Memorandum submitted by JP Morgan Chase
& Co
SUMMARY
— Global cap and trade with international
offsets the most cost-effective way of tackling emissions.—
Encouraging recent US developments. But transition to truly global
carbon market may be lengthy, and priority needs to be given to
the question of how different carbon markets can be better linked
and harmonised, and how a fungible unit can be traded across markets.—
Above all, to be effective, carbon market requires policy and
regulatory frameworks that provides investors with long-term certainty.
Prolonged uncertainty will un-necessarily increase cost of capital.
— International offsets that utilise flexible
mechanisms are necessary: the CDM is by no means perfect, but
scaled-up and reformed CDM represents best way forward for an
evolving carbon market. Such a mechanism could continue to help
reduce emissions in cost-effective manner, bring developing countries
further into mitigation, and might be most suitable candidate
to generate fungible cross-market unit.
— Voluntary carbon market plays valuable
complementary role to compliance markets. DECC's decision to exclude
VERs, at this stage, from its quality assurance scheme was a mistake.
INTRODUCTION
1. J.P. Morgan is a major player in international
carbon markets. Our Environmental Markets team, part of our overall
Global Commodities business, has a strong origination, trading
and sales platform around carbon emission reductions, covering
the EU Emissions Trading Scheme, Clean Development Mechanism and
emerging regional compliance/pre-compliance markets in the United
States. The Environmental Markets team, run from London as the
centre for emissions trading, has personnel based in New York,
India, Africa and South America. In addition, J.P. Morgan has
a strong presence in the voluntary carbon market, through its
acquisition 12 months ago of ClimateCare, the pioneering carbon
offsetter.
2. The business works closely with advisers based
in London and New York on policy and regulatory issues. We are
active in the policy arena. We hold one of the Vice-Chair positions
of the Carbon Markets and Investors Association (CMIA), and chair
the CMIA's Regulatory Oversight Committee. We chair the Climate
Change Group of the American Chamber of Commerce to the EU, based
in Brussels. In July 2007, the Head of J.P. Morgan Global Commodities
testified to the US Senate Committee on Environment and Public
Works in a hearing on "Global Warming Policy".
3. J.P. Morgan is moreover a major investor
in renewable energy, with over $2 billion of bank capital invested
to fund wind and solar projects in the US. We have also helped
raise another $3.4 billion from other institutions for investment.
4. In summary, we are fully engaged in the
carbon and clean energy markets and view them as a priority for
the bank and our clients. We believe that our global presence,
especially in Europe and the US, makes us well-placed to comment
on key issues relating to international carbon markets and their
role in mitigating dangerous climate change.
CORE PRINCIPLES
5. J.P. Morgan takes a leadership role in
the financial services industry, helping to reduce our greenhouse
gas emissions in our value chain and internally. We will co-operate
with others to help achieve significant reductions, working with
our clients and closely engaging with policy-makers around the
world. This approach towards climate change is framed by the following
core principles:
— based on the scientific evidence from
the Intergovernmental Panel on Climate Change, climate change
is linked largely to the emissions of greenhouse gases caused
by human activity;
— we therefore endorse the precautionary approach
of early action to tackle dangerous climate change; and
— in that context, we need a comprehensive
public policy towards climate change that establishes certainty
for investors and stimulates significant investments in greenhouse
gas mitigation.
6. The Environmental Audit Committee has
invited respondents to submit memoranda on a potentially wide
range of issues in relation to carbon markets. J.P. Morgan's submission
has been prompted by our business interests outlined above and
our leadership role in the financial services sector, and we would
therefore like to concentrate on three priority issues:
— the development of a global carbon market;
— the Clean Development Mechanism and international
carbon offsets; and
— the voluntary carbon market.
DEVELOPMENT OF
A GLOBAL
MARKET
7. The purpose of emissions trading, as
set out as one of the flexible mechanisms in the Kyoto Protocol,
is to reduce carbon emissions at least economic cost. Against
that background, J.P. Morgan views a global cap and trade system
with offsets as the most cost-effective long-term policy framework
for reducing emissions associated with climate change and establishing
a price for those emissions. In contrast to a carbon tax, a mandatory
cap provides certainty and transparency in respect of the environmental
objective; and the trading element serves as a crucial cost-containment
and capital allocation mechanism. It is a well-tested and understood
mechanism, for example in relation to tackling sulphur and nitrous
oxide emissions in the US, that is able to harness the power of
markets to achieve the environmental objective cost-effectively.
A cap and trade programme, with global coverage and long-term
certainty, will help allocate the capital and manage the risks
associated with the technology advances needed to make currently
uneconomic project types viable, including carbon capture and
storage, advanced photo-voltaic and other next generation technologies.
8. We also recognise that such a global system
will take some time to develop and that cap-and-trade cannot and
should not be the sole policy response to dangerous climate change.
There are a variety of additional policy mechanisms available
to play a significant role in slowing, stopping and reversing
growth in greenhouse gas emissions. In particular, national and
regional initiatives to: implement energy efficiency standards
and policies; incentives to develop and deploy low-carbon technologies;
and regulation, where appropriate, to influence consumer behaviour.
Technologies and processes developed through these mechanisms
can find global markets, ease transition costs and reduce political
challenges to global policy integration.
9. In this respect, J.P. Morgan endorses
the broad policy approach being pursued by the UK Government and
European Union towards tackling dangerous climate change, where
an emissions trading scheme—and we acknowledge the pioneering
role played by the UK here—lies at the heart. The EU has
continued to develop its own emissions trading scheme, and we
welcome the certainty it has provided through the decision, no
matter what happens internationally, reached in December 2008
to proceed with and expand the European carbon market after 2012.
More recently, other developed nations have started to go down
the cap and trade path: Australia, New Zealand and Japan. But
the most notable developments are now taking place in the United
States.
10. In the US, the Obama Administration
has set a goal of reducing GHG emissions 80% below 1990 levels
by 2050 through a cap and trade programme and pledged significant
re-engagement in the UNFCC-driven international process. Leadership
in both houses of Congress—bolstered by strengthened majorities
from the recent elections—are actively working to develop
legislation for the implementation of a federal cap and trade
scheme. In parallel, the US is likely to implement complimentary
energy policies to increase the development and deployment of
low-carbon and non-emitting generation resources. In short, it
appears that the US has reached an inflection point where the
question is no longer whether or not federal action will be undertaken
to control GHG emissions; and has shifted to the debate about
policy mechanisms, targets and timelines.
11. In this context, the next two years
are a critical period for the development of US policy. The essential
corollary is the extent to which the ultimate US programme creates
conditions that foster the long-term development of an integrated
global carbon market. In the short-term this is a question of
flexible mechanisms and international project-based offsets that
connect the US to the broader international market. In the longer-term,
the key issue is the extent to which initial US policy contributes
to a framework of common but differentiated international responsibilities
that provides a robust and durable carbon price signal.
12. These national and regional developments
are very important. But they will not be enough in themselves.
At present we have what might be described as a patchwork international
carbon market, where there is potential for either increasing
linkages but also the threat of prolonged fragmentation. If the
carbon market is to play its envisaged effective role in reducing
emissions, this question of linkage is fundamental to progress.
We should therefore like to reinforce the point that participants
require policy frameworks on linking markets that will give investors
clarity and predictability for the long-term, in particular:
— a comprehensive international agreement
on climate change incorporating commitments from developed and
developing countries;
— detailed proposals about how to overcome
the complex regulatory and financial barriers to linking different
carbon markets; and
— specifically in relation to linking,
proposals on how participants can trade—especially during
this transitional period—in carbon allowances from one system
to another, ie through a legally recognised and fungible unit.
13. The case for a global carbon market,
with a universal price for carbon, is clear. Such a market would
provide the common purpose and economy of scale—underpinning
the pathways to the medium and long-term emissions reductions
goals which should be the centrepiece of an international climate
change agreement—to enable the efficient deployment of capital
to facilitate the transformation to a low-carbon economy. But
the transition to the global market may be lengthy and problematic.
We suggest that a focus on this transitional phase, with the emphasis
on linking and harmonisation, will be just as important as the
arrangements that eventually support a single market.
14. During the transitional period, the
development of a federal US cap and trade scheme will obviously
be key. It will therefore be vital for policy-makers in the UK
and Europe to stay close to the US administration and Congress
as they consider their own scheme. In that regard, J.P. Morgan
welcomes the recent proposal from the European Commission to institute
a joint EU-US working group on carbon markets: it will be important
for existing financial sector participants in the market to provide
their input and expertise, and we would welcome the opportunity
to contribute.
15. There is one other issue we should address,
relevant to the performance of the EU ETS right now and the broader
issue of linking. There has been extensive commentary in the media
recently about the fall in the ETS carbon price. J.P.Morgan takes
the view, as do other market participants, that this is very much
related to the bigger picture and these almost unprecedented economic
circumstances. We are clear that policy-makers should avoid any
precipitate responses that might be damaging in the longer-term.
Notably, there have been suggestions that price controls, in the
form of floors (or ceilings), should be introduced. We oppose
any such suggestion. First, price controls would take us down
the road of a carbon tax, with regulators setting the price as
opposed to the more economically and commercially efficient means
of letting the market decide. Second, price controls introduced
in one market would make the task of market linking considerably
more difficult, as it would be hard to imagine other programmes
allowing in credits that are artificially low due to price controls.
16. In response to the problems the ETS
is experiencing—and the risk of excessive price volatility
that might undermine the credibility of carbon markets more generally—we
return to our fundamental point about policy uncertainty. A tenet
of this market is that it is driven by policy; and, so long as
the over-arching international policy and regulatory frameworks
are not in place, the uncertainty will continue, thus making investors
understandably reluctant to commit capital because they cannot
have a clear view about the future price of carbon. This uncertainty
and consequent risk raises the cost of capital un-necessarily.
So, although we acknowledge what European legislators have done
to provide post-2012 predictability for investors, the overall
international picture—pending a comprehensive agreement
incorporating major developed and developing countries—remains
unclear for business. Ad hoc interventions in the ETS would if
anything increase policy risk for investors: an international
policy framework for the long-term, based on medium and long-term
emissions caps, are what the market needs to evolve to achieve
its mitigation role.
CLEAN DEVELOPMENT
MECHANISM (CDM)/INTERNATIONAL
OFFSETS
17. In paragraph 7, we said that we viewed
cap and trade with offsets as the most effective long-term framework
for addressing dangerous climate change. We should therefore like
to cover the role of offsets, and specifically the CDM. Policy-makers,
notably in Europe and the UN, have consistently advocated the
part that emissions trading schemes can play in bringing forward
action on emissions in developing countries, and how such schemes
could drive flows amounting to tens of billions of dollars each
year to support the transition to low-carbon development paths.
This is why the future scope and structure of the CDM, and the
possibility that it will be scaled up, is high on the agenda for
the Copenhagen conference in December.
18. The CDM has been much maligned in recent
months, with critics questioning whether its projects are truly
"additional". We acknowledge that the CDM has its failings:
it lacks transparency; it is too bureaucratic and its administrative
procedures are overly burdensome; it doesn't provide sufficient
coverage of least developed countries; it would benefit from a
full-time board. These failings understandably fuel sceptics'
misgivings about the CDM's effectiveness in mitigating climate
change.
19. But we shouldn't let these defects blind
us to the CDM's successes. Since it was established, it has been
responsible for more than 750 previously uneconomic clean energy
projects that have been implemented in the developing world, covering
project-types such as wind, hydropower, biomass energy and landfill
gas. According to a conservative risk-adjusted estimate from the
UN Environment Programme, the CDM is likely to generate at least
1.5 billion tonnes of emissions reductions in carbon dioxide equivalent
up to 2012. More than that, there is the role the CDM fulfils
in promoting awareness of climate change with governments, regulatory
authorities and businesses in developing countries. A scaled-up
CDM could register even more of an impact in this sense.
20. The other aspect relating to CDM and
offsets in their broader sense concerns the core objective of
emissions trading: to cut emissions at least economic cost. While
we appreciate that developed countries should abate carbon substantially
in their own backyard, and that it would be wrong simply to "buy"
their way out of their reductions commitments through cheaper
investments in low-carbon projects in developing countries, policy-makers
will also acknowledge that climate change mitigation has to be
balanced with what is realistically affordable, and that it will
ultimately be impossible to defeat dangerous climate change without
business and popular support. The flexible cost-containment role
that offsets in the shape of mechanisms such as the CDM play are
therefore essential, especially during the critical transitional
phase we have highlighted earlier.
21. So J.P. Morgan advocates an ongoing
pivotal role for the CDM and offsets, viewed both from a climate
change and business competitiveness perspective. We believe that
the focus in the forthcoming international negotiations should
be on how to improve and scale up the CDM so that it can provide
necessary emissions reductions in developing countries that are
measurable, verifiable and additional. The approach that the international
community takes on this important issue will also be germane to
the design of US cap and trade, where the argument for international
offsets still needs to be won. The other—so far unrealised—function
that a reformed, improved CDM might provide is to be the fungible
commodity that can be traded between different cap and trade schemes
during the transitional period. Hence the need for recognition
of and support for the mechanism, at least in principle, across
the policy-making spectrum.
22. One other issue we would briefly raise
is forestry. According to the IPCC, deforestation accounts for
nearly 18% annual GHG emissions. Allowing tropical forest preservation
to count as an offset would significantly expand the scope for
emissions reductions. We know that this would call for major work
on legal frameworks and technical issues such as permanence. However,
the creation of incentives relating to avoided deforestation (REDD
credits) must be a priority for the international negotiations.
VOLUNTARY MARKET
23. The role of the voluntary market in
tackling climate change is often overlooked. We would like to
use this opportunity to underline the benefits the voluntary sector
can bring:
— it is a market with full price elasticity
and, as such, can be used to reinforce compliance markets;
— it also provides an outlet for innovative
project-types that at present do not qualify for the CDM (often
more for political than for sound environmental reasons);
— voluntary projects also help to build
capacity, especially in developing countries where CDM projects
tend not to proliferate at present, such as in Africa; and
— the voluntary market brings many citizens
into contact with low-carbon projects and helps to spread awareness
of climate change.
24. For these reasons, J.P. Morgan was disappointed—as
were other voluntary market companies—by the decision taken
by the UK Department of Energy and Climate Change to exclude Verified
Emissions Reductions (VERs) from the Quality Assurance Scheme
for Carbon Offsetting that it recently launched. We are concerned
that this decision sends the wrong message about the voluntary
market and ignores the steps the industry has taken to improve
quality and behaviour in the sector over the last two years. Government
officials have told us that "the door is open" to ongoing
dialogue on this issue; we will take them at their word and hope
they will be prepared to re-consider their decision soon.
3 March 2009
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