Japan’s bilateral carbon finance: a new opportunity for India

Japan is promoting low-carbon technologies in developing countries through its bilateral carbon finance scheme. The scheme

can revive India’s green businesses facing record-low carbon price in the global market.

India is a vast country with a population of 12 billion, but with limited endowments in fossil fuels. Hence India has been very active to promote energy efficiency and develop renewable energies from an early stage.  In the past decade, Clean Development Mechanism (CDM), operated under the United Nations Framework Convention on Climate Change (UNFCCC) has been one of the key drivers to promote and finance energy efficiency and renewable energies. As of November 2012, 932 CDM projects have been registered in India, among which 695 are renewable energy projects and 83 are energy efficiency projects (IGES 2012).

CDM in India faces challenges in multitude

CDM in India achieved a lot, but it is now at a challenging time. A senior ex-official of the Indian government said Indian CDM is shrinking due to the lack of developed countries’ commitment and demand for offset credits.

Fundamentally, this demand problem can be only be solved by greenhouse gas reduction commitments by developed countries. But the picture is not very encouraging. After Kyoto Protocol’s 1st commitment period expires at the end of 2012, less countries – primarily European Union – are likely to sign up to the 2nd commitment period. Even EU’s appetite is likely to be limited for Indian CDM credits, as its stated position is to only accept Least Developed Countries-origin credits from 2013. Although a new global commitment is expected to be implemented by 2020, 8 years is a long period for investors and project developers to sit and wait.

In addition to the lack of credit demand, the complexities over the UN’s registration process as well as methodologies are also major challenges associated with CDM in general. These complexities result in multi-year waiting time for registration and add another barrier for investors.

There are positive signs of demand from domestic carbon markets and CDM reform, but the future uncertainty makes it difficult to invest in CDM today. It is in this context that Japan is designing its bilateral carbon finance scheme.

New mechanisms are emerging to complement CDM

A variety of mechanisms are currently being discussed at the UN to complement, and possible succeed, CDM. Some countries are starting to explore bilateral mechanisms, in which two countries – developed and developing – sign an agreement to implement carbon-reducing projects in the developing country and generate offset credits to be used by developed country parties.

Japan has taken the lead in designing its bilateral scheme. This scheme, originally titled “Bilateral Offsetting and Crediting Mechanisms” is called the Joint Crediting Mechanism (JCM).  Japan, in the past 3 years, has implemented 170 feasibility studies in 29 countries on a wide array of technologies to explore the potential scale and methodology for reducing greenhouse gas. Japan is expected to start the operation of its bilateral projects in 2013, with Indonesia being the first in the queue, followed by Vietnam and other Asian countries. Although Japan is not participating in the 2nd commitment period of Kyoto Protocol from 2013, it is expected to use the offset credits from the scheme to meet its voluntary target.

How JCM works

The central pillar of JCM is the creation of a Joint Committee between Japan and the host country. Joint Committee develops and revises rules and guidelines of the JCM operation, and also approves/registers proposed JCM projects. As compared to the CDM, the Committee plays the role of both Designated National Authority and the UN’s CDM Executive Board.

JCM requires validation/verification process by a third party entity, as in CDM. Validation process will ensure that the project complies with guidelines and requirements defined by the Committee, and verification process certifies the quality of the offset credits generated by the project.

Under JCM, Japanese government is expected to provide an upfront financial grant to project participants, although the details are still being discussed. In exchange, the credits from the JCM projects will be transferred to the Japanese government. The credits’ destination will be limited to Japan at the initial stage of JCM operation, but this may evolve into more freely tradable credits in the future.

JCM has major advantages over CDM

JCM has three major advantages over CDM. Firstly, it aims to provide an upfront financial assistance before the project implementation.  This is an important difference for investors, as it eliminates the multi-year waiting period to receive the credits, as well as the price volatility risk of the credits.

Secondly, it is simpler. The methodologies under JCM will minimise its monitoring cost by avoiding burdensome demonstration of additionality required for CDM. For example, it allows the frequent use of default values, meaning that the project owner does not need to be constantly monitoring ten difference variables. It also allows the use of positive list, which is a list of technologies that are automatically eligible for JCM under specified conditions.

Thirdly, it covers broader range of activities and technologies. As the eligible technologies and methodologies are agreed between two countries, it allows the host country to promote technologies that meet its needs. One example is ultra-supercritical coal technology, which is attractive to developing countries but is limited in application through the CDM.

JCM presents a new opportunity for India

Japanese and Indian governments are at the very initial stages of discussing the mechanisms and benefits of JCM. So far 21 feasibility studies have been commissioned by Japanese government to explore the potential JCM projects in India. The most explored technologies are on energy efficiency in coal power plants, as well as steel processing.

Although JCM allows the use of technologies from any country, it is expected to foster low-carbon technologies of Japan. Although Japanese energy efficiency technologies are well advanced, it has not seen a mass-scale deployment in India due to the lack of active cooperation between private sectors of the two countries on this front. JCM can serve as a bridge to connect Indian and Japanese private sector and catalyse a low-carbon growth in Asia.

Government of Japan (2012), “Japanese Proposal on Bilateral Offset Credit Mechanism” Presentation at an open seminar

IGES (2012) IGES CDM Database, Updated 1 November 2012

Kenta Usui is an Associate Researcher at the Market Mechanism Group at the Institute for Global Environmental Strategies (IGES), Japan. He has been working on researches to promote finance to address climate change in developing countries


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Author: Kenta Usui