Case Study

Carbon and Markets

Friday, May 9, 2008

Abstract

Most environmentalists had hoped that the December 2009 Climate Change Conference in Copenhagen would finally produce a workable, global scheme to reduce greenhouse gasses in the environment. Unfortunately, the conference produced little concrete action and most agreed that the final three page statement did little to create mechanisms to actually help reduce the threat of climate change. The NY Times observed: "The messy compromise mirrored the chaotic nature of the conference, which virtually all participants said had been badly organized and run." The conference also left in doubt the future of current mechanisms such as the European Carbon Market.

The conference in Copenhagen came after 20 years of international conferences and scientific panels on the issue of climate change. The first shot came in 1990 when a panel of scientists concluded that greenhouse gas emissions were contributing to global warming. Over the next 11 years, the panel - formally convened as the United Nations Intergovernmental Panel on Climate Change - issued two more climate change assessment reports, pointing to human activity as the primary reason for the increase in greenhouse gases and the rise of global temperatures.

The IPCC's scientific assessments - which had their fair share of critics and skeptics - spurred world leaders into action. In 1992, representatives from 178 countries met in Rio de Janierio, Brazil for a summit that led to the establishment of a voluntary framework for industrialized nations to reduce their greenhouse gas emissions. The framework, formally called the United Nations Framework Convention on Climate Change, laid the foundation for a climate change treaty that was inked in Kyoto, Japan in 1997. The treaty, known as the Kyoto Protocol, set binding targets for industrialized nations to reduce their emissions by 2012 and created a trading system for credits based on the reduction of greenhouse gas emissions.

Responding to the Kyoto framework, the European Union launched a cap-and-trade system for carbon credits in 2005, which led to an explosion of climate-related investment opportunities in Europe, Latin America and Asia. A new industry around carbon finance emerged, with firms like Climate Change Capital (CCC) of London taking the lead in shaping the nascent market. Even though the EU was the only group of nations to create a formal mechanism for distributing and requiring carbon allowances, the carbon market grew quickly and was valued at $64 billion by the World Bank at the end of 2007. Besides the European Market, a number of regional, voluntary markets for carbon allowances formed in the rest of developed world.

However, the failure of Copenhagen required the new carbon finance industry to reassess its plans. The lack of international consensus could change the nature of the European scheme as well as hamper the growth of the overall market. The Kyoto Protocol was set to expire in 2012 and no one knew what system would replace the current framework. Firms such as the CCC had positioned the firm's Carbon Funds as the cornerstone of its long-term business strategy, but the firm was also investing in energy-conscious real estate and private equity to continue its goal of "creating wealth worth having." In 2010, CCC and other interested parties were trying to figure how the political developments would influence their investments.