From the Kyoto Protocol to the Long Term Cooperative Action: Critical implications and opportunities for a New Market based Mechanism (NMM)

Since the establishment of the Kyoto Protocol and in particular since 2001, flexible market mechanisms were created in order to reduce the cost commitments for the Annex-I countries to participate in reducing the emission of GHGs.
The Clean Development Mechanism (CDM) and the Joint Implementation (JI) represent the two most important baseline-and-credit systems that facilitate reaching the Kyoto limits for Annex countries, especially for States committed within an Emission Trade System (that allows for the credits conversion).

These mechanisms promote emission-avoiding projects in both Kyoto's Annex-I countries (JI) and within non-Annex countries (CDM). Based on the principle that for the atmosphere it does not matter where a GHG emission reduction is realized, through these projects, firms can receive credits (CERs or ERUs) to be certified within an ETS mechanism, or else sell them through the global carbon market. These latter projects provide flexibility to assist Annex I Parties in achieving their Kyoto commitments. Moreover, since the cost of emissions reduction would vary among places, due to varying levels of development and marginal abatement costs between countries, flexible mechanisms would facilitate cost-efficient reductions.

According to recent data, the total value of the primary CDM and JI markets are worth at least US$ 990 million and US$ 339 million in 2011 respectively. The total amount of quantified expected CERs in 2014 amount to 1.4 billion and the total JI current issuance count of about 835 millions.12 Although the data seem to show optimism apparently, registered projects have been reduced since 2012; and subsequently, the issuance trend of CERs and ERUs is currently declining.
It is indeed due to a current oversupply and a lack of demand of CDM and JI credits in the global carbon market that the prices of credits are decreasing sharply.

According to some data analyses, this tendency is not thought to reverse itself soon, because today the potential credit supply is about 2 Gt of CO2, but the current demand is only near 1,6 Gt of CO2 in the same period considered (2013-2020). Furthermore, “it will take time to see the full effect of price decrease on supply and there is a large potential for resurgence in supply if the issue of demand is addressed”. (Kossoy, Oppermann, Reddy, Bosi, & Boukerche, 2013, p. 20)

Since the EU-ETS is the main source of demand for both CER and ERU credits, the European policies may influence this. (Leguet, Fujiwara, Georgiev, & Centre for European Policy Studies, 2012)
For instance, at the end of phase II of the EU-ETS in 2012, and at the beginning of phase III, the eligibility process required the introduction of additional quantitative and qualitative restrictions on the offset use for international credits. As a result, in an attempt to secure credits compliance under Phase III, the Parties' submissions of project registrations experienced a high increase before December 2012.

After the EU-ETS eligibility deadline had passed, low credit prices are the main cause of a slowdown in project submissions because, essentially, “low prices affect the generation of CERs, as the current price does not cover the costs of verification and issuance of CERs for some existing CDM projects. This provides little incentive for project developers to originate new CDM project activities” (Carbon Market Watch, 2013; Kossoy et al., 2013, p. 22; Michaelowa A., n.d.)
According to the preceding analysis, demand/supply imbalance might consider different ways in order to be effectively addressed. Among the most important approaches, one would be to reform and move the CDM and JI mechanisms toward harmonizing with the European policy regulation, and leading the EU-ETS system to adopt a set of short, medium, and long term economic and political reform measures in order to “quickly” bolster allowance prices. (IETA, 2013)

Another possible way is through the use of New Market Mechanisms that would help in addressing the issue of demand through different modalities as we will see.
In the next paragraphs we are going to assess the former issue, since it is important to consider the main strengths and weaknesses which are characteristic of these mechanisms in order to gain important insights that would also be useful for designing new and ambitious market mechanisms, such as the New Market Mechanism (NMM).