Latin America and global warming: An ambivalent polemic

A future of rising temperatures and altered rainfall patterns could be disastrous for the Latin American region. Argentina serves as a good illustration of just how severe the impacted could be. Renowned for its fertility, the country has seen its grain harvest fall by 30% this growing season thanks to the worst drought in a century in the agricultural heartlands. Sharp reductions in soy, wheat and maize crops, which account for 85% of grain production, suggest this year’s harvest will be some 65m tonnes, compared to 97m tonnes in 2008. Yet commitment to climate change initiatives, remains patchy through the sub-continent.

Latin America has tended to find itself on the sidelines in the debates and actions surrounding climate change as attention has been lavished on the huge populations and rapid development of Asia, especially China and India. In part, the lack of urgency reflects Latin America’s virtues in power generation. The region boasts typically clean, hydro powered electric systems and relatively small populations. A likely emphasis on forestry as a significant factor could bring the region more to the fore while small-scale initiatives in carbon trading are also being tried out.

The popular headlines and chatter in Latin America on climate change are little different from elsewhere in the world. The drought that is racking Argentina and the southern part of Brazil is often attributed to it, as is glacier melt across the Andes. Even so, climate change is starting to capture the imagination, at least of the politicised classes, in the region and there is growing awareness of the benefits that may accrue to Latin countries from adopting a more pro-active stance.

Latin America already currently accounts for some 20% of Clean Development Mechanisms (CDMs) worldwide and 15% of certified emission reduction (CER) credits through 2012, the date when the Kyoto protocol, which governs the system, will expire. A CDM allows a country with an emission-reduction or emission-limitation commitments to implement a reduction project in a developing country or countries. These projects can earn CER credits, each equivalent to one tonne of CO2, which can be counted towards meeting Kyoto targets.

In spite of the growing awareness of this possibility, the performance of Latin governments in addressing the issue is mixed. Across the region, there are 873 CDM projects, of which 361 are in Brazil, according to data from New Energy Finance, a consultancy headquartered in London. Brazil is the most attractive country, accounting for 44% of Latin CER credits through 2012, and 40% of all projects throughout the region.

As the most promising market in the region, Brazil has also one of the most diversified palette of opportunities. Although still heavily dominated by methane and renewable projects, CER-projects also include industrial gases and forestry projects there.

Mexico comes second with 188 projects. However, after the two obvious giants, no logical order is maintained and a new pattern emerges: it is the countries with the most investor-friendly legislation that prove best at attracting foreign investors to projects. Chile, for example, has 56 projects against its larger neighbour Argentina’s 30 and Colombia’s 33. Other countries, notably Venezuela, Latin America’s third largest producer of greenhouse gas emissions, have not put together any deals.

The largest source of projects has been in renewable energy thanks to Latin America’s abundant hydroelectric power schemes. There has also been considerable progress in methane control with swine management, particularly in Mexico, while landfills, sewage and industrial wastewater projects are all gaining traction, says Camilo Terranova, analyst at New Energy Finance in São Paulo.

Indeed, a full 89% of Latin America’s CDM projects are either in the renewable or methane sectors. Methane has been dominated by landfills and biogas―typically biofuel produced by the biological breakdown of organic matter in the absence of oxygen―in all Latin countries. Renewable energy has been particularly dominant in Brazil and Chile and the latter has also advanced rapidly in swine management and hydro projects and is increasingly starting to work on landfill site projects, says Terranova. Mexico and Chile are also at the vanguard of energy efficiency improvements.

Colombia is a promising market as investor perceptions continue to improve as the power of guerrilla organisations wanes, notes Terranova. That is enabling sponsors to get insurance for projects. Improved stability on the ground has already seen the rapid development of the still-tiny voluntary market in Colombia, whereby companies that have no binding legal reason to sponsor carbon reductions, particularly US companies, lend assistance to projects.

The US and forestry

The development of carbon markets will depend on large part on what happens in the United States under the Obama administration. Although there remains greater scientific scepticism than in Europe on both the actuality and the potential harm of global warming in the US, the political climate has changed and there is growing certainty that the US will adopt a cap-and-trade system, whereby CO2 emitting companies buy and sell permits to emit carbon dioxide. A draft of the promising Waxman-Markey Clean Energy and Security Act was released in mid-May and, if passed, would re-shape climate change policy in the US.

One of the most significant changes in US policies could come in providing payments for maintaining existing forests, clearly key in the context of Latin America and the Amazon region. When the Kyoto Protocol was formulated, only reforestation and afforestation were eligible for gaining carbon offsets. That created perverse incentives to cut and replant forests but did not afford protection for existing, standing forests. There is increasing scientific evidence to suggest that a payment mechanism for maintaining forest cover should be introduced and there is international political will to do so, although the devil is in the details.

The Waxman-Markey proposed bill would place forestation as a core plank of US policy. One of the most promising possible ideas currently under discussion is Reducing Emissions from Deforestation and Degradation, or the REDD initiative, which would give developing countries a monetary incentive for preventing deforestation. Since 2005, when it was first proposed, it has become a key element of the UN Framework on Climate Change discussions.

Although Latin America has not played a significant role in the climate warming debate to date, there is a growing realisation that if initiatives to slow climate change incorporate maintenance of existing forests, the region could be in for a windfall. Governments are looking to draft legislation to take advantage of the changes, with cynics sensing something of a free ride.

The incorporation of forest protection could see the development of more funds along the lines of Brazil’s Amazon fund, which is run by the national development bank, the BNDES. Last year, Brazilian President Luiz Inácio Lula da Silva signed a decree creating an international fund that will seek to raise $21 billion over the next 13 years to stem deforestation in the Amazon.

Brazil’s Amazon fund was created to draw in donor money for projects. The Brazilian government argues that outside money is needed as leaving forest standing is economically less attractive than turning it into pasture or farming land. Moreover as deforestation rates in Brazil have fallen in recent years, further efforts to reduce deforestation become more expensive and commitment from the government and society more difficult to achieve.

Norway has already pledged to donate $1bn to Brazil’s Amazon protection fund through 2015. However, the money will only be handed over if Brazil shows deforestation was reduced in the previous year, the government in Oslo has cautioned.

One of the difficulties confronting attempts to manage the fund’s spending is the diversity of plans being devised by each Brazilian states that stands to receive the monies, points out Terranova. Some are emphasising the payment of farmers to preserve land, while others are stressing enforcement and monitoring measures, he notes.

Despite these teething troubles, the fund has reinforced Brazil’s growing commitment to tackle deforestation. Already, the country has committed to a 70% reduction from levels recorded in 1996-2005. This is an impressive target given that 60% of Brazil’s emissions are derived from forestry, thinks Terranova.

LATAM CARBON TRADING FROZEN BY RECESSION

Latin America has seen few market based initiatives in carbon trading take off because of both local and global issues. The onslaught of the global economic downturn is likely to prevent any further development of markets as prices for credits is depressed while locally legislation to define credits and set up markets has been slow to get off the ground.

Latin America has been participating in carbon markets since their creation but it has not been fulfilling its potential and carbon credits remain a predominantly Asian phenomenon, says Roman Payo, carbon finance consultant at the Inter-American Development Bank (IDB) in Washington. That was one of the motives for the IDB to create an area to help develop carbon projects, he notes. The area offers technical assistance to sponsors in both the private and public sectors, he notes. Currently, the IDB is lending support to around 20 projects and programmes throughout Latin America and the Caribbean, Payo notes. There are constraints to the multi-lateral’s operations in the private sector as assistance is limited to sponsors with active loans with the bank or where the bank is studying financing for underlying projects, he notes.

When the bank supports policies and institutions designed to stimulate carbon trading, the maximum contribution per project is $1.5m while it has a relatively wide discretion in its loan portfolio and can lend anywhere between $2m to $80m, Payo notes.

One of the most active countries in developing carbon programmes has been Panama, where most of the work has been done in the public sector, he notes. That support for the private sector has encouraged private sector companies to take an interest, he notes. In Panama, the IDB has focused on hydro electric plants, typically smaller ones, that are increasing the generation capacity of the country and avoiding the building of coal fired plants. The bank is also playing an increasingly active role in Mexico where its first policy-based loan for climate change was granted in late 2008.

The response from Latin governments to the IDB’s overtures has been very welcoming, he says, warning that one of the reasons for that enthusiasm is the availability of grant money for projects.

Although carbon initiatives are gaining ground, the only country that has yet developed a carbon exchange, of sorts, is Brazil. The BM&F Bovespa of São Paulo has carried out two auctions of carbon credits, the first in September 2007 and a second one year later. Both were successful and over-subscribed, according to a spokesman at the exchange.

Both of the transactions were originated by the municipal government of the city of São Paulo and involved the landfill site Aterro Sanitário Bandeirantes, which produces electricity from captured methane. The first auction saw Fortis Bank purchase the lot of 808.450 credits paying €16.20 per ton for a total of €13.09m. The second transaction saw Mercuria Energy Trading of Geneva buy 713,000 paying €19.20 per ton, paying the equivalent of €13.7m.

Two significant problems have dogged the development of carbon trading markets. Firstly, there is no recognised definition of a carbon credit under Brazilian legislation, notes Terranova. That has opened space for five competing versions and it is unlikely that these will be reconciled until there is more clarity concerning what might take the place of the Kyoto Protocol. The second issue is the small size of trades. Although exchange trading is an improvement over over-the-counter solutions, transactions costs are still prohibitive and European clients tend to prefer larger sized lots, he notes.

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