CO2 policy options: CO2 sequestration versus CO2 emission markets and trading By Eirik S. Amundsen,

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CO2 policy options CO2 sequestration versus CO2
emission markets and trading By Eirik S.
Amundsen, University of Copenhagen and Lars
Bergman, Stockholm School of Economics

• Energy Foresight Symposium 2007
• Grieghallen, 22-23 March, 2007,Bergen, Norway

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Outline

• General mitigation options
• Carbon capture and storage (CCS)
• Enhancing natural sequestration (sinks)
• Economic principles Three basic questions
• How much abatement should take place?
• Which mitigation options should be used?
• Which policies should be applied in order to
  activate the mitigation options?
• Conclusion

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Available and suggested options of CO2 mitigation

• Energy saving
• Energy efficiency improvements
• Substitution to less carbon-intensive energy
  sources (renewable energy and nuclear power)
• Carbon capture and storage (CCS)
• Enhancing natural sequestration (sinks)

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Carbon capture and storage (CCS)

• Carbon capture and storage
• - An approach to mitigating climate change by
  capturing carbon from large point sources such as
  power plants and subsequently storing it away
  safely instead of releasing it into the
  atmosphere
• - Technology for capturing carbon is already
  commercially in place
• - Storage techniques are relatively untried but
  is well under way
• Carbon storage
• - geological storage (geo-sequestration)
• deep geological formations (saline formations,
  depleted oil- and gas fields, declining
  oil-fields in order to enhance recovery,
  depleted coal mines)
• - ocean storage
• - dissolution (injection of carbon into the
  water column at depths of more than 1000m)
• - Lake type deposit (carbon deposited on the
  sea bed at depths greater than 3000m)
• - mineral storage
• trapping carbon in stable minerals by having it
  reacting with metal oxides which produces stable
  carbonates

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Carbon capture and storage (CCS) (Continued)

• Cost of CCS
• - CCS applied to a modern conventional power
  plant could reduce carbon emission to the
  atmosphere by 80-90 but fuel needs increase by
  some 10-40
• - Consequently, the cost of energy from a power
  plant with CCS would increase by 30-60
• - IPCC (2006) and other sources (MIT,UK Energy
  Review etc) report that coal-based CCS ranges
  from 19-49 USD per ton carbon
• - The costs of CCS is dominated by capture and
  transport (by pipeline or ship)
• - Geological storage is relatively inexpensive
  (0,5 8,3 USD per ton of carbon including
  monitoring costs, IPCC, 2005)
• - Ocean storage needs more RD and cost
  estimates are uncertain. IPCC (2005) mentions a
  cost of 40-80 USD per ton including capture at
  the power plant and transport by ship to the
  disposal site.
• - Mineral storage also needs more RD. The IPCC
  estimates that energy usage will increase by 60
  180 for a power plant using this technology

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Carbon capture and storage (CCS) (Continued)

• Some problematic features of CCS
• - Still high degree of technological uncertainty
  (storage)
• - Increased energy usage
• - Increase of air pollutants from power plants
  with CCS
• - Leakages of trapped carbon for well selected
  geological storage sites carbon can remain in
  place for millions of years. Ocean storage is
  less permanent as dissolved carbon will
  eventually equilibrate with the atmosphere
• - Ocean storage leads to increased acidity of
  ocean water that can be harmful to ocean life
• Hence, the use of CCS as an option for mitigating
  the emission of carbon may itself give rise to
  negative environmental effects

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Enhancing natural sequestration

• Forests and vegetation on soils are carbon stores
  as they remove carbon from the atmosphere through
  photosynthesis as they grow.
• In total they contain more carbon than all
  remaining oil stocks and more than double the
  amount presently accumulated in the atmosphere.
• Deforestation and burning of trees give rise to
  more than 18 (8 GtCO2) of the annual global GHG
  emission which is more than that emitted from the
  global transport sector (The Stern Review, 2006).
  
• Hence, by halting deforestation significant
  contribution to the mitigation of carbon emission
  may be given, and this may take place without the
  development of new technologies.
• Planting of new trees will also be a contribution
  but this is considered less efficient since trees
  generally grow slowly in the their initial phase.
  
• Furthermore, the ongoing conversion of grassland
  to cropland is releasing sizable amounts of
  carbon to the atmosphere.
• Hence, carbon emission to the atmosphere may be
  reduced by changing agricultural methods (e.g.
  non-till farming, cover cropping, crop rotation).
• The overall challenge is how to go about in
  exploiting the potential of reduced deforestation
  and changed agricultural methods.

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Enhancing natural sequestration (continued)

• Costs related to reduced deforestation
• - net income from sale of timber
• - opportunity costs of agricultural production
• - costs of administering and enforcing forest
  protection
• The Stern Review (2006) reports a cost less than
  1 USD per ton avoided carbon emitted to the
  atmosphere in many countries with a deforestation
  problem and usually well below 5 USD.
• Other studies reported in the Stern Review show
  that the marginal cost of avoided carbon emission
  rise from a low value up to 30 USD for complete
  elimination of deforestation.
• Richards and Stokes (2004) found that in a cost
  range of 10 to 150 dollars per ton carbon it
  would be possible to sequester 250 to 500 m. tons
  per year in the US and 2000 m. ton per year
  globally.
• Planting of new forests could save 1 GtCO2/year
  at a cost of 5-15 USD per ton carbon.
• Changing agricultural methods could save 1 -1.8
  GtCO2/year at a cost of 20-27 USD per ton carbon
  in 2020-2030.

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Mitigation Economic principles

• Three basic questions
• - To what extent should carbon emission be
  mitigated?
• - Which mitigation options should be applied and
  to what extent?
• - Which policies should be applied in order to
  activate the mitigation options?

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To what extent should carbon emission be
mitigated?

• The basic economic problem
• Emission of carbon (and other GHGs) represents a
  negative externality inflicting costs on
  society. However, emission may be reduced by
  spending resources on mitigation activities.
• The problem for the society is then to minimize
  the sum of the two cost elements the social cost
  of carbon emission and the abatement cost.
• The economists standard answer to this problem
  is abate up to the point where the cost of
  reducing yet another ton of carbon is equal to
  the social cost of a ton of emitted carbon (which
  represents the marginal willingness to pay for an
  avoided ton of carbon).
• Implicitly, this principle also defines an
  optimal level of carbon emission (and of carbon
  mitigation) at which the emission should be
  stabilised. A related question is how should one
  approach this level? As fast as possible or at a
  slower rate.

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To what extent should carbon emission be
mitigated? (continued)

• Even though the answer to the above question is
  the appropriate answer, it is still rather
  simplistic. Hence, complications arise because
• Carbon is a stock pollutant and this implies that
  the social cost of carbon emission is not
  instantaneous but rather prevails over time.
  Hence, the marginal willingness to pay for an
  avoided ton of carbon will have to incorporate
  not only the instantaneous benefit but also
  benefits for future generations.
• Likewise, abatement technologies represent
  investment projects with effects that stretches
  over time so that even the marginal abatement
  cost has a time dimension.
• Thus, the time aspect implies that the assessment
  of benefits and costs of carbon abatement is
  heavily dependent on the choice of social
  discount rate.
• Climate change is a public bad but has varying
  effects around the world and over time. Hence,
  distributional and ethical problems are involved
  in assessing the benefits of carbon abatement.
• Uncertainties are huge both with respect to the
  potential size, type and timing of impacts and
  with respect to the cost of abating climate
  change. This involves questions like To what
  extent should we take costly actions today and to
  what extent should we wait until more of the true
  states of nature are revealed?

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Which mitigation options should be applied and to
what extent?

• As observed there are many mitigation options
  available either immediately or expected to be
  available after further RD.
• One important principle carries over from the
  discussion above, namely that the marginal social
  benefit (MSB) of avoided carbon emission should
  be equal to the marginal abatement cost (MAC).
• The implication of this principle in a setting
  of many mitigation options is that all mitigation
  options should be included and up to the point
  where they all have the same marginal value
• Hence, CCS and other forms of sequestration
  should be included and to the extent that they
  satisfy the above condition.

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Which mitigation options should be applied and to
what extent? (continued)

• CCS as a mitigation strategy
• Indications exist that CCS is of great importance
  as an abatement technology
• IPCC (2005) estimates that the economic potential
  of CCS could be between 10 and 55 of the total
  carbon mitigation effort until 2100. Without CCS
  less abatement occurs at a higher cost as
  marginal abatement costs would increase by 50
  (IEA, 2006). The importance of CCS is linked to
  the expected global growth of coal use.
• Energy production is expected to double by 2050
  with fossil fuels accounting for 85 of energy
  and without action a third of the energy
  emissions would come from coal in 2030. In this
  perspective CCS is of great importance (IEA,
  2006).
• IEA modeling (2006) shows that without CCS the
  marginal abatement cost will increase from25 to
  43 USD in Europe and from 25 to 40 USD in China
  and that global emissions would be 10-14 higher.
  
• However, considering the negative environmental
  impacts that may follow from CCS one should take
  great care in evaluating the true social cost of
  CCS as an abatement mechanism.

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Which mitigation options should be applied and to
what extent? (continued)

• Enhancement of natural sequestration as a
  mitigation strategy
• - About two-fifths of global emissions are from
  non-fossil fuel sources.
• Large potential for reducing carbon emission to
  the atmosphere at a low cost. The Stern Review
  claims that the value of using land for carbon
  sequestration (forests) is much greater than
  other land uses.
• Planting new trees could be cost effective in
  many countries and yield a positive rate of
  return in the future in terms of sustainable
  logging. (China, Vietnam). See Richards and
  Stokes (2004).
• Reforestation and afforestation are already
  included as measures in the Kyoto protocol and
  members are obliged to register these in addition
  to deforestation. Emissions from deforestation
  are included in the Kyoto Protocol for Annex 1
  countries, but non Annex 1 countries are where
  the vast majority of emissions take place. The
  Marrakesh accords rejected the inclusion of
  deforestation within CDM because of concern of
  the risk that protecting forest in one project
  area would simply displace deforestation to
  elsewhere.
• In spite of the existence of many international
  organizations there are still a limited
  international framework that focus on reduced
  emissions from deforestation.

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Which policies should be applied in order to
activate the mitigation options?

• Policies in use
• - Tradable emission permits systems
• - Green certificates and other allowances
  markets
• - Pigouvian taxes and other taxes
• - Subsidies
• - Standards and regulations
• - International agreements
• - Other voluntary arrangements
• Typically, many policies are in use at the same
  time and not always implying clear cut effects.

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Which policies should be applied in order to
activate the mitigation options? (continued)

• Tradable emission permits systems (TEP)
• - As observed excessive carbon emission (and
  other polluting activities) is a negative
  external effect resulting from so called market
  failure.
• - However, instead of abandoning the use of
  market forces they are used in a creative way in
  establishing a market for the externality.
• - A TEP system for carbon fixes the amount of
  permissible carbon to be emitted while letting
  the market determine the carbon price. A
  Pigouvian tax system fixes the price of carbon
  while agents determine the quantity of carbon
  emitted.
• - The significance of an international TEP
  system like the European ETS-system is that it
  determines a common international price of
  carbon.
• - A common international price of carbon is in
  direct correspondence with the principle that
  marginal abatement cost should be the same over
  all technologies and countries.
• - The reason for this is the following The
  private agent (polluter) is faced with the
  problem of either purchasing permits or reduce
  emissions by other means. Hence, the agent will
  choose to abate as long as the marginal cost of
  doing so is less than the carbon price.
  Therefore, all agents would abate carbon up to
  the point where the marginal abatement cost
  becomes equal to the carbon price.

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Which policies should be applied in order to
activate the mitigation options? (continued)

• In principle, a common, mature and well
  functioning TEP market could activate all
  prospective mitigation options including CCS
  projects and projects targeted at enhanced
  natural sequestration.
• CCS projects and projects targeted at enhanced
  natural sequestration may be seen as investment
  projects, with pay offs in terms of the value of
  avoided carbon costs. Such projects will be
  deployed if the NPV is positive.
• Hence, in such a common market the development of
  expected future carbon prices will be very
  important in decisions of how much of these
  activities to activate.
• However, the extent to which CCS and enhanced
  natural sequestration will take place depends not
  only on the carbon price itself but also on other
  prices such as the price of coal, natural gas,
  timber, and agricultural products.

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Which policies should be applied in order to
activate the mitigation options? (continued)

• However, several impediments exist
• - TEP markets are not mature and carbon prices
  (ETS) have been rather unstable.
• - A true common carbon market does not exist so
  there is not a worldwide common carbon price to
  ensure equalization of marginal abatement costs.
• - Rules and regulation of waste disposal need
  amendments before CCS projects can be deployed on
  a large scale.
• - The potential of enhanced natural
  sequestration is largest in countries without
  efficient carbon pricing
• - Lack of assignment and enforcement of property
  rights hinder efficient decisions on
  deforestation. Also, many areas of deforestation
  are remote and difficult to monitor.
• - Avoided carbon emission from forest
  preservation is more difficult to measure and
  agree upon than emissions from energy-related
  projects. This is because the carbon content of
  forests varies significantly depending on the
  density, age and type of trees and soils.

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Which policies should be applied in order to
activate the mitigation options? (continued)

• Further actions for CCS
• Greater international co-operation between
  national programs to develop and demonstrate CCS
  technologies. As suggested in the Stern Review
  (2006), co-operation can focus on
• - Sharing knowledge and information from RD and
  experiences from learning by doing.
• - Co-ordinating RD priorities in different
  national programs.
• - pooling risk and reward for major investments
  in RD, including demonstration projects
• International agreements focusing on a regulatory
  approach i.e. requiring that all new coal or
  fossil fuel electricity generation be fitted with
  CCS from a certain date. (Cf. The EU Large
  Combustion Plant Directive that places emission
  limit values on large plants with increasing
  stringency over time.)
• In case of a missing carbon market, introduce CCS
  portfolio standards requiring that a certain
  proportion of power supplied is from plants
  fitted with CCS technologies. Other operators
  without CCS technologies would share the risk of
  the producers possessing new CCS technologies
  through long-term contracts to purchase power
  from these plants to meet the CCS portfolio
  standard. Incremental costs would be passed
  through to all consumers.
• This policy approach could include a tradable
  element to pool efforts across larger markets,
  minimize costs across regions or maintain
  differentiated responsibilities between countries
  at different stages of development.
• Co-ordination of deployment support can boost
  cost reductions by increasing the scale of new
  markets across borders.

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Which policies should be applied in order to
activate the mitigation options? (continued)

• Further actions for enhanced natural
  sequestration
• Assign and enforce property rights and establish
  resource management programs. With property
  rights in place local governments can give
  logging concessions with extraction levels at a
  sustainable level
• In some countries in Africa reduced deforestation
  may involve serious problems for subsistence
  farmers. Hence, it is important to manage the
  tension between agricultural land use and forests
  and to balance global and local environmental
  benefits with opportunities for production of
  wood, food, fuel and fibers.
• Make an effort to bring deforestation into the
  broader multilateral mitigation framework (but at
  a regulated pace due to the potential problem
  that large scale inclusion may destabilize the
  carbon market.)
• In general, the negative externality from logging
  should be internalized. In lack of a genuine
  carbon market this can be done in several ways
• A tax on timber/logging
• Incentive payments In Costa Rica landowners can
  receive up to USD 45 a hectare per year if they
  volunteer to maintain forests in the interest of
  carbon sequestration, biodiversity, hydrological
  protection and scenic beauty. Combined with other
  measures this has increased forest cover from 21
  in 1977 to 51 in 2005, reducing rural poverty by
  benefiting 7000 families. Similar measures are
  taken in Mexico. (The Stern Review, 2006).

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Which policies should be applied in order to
activate the mitigation options? (continued)

• Forest credits (deforestation credits) Demand
  may come from agents wanting to obtain carbon
  emission permits or that simply voluntarily want
  to reduce carbon emission. These credits could
  have the basis not only for carbon emission but
  also for preserving biodiversity. In that case it
  is not necessary to look for parity with the
  global carbon price.
• Debt forgiveness and specialized funds
• Problem Restricting deforestation may lead to
  increased timber prices and may result in
  increased logging in unregulated areas.

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Conclusions

• Carbon capture and storage (CCS) and enhanced
  natural sequestration (sinks) are important
  mitigation options that should be activated in
  order to reduce carbon emission.
• In principle, a worldwide common market for
  carbon emission permits would come a long way in
  activating such abatement options in an efficient
  manner.
• However, features like lack of property rights
  assignment, public good aspects of abatement,
  hindrances of information dispersion, and market
  power exertion, make a strong case for government
  intervention and international agreements.
• Still efforts to link and enlarge carbon markets
  between countries regions and continents should
  have a high priority.

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Literature

• Bascolo, M. and J.R. Vincent (2003)
  Nonconvexities in the production of timber,
  biodiversity and carbon sequestration, Journal of
  Environmental Economics and Management, 46,
  251-268.
• Lubowski, R. N., A.J. Plantinga and R.N. Stavins
  (2006), Land-use change and carbon sinks
  Econometric estimation of the carbon
  sequestration supply function Journal of
  Environmental Economics and Management, 51,
  135-152.
• Newell, R.G. and R.N. Stavins (2000), Climate
  Change and Forest Sinks Factors Affecting the
  Costs of Carbon Sequestration, Journal of
  Environmental Economics and Management, 40,
  211-235.
• Richards, K.R. and C. Stokes (2004),A review of
  forest carbon sequestration cost studies A dozen
  years of research, Climatic Change 63 1-48,
  2004.
• Van t Veld, K. and A. Plantinga(2005), Carbon
  sequestration or abatement? The effect of rising
  carbon prices on the optimal portfolio of
  greenhouse-gas mitigation strategies Journal of
  Environmental Economics and Management, 50,
  59-81.

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New Environmental Markets Tradable Emission
Permits (TEPs)

• Basic ideas behind the TEP system
• The authorities determine the total quantity of
  TEPs (e.g. CO2 emission). This restricts total
  emission. (Contrary to this the environmental tax
  system determine the price of emission)
• The TEPs may be handed out free of charge
  (grandfathering) or auctioned off.
• The participants are allowed to trade TEPs among
  themselves.
• Each polluting firm is required to have a number
  of TEPs equal to their emission.
• The polluting firm will clean instead of
  purchasing TEPs if it is cheaper to clean.

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New Environmental Markets Tradable Emission
Permits (TEPs)
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New Environmental Markets Tradable Emission
Permits (TEPs)
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