The Role of Cooperation and Reciprocity in Structuring Carbon Sequestration Contracts in Developing Countries

Abstract

The reduction of emissions from deforestation and forest degradation (REDD) presents a key opportunity for developing countries to mitigate global warming and to help meet long-term global climate objectives. However, the success of a REDD strategy in a post-Kyoto protocol regime depends primarily on the design and implementation of a financial mechanism that is feasible and effective in providing the right incentives to land-holders to manage forests in a sustainable manner that contributes to climate goals. Optimal REDD contracts must not only properly reward agents who reduce emissions from deforestation and degradation (DD) but also account for technical issues such as permanence and additionality of carbon offsets. In many countries, national authorities may not have the institutional capacity and the proper technology for measuring the delivery of carbon offsets. Furthermore, contract enforcement becomes complex because the effort and outcomes described in such contracts are difficult for a third-party to monitor and verify. Therefore, contracts need to provide sufficient incentives to all parties to participate and perform in the long-term, i.e., to be self-enforcing. However, the structure of the contracts may vary depending on the presence of selfish and altruistic agents. This paper studies the role of cooperation and reciprocity on the structure of carbon sequestration contracts in the context of developing countries where legal enforcement may be impractical. We examine if the optimal structure of self-enforcing contracts differs if the Paula Cordero Salas is a Ph.D. Candidate and Brian Roe is the McCormick Professor of Agricultural Marketing and Policy, AEDE Department, The Ohio State University. This project was supported by the World Bank’s Development Research Group (Energy and Environment Team) under the contract “A Mechanism for Reducing Emissions from Deforestation and Degradation (REDD): A Framework to Design Cost-effective Contracts.”