China, India Opposed To Closing $5 Billion Loophole in Kyoto Treaty

Perverse incentive for manufacture of super greenhouse gas creating windfall profits and little climate benefit

The climate regulation body of the United Nations will soon consider a proposal aimed at closing a multi-billion dollar loophole in the Kyoto Protocol. The loophole has provided the incentive to companies, especially in China and India, to manufacture a "super greenhouse gas" so they can be paid handsomely to destroy it.

The companies in question are in the business of making the propellant and coolant gas HCFC-22 (chlorodifluoromethane). It turns out that a byproduct of the manufacturing process is the waste gas HFC-23 (trifluoromethane), which is a lethal global warming agent, almost 12,000 times more potent than carbon dioxide.

That is why the United Nations Framework Conference on Climate Change, or UNFCCC, created a system to encourage destruction of HFC-23, providing valuable offset credits in return. That system, run by the UNFCCC's Clean Development Mechanism or CDM, has created a "perverse incentive" for companies to actually produce more of the gas simply so it can be destroyed.

"In the most cynical view, this looks like a total disaster of public policy," said Durwood Zaelke, president of the Institute for Governance and Sustainable Development. "The truth is that it is probably a series of unfortunate events that led to what is becoming a disaster if it is not corrected."

That's why the UN is considering shutting down the loophole, but China and India stand opposed.

Billions in offsets

In a 2007 commentary in the journal Nature, Stanford Law School researcher Michael Wara first called attention to the problems with the CDM's system of Certified Emissions Reduction credits.

It is now estimated that more than $5 billion in offsets have been paid for HFC-23 destruction, and analyses indicate that the companies often increase production when credits are available and decrease it when they are not. The profit potential for the HCFC-22 itself is relatively low. The waste-gas byproduct brings the real windfall.

With modern technologies that are relatively inexpensive to deploy, the ratio of HFC-23 to HCFC-22 have been as low as 1.5 percent or better; many factories achieve this when no CDM incentives are available, but the ratio can double when companies stand to profit.

"If the Methodologies Panel of the CDM does its job, they have no choice but to revise the HFC-23 destruction methodology to rectify some of its more egregious aspects," said Samuel LaBudde, a director at the non-governmental Environmental Investigation Agency.

"Specifically the inflated co-production ratio for HFC-23 byproduct and the perverse economic incentive that makes destroying HFC-23 byproduct emissions two to five times more profitable than selling the principle HCFC-22 product." 

The Methodologies Panel will submit a recommendation on whether or not to change the system to the CDM board at the end of June.

A spokesperson for the UNFCCC, David Abbass, told SolveClimate that the existing framework does include safeguards to prevent perverse incentives.

"Specifically, no new plants can qualify to earn credits and the amounts that can qualify are pegged to historic production levels," he said. "The question now is whether the safeguards need to be adjusted or added to. That's what the Board will be looking at."

According to analyses by LaBudde's Environmental Investigation Agency, though, as much as 25 percent of the offsets purchased since 2004 could be "essentially fraudulent," and may represent increases in emissions rather than cuts. The suggested changes to the CDM's system would lower the cap on the HFC-23/HCFC-22 ratio to below 1 percent and would apply to factories already registered upon renewal of their crediting period.

Regulation versus market

Zaelke said that the best approach would be to abandon the market-based schemes and simply require the capture and destruction of HFC-23.

"That is what all countries should do. The total cost is very modest. The environmental benefit for climate is huge," he said.

"We became so enamored of market mechanisms in the last couple of decades that we often forgot the clarity and effectiveness of direct regulation. If we are going to continue to rely on market mechanisms we're going to have be a hell of a lot smarter in how we regulate them."

LaBudde agreed, noting that the CDM would be responsible for system failures if no action is taken this summer to rectify the problem. "If the CDM fails to do this, it will be the same as saying that its okay to game and abuse carbon markets for climate mitigation by producing bogus emissions offsets."

He also pointed out that the CDM profits rolling in to India and China may be holding up another possible mechanism for regulating super greenhouse gases, the Montreal Protocol.

If that treaty incorporates HFCs into its framework, analyses have indicated that a $4 billion investment could produce an emissions reduction of up to 210 gigatons of CO2-equivalents by 2050; this is equal to as many as six years of worldwide fossil fuel burning.

"China and India have extremely lucrative CDM projects that they wish to continue for as long as possible," LaBudde said, "and are willing to hold hostage the Montreal Protocol's interest in regulating HFCs and the larger UN climate negotiations, unless they are given their way."

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