CARBON CREDIT POLICY: ITS IMPACT ON THE FORWARD CONTRACT REGULATION ACT, 1952 Introduction Carbon credit is a permit

that allows the holder to emit one ton of carbon dioxide; Credits are awarded to countries or groups that have reduced their green house gases (GHG) below their emission quota. Its goal is to stop the increase of carbon dioxide emissions. The Kyoto Protocol presents nations with the challenge of reducing greenhouse gases and storing more carbon. A nation that finds it hard to meet its target of reducing GHG could pay another nation to reduce emissions by an appropriate quantity. The carbon credit system was ratified in conjunction with the Kyoto Protocol. For example, if an environmentalist group plants enough trees to reduce emissions by one ton, the group will be awarded a credit. If a steel producer has an emissions quota of 10 tons, but is expecting to produce 11 tons, it could purchase this carbon credit from the environmental group1. The carbon credit system looks to reduce emissions by having countries honor their emission quotas and offer incentives for being below them. Simply put, one carbon credit is equivalent to one tonne of carbon dioxide or its equivalent greenhouse gas (GHG). Carbon credits are Entitlement Certificates issued by the United Nations Framework Convention on Climate Change (UNFCCC) to the implementers of the approved Clean Development Mechanism (CDM) projects.2 Carbon credits are a tradable permit scheme. It is a simple, non-compulsory way to counteract the greenhouse gasses that contribute to climate change and global warming. Carbon credits create a market for reducing greenhouse emissions by giving a monetary value to the cost of polluting the air. The Carbon Credit is this new currency and each carbon credit represents one tonne of carbon dioxide either removed from the atmosphere or saved from being emitted. Carbon credits are also called emission permit. Carbon credit is in the Environment and Pollution

1 2

www.nswai.com/images/newsletters/feb2007.pdf accessed on 06 Nov, 2010 www.ghgonline.org/kyoto.htm accessed on 06 Nov, 2010

Control subject3. Carbon credits are certificates awarded to countries that are successful in reducing emissions of greenhouse gases. Carbon credits are generated as the result of an additional carbon project. Carbon credits can be created in many ways but there are two broad types: 1. Sequestration (capturing or retaining carbon dioxide from the atmosphere) such as afforestation and reforestation activities. 2. Carbon Dioxide Saving Projects such as use of renewable energies These credits need to be authentic, scientifically based and verification is essential. Carbon credit trading is an innovative method of controlling emissions using the free market. Over millions of years, our planet has managed to regulate concentrations of greenhouse gases through sources (emitters) and sinks (reservoirs). Carbon (in the form of CO2 and methane) is emitted by volcanoes, by rotting vegetation, by burning of fossil fuels and other organic matter. But CO2 is absorbed, by trees, forests or by some natural phenomenon like photosynthesis and also oceans to some extent. In modern times the burning of fossil fuels like coal, oil and natural gas in which carbon has been stored for millions of years combined with accelerated land clearance has led to exceptional levels of greenhouse gas emissions. Vegetation, largely forest, is already absorbing about one-third of human-induced emissions, planting more forests could increase absorption. Carbon sinks cant keep up, and concentrations of greenhouse gases in the atmosphere have risen dramatically leading to an enhanced greenhouse effect which will result in very rapid warming of the worlds climate. The concept of carbon credits came into existence as a result of increasing awareness of the need for pollution control. Carbon credits were one of the outcomes of the Kyoto Protocol, an international agreement between 169 countries4. The Kyoto Protocol created legally binding emission targets for developing nations. To meet these targets, nations must limit C02 emissions. It was enforced from Feb05. The very phase Kyoto Protocol has become synonymous with
3 4

www.delhi.gov.in/wps/wcm/connect/.../carbon credits_kp.pdf?MOD... accessed on Nov 06, 2010 www.unfccc.int/resource/docs/convkp/kpeng.htm accessed on Nov 07, 2010

the idea of saving the planet from the global meltdown. This can be accomplished by either reducing emissions or by absorbing emissions through processes such as tree-planting and sequestration. Buying carbon credits is not a charitable donation, but a retail action. Trade in carbon credits has the potential to make forestry more profitable and to sustain the environment at the same time.

One of the primary solutions for climate change being thought by global warming alarmists is the purchase and sale of carbon credits. For trading purposes, one credit is considered equivalent to one tonne of CO2 emissions. Credits can be exchanged between businesses or bought and sold in international markets at the prevailing market price. Carbon credits create a market for reducing greenhouse emissions by giving a monetary value to the cost of polluting the air such as carbon emitted by burning of fossil fuels. This means that carbon becomes a cost of business and is seen like other inputs such as raw materials or labor.

Carbon credits are measured in tonnes of carbon dioxide. 1 credit = 1 tonne of CO2. Each carbon credit represents one metric ton of C02 either removed from the atmosphere or saved from being emitted. The carbon credit market creates a monetary value for carbon credits.5 and allows the credits to be traded. For each tonne of carbon dioxide that is saved or sequestered carbon credit producers may sell one carbon credit. Three types of emissions in carbon reduction as according to the Kyoto Protocol Joint Implementation

www.netl.doe.gov/publications/proceedings/01/carbon.../p40.pdf accessed on Nov 06, 2010

A developed country where emission reductions cost higher will set up a greenhouse reduction project in another country to earn credits. In case of the JI projects, both countries must have a reduction commitment under the Kyoto Protocol. Clean Development Mechanism (CDM) A developed country can sponsor a greenhouse reduction project in another country where cost of setting such a project is much lower. Such projects can earn saleable certified emission reduction (carbon) credits. The CDM projects happen in countries without a reduction commitment. An example of a CDM project will be a rural electrification project using solar panels or the installation of more energy-efficient boilers. Emissions trading Under the Kyoto protocol, countries with surplus credits can sell these credits to countries with capped emissions. Carbon is now racked and traded like any other commodity. This is known as the "carbon market." Exchanges have been established to provide for carbon markets. Currently there are at least seven exchanges trading in carbon allowances: the Chicago Climate Exchange, European Climate Exchange, Nord Pool, PowerNext, The Green Exchange, Multi Commodity Exchange and National Commodity and Derivatives Exchange. Carbon prices are normally quoted in Euros per tonne of carbon dioxide or its equivalent (CO2e). There are provisions for other greenhouse gases to be traded too.6 Trading in Carbon Credits in India All countries (including India) that have ratified the Kyoto Protocol of 1997 under the aegis of the United Nations Framework Convention on Climate Change (UNFCC) are committed to reducing their greenhouse gas emissions by 5% from levels that existed in 1990 levels. The idea is to provide incentives to countries with low greenhouse or carbon emissions and penalize developed countries by having them pay for excessive emissions. The Protocol set 'caps' or quotas on the maximum amount of Greenhouse gases for developed and developing countries as listed in its Annex I . In turn these countries set quotas on the emissions of installations run by
6

www.unfccc.int Kyoto Protocol accessed on Nov 07,2010

local business and other organizations, referred to as businesses in this document. Countries manage this through their own national registries, which are required to be validated and monitored for compliance by the UNFCCC. Each business has an allowance of credits, where each unit gives the owner the right to emit one metric ton of carbon dioxide and other equivalent greenhouse gas. Businesses that have not used up their quotas can sell their unused allowances as carbon credits, while businesses that are about to exceed their quotas can buy the extra allowances as credits, privately or in the open market.7 Since developing countries need not comply with the Kyoto Protocol immediately and because they have the opportunity to establish emerging businesses with clean technologies they can earn carbon credits that can be sold to companies in developed countries that have high rates of carbon emissions. Indian companies can benefit from this window of opportunity till 2012 when all ratifying countries have to comply with the Kyoto Protocol. As we approach 2012, the price of carbon credits is likely to rise and in the interim, companies (which will otherwise be subject to their local government sanctions) will seek to purchase as many carbon credits as possible to offset future emissions. Internationally, the World Bank functions as a referee, broker and macro-manager of international fund flows in the market of carbon credits. The scheme has been entitled Clean Development Mechanism [CDM] in 2000 and is more commonly referred to as Carbon Trading. The National Clean Development Mechanism Authority (NCDMA) is the Indian Designated National Authority appointed in compliance with the Kyoto Protocol to review and give national approval to projects proposed under the CDM. The members of the NCDMA include the Foreign Secretary, Finance Secretary, and the Secretary for Industrial Policy and Promotion, the Secretary of the Ministry of Non-conventional Energy Sources, the Secretary of the Power Ministry, the Secretary of the Planning Commission and the Joint secretary (climate change) and Ministry of Environment and Forests. Carbon Credits and Global Scenario

www.nswai.com/images/newsletters/feb2007.pdf accessed on Nov07, 2010

With the increasing ratification of Kyoto Protocol (KP) by countries and rising social accountability of polluting industries in the developed nations, the carbon emissions trading is likely to emerge as a multibillion-dollar market in global emissions trading. The size of the global carbon trading market has reached to around USD 118 billion and the size of project based market (CDM&JI) increased to USD 18.02 billion from USD 13.5 billion. This market is expected to increase significantly as projects in 68 supplier countries are increasing and these projects offer to reduce 2,500 million tonnes of carbon dioxide equivalent (MtCO2e) through over 3,000 projects. European Union hosts the most advanced carbon market under Emissions Trading Scheme (EU ETS) built on the Kyoto mechanisms in 2005. The scheme covers nearly half of the regions emissions regulating 11,000 installations and 6,500 entities across various industries. The scheme regulates the carbon emissions in the region, facilitates the trade of the carbon credits among the members and imposes a financial penalty on those who don't meet the target.8

Buyers and sellers European buyers dominated the CDM and JI market for compliance and at the close of 2007, their market share reached almost 90%. Private companies have been the most active buyers, with 79% of volume transacted. UK is the largest buyer with a share of 59%, Japan and Baltic countries bought 11% each and the rest of the carbon credits were bought by other European nations. China was the world leader in CDM supply with a 73% market share in terms of 2007 transacted volume. Brazil and India, with 6% market share each, transacted the highest volumes after China, with Africa following with 5% of the market. Compared to their position in the CDM pipeline, India and Brazil have a relatively low market share of transactions. Russia (36%) and Ukraine (33%) are the key suppliers in JI market. Bulgaria, Poland and Romania, the other key players, together supplied 24%. Drivers of Carbon Credit prices
8

www.som.iitb.ac.in/live/carboncredits.html accessed on Nov 07, 2010

Factors that drive carbon prices are much more complicated than traditional commodity markets, which are typically governed by supply and demand. These market forces certainly play an important role in carbon pricing. As the market for carbon emerged as the product of a new legal framework, the regulatory environment became one of the most important drivers of price. By altering the legal limits on emissions, governments and international regulators have the ultimate influence on demand for carbon credits. By lowering emission caps, regulators can increase demand and tighten supply by reducing the number of parties with credits available to trade. On the other hand providing caps that are too generous can dampen demand and result in an oversupply of credits that can depress prices. Other price drivers are penalty rates/carbon tax, energy prices, economic growth rates, marginal abatement costs, voluntary market activity, supply of CERs from CDM activity etc. 9 Carbon Credits and India India is ranked as the second largest seller of carbon credits in the global market last year as per World Bank. Its share is only 6%, as compared with China's gigantic 73%, but it is expected to reach 15-35% by 2012. By 2012, India's earnings are estimated to jump to USD 3.6 billion. The price of an Indian carbon credit works out to about 14 -16 Euros and the price is expected to rise if new international regulations come into play. India now has 930 carbon credit projects in the pipeline, which promises to increase India's share in CDM market. Out of a total of 1,047 projects registered by the CDM Executive Board till May 2008, about 32 percent are registered in India alone - highest among all other "green" conscious nations. India is not obliged to cut emissions, as its energy consumption is relatively low. Also, India has an advantage in the global carbon market because the investments required are relatively small due to lower input costs. The biggest buyers of Indian carbon credits are European countries followed by Japan, Australia and Canada. The main sources of carbon credits in India are biomass projects, small hydro projects (less than 15 MW in size) and wind power projects along with some energy efficiency improvement projects. These comprise nearly 55% of Indian carbon
9

www.greenairgroup.com/assets/files/GreenAir%20newsletter%203.pdf accessed on Nov 07, 2010

credits. Some of the projects are Torrent Power (which switched to natural gas recently), Suzlon's land bank projects, Suryachakra Group's four biomass projects, Godavari Power and Ispat gas projects. NCDEX and Carbon credits NCDEX is the first exchange in any of the developing countries of the world to launch UN issued carbon credit (CER) futures contract on its platform. The intention matching contract is different from the compulsory delivery contracts floated on European exchanges. The intention matching contract will provide an OTC kind of arrangement to the buyers and sellers' for physical delivery of CERs. Exchange will match specific delivery requirements of the buyers and sellers for guaranteed deliverable CERs. NCDEX CER contract is traded under symbol "CERNCDEX". The features of contract among other include lot size of 500 CERs (which is internationally acceptable), tick size of 20 paise and has position limit.10 Carbon Trading and its legal aspects For each reduced ton of carbon dioxide emission, an organization receives a carbon emission certificate, which it can sell, either immediately or through a futures market, just like any other commodity. The Securities Exchange Board of India (SEBI) regulates the Multi-Commodities Exchange (MCX) in India where carbon credit derivates are traded. Trading on the MCX is governed by the Forward Contracts (Regulation) Act, 1952 and the Indian Contract Act, 1872. The Forward Markets Commission (FMC) headquartered at Mumbai, is the regulatory authority under the Ministry of Consumer Affairs and Public Distribution, India. It is a statutory body set up in 1953 under the Forward Contracts (Regulation) Act, 1952. The Multi Commodity exchange started future trading on January 2008 after Government of India recognized carbon credit as commodities on 4th January. The National Commodity and Derivative Exchange by a notification and with due approval from Forward Market Commision
10

www.crnindia.com/commodity/metal_trend.html accessed on Nov 07, 2010

(FMC) launched Carbon Credit future contact whose aim was to provide transparency to markets and help the producers to earn remuneration out of the enviourment projects.

Carbon credit in India is traded on NCDEX only as a future contract. Futures contract is a standardized contract between two parties to buy or sell a specified asset of standardized quantity and quality at a specified future date at a price agreed today (the futures price). The contracts are traded on a future exchange. These types of contracts are only applicable to goods which are in the form of movable property other than actionable claims, money and securities. Forward contracts in India are governed by the Indian Contract Act, 1872. Under the present provision of the Forward Contracts Regulation Act, the trading of forward contracts will be considered as void as no physical delivery is issued against these contracts. To rectify this The Forward Contracts (Regulation) Amendment Bill 2006 was introduced in the Indian Parliament. The Union Cabinet on January 25, 2008 approved the ordinance for amending the Forward Contracts (Regulation) Act, 1952. This ordinance has to be passed by the Parliament and is expected to come up for consideration this year. This Bill also amends the definition of forward contract to include commodity derivatives. Currently the definition only covers goods that are physically deliverable. However a government notification on January 4th paved the way for future trading in CER by bringing carbon credit under the tradable commodities. Under the present provisions of the Forward Contracts Regulation Act, the carbon credits contracts will be void simply because no physical deliveries will be issued against these contracts. All forward contracts in India are essentially governed by the Indian Contract Act, 1872. As, in a futures contract for carbon credits, there is no intention to give or take delivery of any goods and a contract without intention is considered void, carbon credits contracts will be, at present, considered void under Indian law. The Forward Contracts (Regulation) Amendment Bill 2006 was introduced in the Indian Parliament to rectify this anomaly. On January 25, 2008, the Union Cabinet approved the promulgation of an ordinance amending the Forward Contracts (Regulation) Act, 1952, paving the way for greater autonomy for the commodities market regulator, FMC. The ordinance will eventually have to be endorsed by the Indian Parliament through a Bill which is expected to come up for voting in the forthcoming Budget session at the end of February. This Bill also amends the definition of forward contract to include

commodity derivatives. As of now, the definition of what can be traded in commodity futures exchanges covers only goods that are physically deliverable.11 Conclusion Even though India is the largest beneficiary of carbon trading and carbon credits are traded on the MCX, it still does not have a proper policy for trading of carbons in the market. As a result the Centre has been asked by The National Commodity and Derivatives Exchange Limited (NCDEX) to put in place a proper policy framework for allowing trading of certified emission reductions (CERs), carbon credit, in the market. Also, India has huge number of carbon credits sellers but under the present Indian law, the buyers based in European market are not permitted to enter the market. To increase the market for carbon trading Forward Contracts (Regulation) Amendment Bill has been introduced in the Parliament. This amendment has also helped the traders and farmers to utilize NCDEX as a platform for trading of carbon credits. However, to unleash the true potential of carbon trading in India, it is important that a special statue be created for this purpose as the Indian Contracts Act is not enough to govern the contractual issues relating to carbon credits.

11

www.legalservices.co.in/.../carbon-trading-in-india-264-1.html accessed on Nov 07, 2010