CFB Implementation Note No. XX

Host country concerns in CF deals

Questions and Answers

Draft for Host Country Committee Meeting
For review and discussion only – Please provide comments

PRELIMINARY DRAFT – 27 August 2003

This Implementation Note intends to assist host countries with preparing and negotiating a Carbon Finance - CF project. This CF implementation note is written in as questions-and-answers paper. We encourage all CF Partners and host countries to formulate their own questions and search for their own answers. The present note can only provide limited guidance and is meant as a starting point for further research and discussion. The answers provided are therefore not exhaustive and refers the reader to other sources of information. Please comment on this paper and share your questions and answers with us for the benefit of others.

Table of Contents:

  1. The global context
  1. What is the international legal and regulatory framework for the CF business ?
  2. Why is The World Bank involved in the CF business ?
  3. What are the World Bank strategic objectives in the CF business ?
  4. What has been the role of the World Bank in the carbon market ?
  5. What are the objectives of the different CF facilities ?
  6. What are the eligibility criteria for the different CF facilities ?
  1. The CFB principles and business models
  1. Which principles, criteria, business models and procedures does the CFB use?
  2. How does the CFB involve the private sector?
  3. What is the CFB position with regard to technology transfer?
  4. How does the CFB support sustainable development?
  5. How does the CFB approach negotiations with government and project entities?
  1. UNFCCC, and Kyoto Protocol related issues
  1. What is the CFB relationship with the UNFCCC and the Kyoto Protocol?
  2. What are the CFB project cycle steps?
  3. How does the CFB approach baselines and additionality?
  4. How does the CFB deal with validation, monitoring and verification in JI and CDM projects?
  5. How will emission reductions be transferred to Participants?
  6. How does the CFB deal with the development impact of CF projects
  7. Which role do host country criteria for sustainable development and project selection play?
  1. The Carbon Market
  1. What is the likely development of the carbon market?
  2. Where can one obtain information on current prices, and negotiated terms and conditions for JI and CDM deals?
  3. What would host countries have to consider regarding their positioning in the carbon market?
  4. How are the transaction costs of the projects covered ?
  1. Host country involvement in CF
  1. What institutional arrangements will a CF host country need?
  2. How can host countries benefit from CF projects?
  3. How can the Host Country be involved in CF project preparation?
  4. How will the host country government benefit from CF deals?
  5. How does society in host countries benefit from CF deals?
  6. Which role does the host country committee play?
  7. Which is the experience of host countries to date?
  1. Legal and contractual issues
  1. Which obligations would the project partners enter into?
  2. Which legal agreements between project partners does the CFB require?
  3. Which legal responsibilities regarding CF projects will a Host Country have?
  4. What is the CF’s position regarding ODA in CDM projects?
  5. How would the CFB make payments to a project?
  6. What are the Operational Policies and Procedures that applies to CF projects ?
  1. CF deals as a fair risk sharing agreement
  1. How does the CFB meet its equity and fairness commitment?
  2. How does the CFB share risks with its partners?
  3. What does equitable benefits sharing in CF deals mean in practice?
  4. Are early projects with cheap reductions a concern (“low hanging fruit”)?
  5. In the case of JI projects, how can the CFB claim emission reductions before 2008?
  6. Would the CFB share ERs with the project sponsor or the host country?
  1. Host country capacity building and CFB outreach
  1. How does the CFB and the World Bank support capacity building?
  2. How does the PCFplus Fellowship program work?
  3. How does the CFB publicize its results? Which level of access does the CFB allow?
  4. Does the CFB facilitate the development of a host country JI or CDM strategy?
  5. Which resources and sample documents are available on the CFB website
  1. The global context

a.What is the international legal and regulatory framework for the CF business ?

In June 1992, over 180 countries at the “Earth Summit” in Rio de Janeiro adopted the United Nations Convention on Climate Change (UNFCCC), a legal framework that enables Parties to the Convention to start the process of stabilizing greenhouse gases (GHG) like carbon dioxide, in the atmosphere. The Kyoto Protocol adopted under the UNFCCC in December 1997, commits industrialized country signatories (called “Annex I” countries) to reduce their greenhouse gas (or “carbon”) emissions by an average of 5.2 percent compared with 1990 emissions, in the period 2008-2012. Under the Kyoto Protocol, Annex I countries may achieve these reductions either domestically or supplementing their domestic efforts through three international market-based mechanisms:

  • Joint Implementation (JI), or purchasing greenhouse gas emission reductions from projects in other Annex I countries (generally, economies in transition);
  • Clean Development Mechanism (CDM), or purchasing ERs from projects in developing countries; and
  • Emissions trading among Annex I, (industrialized) countries.

The Parties to the UNFCCC have held a series of annual Conferences to develop the “rules of the game” for the Kyoto Protocol. At their Seventh Conference (October/November 2001 in Marrakesh), the Parties agreed on the main elements of the regulatory framework for the implementation of the Kyoto Protocol, particularly the market-based mechanisms, although a number of important practical details remain to be worked out. On the basis of the “Marrakesh Accords”, and despite the withdrawal of US support, the Kyoto Protocol may enter into force before the end of 2003, if Russia ratifies it [1].

Whether or not the Kyoto Protocol enters into force in the near future, the European Union has engaged itself to meet its commitment to reduce greenhouse gases, having initiated an Emissions Trading Scheme which is scheduled to take effect in 2005, and which other OECD countries may join. Canada and Japan have also publicly stated their commitment to meeting their obligations under the Kyoto Protocol, regardless of the timing of its entry into force.

b.Why is The World Bank involved in the CF business ?

The World Bank’s carbon finance initiatives are part of the larger global effort to combat climate change, and go hand in hand with the Bank’s mission to reduce poverty through its Environment and Energy Strategies. The threat climate change poses to long-term development and the ability of the poor to escape from poverty is of particular concern to the World Bank. The impacts of climate change could unravel many of the development gains of the last several decades.

The Bank is therefore making every effort to ensure that poor countries can benefit from international efforts to address climate change, including the emerging carbon market for greenhouse gas emission reductions. Our mission is to catalyze a global carbon market that reduces transaction costs, supports sustainable development, and reaches and benefits the poorest communities of the developing world.

c.What are the World Bank strategic objectives in the CF business ?

The lessons of experience have profoundly influenced the strategic direction of the World Bank’s carbon finance business. Based on the founding premise of the PCF“learning-by-doing”the strategic direction of the Bank’s carbon finance business today has been informed by its unique operational experience and by in-depth and ongoing consultations with Parties to the Kyoto Protocol, the private sector, and NGOs. Therefore the current strategic objectives are:

  • Expanding support for core carbon market development under CDM and JI, the Kyoto Protocol’s project-based market mechanisms, through OECD funds;
  • Extending the benefits of carbon finance to the least developed countries and to poor communities in all developing countries;
  • Demonstrating carbon finance for carbon sinks (sequestration) to achieve sustainable natural resource use, conservation, and sustainable rural livelihoods; and
  • Strengthening and expanding capacity building initiatives for mitigation and adaptation.

d.What has been the role of the World Bank in the carbon market ?

The World Bank Group has played a pioneering role in developing the market for greenhouse gas emission reductions through the Prototype Carbon Fund (PCF) and Netherlands Clean Development Mechanism Facility (NCDMF), which purchases greenhouse gas emission reduction credits from projects in developing countries.

Through its work the Bank has identified weaknesses in the emerging carbon market and has already taken several initiatives to rectify constraints affecting the ability of its borrowing country clients to benefit from the emerging global market, and to strengthen implementation and ensure the long-term viability of the Kyoto Protocol.

The private sector has avoided developing countries and economies in transition as places to acquire emission reduction credits to fulfill their commitments under OECD emissions trading regimes. The World Bank’s carbon finance products are helping to catalyze this market by extending carbon finance to both developing countries and economies in transitionlinking buyers of carbon credits with climate-friendly projects seeking financing. The Bank is actively engaged in expanding these opportunities in discussions with other potential OECD carbon buyersboth public and private.

Most developing countries can only deliver small projects. The high transaction costs and high risks involved in delivering carbon from these projects means that most of the smaller and poorer of the Bank’s client countries will be unable to benefit from carbon finance as a catalyst for investment in clean technologies. The Bank established the Community Development Carbon Fund (CDCF) to intend mitigate risks and minimize transaction costs by developing diversified portfolios of projects across the developing world, by using local intermediaries for small projects in local communities in the poorest countries, and by bundling projects, thereby lowering transaction costs.

The market is currently bypassing opportunities to generate emission reduction credits by removing carbon dioxide from the atmosphere through sustainable land management, agriculture, and forestry. The BioCarbon Fund (BioCF) is being established to provide an opportunity to channel private capital to rural poverty reduction and sustainable natural resource use in the poorest areas of the world.

Lack of host country capacity, which leaves these countries at risk of being bypassed totally by carbon finance and the potential investment and clean energy technologies it would bring. The Bank has supported host country capacity building through the National Strategy Studies (NSS) program and by organizing upstream consultations for specific projects, including services of independent brokers and lawyers, to prepare national counterparts for negotiations that lead to the sale of emission reductions. The Bank is now consolidating host-country capacity-building efforts through its Carbon Finance-Assist (CF-Assist) program and through training provided by the World Bank Institute. To help address the financing gap, the Bank is developing an outreach program to financial institutions capable of investing in projects on the basis of Emission Reduction (ER) revenue streams.

e.What are the objectives of the different CF facilities ?

The Prototype Carbon Fund

The PCF has three strategic objectives. First, it will demonstrate how project-based Emission Reductions (ERs) transactions can promote sustainable development in the World Bank’s borrowing member countries. Second, the Fund is designed to provide Parties to the UNFCCC and other interested parties with an opportunity to learn by doing while the guidelines of the Kyoto Protocol and the modalities for JI and the CDM are fully developed. Finally, the CF intends to demonstrate how the World Bank can work in partnership with the public and private sector to mobilize new resources for its borrowing member countries while addressing global environmental concerns.

The Netherlands Clean Development Mechanism Facility (NCDMF)

The NCDMF has also three strategic objectives:

  • to provide resources for projects, which are intended to cost-effectively generate emission reductions for the Netherlands;
  • to endeavor to effect an equitable sharing between the Government of the Netherlands Ministry of Housing, Spatial Planning and the Environment (VROM) and the host countries, of any other benefits arising from projects; and
  • in the course of the foregoing, contribute to the sustainable development of host countries.

The Community Development Carbon Fund (CDCF)

  • Purchase and facilitate the generation of high-quality greenhouse gas ERs from small-scale projects which also reduce poverty and improve the quality of life of local communities in poorer countries;
  • Help build a market for these ERs, thereby expanding the reach of carbon finance and CDM to developing countries that may otherwise be excluded from their benefits;
  • Provide funds for projects that are likely to be recognized under Article 12 of the Kyoto Protocol as well as other emerging mandatory and voluntary greenhouse gas markets; and
  • Leverage private capital flows for sustainable development; and offer relevant information to the Parties to the United Nations Framework Convention on Climate Change (UNFCCC) and other interested parties engaged in the implementation and further development of the CDM.

The BioCarbon Fund (BioCF)

  • Generate cost-effective ERs across a wide range of agriculture, forest and other land-use activities;
  • Extend carbon finance to credible carbon conservation and sequestration activities in the agriculture and forestry sectors;
  • Foster “learning-by-doing” via a public-private initiative that explores the policy, technical and methodological issues related to credible carbon conservation and sequestration activities in the agricultural and forestry sectors;
  • Offer relevant information and support to the UNFCCC Parties as they finalize the rules governing LULUCF activities; and
  • Demonstrate that carbon finance can support the objectives of the UN Convention on Biological Diversity, the UN Convention to Combat Desertification, and other relevant international initiatives and treaties.

f.What are the eligibility criteria for the different CF facilities ?

In general terms to be eligible for CF support, projects must:

  • Comply with all international rules and procedures governing and associated with the mechanisms established under the Kyoto Protocol;
  • Be consistent with all relevant national criteria;
  • Comply with the operational policies and procedures of the World Bank Group, including Safeguard Policies;
  • Be consistent with the World Bank’s Country Assistance Strategy;
  • Provide national and local environmental benefits;
  • Improve the quality of life of the poor through the enhancement of independently certifiable benefits on local livelihoods;
  • Be consistent with general strategic directions and advice provided by the Participants; and
  • Comply with the CF’s Strategic Objectives and Operating Principles.

Particular criteria for the different facilities are indicated below:

The Prototype Carbon Fund

The PCF evaluates and selects project ideas based on established PCF project selection criteria and based on project size, costs and timing of carbon emission reductions. Other important considerations for PCF projects include acceptability of the ERs under the UNFCCC/Kyoto Protocol regime, endorsement of the project by the Host Country, environmental and social acceptability of the project, and capacity of the project sponsor and/or operator to deliver ERs. A complete list of project eligibility criteria are available on the “Projects” page of the PCF’s website.

NCDMF

Cost-effectiveness and sustainability play a major role in selection and approval of projects. Projects are drawn from a broad range of technologies and processes in energy, industry, and transport, which provide various vehicles for generating ERs, while contributing to sustainable development and achieving transfer of cleaner and more efficient technology to Host Countries. The NCDMF aims for projects with a mix of technologies in the following descending order: (i) renewable energy technology, such as geothermal, wind, solar, and small-scale hydro-power; (ii) clean, sustainably grown biomass (no waste); (iii) energy efficiency improvement; (iv) fossil fuel switch and methane recovery; and (v) sequestration.

CDCF

  • CDCF projects will be located exclusively in developing countries that are Parties to the UNFCCC and are not included in its Annex I (non-Annex I Parties); no more than 10 percent of the contributions of the CDCF capital will be committed to projects located in the same country;
  • The Fund will place a minimum of 25 percent of the CDCF capital into eligible projects located in Least Developed Countries (LDCs) and other poor developing countries;
  • The CDCF may also support small-scale projects in countries other than LDCs and other poor developing countries, provided these projects will provide direct independently certifiable benefits to the poorer communities of those countries;
  • A maximum of 10 percent of the CDCF capital may be committed to small-scale afforestation and reforestation projects; and
  • Preference will be given to projects that are compatible with the definition of “small-scale CDM project activities.”

BioCF

The Fund will contribute to the following types of activities: sequestration, which enhances the capture of carbon or nitrogen in biomass; and conservation, which prevents or reduces the release of carbon (as methane or carbon dioxide) or nitrogen already fixed. Many projects would likely combine sequestration and conservation. Particular activities across the two windows may include the following: