Policies to Address Hot

Allocating too many emission rights to Russia and the Ukraine created the "hot air" problem. A straightforward correction to this problem would be to renego tiate this initial allocation so that fewer emission rights are assigned. One way would be to request that Russia and the Ukraine agree to reduction targets instead of the present stabilization targets. Another way would be to choose a base year other than 1990 (e.g. 1995) in which most of the emission reductions from the economic collapse would be discounted. However, both ways seem politically infeasible. Renegotiating the initial allocations of Russia and the Ukraine probably would initiate a process of renegotiating all Kyoto targets, putting the greatest achievement of Kyoto—the move toward quantitative targets—at risk. Short of renegotiating Kyoto targets, there are three ways to respond to the problem of "hot air": restrict the sale, restrict demand, or collectively buy out "hot air" emissions. Each solution has severe shortcomings.

Sales Cap

Restricting the sale of "hot air" would have only a temporary effect if banking of emissions for the future were allowed. With banking, assigned amounts that cannot be sold in the first commitment period will be saved for sale in future periods. A simple supply cap therefore would only postpone the problem of "hot air" into the future. Because banking is legal under Article 3 of the Kyoto Protocol and economically important to prevent market disturbances, a supply cap would not be a viable solution. Also, the present wording of Kyoto Protocol would not cover it. "Hot air" is a legitimate entitlement of Russia and the Ukraine (if the protocol is ratified), and there is nothing in the protocol that would restrict the sale (as opposed to the purchase) of assigned amounts.

A fact that is often overlooked is that a supply cap would also impose a hidden cost. Because it is practically impossible to distinguish "hot air" from true emission reductions, it would suppress all sales of permits, not just "hot air" sales. Incentives for true low-cost emission reductions would be lost.

Demand Cap

Restricting the demand would be lawful but ineffective. A demand cap is legally supported by a provision of Article 17, which states that the use of this flexibility mechanism shall be "supplemental to domestic actions." This clause could imply that only a certain percentage of the reduction commitments can be achieved through purchases of assigned amounts. Such a concrete ceiling would apply to all flexibility mechanisms and to all potential sellers, not just Russia and the Ukraine. Therefore, it will have no specific effect on the sale of "hot air" and may even accelerate the problem. Because "hot air" will be the cheapest supply of emission rights (because it comes at zero cost to the supplier), a demand cap would affect primarily the true emission reductions from developing countries, which carry a positive price.

Buyout of "Hot Air"

A buyout of "hot air" could be done in different ways. One way would be an open market operation in which a group of concerned parties (e.g., the OECD) or a designated UN authority would buy assigned amounts from Russia and the Ukraine solely for the purpose of retiring them. Alternatively, it could be done through purchases of "hot air," which are paid in kind with emission reduction equipment or by revenues earmarked for purchases of emission reduction investments. In other words, Russia and Ukraine would get emission reduction equipment in exchange for "hot air" credits, which would be consequently subtracted from their emission budgets. Industrialized countries could also pay for "hot air" with nonquantifiable projects such as environmental education, emission monitoring devices, or research.

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