An Emissions Trading System (ETS) imposes the obligation to comply on the facilities regulated under the System (generally of the energy and industry sectors), requiring that each ton of Greenhouse Gas (GHG) emitted by them is backed by an allowance. The ETS allows some flexibility, incorporating the use of offsets as an alternative to fulfill the facilities’ obligations. Offsets are generated in emission reduction projects carried out in sectors that are not regulated by the ETS (eg. in forestry, livestock, etc.), thus encouraging mitigation in different parts of the economy.
Before the implementation of the ETS, Mexico had had experiences in emissions reduction projects. On the one hand, within the framework of the Clean Development Mechanism (CDM) of the Kyoto Protocol, Mexico hosted projects producing Certified Emission Reductions (CER).
Besides, there is a Voluntary Carbon Market in Mexico in which private companies or individuals can choose to buy Verified Emissions Reductions (VER) or carbon credits voluntarily. All three instruments are mechanisms that provide additional, real and verifiable GHG emission reductions. Likewise, all three guarantee an effective reduction through the incorporation of rigorous methodologies.
Offsets in an Emissions Trading System
In an ETS that incorporates offsets, the government grants an offset credit with the regulated entity in exchange for the reduction of the GHG equivalent to an allowance. Commonly, a maximum limit is permitted for the use of offsets to prove compliance. This occurs because offsets, despite ensuring the global reduction of GHG, lower the price of the allowances and discourage the mitigation of emissions in the regulated sectors. However, if the criteria for effective reduction are guaranteed with protocols, offsets reduce compliance costs and promote sustainable development through their co-benefits.
One factor that makes the use of compensation attractive is the relationship it has with the CDM and voluntary market projects. For project reductions to be real, additional, permanent, verifiable, quantifiable and applicable, they use rigorous methodologies approved by the government that contemplate an MRV system (monitoring, reporting, and verification). This allows incorporating into the ETS some of the projects previously developed under the Kyoto Protocol or the voluntary market. However, it should be noted that offsets, unlike the other two mechanisms, are used by regulated entities of the ETS to comply.
Clean Development Mechanism in the international context
The Kyoto Protocol, born within the United Nations Framework Convention on Climate Change (UNFCCC), creates the obligation to reduce GHG emissions for industrialized countries (Annex I countries). To make compliance more flexible, it contemplates the implementation of the Clean Development Mechanisms (CDM), among other market instruments. CDM projects are voluntary projects that Annex I countries develop in non-industrialized countries (non-Annex I countries, including Mexico) to reduce emissions in the host country. The CDM generates Certified Emission Reductions (CER), which serve to ensure that Annex I countries follow their international commitments.
CDM projects use protocols approved by the United Nations that ensure that the reductions are effective. There is a wide range of methodologies that deal with different types of activities, such as chemical management, land use, construction, and transportation. Several methodologies and projects developed under the CDM can be adopted by the offsets scheme of an ETS, so they represent an important source of learning. Despite this, it is necessary to keep in mind that the CDM projects are developed by industrialized countries to meet their international commitments, not by regulated entities to comply with the ETS.
Verified Emissions Reductions (VER) in the voluntary markets
Voluntary carbon market projects seek to generate emission reductions in an unregulated manner, so they are not mandatory. Instead, they are purchased by companies or institutions to fulfill their environmental responsibility. The certificates, like the two previous mechanisms, are tradeable and market instruments. These projects have a purely voluntary nature and are not used to comply with an ETS or meet international commitments, as in the other two cases.
The certificates of these projects, also known as Verified Emissions Reductions (VER), are developed by private agents and backed by independent verifiers. Some of the most used verifiers are Gold Standard, Verified Carbon Standard (VCS) and BMV Standard. Each of these verifiers uses different methodologies, so they can serve as a source of learning for the offset scheme of an ETS.