While not fatalistic, the negative consequences of such a disruption at the hands of a regulator, just months before they introduce a compliance regime have begun to surface. Since the announcement in February, carbon projects verified under the state’s endorsed voluntary protocol experienced a decline in their present value as the market ‘prices-in’ enhanced regulatory risk. One can presume that future financial due diligence of outside project’s will cite this case as an example of the high potential for regulatory fickleness in the early years of emissions reduction programs.

Over the past two years, more than 200 carbon reduction projects were developed and funded based on the assumption that their credits would soon quality for recognition under the California’s mandatory cap-and-trade scheme. This assumption was not the result of an overly optimistic misinterpretation, rather, a collective interpretation of actions that were seen to be deliberate initiatives to encourage early action in reducing emissions.

The Relationship Between Compliance and Voluntary Protocols

In 2006, California passed Assembly Bill 32 (AB 32), a comprehensive program of regulatory and market mechanisms aimed at lowering the state’s greenhouse gas emissions. The bill paves the way for the introduction of a cap-and-trade scheme and directs the Air Resources Board (ARB), as the regulator of emissions, to ‘adopt methodologies for the quantification of voluntary greenhouse gas emissions’ and ‘design the regulations, including the distribution of emissions allowances where appropriated … and encourage early action to reduce greenhouse gas emissions.’

A year later, the ARB acted as instructed by the legislative text, adopting its first methodology, a forest carbon offset protocol. The protocol, or methodology, was introduced by the Climate Action Reserve (CAR)- a state sponsored not-for-profit created to develop the rules and protocols in the California voluntary market. The collective interpretation of the relationship between CAR and the ARB was that CAR served as the testing ground for emissions reduction projects, allowing innovation to flourish while at the same time tweaking the rules and role of oversight agencies. Where CAR protocols satisfied compliance standards, the ARB would adopt them into the compliance framework.

Over two years, the ARB adopted three more CAR methodologies – an updated forest carbon protocol, as well as methodologies for livestock management and urban forestry.

The decision of the ARB – as the future compliance regulator – to adopt methodologies currently serving as voluntary standards sent the market a clear signal: projects that qualify under CAR’s voluntary protocols will be grandfathered into the compliance scheme. In fact, staff at ARB themselves believed that by adopting the voluntary emissions reduction protocols they were delivering early actor initiatives required by AB 32. They aimed to provide some certainty for projects moving forward, which is how project developers and those entities with a future emissions liability saw the ARB’s actions.

Under these conditions, the CAR voluntary market grew. In 2009 the transactions of credits from CAR projects reached 8 million tons of CO2-e, with a market value over $52 million USD.

Procedural Mix-ups, Confusion and Disruption

Earlier this year, the ARB unwound the relationship between voluntary and compliance protocols. The catalyst for the confounding decision was the release of an updated version of CAR’s forest protocol. In the call for public comments, the Center for Biological Biodiversity, a conservationist NGO, submitted a harsh criticism of the amendments. No corrective actions were taken by CAR and in November 2009 the ARB, once again, unanimously adopted the updated version of the forest protocol.

The NGO reacted by issuing a press release asserting the illegal adoption of the protocol, due to the ARB’s failure to assess the environmental impact of the amendments included in the updated version. Only one of CAR’s four protocols was being challenged, yet on February 25th, under the weight of legal scrutiny, the ARB withdrew the adoption of all of its previously endorsed protocols.

In short, they said each voluntary project verified under the previously adopted protocol must be reevaluated based on compliance measures; Media covering the story aptly described the event as the ARB effectively moving the goalpost for verification of emissions reductions.

The NGO’s legal threat may be have merit under California’s environmental laws. Similar to New South Wales and other jurisdictions, California’s environmental legislation calls for an environmental impact assessment of any major policy or development project that may significantly impact the environment. The NGO community argued the amendments of the forest protocol, especially the broadening of the definition of natural resource management, would trigger the required environmental impact assessment.

The legal and environmental integrity of the cap-and-trade program are vital for its success. A revamping of the ARB procedures to promote transparency of environmental impacts and public review for policy action may have been necessary to uphold California’s environmental laws.

But their move not only revamps procedure – it also disowns all actions taken thus far, severing the link between compliance and voluntary markets. This knee-jerk reaction unwinds a core element of a pre-determined strategy to encourage early actors. It indicates the ARB underestimated the long-term ramifications of its actions to the future of California’s voluntary market and beyond.

Demand Drivers

The growth of the market for CAR carbon reduction tonnes (CRTs) is a testament to the potential of market forces when, as the ARB so eloquently described it, ‘certainty for projects moving forward’ is present. Prior to 2007, the CRT market did not exist. But by late 2009, CRTs accounted for 70 percent of the value of voluntary emission reduction credits transacted in North America and a lion’s share of the growth in the voluntary market during the same period.

Since the decision by the ARB to withdraw its endorsement of voluntary methodologies, trading prices of CARs have dropped by roughly 15 percent. While price depreciation remains somewhat muted, most of these transactions represent bilateral agreements between project developers and investors. Due to the relative illiquidity in this market, prices do not respond immediately to market events. This means the future price of CRTs is much more uncertain.

A survey of the U.S. voluntary carbon market participants showed that 65 percent of buy side participants seek to manage a future compliance risk. Pre-compliance purchasers are made of utilities, mining companies and other energy intense industries that will most likely have an imposed emissions liability in the future cap-and-trade scheme. By buying credits early, they can begin to meet this liability while prices are still low.

The same survey indicated that without a clear knowledge of the rules and targets most buyers are content to wait rather than risk purchasing credits that may prove worthless down the road. This is especially true for pre-compliance purchasers: From their perspective, there is no incentive to act early when the rules of a future compliance regime are murky.

Early actors incur higher costs to initiate projects because more time and research are required to develop projects. The first projects to conform to new protocols determine the practical interpretation of the principles behind it. The scope and depth of information as well as the basis for verification become standardized by a process of trial and error during the first few project’s path to implementation.

Developing the protocols themselves is a costly endeavor. Despite the free service they give to the future of the industry by providing a model for development, no price premium is given to their credits. The only form of benefit for early actors derives from managing a future ‘known’ risk.

The Ripple Effect

Survey after survey indicates that a higher probability of regulatory uncertainty reduces research spending and innovation exponentially. Consequently, the best way to catalyze early action is to provide knowledge of the future risk and a certain path to manage it. This theory is heard echoed in each public debate surrounding carbon reduction policy decisions.

By laying out a clear path to a compliance regime, California and the ARB showed the rest of the U.S. (and other jurisdictions) a model path to a formalized compliance regime. While other jurisdictions vacillated between different regulatory options, or whether to act at all, California demonstrated leadership by engaging the investment community in early action to trial project types and regulations necessary to bring about desired emissions reductions.

Unfortunately, their leadership role makes their hasty action that much more damaging. Instead of actions which propagate a vacuum of certainty, the ARB has shown that certainty itself may not be so certain. This heightened uncertainty will be quantified and integrated into financial modeling tools used by project investors to gauge the investment potential. Higher quantified uncertainty means a project produces lower ‘risk-adjusted’ returns, which, in the long run, means fewer projects get off the ground. The drop in CRT price after the ARB decision validates this occurrence.

Just as California’s AB 32 and its early actor initiatives became the model for low carbon policy making, so too will the regulator’s back flip become exemplary of the potential dismantling of carbon reduction programs by their creator. While Californians sit at the gates of a compliance regime, where certainty will have more of a legal backbone, other markets slowly scale below political cross-firing, edging towards certainty. But with the California case in mind, what will the words or actions of regulators bring?

Unless California can quickly re-institutionalize the voluntary – compliance links, this time with legal procedures, early actors and the investment community in other markets will conceptualize a new dimension of uncertainty – even when a clear path to compliance exists.

Many Americans repeatedly awoke to record breaking low temperatures – in fact temperatures lingered around 15 degrees below the norm.  The wrath of cold arctic air dipped further south this year, sending residents of tropical Florida frantically rummaging through their attics in search of gear normally reserved for ski trips and Halloween costumes.

Areas throughout the UK dealt with weather noticeably more harsh than usual.  London experienced a cold snap, as severe as any other during the past thirty years.

In China, the government ordered schools closed and pulled citizens away from their every day vocations in order to gather enough man-power to clear snow that had shut down highways and airports.

What does all this cold weather mean in regards to global warming and climate change policy?

Most of us remember our primary school lessons discussing the difference between weather and climate, so we hopefully recall that cold weather on any given day, or series of days, does not mean an end to global warming or perverse science.

Unfortunately this lesson has been forgotten, or eagerly overlooked by many journalists and government representatives.  Typically a space reserved for conspiracy theorists and a growing slew of evangelical and right-wing bloggers, many participants in mainstream media and representatives in the US Congress interpreted the bitterness of a cold winter morning as evidence that successfully postulates the global warming hoax.

This divorce from commonsense by high level officials is best exemplified by the actions of a Senator from Oklahoma, who decided to voice his doubts in climate change science by building an igloo in Washington DC with a big sign posted on the top reading “Al Gore’s New Home.”

How can the climate/energy debate in the United States remain legitimate and productive when deniers have claimed victory by presence of snow and ice?

Unfortunately, evidence suggests, it can’t.

The strangely dubious combination of cold temperature records and politicians turned proselytizers in advance of an upcoming election year, has proved potent enough to derail the American government’s approach to mitigating climate change.  During the months of January and February, the climate change debate came to a screeching halt in the US.  There were even strongly worded suggestions from leaders within the Democratic Party that Obama pull emission trading off the climate change bill.

It appeared that we had arrived at a point where the most well studied, most critiqued scientific theory, upheld by over 30 years of dedicated research and supported by every major scientific body in the world, has been outweighed by a cold winter symbolized by the presence of an igloo adjacent to Capitol Hill.

So how do scientists explain the bitterly cold weather in context of an overall warming trend in the earth’s climate system?

Scientists at NASA were chomping at the bit to get their hands on atmospheric temperature data.  At their first glimpse of data gathered by satellites in the lower troposphere, they realized Mother Nature has a sick sense of irony.  January was a warm month – actually the third warmest month as recorded by the satellites in this data-set. Yet a few cold pockets hovered over certain sections of the globe.

These cold-air pockets were stationed precisely over the heads of the world’s most influential climate change decision makers and the most intensely media covered space of the climate change debate—the eastern US, most of Europe and China. The satellite data explicitly validate the weather versus climate change delineation we all learned in primary school. Click here to see the temperature distribution in the lower troposphere during the month of January.

What will spring bring?

During the month of March the cold-weather argument seemed to fade from dialogue in climate and energy policy forums.  Does this mean policy makers and overzealous members of the American media have learnt important lessons from this experience?  Or has the snow simply thawed?

As early spring began to defrost frozen lakes in the Mid-West and sidewalks in the northeast and Floridians regained their bronze tans, the draft of a new climate change bill made its way around industry and environmental lobbyists on Capitol Hill.  Surprisingly, reactions from both camps have been that of a cautious thumbs up.  So, perhaps primary school textbooks aren’t exactly correct and require a caveat.  There seems to exist some correlation between local weather (particularly in Washington DC) and the climate (issue not system) – not a scientific correlation, but one politically engineered.

The voluntary carbon offset market recently entered the ‘personal’ space, paving the way ahead for climate change policy innovation.

For the first time, a carbon credit was created by people – not for retiring timber concessions to stop the destruction of a rainforest or installing industrial gas capturing technology in a polluting plant, but rather, individuals making simple retrofits to their home and lifestyle to reduce their emissions.

Sick of ever-growing energy bills and keen on checking out government incentives for renewable options, Tami and Randy Wilson from Harrisburg, Pennsylvania, developed an emission curbing plan and a year later generated a $21.50 personal credit that was sold on the voluntary market.

To do it, then set up a baseline – or starting point – that they wanted to change. They installed photovoltaic panels on their roof, switched to compact fluoro and cut their energy demand.

The Wilsons accounted for their reduced carbon footprint by reviewing a year’s worth of reduced energy bills.

Bloggers obsessed with climate change policy, sustainability and renewable energy were quick to point out that few people will motivate to make big changes in their lives for $21.

But the case for change is not so short-sided.

Yes, the Wilsons invested $56,000. But they got $36,000 of it back in government grants, and with their system generating $2,000-$3,000 a year in renewable energy credits, they should come out ahead of the game in six years.

Looked at within the grander sphere of climate change policy, this development has several implications.

Research from MyEmissionsExchange.com, the website that helped the Wilsons formulate their plan, shows that most homeowners can save $50 a year in electricity bills by simply unplugging appliances when not in use. That sum goes up to several hundred dollars when a household engages in practices like adjusting the thermostat so that heating and cooling are only switch on when needed, or sun-drying clothes rather than using a dryer.

Not only does the money earned from generating and selling carbon credits trigger the first step of discovery, but it also sends a price signal. Individuals quickly comprehend the financial benefits of energy efficiency and demand management and can apply energy/carbon price signal observations in other areas of life.

For instance, when acting as a consumer, the avant-garde individual – your Tami or Randy Wilson – who understands the scale of energy consumption and its costs, will factor the ongoing operating costs of one particular appliance versus another. The same edification can evoke contemplation of a product’s embodied energy, and the influence of a future price of carbon on energy intense products.

Also, simply by participating in this exercise, individuals will have first hand experience with the inter-workings of an emissions trading scheme – a concept that otherwise brings images of a downtrodden plant worker standing at the forefront of a brown coal power station. What I’m getting at is that learning by doing will be much more successful than a politician reciting the notes from Ronald Coase’s seminal paper ‘The Lighthouse in Economics’.

The idea of personal carbon trading is not exactly new. The British government for years has placed emphasis on the concept in designing its elaborate and ambitious climate change policy. In fact, the government expects energy efficiency to account for more than half of Britain’s expected 60 percent emissions reductions from 1997 levels by 2050.

In 2008, during the exploration for potential policy options to drive emissions reductions, ministers from the British House of Commons Environmental Audit Committee recommended that the government implement a system of personal carbon credit trading. The result was a framework outlining how individuals would be allotted carbon credits, and guidance on how those with leftover credits could sell those credits to those whose emissions exceed their allotment.

Committee Chairman Tim Yeo made a strong case for the plan and asked the government to act “courageously” in the face of potentially strong public opposition at the start. In an interview with the BBC, he said that personal carbon trading had “real potential to engage the population in the fight against climate change and to achieve significant emissions reductions in a progressive way.”

In Australia, the potential for personal carbon credits is vast. Yet we can cut per capita emissions, which are highest in the world – higher than in the U.S. or China even – by simply using less energy at home. Studies show that energy consumption in homes can be reduced by as much as 35 percent with the adoption cost effective technology. That would mean a reduction of seven tonnes of greenhouse gases per year. Verifying these emissions reductions with a third party auditor and selling them on the ‘personal carbon market’ could generate a few hundred dollars of extra cash.

And that might just be the motivation Australians need to do a bit of research and modify their home or lifestyle. We just need that push.