Monday, August 24, 2009

Renewable Energy Update: Carbon Finance

On June 29, 2009, the newly created International Renewable Energy Agency (IRENA) announced that its headquarters would be located in Abu Dhabi’s Masdar City, marking a high point in the Gulf Cooperation Council’s (GCC) embrace of a future in renewable energy.

In late July, the Sultanate of Oman led the GCC further, announcing the creation of a Designated National Authority (DNA) pursuant to its commitment as a ‘non-Annex B’ party to the Kyoto Protocol.

The creation of a DNA is a crucial step that will ultimately allow Oman to host projects, including renewable energy and clean technology projects, that reduce greenhouse gases under the Kyoto Protocol. These projects can provide an additional revenue stream to Oman from emissions credits sales in developing international carbon markets.

The Growing Market for Carbon Allowances

Many experts believe that the environmental and economic costs of climate change will trigger a reordering of financial and industrial resources on a global scale. In order to prevent widespread environmental disruption, regulatory intervention aimed at promoting innovation will be required on national, regional and international levels.

The need for innovation is not limited to the development of new technologies. The drive for creative solutions to global warming has resulted in the creation of new financial products and markets aimed at managing and transferring the risks and costs of global warming. The so-called ‘cap-and-trade’ system is a key element of the Kyoto Protocol, an international agreement implementing the United Nations Framework Convention on Climate Change.

Under Kyoto’s cap-and-trade regime, certain member states (Annex B nations) are limited in the level of carbon or greenhouse gases they emit into the atmosphere. Each member is issued emission allowances, one unit of which corresponds to one ton of greenhouse gas and indexed to the global warming potential of carbon dioxide (CO2). Under Kyoto, emissions allowances are freely tradeable between Annex B members.

Also under Kyoto, non-Annex B members, primarily developing countries free from Kyoto’s carbon emission limits, are permitted to monetise investments in carbon reduction projects by developing projects under the Protocol's Clean Development Mechanism (CDM). Projects under the CDM program are accredited by the CDM Executive Board, an implementing body of the Protocol, and result in reductions in carbon emissions, the implementation of which will earn emissions reduction credits (CERs) which can be sold on the open market to emitters in Annex B member nations.

Projects in Oman developed under the CDM must be approved by both the Oman DNA and comply with requirements established by the CDM Executive Board.

According to the World Bank, the overall carbon market was valued at US$126 billion at the close of 2008, more than double its value in 2007. The secondary market for CERs saw a five-fold increase in both volume and value over the prior year. Despite the uncertainty created by the expiration of the Kyoto Protocol in 2012, project developers are still reviewing and investing in credible projects in certain markets.

Opportunities in Renewable Energy

The Sultanate’s decision to establish a DNA also will present businesses in Oman with new opportunities in the renewable energy space. While wind, biogas, geothermal and wave energy pose strong opportunities for Oman, the greatest promise is held by solar energy. According to the Omani Authority for Electricity Regulations (AER) May 2009 report, Oman is the beneficiary of some of the highest levels of solar density in the world. If harnessed, solar energy could provide for all of Oman’s electricity needs.

Work to achieve this goal is underway. In May, the Public Authority for Electricity and Water (PAEW) of the Sultanate announced a tender for the first large-scale solar power plant in Oman on a build, own and operate basis.

The sale of CERs could facilitate the benefits posed by solar energy by helping finance such projects. According to AER, Oman’s origination of CERs could save anywhere from three to 18 percent of the operational and capital costs of solar and wind grids.

Legal Issues Related to CDMs

Firms seeking to participate in CDMs will face a number of unique legal issues. Specifically, firms will need to comply with CDM rules in order to ensure that CERs are properly issued. CERs must be validated, registered, verified and certified by the proper national and international authorities and independent auditors before issuance. When selling CERs, parties must carefully negotiate and adequately record the agreement, identifying responsibilities, establishing rights and allocating risk with an eye to the unique aspects of the asset and the particular risks that may arise. Risks include the classification of the CER property right in both the host and purchasing country, the tax treatment of CER revenue and the use of national and international emissions reduction registries to track and record CERs.

While it remains to be seen exactly how Oman’s DNA will be implemented, it is clear that any potential CDM projects must adhere to Omani law, as well as CDM rules.

Certainly some time is needed before the details of these policies come into focus, but it is clear that Oman is taking seriously opportunities in renewable energy and that many firms in Oman stand to benefit from this initiative.