International Emissions Trading Approach to Meet the Kyoto Protocol: The Implications of Hot Air Trading on Global Environment and Economy

Abstract

The Kyoto Protocol came into effect in early 2005, following the formal ratification of the Russian Federation. Starting from 2008, the Russian Federation can sell its reductions in emissions, normally referred to as hot air, in the international trading system. This paper aims to examine the quantitative effects of trading hot air among the Annex-I countries on global environment and economy. It is found that trading hot air leads to a fall in the price of the AAUs (Assigned Amount Units), consequently undermining the incentive to make the domestic abatement. However, trading hot air helps to lower the cost of meeting the Kyoto targets. For each of the Annex-I countries that has abatement obligation, the compliance cost in the scenario where the hot air is traded is around 85% of that in the scenario where the hot air is not traded. The sum of the compliance costs for the Annex-I countries in the scenario with hot air reduces to 80% of that in the scenario without hot air.