Law of Carbon Trading

The Kyoto Protocol is an international agreement linked to the United Nations Framework Convention on Climate Change. The major feature of the Kyoto Protocol is that it sets binding targets for 37 industrialized countries and the European community for reducing greenhouse gas (GHG) emissions. This amounts to an average of five per cent against 1990 levels over the five year period 2008-2012.

The major distinction between the Protocol and the Convention is that while the Convention encouraged industrialized countries to stabilize GHG emissions, the Protocol commits them to do so. Recognizing that developed countries are principally responsible for the current high levels of GHG emissions in the atmosphere as a result of more than 150 years of industrial activity, the Protocol places a heavier burden on developed nations under the principle of “common but differentiated responsibilities.”�? The Kyoto Protocol was adopted in Kyoto, Japan, on 11 December 1997 and entered into force on 16 February 2005. 184 Parties of the Convention have ratified its Protocol to date. The details rules for the implementation of the Protocol were adopted at Conference of the Parties (COP) 7 in Marrakesh in 2001, and are called the “Marrakesh Accords.”�?

The Kyoto Mechanisms

Under the Treaty, countries must meet their targets primarily through national measures. However, the Kyoto Protocol offers them additional flexible means of meeting their targets by way of three market-based mechanisms.

These mechanisms are

  • Emissions trading ” known as “˜the carbon market’
  • Clean development mechanism (CDM)
  • Joint implementation (JI)

These mechanisms help stimulate green investment and help Parties meet their emission targets in a cost-effective way. These mechanisms allow Annex B economies to meet their GHG emission limitations by purchasing GHG emission reductions credits from elsewhere, through financial exchanges, projects that reduce emissions in non-annex B economies, from other annex B countries, or from annex B countries with excess allowances. In practice this means that non-annex B economies have no GHG emission restrictions, but have financial incentives to develop GHG emission reduction projects to receive “carbon credits” that can then be sold to annex I buyers, encouraging sustainable development in these countries.

Emission Trading

Emissions trading, as set out in Article 17 of the Kyoto Protocol, allows countries that have emission units to spare ” emissions permitted to them but not “used”�? ” to sell this excess capacity to countries that are over their targets.

Joint Implementation

The mechanism known as “joint implementation”�?, defined in Articles 6 of the Kyoto Protocol, allows a country with an emission reduction or limitation commitment under the Kyoto Protocol (Annex B Parties) to earn emission reduction units (ERUs) from an emission-reduction or emission removal project in another Annex B Party, each equivalent to one tonne of CO2, which can be counted towards meeting its Kyoto target. Joint implementation offers Parties a flexible and cost-efficient means of fulfilling a part of their Kyoto commitments, while the host Party benefits from foreign investment and technology transfer.

Clean Development Mechanism

The Clean Development Mechanism (CDM), defined in Article 12 of the Kyoto Protocol, allows a country with an emission ” reduction or emission-limitation commitment under the Kyoto Protocol (Annex B Party) to implement an emission reduction project in developing countries. Such projects can earn saleable Certified Emission Reduction (CER) credits, each equivalent to one tonne of CO2, which can be counted towards meeting Kyoto targets. The mechanism is seen by many as a trailblazer. It is the first global, environmental investment and credit scheme of its kind, providing standardized emissions offset instrument, CERs. The mechanism stimulates sustainable development and emission reductions, while giving industrialized countries some flexibility in how they meet their emission reduction or limitation targets.

(Definition by United Nations Framework Convention on Climate Change ” UNFCCC)

The main benefits from the project-based Kyoto mechanisms include the potential reduction in cost of meeting the Kyoto Protocol targets for developed countries and support to the host countries objectives regarding sustainable development. Under this mechanism, countries which have set themselves an emission reduction target under the Kyoto Protocol can contribute to the financing of projects in developing countries which do not have a reduction target. The project should reduce the emission of greenhouse gases by contributing to the sustainable development of the host country. The achieved emission reductions can be used by the industrialized country to meet its reduction target.

Countries listed in Annex B of the UNFCCC can purchase CDM credits.

Non-Annex-B Countries can host CDM projects.

How does CDM work?


The project proposal should establish the following in order to qualify for consideration as CDM project activity.

  • The project should lead to real, measurable and long term GHG mitigation. The additional GHG reductions are to be calculated with reference to a baseline.
  • The procurement of Certified Emission Reduction (CERs) should not be from Official Development Assistance (ODA)

Sustainable Development Indicators

It is the prerogative of the host Party to confirm whether a clean development mechanism project activity assists it in achieving sustainable development. The CDM projects should also be oriented towards improving the quality of life of the poor from the environmental standpoint.

Following aspects should be considered while designing CDM project activity

1. Social well being: The CDM project activity should lead to alleviation of poverty by generating additional employment, removal of social disparities and contribution to provision of basic amenities to people leading to improvement in quality of life of people.

2. Economic well being: The CDM project activity should bring in additional investment consistent with the needs of the people.

3. Environmental well being: This should include a discussion of impact of the project activity on resource sustainability and resource degradation, if any, due to proposed activity; bio-diversity friendliness; impact on human health; reduction of levels of pollution in general.

4. Technological well being: The CDM project activity should lead to transfer of environmentally safe and sound technologies that are comparable to best practices in order to assist in upgradation of the technological base. The transfer of technology can be within the country as well from other developing countries also.


The project proposal must clearly and transparently describe methodology of determination of baseline. It should confirm to following:

1. Baselines should be precise, transparent, comparable and workable

2. Should avoid overestimation

3. The methodology for determination of baseline should be homogeneous and reliable.

4. Potential errors should be indicated.

5. System boundaries of baselines should be established.

6. Interval between updated of baselines should be clearly described.

7. Role of externalities should be brought out (social, economic and environmental)

8. Should include historic emission data-sets wherever available.

9. Lifetime of project cycle should be clearly mentioned.

The project proponent could develop a new methodology for its project activity or could use one of the approved methodologies by the CDM Executive Board. For small scale CDM projects, the simplified procedures can be used by the project proponent. The project proposal should indicate the formulae used for calculating GHG offsets in the project and baseline scenario. Leakage, if any, within or outside the project boundary, should be clearly described. Determination of alternative project, which would have come up in absence of proposed CDM project activity should also be described in the project proposal.

CDM Projects approval

The National CDM Authority is a single window clearance for CDM projects in the country. The project proponents are required to submit one soft copy of Project Concept Note (PCN) and Project Design Document (PDD) through online form and 20 hardcopies each of PCM and PDD along with two CDs containing all the information in each of them. The project report and CDs should be forwarded through covering letter signed by the project sponsors. The project report submitted should be properly bound. The National CDM Authority examines the documents and if there are any preliminary queries the same are asked from the project proponents. The project proposals are then put up for consideration by the National CDM Authority. The project proponent and his consultants are normally given about 10-15 days notice to come to the Authority meeting and give a brief power point presentation regarding their CDM Project proposals. Members seek clarifications during the presentation and in case the members feel that some additional clarifications or information is required from the project proponent the same is informed to the presenter. Once the members of Authority are satisfied, the Host Country Approval (HCA) is issued by the Member -Secretary of the National CDM Authority.

Validation of the CDM Project is done by Designated Operation Entity. There are 11 DOE’s worldwide and 5 are operation in India. They review the projects to make sure they fulfil CDM criteria, and act as a intermediary between the project developer and the Executive Board. After the DOE clears the project it submits a request for registration to the UNFCCC Executive Board. The CDM Executive Board meets 4-5 times a year, and is charged with giving final approval or registration to projects.

Further the DOE’s are called in second time after the project is registered for the monitoring phase. For large scale projects, the DOE for verification cannot be the same DOE as for the validation stage. Once the DOE is satisfied that the green house gas reductions that were set out have been achieved, those emission reductions are certified.

Carbon Credits and Certified Emission Reductions

Carbon Credits and Certificates issued to countries that reduce their emission of GHG (Greenhouse Gases) which causes global warming. They are generated by enterprises in the developing world that shift to cleaner technologies and thereby save on energy consumption, consequently reducing their greenhouse gas emissions.

Carbon credits are measured in units of certified emission reductions (CERs). Each CER is equivalent to one tonne of carbon dioxide reduction. Countries with surplus credits can sell the same to countries with quantified emission limitation and reduction commitments under the Kyoto Protocol. Developed countries that have exceeded the levels can either cut down emissions, or borrow or buy carbon credits from developing countries. The certificates are sold to entities in rich countries, like power utilities, which have emission reduction targets to achieve and find it cheaper to buy “˜offsetting’ certificates rather than do a clean-up in their own backyard.

This trade is carried out under a UN “mandated international convention on climate change to help rich countries reduce their emissions.

Trading of Carbon Credits

Emission trading (ET) is a mechanism that enables countries with legally binding emissions targets to buy and sell emissions allowances among themselves. Currently, futures contracts in carbon credits are actively traded in European exchanges. In fact, many companies actively participate in the future market to manage the price risks associated with trading in carbon credits and other related risks such as project risk, policy risk, etc. Keeping in view the various risks associated with carbon credits, trading in future contracts in carbon allowances has now become a reality in Europe with burgeoning volumes.

Currently, project participants, public utilities, manufacturing entities, brokers, banks, and others actively participate in future trading in environment-related instruments. The European Climate Exchange (ECX), a subsidiary of Chicago Climate Exchange (CCX), remains the leading exchange trading in European environmental instruments that are listed on the Intercontinental Exchange (ICE), previously known as International Petroleum Exchange (IPE).

Industry watchers say carbon markets will continue to grow at a fast. It’s not just governments who are demanding emissions compliance ” consumers want it, too. The commitment a company makes to curb its pollutant output is an increasingly public aspect of strategy. More and more employees are taking these factors into account when deciding where to work. A recent study found that 80 per cent of young professionals want their work to impact the environment in a positive way, and 92 per cent prefer to work for an environmentally friendly company.

Voluntary or Verified Emission Reductions (VER)

Voluntary emission reductions are reductions that are not mandated by any law or regulations but originate from an organisation’s desire to take active part in climate change mitigation efforts. This may enable the organization to be recognized as a proactive advocate for new technologies and approaches in this area. The compliance market has evolved around a set of rules and regulations that define issuance, validity and use of emissions allowances and offsets. Principally, they relate to the criteria set forth for the Kyoto Protocol’s flexible mechanisms and the European Directive on Emissions Trading (EU ETS). However, no similar framework has existed for voluntary emission reduction actions. In response to this, the Voluntary Carbon Standard (VCS) is established to provide a credible and simple set of criteria that provide integrity to the voluntary carbon market. Specifically, the Voluntary Carbon Standard ensures that all voluntary emission reductions meet specific criteria and are independently verified, creating Voluntary Carbon Units.

The voluntary carbon market is now growing because companies, government bodies, non-governmental organizations, and others that are often not subject to binding greenhouse gas regulations wish to:

1. Make a quantifiable contribution to reduce emissions.

2. Increase response options and flexibility of carbon management

3. Enhance public relations

4. Generate goodwill by entering the carbon market

5. Cement strategic interest in specific offset projects

6. Manage corporate social responsibility commitments

7. Become carbon neutral and/or sell carbon neutral products and services


If the enforcement branch determines that an annex B country is not in compliance with its emissions limitation, then that country is required to make up the difference plus an additional 30%. In addition, that country will be suspended from making transfers under an emissions trading program.

Important Links mechanism/items/ 2718.php


Leave a Comment