the right conditions, one of which is that transactions offer benefits to both parties.

Private capital flows from developed to developing countries (around $250 billion per year) are five times the size of overseas development aid. The private sector will therefore be key to the success of CDM. However, CDM's ultimate potential will be limited if transaction costs are too high.

To achieve greatest impact, the CDM must meet three criteria:

  • Assist the sustainable development of the developing countries: emissions reductions may not be the most important sustainability issues within a region. CDM must be used to achieve a "win-win" situation.

  • Achieve real and credible reductions in GHG emissions: players need to have confidence in what they are buying and selling.

  • Facilitate investments by Annex I countries: commercial profitability should not be a barrier.

Success depends on the design of the CDM as well as the regulatory and institutional capacities of host countries. A practical approach is to judge projects on a case-by-case basis, and define compliance by means of substantive criteria relevant to the specific project and the host. As experience builds up, it will become progressively easier to select good projects. Models and illustrations provide a good starting point for such an iterative approach. The private sector in developing countries should be encouraged to come up with good exploratory projects as soon as possible.

Some question the durability of any trading scheme that includes sinks such as forestry. They emphasize the possibility to abuse alternatives to domestic action, the incentive to inflate decline rates, and the lack of substantive technology transfer to developing countries. Such issues are exacerbated by the greater uncertainties of measuring the removal of greenhouse gases from the atmosphere.

However, despite international efforts to the contrary, tropical forests are being depleted at a rapid rate. Sustainable forestry management can help address underlying problems of poverty and market distortion and address biodiversity issues as well as mitigate greenhouse gas levels. Sink projects (e.g. forestry conservation) can be inexpensive alternatives with industrial and energy infrastructure projects.

Afforestation, reforestation and avoidance of deforestation are distinct and pertinent activities that should be eligible as CDM projects for countries with appropriate forest management policies. Individual project approvals could examine specific issues and potential abuses arising from inclusion of broad sink related activities.

Joint Implementation in Annex I Countries

Under the Protocol, emission limitation obligations do not apply until 2008. Ten years without a change of trajectory in economies under transition represents both an environmental and economic threat. Joint Implementation has the potential to make a real contribution to greenhouse gas reductions among Annex I countries, but it will suffer from a lack of early crediting, and uncertainties about the validity of credits under different non-compliance scenarios (e.g. national communication) by the host country.

The Role of Voluntary Approaches

The term "voluntary approaches" covers a broad spectrum of options: from those that are entirely voluntary through to those that include negotiated contractual agreements. Because an approach is "voluntary" does not mean that it will be ineffective. The terminology suffers in that it tends to mean "everything and anything to anyone." This constitutes a real barrier to evaluating the potential of such approaches in specific circumstances. Evaluating the potential of voluntary approaches as part of the overall policy mix requires the same sense of exploration that is applied to other instruments. It is important to achieve much better understanding of:

  • Interactions between intended purpose, standard of performance specified and participants' perceptions of the consequences of non-performance.

  • National, institutional and cultural criteria—"what works where and why"—as determinants of feasibility, acceptance and credibility in the country and/or industry concerned.

  • The practical steps needed to ensure effectiveness—covering process issues such as stakeholder involvement, performance management processes, transparency and synergy of approach.

  • Dissemination of knowledge—a learning process for potential participants and stakeholders to distinguish for themselves the potential use and impact in quite different circumstances

and seek to take advantage of the positive attributes:

  • The opportunity to engage business in early action and to experiment with various voluntary architectures.

  • The capacity of the business community to generate innovative solutions.

  • The social learning process, promoting transparency and understanding between participants.

  • The greater sense of responsibility and commitment when people decide for themselves—avoiding the conservatism that often emerges within a 'command and control' regime.

Member companies can provide insights into these areas and we will continue to explore these. Voluntary efforts by industries offer an effective, flexible and dynamic alternative within a policies and measures package. The most effective messages governments can give industry are clear, long-term objectives, space in which innovation can flourish, and a framework that discourages "free-riders." This message will be all the more compelling if governments also "walk the talk" by acting as responsible customers via their own purchasing policies.

Measurement and Reporting

Compliance occurs when total net emissions have fallen below the targets that were set. Transparent and accurate measurement and reporting will be the lynch pins of a credible trading market. Companies may begin to invest in projects in non-Annex I countries within the next two years. It is reasonable to expect that the burden of proof will be placed on those who propose and implement projects.

Companies are in a unique position to share knowledge of their own operations and develop experience for themselves and the international community in:

  • Setting project baselines.

  • Defining methodologies for quantifying, verifying and reporting emissions reductions relative to those baselines.

  • Auditing and verification of emission reduction activities relative to baselines.

Conclusion

The WBCSD values the flexibility of approach that is implicit in the Kyoto Protocol and believes that policies that work with the market rather than against it are the most likely to be successful. The WBCSD considers it a priority to help all governments rapidly find the right framework to stimulate delivery of cost-effective solutions to their emissions targets.

Continued dialogue on ways and means, driven by a desire for success, is a fundamental requirement for this to happen, but this must not be drawn out too far. There is a concern that the scale of existing operations and fixed capital will make it very difficult to meet targets within the projected time-scales, but this is not justification for failing to take steps now.

For more information about the activities of the WBCSD, visit their web site at http://www.wbcsd.ch