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Prospects for Markets for Internationally Transferred Mitigation Outcomes under theParis Agreement

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  • Strand,Jon

Abstract

The Paris Agreement provides for parties to use internationally transferred mitigationoutcomes in implementing their Nationally Determined Contributions. This paper analyzes forward trading of theseoutcomes in the presence of two forms of uncertainty: (1) uncertainty about the fulfillment of Nationally DeterminedContribution targets, and (2) uncertainty about the existence and functioning of the forward, options, andfuture spot markets markets for internationally transferred mitigation outcomes. When parties can sell and buyinternationally transferred mitigation outcomes forward, access to call options for late purchases leads tocorrespondingly larger forward sales, or less current mitigation. Access to put options for late internationallytransferred mitigation outcome sales does not affect forward trading outcomes but increases late sales for net sellers.Access to options markets is welfare enhancing for all parties, and call options help parties stay in compliancewith their Nationally Determined Contributions at the Paris Agreement end point, 2030. The existence of internationallytransferred mitigation outcome markets may be in peril, however, as banking beyond 2030 is not allowed. Theavailability and functioning of internationally transferred mitigation outcome markets can be enabled or improved byincreased climate finance provided by donors. With no options markets, host countries will still sellinternationally transferred mitigation outcomes forward, albeit less so, and rely on access to more expensive“backstop” mitigation for ex-post compliance with their Nationally Determined Contributions. Closed-form solutionsare derived for trading and its welfare impacts in all the option contract alternatives, given that parties’uncertainties about fulfilling their commitments are uniformly distributed. The welfare impact of theavailability of put and call option contracts is then strongly increasing in uncertainty, and in ex-post andforward outcome prices.

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  • Strand,Jon, 2022. "Prospects for Markets for Internationally Transferred Mitigation Outcomes under theParis Agreement," Policy Research Working Paper Series 10045, The World Bank.
    • Handle: RePEc:wbk:wbrwps:10045
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