Developing An E-Trading Model for Carbon Emission Credits Generated by Projects Under Kyoto Protocol: The Case of Sri Lanka

Abstract

This paper explores the existing trading mechanisms for Certified Emission Reductions (CERs), a tradable commodity generated under Clean Development Mechanisms (CDM) of the Kyoto Protocol and proposes an electronic trading system to improve the trading efficiency and the liquidity of the commodity in Sri Lanka. Currently, thirty-five CDM projects are under way in Sri Lanka and most of these projects are power generation plants based on renewable energy sources. Even though most of these projects are financially viable, they would not have been implemented in the absence of additional financial benefits generated by selling CERs due to various reasons including long pay back period, high initial cash outflows and other uncertainties attributed to this industrial sector. These private companies are finding it difficult to attract funding for CERs at a reasonable price compared to market value of substitute products. The existing negotiation process is lengthy and complex and there are many other deviations from perfect market conditions applicable to these trading mechanisms. Due to these reasons, the liquidity of CERs is very low and there is very high price volatility. The average price obtained by local CDM projects for CERs is considerably less than the current market price of substitute carbon products. There are several well-established carbon emission markets in the USA and Europe that facilitates trading of these various different carbon emission products but such a system is not available for trading of CERs in Sri Lanka. Due to the low liquidity of CERs (current price per tonne of CER around 4-8 US$) and many other reasons, only a very small fraction of the potential CDM capacity in Sri Lanka is considered for actual implementation up to now. To avoid these problems and to obtain maximum possible financial benefits from the Kyoto Protocol, an electronic trading system is proposed in this paper to facilitate trading of CERs.