Despite a volatile beginning, carbon markets promise to be a key player in the fight against climate change , says Professor Michael Grubb. However, he warns that governments must not "snatch defeat from the jaws of victory" by failing to take the necessary steps to ensure their longevity.
To create a market that collapses once is unfortunate. Twice is careless; thrice would be outright foolish
Barack Obama wants one; Gordon Brown wants one; the planet desperately needs it, but still an effective carbon market remains stubbornly elusive.
Prices in the EU's version, the Emissions Trading System (ETS), exceeded 20 euros per tonne of carbon dioxide (tCO2) throughout 2008.
Yet, earlier this year, they fell below 10 euros/tCO2. Prices for international carbon credits that fund emission reduction projects in developing countries have been dragged down further.
However, they are still way above a newly formed carbon market in the US, which languishes at about 2.6 euros/tCO2.
Unlike most markets, these were created by governments to deliver specific policy goals.
They established a market in allowances to emit CO2 to drive emission reductions efficiently, promote low carbon investment, and fund projects internationally on least-cost market principles.
Too cheap to notice wasn't the idea, because a year or more of rock-bottom prices will gut many emergent carbon reduction businesses. Confidence will be destroyed, low carbon investment deterred and scepticism reinforced.
'Victim of own success'
It's only fair to acknowledge that the price variability is partly a problem of success. The carbon savings from credit mechanisms that fund developing country projects have exceeded expectations.
Europe has also been more successful than expected in cutting its own emissions, partly in response to the EU ETS and other policies.
This has cut demand, which is driven by the gap between domestic emissions and targets set out in the Kyoto Protocol.
The Bush Administration said these targets were far too hard to be met, yet they are turning out to be collectively too easy.
The tragedy is that governments now seem determined to snatch defeat from the jaws of victory, with a mantra of non-intervention.
"Not our problem, guv," they say.
"To make the system stable and predictable, it is important we don't change the rules."
Sadly, it's looking all too predictable.
The UK's pilot emissions trading system peaked around 20 euros/tCO2 before declining to oblivion.
The first phase of the EU ETS, which started in 2005, also had prices above 20 euros before collapsing slowly to zero.
To create a market that collapses once is unfortunate. Twice is careless; thrice would be outright foolish.
Banking on allowances
Partly, governments are relying on the fact that this time round, companies can "bank" any unused EU allowances for use in the next round, which begins in 2012 - after the current Kyoto commitments expire.
The defining feature of the carbon market - that governments set the quantity - is the key to its salvation
The EU has already put its cards on the table with cutbacks to 2020. In theory, "buy to bank" should bolster short-term prices. but not by much.
The EU's unilateral commitments might - just - shore up future prices within the EU, but to do that they largely insulate the EU ETS from the global market, and the EU's targets don't toughen up without a global deal.
Re-engaging the US around wide-ranging cutbacks after 2012 offers the best long-term solution, and the UN Copenhagen conference at the end of this year is aiming towards this.
But a final, robust and bankable deal will take longer. And twice bitten, thrice shy: markets won't bet much this year on a successor deal driving prices high after 2012.
The defining feature of the carbon market - that governments set the quantity - is the key to its salvation.
We currently have a unique structure in which supply is fixed and impervious to price.
Not surprisingly, the result of highly uncertain demand is then huge volatility.
Yet this feature also holds the key to stabilisation.
Some of the emission allowances in the EU ETS are to be auctioned, and there is nothing that prevents those auctions having a minimum reserve price.
If companies pay the price, fine; if they don't, those additional allowances won't enter the market. It acts as a price floor, in ways clearly and simply set out in advance.
The volume of allowances still to be auctioned in the current phase (to 2012) offers a buffer sufficient to forestall risk of further collapse this year.
Knowing that the only way from the reserve price is up, the markets would settle somewhere above it.
For governments holding these auctions, selling fewer allowances at a moderate price is better than selling a lot of allowances for next to nothing.
Auction reserve prices would need to be co-ordinated, but only a few countries had the sense to retain some allowances for auction, and these are dominated by the UK and Germany.
These two pioneers of global climate change action now find the keys in their hands. Let's hope they have the wisdom to use them.
Professor Michael Grubb is chief economist for the Carbon Trust and a member of the UK Committee on Climate Change
The Green Room is a series of opinion articles on environmental topics running weekly on the BBC News website
Do you agree with Professor Grubb? Are carbon markets a vital tool in the battle against climate change? Do governments need to act in order to ensure the long-term survival of the schemes? Or should markets be seen as part of the problem?
The point raised by Prof. Grubb is absolutely correct. Creating market in carbon emission is quite necessary. We can not afford any rollback. We must support our decisions. Last person who pays the tax is common man. But, ultimately we need to discourage the practices and technologies which emit 'more carbon'. There is no other option but to promote technologies which emit 'less carbon' or 'carbon free'.
We have to secure the future of human civilization. Biodiversity have to be saved simultaneously. Its not only number of carbon products that matters, also the number of consumers that is more than 6.6 bn .We need to reduce or stabilize that number too.
Things are 'simple' if we do not 'complicate' it.
Sanjay Singh Thakur, Indore,India
Absolutely spot on. The EU ETS is teetering on the brink of another price collapse. Allocations of permits were too high and reductions have been 'achieved' much more easily than expected. A reserve price on the auction is a very sensible solution. But so too is creating tax incentives for companies with large surpluses to cancel spare permits rather than sell or bank them. A further measure to protect the price in the future would be to adjust targets for phase three to take out the 'hot air' generated by the recession. This could be achieved by making actual emissions in 2010 the baseline from which reductions are calculated, not the allocations in 2010 as currently proposed.
I am concerned that carbon markets are hard to administer and difficult to regulate. There may be an incentive to distort figures to reduce potential costs or increase profits. The Kyoto Protocol left Russia with a potential windfall due to economic downturn- this situation could repeat. Why not introduce solid, concrete proposals like renewable energy targets?
Helena Wright, Burnham, UK
Interesting how contributors mainly from the U.S. STILL deny that CO2 levels are increasing rapidly due to human activity. The possible effects of this, including global warming, can only be projected at this stage, but common sense suggests that there will be some effect. Instead of blindly denying the facts, perhaps they could listen to their fellow countryman, Al Gore, and their world class universities, and research the scientific evidence available. If they are proved wrong, and increased CO2 levels DO cause global warming and all the associated side effects that are being projected by scientists, will the U.S., as the biggest polluter per head of population, apologise to the world community for failing to sign the Kyoto agreement and foot the bill to attempt to resolve it?
angus, edinburgh, UK
No of course I don't agree with Prof Grubb because the only people benefitting from carbon trading are the traders who are making huge amounts out of their commission.
Far better if the money companies were going to spend on carbon trading went into a fund to support new clean technologies.
DickW, Aberdeenshire Scotland
Absolute Nonsense, Carbon trading along with all the other rubbish politicians peddle about global warming is the largest scam perpetrated on the general population all in the name of taxation and control. In case no one had been paying attention lately global temperatures have been falling despite increases in C02, now surely even the dimmest Politician could recognize a problem with the so called accepted theory!
David , Reay
Global Warming caused by CO2 is a complete lie, and carbon trading is a fraudulent form of derivative, much like the junk that was traded on Wall Street. Like market derivatives, it is destine to fail, and it will be the tax payers who will loose out. After all, global warming is just a devious way to tax the air we breathe.
People seem to have turned a blind eye to the real problems facing biodiversity. That is pollution, typically caused by plastics and heavy metals. What worries me is how we are all flocking to these stupid CFL light bulbs in the name of fighting CO2. Anyone with any sense will see this is a time bomb wating to happen that will wreck our water supply and aquatic life as we know it unless more is done to protect against these ending in our landfill sites.
CFL lights bulbs are just one of many examples I could rant and rave about. History has shown we've had warmer period before and the polars bears are still with us today despite that.
Jase, Newcastle, UK
Apart from the many points already been made, carbon is not a new commodity, and there is no value backing up carbon credits.
When the carbon bubble eventually and inevitably bursts, the fallout will make the current economic downturn look like a walk in the park
Peter, Bristol, UK
Our governments have just decided to support a failing economy by pumping 'a trillion dollars' into it. This was hailed as saving our economy however people won't support carbon trading as they think it's just another tax. I think that a major technical change is needed for any future economy to survive and that it would be a contradiction to criticise carbon credits and support this sily trillion dollar deal business.
It is imperative to stop global warming when we prevent the carbon market. Very recently the fertile lands are made into real estates and the Memorandum of understanding brings a lot of havoc in the climate-change by making cultivable lands a smoke emitting industries. This responsibility should be taken to the shoulder of the government officials and the political leaders!
kumar, Chengam- Thiruvannamalai
Carbon trading is one of the biggest scams ever devised. Those who trade in carbon know this. When are politicians and eco-mentalists going to wake up and realise this is just another banking-style, money-grabbing farce?
Carbon markets are the EU's and the world's best hope of tackling climate change and attacking their principles in this way is damaging to efforts to save the planet.
No I do not agree with Prof Grubb When the myth of CO2 [Now just "Carbon"] is laid to rest can the world get on with naturally adjusting to whatever climate change Mother Nature offers us? CO2 is NOT a poison. Or a pollutant. Carbon Trading is a scam as is investing in wind power to "save" the planet. Future generations will put this politico-scientific scam alongside witches, dragons and fools gold. Don't panic Mr Mainstream Mankind.
Brian Johnson, Farnham Surrey UK
I hope people realize the amount of control Mr. Grubb is wanting to hand governements over people's wealth and future growth. If the entire world can blame just one administration of one country for global economic meltdown, why on earth would a person think giving all governments the power to arbitrarily throttle progress is a good idea? You are suggesting that business should spend more money on energy when they can't afford to keep their employees. If there is consumer will to spend more for "green" energy, the market will respond without the need of government interference.
Stephen, Longview, USA
Grubb's viewpoint is hardly impartial. As a member of two groups linked to profiteering from thin air and who have been largely responsible for spreading climate change hysteria to further their business interests, Grubb is simply assisting friends to become wealthier and to shut down their competition, be it smaller companies or even developing nations. Let's hear some evidence for the dangers of CO2 emissions from this professor of economics instead. Would he be willing to take part in a public televised debate with the likes of University of Alabama's Dr John Christy for example?
This carbon trading scheme is nothing but a massive tunnelling of money into China's military machine. There is close to zero reductions in carbon emmisons. This is how it works: 1. An emerging market has to be stable in order to guarantee the investment. China is the leading recipient of carbon market money. 2. China has hundeds of planned hydro-energy projects that must be built and will be built to satisfy its thirst for energy. These projects will be built if paid for by China or dumb Americans/Europeans thinking they are saving the world. 3. A firm, e.g., in Germany... wants to pollute. So it buys these carbon credits and pays for an already-to-be-built hydro plant in China... saving the Chinese millions they can then redirect into their military or foreign reserve cache. 3. Final result... German firm gets to pollute. No reduction in carbon emissions. A richer and more dangerous China. This plan is a farce. Wake up world. The only way to reduce pollution is to force the American/European firm to reduce their pollution on site... not buy aiding and abbeting a country intent on having the world's most powerful military. The Kyoto Protocol is a mask of direct funding to China's military.
"The carbon savings from credit mechanisms that fund developing country projects have exceeded expectations." A Commons committee disputed the effectiveness of these in 2007. Often a clean energy or energy efficiency project would have happened anyway, and even if it hadn't, it does not automatically reduce total emissions since the wealth generated/freed up by the project can be spent causing emissions in other ways. What is more, given climate scientists' pessimism that the world can be kept within 2°C of warming, it seems a bit outdated to believe we can declare a set amount of emissions that is safe, so that whatever price this rises or falls to that has 'taken care of business'?
Jim, London, UK
I am tired of government sticking their nose into everything.Global warming is probably a normal happening.A minority of idiots are crying,"the sky is falling".Texans are talking of leaving the USA and forming a new country,their constitutional right.
Bill, Tennessee usa
Carbon markets are just a roundabout way to tax productivity. The West is already losing its ability to compete with the rest of the world. When average consumers see the increased costs of goods, as well as the lowering of their standard of living due to lost jobs, all of these inept plans will be but a distant, sad memory.
Robert Wood, Troy, NY
It would make sense if we showed unusual signs of warming. However, the Earth has shown about the same warming during this warming cycle as it did during the 1912-1942 warming cycle, when there was essentially no increase in CO2. At current rates even if 100% of the warming is from CO2 (unlikely) we'll see only .5C higher temperatures by 2100. Of course, that assumes technologies like CHEAP solar and batteries, fusion, or types of reactors that simultaneously breed/consume fission fuel don't displace fossil fuels in the next century. Should we sabotage our weakened economies based on dangers that ONLY show up in the sorts of computer projections that weakened our economies in the first place? Should we sacrifice our economies to fight the "run-away" temperatures that haven't increased since 1998?
Lloyd Burt, Charlotte, USA
Human activity is responsible for roughly three percent of the carbon dioxide produced on the planet Earth. Decaying plants, forest fires, and volcanoes are responsible for the bulk of carbon dioxide production. The selling of carbon credits is about as ludicrous as the selling of indulgences was during the middle ages. However, it is enjoyable to see those who blindly follow the "religion" of environmentalism separated from their money.
Jason Sivertsen, Superior, WI USA
Carbon credits are unlikely to achieve the ambitious carbon reduction goals set by their advocates. Professor Grubb is mistaken if he thinks governments will allow supply and demand to regulate carbon credits. Government can't resist the temptation to tinker with free markets, always with the best of intentions and usually with poor results. Governemnt will quickly become dependent on the revenue generated by carbon credits and supplies and prices will be set not by scientists but by economists trying to maximize the revenue from them. Indeed, governments will have an incentive to let prices fall rather than allow industry to become truly clean and wean itself from the need to pay for the privilege of polluting.
Scott W, Port Orchard, USA