Providing critical insights into energy and environmental markets The market for the flexible mechanisms: Carbon till 2012 and beyond Olga Gassan-zade Point Carbon April 24, 2008

Providing critical insights into energy and environmental markets Point Carbon today Trading analytics, Research & advisory, News and Conferences Covers carbon, power and gas markets 170 employees (25 Ph.Ds) Oslo, London, Tokyo, Washington, Kiev subscribers in 150 domains

Providing critical insights into energy and environmental markets Overview Carbon market now Carbon market in Post-2012 Focus on mechanisms and AAU trading

Providing critical insights into energy and environmental markets Carbon Market Now

Providing critical insights into energy and environmental markets Emergence of an effective carbon price Significant impact on European power prices

Providing critical insights into energy and environmental markets Maturing market

Providing critical insights into energy and environmental markets Still going strong EU ETS remains the key driver

Providing critical insights into energy and environmental markets Overview of CDM and JI Activities (as of April 2008) CDMJI # Projects/ transactions Total volume (MtCO2e) # Projects/ transactions Total volume (MtCO2e) Projects (total) 6,2174, PDD level and above 3,5963, Registered and above 1,0231,30013 Transactions7561,

Providing critical insights into energy and environmental markets CER and ERU price categories (April 2008) Contract category CDM (€/t) JI (€/t) 1. Project is still at concept/prospect stage or has developed a Project Idea Note. €6–11€ 4 – 7 2. Project has developed a PDD, and the PDD has been submitted to a DOE for validation. € 8 – 11€ 8 – Firm volume, compensation upon non-delivery € 12 – 13€ 10 – Guaranteed delivery, seller assumes all delivery risk € 13 – 15n.A Lower risk for the seller Higher risk for the seller

Providing critical insights into energy and environmental markets : Balancing supply and demand

Providing critical insights into energy and environmental markets Kyoto Gaps ( ) 05001,0001,5002,0002,5003,000 EU 15 Japan Canada Others [Mt CO 2 e] Net Kyoto Gap NTP GPP ETS Source: Point Carbon

Providing critical insights into energy and environmental markets Supply: Majority already in pipeline Total CDM JI Mt Existing projects - not risk-adjusted Upcoming projects - not risk-adjusted 19 % 81 % 94% 70%30% 57%43% Source: Point Carbon

Providing critical insights into energy and environmental markets Issuance 0% 20% 40% 60% 80% 100% Industrial processes Fuel switching RenewableEnergy efficiency WasteTotal Issuance rate Source: Point Carbon

Providing critical insights into energy and environmental markets What we say they will deliver 4,066 2, ,000 2,000 3,000 4,000 5,000 CDM face value CDM PCA estJI face valueJI PCA estTotal face value Total PCA est Mt -35 % - 52 % - 38 % Source: Point Carbon

Providing critical insights into energy and environmental markets the AAUs...Make a supply estimate Russia Eastern Europe Other Canada Japan EU15 Gt CO 2 e Source: Point Carbon Ukraine

Providing critical insights into energy and environmental markets Estimate Kyoto market balance...  Will the market be oversupplied? EU ETS Other private (incl. AAU) Governments Total demand3 - 5 ERU+CERs Potential AAUs Total potential supply8 - 11

Providing critical insights into energy and environmental markets …Not that simple Source: Carbon Project Manager, Point Carbon

Providing critical insights into energy and environmental markets Realistic supply of AAU

Providing critical insights into energy and environmental markets A balancing act between the mechanisms A split between CER/ERU and AAU demand Environment and development value of CDM and JI projects Banking between the periods? –ERUs and CERs can be banked only up to a limit of 2.5 % of the initial assigned amount Theoretically, AAUs can be banked without restrictions But will there be a value to AAUs post-2012?

Providing critical insights into energy and environmental markets A market with a certain dynamic AAU supply is sensitive to demand Snowball effect: –Success will create more supply No liquidity in the AAU market: –No transparent price-setting mechanism Pressure on the seller governments to deliver on the AAU value Pressure on the buyers to deliver on the price or other concessions

Providing critical insights into energy and environmental markets Not a commodity market A market with a limited number of sellers and a limited number of buyers A commodity with a limited circulation and dangerously close expiry date Price will not be set by an equilibrium of supply and demand Instead it will be set by –The willingness of the buyer to pay –The assessment of the seller of the value of the AAUs –Pricing in of risks and valuation of premiums Competitive selling or a cartel?

Providing critical insights into energy and environmental markets Timing is critical Eligibility established Early to end 2008 Compliance 2 year lag in reporting Accounting for 2012 will be done in 2014 True-up: +100 days True up reporting (undecided) Compliance assessment: mid-2015 The Kyoto balance: Saved by the AAUs? A report by Point Carbon Research. Publication date: May 2008

Providing critical insights into energy and environmental markets Factoring in post-2012…

Providing critical insights into energy and environmental markets InTrade, Apr 15: Winning individual Supports a mandatory cap-and-trade system to reduce US carbon emissions 80 percent below 1990 levels by % Co-sponsored the "Climate Stewardship and Innovation Act of 2007," which would cut carbon emissions by 30 percent from 2000 to % Supports a mandatory cap-and-trade system to reduce US carbon emissions 80 percent below 1990 levels by % Source: Intrade.com New US President: New policy

Providing critical insights into energy and environmental markets The proposal by the European Commission Proposal for 2020 –20-30% reduction of emissions –20% from renewable of total energy consumption –20% increase in energy efficiency –10% use of bio-fuels in the transport sector –Strong limitation on imports of credits  Significant increase in carbon and power prices across Europe  Massive investments in renewable energy and CCS  Any demand for new CDM projects? Transforming the European power market

Providing critical insights into energy and environmental markets Supply-demand for CDM EU demand if EC proposal implemented –20% target: 250 Mt/year, –30% target: 370 Mt/year, Supply in 2012: Mt/year US bill by Lieberman-Warner –750 Mt/year from countries that have a cap, not CDM Potential oversupply, unless –Change in policy –Large demand elsewhere International policy will define the future of CDM

Providing critical insights into energy and environmental markets Our main assumptions about post-2012 We believe there will be an international agreement - with broad participation US companies will rapidly start setting their mark on the global carbon market over the next couple of years Offset projects in developing countries will continue to play an important role, but in a different way We question whether there will be one reference price

Providing critical insights into energy and environmental markets Prospects for CDM and JI JI will take the place of CDM –Developing country caps –Large market Four types of involvement –Extended Annex I: country cap –Capped developing country sectors –Developing country sectors not eligible for CDM –Developing country sector eligible for CDM Narrow and small CDM

Providing critical insights into energy and environmental markets Timing and structure Timing –New protocol in Copenhagen 2009 –2-4 years for extending and ratification of the protocol Instruments for reduction –Cap-and-trade for extended Annex I –Cap for individual sectors in many developing countries Market structure –Individual markets in USA and Europe –To some extent linked through CDM –Significant developing country emission will be capped

Providing critical insights into energy and environmental markets Post-2012: What price?

Providing critical insights into energy and environmental markets The known unknowns Number of participants and level of ambition Supplementarity limitations Banking (of hot air) The redefinition of the CDM And then we have the unknown unknowns...

Providing critical insights into energy and environmental markets Conclusions  From Europe, the global carbon market looks well and healthy  Post-2012 will be very different from the current world  Challenges for JI and AAU trading  Not a negotiating priority  No longer JI as we know it?

Providing critical insights into energy and environmental markets Thank you! Olga Gassan-zade