This paper was produced as a reference paper to inform the discussion paper New Mechanisms for Financing Mitigation: Transforming economies sector by

Transcription

1 Financing Climate Change: Institutional Aspects of a Post 2012 Framework Dr. Charlotte Streck Climate Focus January 2009 Discussion Paper April 2009

2 Disclamer This paper was produced as a reference paper to inform the discussion paper New Mechanisms for Financing Mitigation: Transforming economies sector by sector. The views expressed in this paper do not represent the views of WWF nor the agencies that committed financial support to carry out this project.

3 Financing Climate Change: Institutional Aspects of a Post 2012 Framework Charlotte Streck 1 Paper prepared for WWF April 21, The author is Director of Climate Focus B.V. She thanks Thiago Chagas and Moritz von Unger for their support in drafting this article and for the elaboration of the matrix included in the appendix to this document. This is a draft version with WWF-MPO editing added.

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5 An Introduction to the Global Financial Mechanism Supporting Studies Series Beginning in mid-2008, at the request of several European governments, WWF led an analysis and dialogue on international financing arrangements to address climate change in developing countries. That meant, on the one hand, advancing a technically strong proposal capable of mobilizing the considerable public and private funds that may be needed to attain the below 2 degrees centigrade goal for climate change stabilization and, on the other hand, advancing an equitable proposal that could garner the support of the parties at COP15. The work approach is designed (a) to bring a bottom-up perspective to the to the current topdown discussion, based on a suit of developing countries sectoral studies that focus on what it would actually take to move whole economic sectors towards a low emission trajectory; (b) to focus on the operational requirements of an international financing scheme; (c) to engage leading experts on a critical review of relevant experiences and government proposals; (d) to convene experts and negotiators from South and North to discuss these issues; and (e) to present the project findings to key stakeholders and forums in the run-up to COP15. The program s main conclusions and proposals are in the document: Global Financial Mechanism. The Institutional Architecture for Financing a Global Climate Deal that can be downloaded from In this Supporting Studies Series we are presenting a dozen reports that were used as inputs to the project. All these studies were commissioned to independent experts or institutions. Some are case studies of mitigation opportunities in different sectors of developing countries (e.g. cement and iron & steel in China and Mexico, coal based power generation in India, renewable energy opportunities in Morocco). Others are stock-taking reports focusing on critical issues for the global climate change financing (e.g. mapping new financing options for climate change, a review of sectoral mitigation proposals, a review of proposals to fund technology cooperation, etc.). Some of the ideas and proposals in these support series have been carried over to the project recommendations and have been summarized in the main document (either as short summaries, theme boxes, or pull quotes). Still, these documents have much more to offer, and for that reason we present them here in full. As usual, opinions in each document are the sole responsibility of its author(s), and should in no way be considered representative of WWF positions. Authors and titles in this GFM Supporting Studies Series include: 1. Michael Rock; (Bryn Mawr College) Using External Finance to Foster a Technology Transfer-Based CO 2 Reduction Strategy in the Cement and Iron and Steel Industries in China 2. Christine Woerlen (Arepo consult, Berlin) ; Opportunities for renewable energy in Tunisia: A country Study 3. The Energy and Resources Institute (TERI, Delhi) Strategies to reduce GHG emissions from India s coal-based power generation 4. Britt Childs with Casey Freeman (WRI, Washington DC) Tick Tech Tick Tech: Coming to Agreement on Technology in the Countdown to Copenhagen 5. Energia, Tecnologia y Educacion, SC (ETE, Mexico DF) Strategies to reduce Mexico s cement and iron & steel industry GHG emissions 6. Charlotte Streck (Climate Focus, Brussels) Sectoral Transformation Plans as Strategic Planning Tools 3

6 7. Charlotte Streck (Climate Focus, Brussels) Financing REDD a Review of Selected Policy Proposals 8. Charlotte Streck (Climate Focus, Brussels) Financing Climate Change: Institutional Aspects of a Post Framework 9. Silvia Magnoni Review of the CDM and Other Existing and Proposed Financial Mechanisms to Transfer Funds from North to South for Mitigation and Adaptation Actions in Developing Countries 10. Silvia Magnoni Sectoral approaches to GHG mitigation and the post-2012 climate framework 11. Weishuang Qu (Millennium Institute, Washington DC) Using the T21 computing model to forecast production and emissions in China s cement and steel sectors 12. Neil Bird et al (ODI, London) New financing for climate change. And the environment in the developing world 4

7 Contents 1. Introduction Context and Mandate Assessment of Functional and Institutional Requirements A. Resource Mobilization B. Resource Allocation and Disbursement C. Governance D. institutions Adaptation, Mitigation, and Technology Transfer A. Mitigation B. Adaption C. Technology Transfer Appendix

8 1. Introduction Robust institutional arrangements are the backbone of a successful post-2012 international climate finance mechanism. Institutions control the process of resource mobilization and disbursement for adaptation, mitigation, and technology transfer. 2 Institutions oversee the day-to-day implementation of the relevant decisions of the Conference of the Parties (COP) 3 to the United Nations Framework Convention on Climate Change (UNFCCC or the Convention) and are the continuous representation of these decisions. As the execution organs of the COP, institutions have to interpret COP decisions and guidance, a function that assigns to them certain normative, as well as operational, functions. The provision of adequate resources for financing the three building blocks of the Bali Action Plan (mitigation, adaptation, technology) stands at the center of UNFCCC negotiations. The design of an appropriate financial mechanism and the supporting institutional arrangements are therefore essential elements of a Copenhagen Agreement. There has been a surge in studies focusing on the financing needs estimated for mitigation and adaptation activities in the short and medium term. 4 In addition, multiple proposals by both UNFCCC Parties and nongovernmental actors have put forward ideas on how to generate and deliver the necessary funds. In particular, under the aegis of the Convention, the ongoing discussions under the Ad Hoc Working Group on Long-term Cooperative Action under the Convention (AWG-LCA), supported by the recently updated report prepared by the Secretariat on financial flows required to address climate change and by the fourth review of the financial mechanism operated by the Global Environment Facility (GEF), evidence a general agreement among developing and developed countries on the need to scale up the current flow of resources to developing countries and to strengthen the existing financial mechanism under the UNFCCC. Yet, while there are many proposals and abundant literature on how to mobilize and scale up funding, there has been little detailed consideration so far on the institutional arrangements needed to support more ambitious financial targets. The effectiveness of the relevant institutions determines the overall effectiveness of the mechanism that they operate; their acceptance reflects the overall acceptance of the mechanism. Acceptability is based on the perception of legitimacy and effectiveness. Legitimacy finds its roots in accountability, rule of law, transparency, and participation. Effectiveness requires adequate resources, a clear mandate and operating rules, and adaptability based on resultsoriented evaluations. With the 15th session of the COP (COP-15) only eight months away, it is time to evaluate the various institutional arrangements that have been proposed to govern a post-2012 international financial mechanism. They need to be assessed against their prospective ability to respond to the challenge of making available additional adequate, equitable, and predictable funds to support mitigation, adaptation, and technology transfer in developing countries. The perfect financial mechanism would, however, be worthless if it could not withstand the test of political acceptability. Only if a financial mechanism is inclusive and able to take into account the Parties different social and economic circumstances does it have a chance to be supported by the international community in Copenhagen later this year. 2 Technology transfer includes research and development, technology development, deployment, and dissemination. 3 In the case of the Kyoto Protocol, the normative organ is the COP serving as the meeting of the parties to the Kyoto Protocol (CMP). 4 The most relevant studies have been commissioned by the UNFCCC secretariat: UNFCCC, Investment and Financial Flows to Address Climate Change, 2007, and UNFCCC, Investment and Financial Flows to Address Climate Change An Update, Extensive studies on abatement costs have been conducted by McKinsey & Co. 6

9 The objective of this paper is to assess design options for an institutional financial architecture supporting a new global climate deal. It aims to support an informal dialogue and consultation process among key policy makers and officials engaged in the negotiations of a reformed financial mechanism under the UNFCCC beyond This paper elaborates on some of the prominent proposals submitted by UNFCCC Parties, experts, and nongovernmental organizations for a scaled-up and reformed financial mechanism to assist developing countries in fulfilling their obligations under the Convention and responding to the adverse effects of climate change. In particular, the analysis focuses on the institutional arrangements and overall architecture of a post-2012 financial mechanism and highlights the gaps that require attention if a successful outcome is to be achieved in Copenhagen. Even though this paper suggests some institutional models that are more likely to be accepted in the runup to COP-15 (and beyond), it is not intended to reflect consensus. Rather, it seeks to point out where division exists and where efforts and ideas can be combined so as to allow for a more informed dialogue on the financial design options available to negotiators facing the challenge of striking a balanced and equitable agreement in Copenhagen. Among the limitations of this paper is its focus on mobilizing and allocating public finance. Though private finance and carbon markets will be essential for raising the resources needed to implement a post-2012 climate agenda, the discussion of institutions supporting such investments, while desperately needed, falls largely outside the scope of this paper. This paper is structured as follows: Section 2 provides a brief overview of context and formulates the main design questions applicable to a post-2012 financial architecture. Section 3 identifies the core functions a reformed financial mechanism needs to fulfill (what it needs to do) and the governance and institutional requirements for fulfilling these task adequately (how it needs to do it). Section 4 provides a short summary of the main funding mechanisms proposed by UNFCCC parties and nongovernmental organizations (NGOs). Appendix I presents a summary of governance use, resource mobilization issues, and resource allocation issues in 26 proposals presented by 10 parties (or group of parties) and 6 NGOs and experts. 7

10 2. Context and Mandate The governance and institutional arrangements for a post-2012 financial mechanism must be in line with Article 4 Commitments and Article 11 Financial Mechanism of the Convention. The commitments of the Parties take into account their common but differentiated responsibilities and mandate developed country Parties to provide new and additional resources to meet the full incremental costs of developing country commitments while taking into account the need for adequacy and predictability in the flow of funds (Art. 4.4). The Convention thus recognizes that financial assistance and technology transfer are critical to enabling developing country Parties to address climate change and adapt to its effects, in the context of their sustainable development. Article 11 of the Convention provides a mechanism for the provision of financial resources on a grant or concessional basis. The operation of such a mechanism shall be entrusted to one or more existing international entities and it shall be accountable to and operate under the guidance of the COP. The COP will also decide on its policies, program priorities, and eligibility criteria. Article 11.2 provides for an equitable and balanced representation of all Parties within a transparent system of governance. The Kyoto Protocol (Art 11.3) clarifies that the implementation of the various commitments shall take into account the need for adequacy and predictability in the flow of funds and the importance of appropriate burden sharing among developed country Parties. Today, in the framework of the UNFCCC, developed country Parties provide financial assistance to developing Parties through the GEF, which serves as the sole operating entity of the Convention s financial mechanism. During the negotiations of the Convention, developing countries argued in favor of a new financial institution to support the efforts of developing countries. Prior to the 1992 United Nations Conference on Environment and Development that led to the adoption of the UNFCCC, developed countries had already indicated that they would support only a unified funding mechanism for all forthcoming Conventions. They clearly wished to avoid the proliferation of funds proceeding from the proliferation of environmental treaties and envisioned the GEF as the financial mechanism for all future North-South financial transfers for environmental projects with global impact. Developed countries thus linked their financial commitment to the acceptance of the GEF as the operating entity of a UNFCCC financing mechanism. Developing countries eventually agreed to the GEF as interim financial mechanism; the UNFCCC COP specified, however, that a permanent relationship between the GEF and the UNFCCC would be contingent on reforms that would ensure that the GEF would promote further transparency, democracy, and universality of participation. What followed were intense political negotiations that led to a restructuring of the GEF and an upgrade from its interim status to the operating entity of the UNFCCC financial mechanism in In November 2001, the COP invited the GEF, as the financial mechanism of the Convention, to establish and operate two new funds related to the UNFCC. By decision 7/CP.7 it decided to establish a Special Climate Change Fund and a Least Developed Countries Fund. The Special Climate Change Fund finances activities, programs, and measures relating to climate change that are complementary to those funded by the resources allocated to the climate change focal area of the GEF and by bilateral and multilateral funding. The Least Developed Countries Fund meets the agreed full cost of preparing the National Adaptation Plans of Action. In addition to the UNFCCC funds, a number of dedicated bodies have been created to serve the flexible mechanisms of the Kyoto Protocol. Such bodies include the Joint Implementation Supervisory Committee, the Clean Development Mechanism (CDM) Executive Board, and the Adaptation Fund Board, which decides on the allocation of finance raised by the CDM levy earmarked for financing adaptation. The Adaptation Fund Board was created in 2007 by decision 1/CMP.3 to operate the Adaptation Fund. As the operating entity of the Adaptation Fund, the Board is fully accountable to the COP serving as the meeting of the Parties to the Kyoto Protocol (CMP). On an interim basis and subject 8

11 to review every three years, the GEF has been invited to serve as secretariat to the Board and the World Bank was invited to serve as trustee to the fund. The GEF Trust Fund received U.S.$3.13 billion for the period This funding covers all operational areas and programs of the GEF, including climate change. As this funding is too small to invest in large projects, the GEF focuses on removing market barriers to replicating demonstration projects and creating enabling environments. 5 The GEF plays a unique role as the operating entity of the UNFCCC financial mechanism. But, in the author s view, in its current form it is an unlikely candidate to serve as sole operating entity for a scaled-up and enhanced UNFCCC financial mechanism. It has become obvious in the runup to Copenhagen that the scale of funding and the current operational arrangements are inadequate to serve a more ambitious climate agreement and that the Convention s financial mechanism and operating entity require reform. The current arrangements under the GEF had limited success in channeling sufficient funding to address climate change. 6 GEF disbursements are slow and limited in scale, procedures are cumbersome, and its governance is burdened by an uneasy relationship between COP and the GEF Council. The GEF secretariat has recognized the need to change and in a recent publication developed proposals on how to reform the GEF to enable it to meet the challenges of a more substantial financial mechanism. 7 The call for new or reformed institutional arrangements reflects the increase in scope and complexity of a financial mechanism that responds to a more comprehensive post-2012 climate deal. In 2007, as part of the Bali Action Plan, Parties agreed to launch a comprehensive process to enable the full, effective and sustained implementation of the Convention through long-term cooperative action, now, up to and beyond Under Paragraph 1 of the Bali Action Plan, Parties decided to address, among other points, the following: 1. enhanced national/international action on mitigation of climate change, including inter alia, consideration of; a. nationally appropriate mitigation actions by developing country parties in the context of sustainable development, supported and enabled by technology, financing and capacity building, in a measurable, reportable and verifiable manner; and b. ways to strengthen the catalytic role of the Convention in encouraging multilate ral bodies, the public and private sectors, and civil society, building on synergies among activities and processes, as a means to support mitigation in a coherent and integrated manner. The implementation of the Bali Action Plan requires a more ambitious, reformed financial mechanism. How such a mechanism could be designed is the subject of this paper. Whereas developed countries emphasize that the establishment of any new administrative organizations should be examined in a prudent manner and existing institutions should be used to the extent possible, the majority of developing countries call for new arrangements and bodies that report directly to the COP. 8 Political realities will lead to a compromise solution: building on the existing, but adding new elements, arrangements, and bodies where needed to ensure full acceptability to all Parties. 5 GEF, GEF Strategy to Enhance Engagement with the Private Sector, GEF Council Meeting June 6-9, 2006, Agenda Item 23, GEF/C.28/24. 6 Gareth Porter, Neil Bird, Nanki Kaur, and Leo Peskett, New Finance for Climate Change and the Environment, Heinrich Boell Foundation and WWF, July GEF Secretariat, Future Strategic Positioning of the GEF, GEF/R.5/7/Rev.1, March 02, Information based on an analysis of the submissions of Parties to the UNFCCC under the AWG-LCA. 9

12 3. Assessment of Functional and Institutional Requirements In a post-2012 climate framework, a reformed financial mechanism will be required to perform the following essential functions: (a) mobilize funding and reduce inefficiencies in the raising of resources; (b) allocate funding, establish procedures for access by developing countries to the resources of the financial mechanism, and coordinate funding approval and disbursement; and (c) provide and monitor the technical and performance standards for the implementation of the funding activities in a way that meets the objective and principles of the Convention and a post-2012 legal instrument. To ensure effectiveness and acceptability of a financial mechanism the following aspects will require careful design in the new institutional architecture of the financial mechanism: The mobilization of funds is effective, meaning that it is able to generate predictable and adequate resources. The disbursement of funds is efficient, that is, funds are allocated in a streamlined and coherent manner so as to maximize results on the ground. The process of decision making and the process by which decisions are implemented (the governance) have to be accepted by all Parties as being equitable and fair. That includes accommodating the claim of developing countries for a more inclusive, transparent, and participative approach to financing decision making, and the request of developed countries for the proper administration, supervision, and use of resources allocated through the mechanism. The design of the institutional arrangements will be essential to meet these criteria. In the following we will first summarize the main functional features of a financial mechanism. In a second step, we will discuss the main governance principles that will have to apply to all aspects of a reformed financial mechanism and the institutional design options available to UNFCCC Parties. Functional Requirements A post-2012 financial mechanism must be more effective in the mobilization of funds than the current financial mechanism as well as more efficient in disbursing these funds to support mitigation and adaptation measures in developing countries. The Bali Action Plan establishes that a new climate agreement will provide for the measurement, reporting, and verification (MRV) of three categories of action: developed country mitigation commitments or actions, developing country mitigation actions, and the provision of support for developing country mitigation. 9 The latter two actions will to a certain degree be conditional on each other. To monitor the results, a reformed financial mechanism is likely to be performance based and would make action, at least in parts, dependent on success of previous or current actions. Such a mechanism allows developed as well as developing countries to build trust in each other s ability to meet their respective commitments while providing for the scaling up of the commitment over time. The performance criteria for these functional requirements are summarized in table 1 below. In the following section we will discuss the various criteria and possible design options. 9 Clare Breidenich and Daniel Bodansky, Monitoring, Reporting and Verification in a Post-2012 Climate Agreement, Pew Center, Washington, DC, April

13 Table 1. Performance criteria for the functions of a climate change financial mechanism Adaptation/ Mitigation/ Technology Transfer Resource Mobilization Funding Funds are new and additional The overall level of funds raised is adequate and predictable MRV and Compliance Mechanism is backed by a sound evaluation system that accounts for available funding Compliance mechanism allows the addressing and sanctioning of payment shortfalls Resource Allocation and Disbursement Allocation The overall allocation of funds is fair and equitable Disbursements The mechanism provides for fair, equitable, and efficient eligibility criteria and disbursements The mechanism takes into account Parties respective capabilities and allows for direct/indirect assess MRV and Compliance Mechanism is backed by a sound evaluation system that evaluates performance of mitigation/adaptation action Compliance mechanism allows the addressing and sanctioning of implementation shortfalls Resource Mobilization Estimates for the overall funds needed for adaptation, mitigation, and technology transfer in developing countries vary significantly, but they are on the order of U.S.$110 to $145 billion per year for the next 20 years, given a goal of reducing 2030 greenhouse gas (GHG) emissions 25% below 2000 levels. 10 New and Additional Funding There is currently a wide range of proposals on how resources could be mobilized. Developing countries stress the need for public sector contributions by developed countries as the main form of finance, while developed countries highlight the importance of private financing and market-linked mechanisms as key funding sources. The current financial mechanism of the UNFCCC is supported by voluntary contributions of developed countries. China proposed that developed countries commit 0.5% of their total gross domestic product (GDP) to support projects addressing climate change in developing countries. India argues similarly and proposes a GDP-dependent contribution from Annex I countries of 0.3 to 1.0%; private financing is welcome but merely as an additional contribution. Such targets are, however, as vulnerable as current funding commitments for development aid, as exemplified by the 10 UNFCCC, Comparatively, the International Energy Agency s estimates of costs of reducing energy -related carbon emissions are higher than those of the UNFCCC. The Project Catalyst s (2009) Financing a Global Deal calculates developing country mitigation and adaptation would require 60 to 90 billion per year between 2010 and 2020, plus 130 billion a year in capital investments. 11

14 problems of enforcing the Monterey official development assistance (ODA) target of 0.7% of gross national income (GNI). South Africa advocates a blend of sources, that is, Annex I public contributions, marked linked shares from the auctioning of allowances, and the carbon market. Among developing countries, the most differentiated proposal comes from Mexico. Mexico argues for a financing model under which all countries (except for Least Developed Countries [LDCs]) contribute in accordance with their historic responsibility, actual GHG quota, GDP, and population. Annex I countries are generally less outspoken on the sources of funding. The European Union (EU) is open to discuss various sources of funding, among them government contributions of all countries except LDCs and small island states as a function of GHG emissions, GDP per capita, and possibly other factors; international auctioning of assigned amount units (AAUs); and levies on international aviation and maritime transport. The EU Commission expects a third of external mitigation funding to come from international crediting mechanisms, most likely carbon markets. The most pronounced proposals come from Switzerland, on the one hand, and Norway, on the other. Switzerland envisages a global carbon tax of U.S.$2/tonne carbon dioxide equivalent (tco2e) on all fossil fuel emissions; developing countries below a certain amount of GDP per capita would be excluded. Norway merges public funding sources with private-style sourcing by proposing international auctions of AAUs. Though contributions from public budgets are essential and will have to be scaled up, it is unlikely that climate change costs rising into the tens of billions of dollars annually could be covered through government contributions alone. There is also a continuing risk that these contributions are not as new and additional as promised. The overreliance on national budgets may also lead to donor country fatigue or may divert ODA from other areas. 11 New and additional resources are therefore best mobilized by new mechanisms. Proposals to tap into such additional sources of finance include (a) an internationally coordinated carbon tax, (b) levies on bunker fuels or international aviation, (c) auctioning of AAUs, or (d) the issuance of bonds. A detailed discussion of the merits of these proposals falls outside of the scope of this paper. 12 Predictable and Adequate Funding The Bali Action Plan mandates improved access to adequate, predictable and sustainable financial resources. Whether a particular funding instrument is adequate in size and stable over time is evaluated against the relative merits of alternative funding instruments and the scale of the challenge. 13 It is unlikely that a single financing mechanism will be able to mobilize resources in billions of dollars annually over a prolonged period. A reformed financial mechanism has to therefore be able to accommodate a blend of funding sources, ranging from voluntary contributions of developed countries to international fund-raising mechanisms and the mobilization of private capital via carbon markets and other mechanisms that facilitate direct investments in technologies, adaptation, and mitigation actions. Taking into account that a significant, if not the largest, share of the required resources will have to come from private sources, this financial mechanism should leverage and complement, not crowd out, private investments. MRV and Compliance System In the spirit of the Bali Action Plan, an international financial mechanism would be performance based and financing is likely, at least in parts, to be dependent on success of previous or current actions (and vice versa). It is assumed that financial MRV support would be counted as contributions toward 11 Richard Doornbosch and Eric Knight, What Role for Public Financing in International Climate Change Mitigation, OECD Discussion Paper, SG/SD/RT, For such discussion see Doornbosch and Knight, Doornbosch and Knight,

15 commitments by Parties obligated to undertake them, which is why there is a need for an MRV registry system. 14 A financial mechanism must also provide for monitoring of the overall funding made available, plus as stated in table 1, funding commitments from each public source would have to be recorded and measured against actual payments to monitor compliance. South Africa, South Korea, and the European Commission propose the establishment of a registry to record nationally appropriate mitigation actions they plan or propose to undertake. Such registries could also be used to provide targeted support to specific activities 15 as well as count various financial contributions toward commitments by Parties. 16 Such a registry system could be administered on the international or national level. An international noncompliance mechanism could be established to sanction the shortfall of payments. Such a mechanism could be integrated into the Kyoto compliance instrument, making use of the established model and procedures. Similar to the currently applicable system, the failure to solve the identified default in compliance could lead to suspending the relevant Party from participating in carbon market mechanisms. Resource Allocation and Disbursement Allocation The efficient and equitable allocation of climate change funding is the interest of developing as well as developed countries. The allocation of funding has strong distributional implications. The overall allocation of funding to eligible Parties via an international financial instrument could be determined by using a number of different criteria, such as the level of emissions or GDP, the stringency of committed mitigation actions of a country, the success in the implementation of certain mitigation/adaptation actions, or the vulnerability to the impacts of climate change. As an example of how development institutions handle the allocation of finance, the International Development Association (IDA) approach constructs an index combining the need for finance, the absorptive capacity of the government, and the performance of the central government. Still, even if it is a low-cost outlet, IDA funding is on a reimbursable loan base, which limits the allocation disputes. On the other hand, the experience of a similar approach to allocating the GEF grants, the socalled RAF (resource allocation framework), has proved much more controversial, underlining the need for transparency and frequent revision in dealing with any grants allocation mechanism. The general allocation criteria of public climate funds will likely be set and informed by the COP. Funding approval and disbursement, on the other hand, is likely to be performed by the operating entity of the reformed financial mechanism. Disbursements The instruments that govern the disbursement of funds from the reformed financial mechanism to developing country recipients will most likely be among the most controversial issues discussed in Copenhagen and beyond. The receipt of support from the financial mechanism depends on ( a) the identification of eligible expenditures, (b) the access to the international mechanism, and (c) the choice of financial instruments offered. 14 Benito Mueller and Luis Gomez-Echeverri, The Reformed Financial Mechanism of the UNFCCC: Architecture and Governance, ecbi Policy Brief, April See the proposal of the WWF-MPO, Mueller and Gomez-Echeverri,

16 Climate finance should take into account lessons learned from ODA finance 17 and ensure that any finance is backed by full ownership by recipient countries of funded actions. Country development and climate change priorities have to be closely aligned to increase the effectiveness of public finance while fragmentation of special-purpose climate funds must be avoided. Eligibility. To promote full country ownership, various Parties and NGOs suggest the development of national climate plans that identify priority action. Such plans have been proposed as low carbon development plans, 18 national climate change strategies, 19 and sector transformation plans, 20 all of which add to proposed strategic adaptation/mitigation/technology action plans. The various proposed documents differ in scope and detail according to the vision of the sponsoring Party or NGO. These plans have also been proposed to facilitate disbursements of national and international funds. Where they fulfill such function, the Party or NGO would have to map the priority actions to be undertaken on an economy-wide or sectoral basis, adaptation needs, and the costs of transforming particular economic sectors and implementing a low emissions strategy. More specifically, the Party or NGO would have to identify priority actions and associated funding needs; include an implementation schedule for planned activities; define a budget and an identification of eligible expenditures, including national-level participation; establish performance criteria; and adopt a monitoring plan. Cost-eligible expenditures for international funding could be limited to either ( a) incremental costs or (b) a percentage of particular expenditures. Additional questions that would have to be addressed relate to the approval of these plans and the mechanism by which strategic planning tools can be translated into specific budget requests. Access. Another debated question relates to the ways in which eligible Parties can gain access to funding provided via the financial mechanism. Developing countries have highlighted the need to streamline and expedite the disbursement of funds for eligible activities and to promote flexibility in the allocation of resources. Developed countries, on the other hand, are anxious to ensure that funds are well targeted, sound financial policies are applied, and results accounted for. They are therefore arguing for international oversight for climate change funds. Other than the GEF-operated financial mechanism, the Adaptation Fund of the Kyoto Protocol allows developing country institutions direct access to the funds. In this context, establishing direct access to financial resources means that a national institution in a developing country, be it public or private, gains access to funds. Having indirect access to the financial resources signifies that a developing country receives funds through a third party that has been designated to serve as accessing entity under the UNFCCC. Although the Adaptation Fund has been well received by many parties, it has only recently begun operations, so there is yet no track record to assess its performance. The records of the negotiations of the Adaptation Fund show that direct access to and use of resources is essential to achieve developing country ownership and to align climate change efforts with developing countries interests and priorities. Another model for a fund that provides direct access is the Global Fund to Fight Aids, Tuberculosis and Malaria (the Global Fund). Funding proposals are developed by the Country Coordinating Mechanism (CCM), a partnership of all key stakeholders in a country s 17 The principles closely match those endorsed by aid donors and recipients in the 2005 Paris Declaration on Aid Effectiveness. 18 EU Communication [on a post-2012 climate strategy], January Mueller and Gomez-Echeverri, WWF-MPO,

17 response to the three diseases. The CCM does not handle the Global Fund financing itself, but is responsible for submitting proposals to the Global Fund, nominating the entities accountable for administering the funding, and overseeing grant implementation. Examples for indirect access are GEF-administered funds as well as the Multilateral Fund of the Montreal Protocol. The WWF Macroeconomics for Sustainable Development Program Office (WWF- MPO) offers a hybrid solution in which accessing entities can be either international or national as long as they fulfill the fiduciary, monitoring, and reporting functions. Financial Instruments. Most climate-relevant funds are disbursed to fund capacity building, to support investment funds and lending, or to provide carbon finance. Capacity-building and technical assistance funds generally come in the form of grants. Readiness funding for participation in a REDD 21 mechanism are examples of such funding; so are GEF programs to support enabling environments or remove market barriers. Many capacity-building programs, such as the African Development Bank s Clean Energy Investment Framework for Africa, focus on carbon markets. The largest amounts of finance are provided through a range of financial instruments, loans, guarantees, grants, or insurance products to support clean investments in developing countries. The World Bank recently launched the Climate Investment Funds, which support the financing of demonstration of climate change mitigation activities in developing countries. Multilateral and bilateral institutions finally use carbon finance instruments to leverage finance into projects in developing countries. But so far only a few funds provide larger scale finance for emission reductions post International and national public funding could have either a facilitating role or a major investment role, or both. In the facilitating role public funds would support policy change, lower transaction costs, support innovation and the development of new technologies, remove distortionary policies and market barriers, and provide technical assistance, capacity building, and institutional strengthening. 23 In the investment role public funds would be important sources of financing for actual adaptation, mitigation, and technology transfer activities. Current differences regarding the size of proposed climate change funds are to some extent related to these two possible roles. Furthermore, though existing and proposed funds would address all the above functions, there is no mechanism to coordinate the patchwork of existing and proposed instruments and ensure a balanced distribution of resources. 24 MRV and Compliance Though it is generally expected that emission reduction commitments of industrialized countries will be formulated in absolute targets, developing country mitigation action is likely to take a different form. Under an integrated multitrack framework, developing countries could agree to undertake nationally driven policies that reduce emissions. One way or the other, the agreed actions would have to be measurable, reportable, and verifiable. Many parties have embraced the idea of a registry as a means of reflecting developing country actions in the international framework. MRV for nontarget mitigation actions would likely be different than for targets, and some parties have proposed further differentiation of MRV depending on a 21 The Reduction of Emissions from Deforestation and Forest Degradation. 22 The World Bank/International Bank for Reconstruction and Development as well as the Asian Development Bank offer post carbon finance. 23 Doornbosch and Knight, Ibid. 15

18 country s circumstances. 25 Some but not all actions may lend themselves to measurement using GHG emission reduction or enhancement of removals metrics (such as absolute emission targets, nonloose targets, sectoral or programmatic CDM). Other actions may rely on performance metrics developed and approved as part of the national climate plans. 26 These plans would define measurable objectives that would include agreed upon indicators and benchmarks. Such indicators could be outcome (reduction of certain GHG emissions) or implementation (adoption of a certain policy) based. GHG and non-ghg metrics could be used to help a participating country define and evaluate how successful the implementation of a certain mitigation action is. Governance and Institutional Requirements The principles of predictability, adequacy, appropriateness, accessibility, and equity in the mobilization, management, and allocation of resources are to inform the design of a financing mechanism to cope with the costs of mitigation, adaptation, and technology transfer in developing countries. These principles are enshrined in the provisions of the Convention and in the wording of the Bali Action Plan and are by and large embraced by all UNFCCC Parties. In particular, and as an extension of these principles, the notions of participation in decision making, efficiency in the administration and use of resources, general accountability, and transparency are central in defining the institutional requirements and good governance aspects of a reformed financial mechanism. These concepts represent the lens through which the governance features of a reformed financial mechanism should be assessed and evaluated. In the following, we will first summarize the main principles that describe good governance. In a second step, we will apply these to concrete institutional design options for a reformed financial mechanism. Governance A financial mechanism will require effective and timely decision making by institutions that are accepted by all Parties. Decision making needs to be legitimate and legitimacy is supported by the principles of transparency, participation, and accountability. The rule of law should guide the implementation of all decisions and should translate into clear operating rules. Finally, the performance and effectiveness of any institution should be monitored and be reflected in institutional learning. The guiding principles of good governance are summarized in table 2. Table 2. Governance principles Governance Legitimacy Transparency Participation Accountability Effectiveness Clear mandate and operating rules Flexibility, institutional learning, and adaptability 25 Daniel Bodansky and Elliot Diringer, Towards an Integrated Multi-Track Climate Framework, Pew Center, Washington, DC, December For examples of a performance metrics for REDD actions see Florence Daviet, Beyond Carbon Financing: The Role of Sustainable Development Policies and Measures in REDD, Executive Summary, WRI, Washington, DC, December 2,

19 Transparency Legitimacy of international mechanisms is further enhanced through transparent decision making and the implementation of those decisions. This is particularly true if the COP delegates regulatory and normative functions to entities that are not directly subject to the control of national governments or national legal systems. An example of such a process is the CDM governance, in which the Executive Board makes decisions that affect public and private project participants without offering them the possibility to review or appeal these decisions. 27 The CDM project cycle provides the possibility of public participation at the project level and the CDM rules require that 19 separate types of CDMrelated information be made publicly available. Still, the process has been criticized because many deliberations of the Executive Board take place behind closed doors and interactions between the Board and its technical panels are not made available to affected Parties or project participants. Other examples of policies that support the transparency of an institution s decision making is the World Bank s Policy on Disclosure of Information 28 and the commitment of the Adaptation Fund Board to disclose the records of its deliberations. A reformed financial mechanism should therefore not only have a policy of full disclosure but also be supported by an outreach strategy to non-party actors. To increase the legitimacy of the mechanisms, stakeholders should be informed and consulted in the context of operational decision making. This is particularly relevant where local stakeholders are directly affected by actions that receive international funding (e.g., indigenous peoples and local communities under a mechanism that finances the reduction of emissions from deforestation and forest degradation). Participation The degree of participation in decision making is determined by the composition and voting system of the operating entity of the financial mechanism. Article 11.2 of the Convention confirms that the financial mechanism shall have an equitable and balanced representation of all Parties within a transparent system of governance. India in its latest submission to the AWG-LCA expresses the concern of developing countries that developed countries may in fact wish to hold control when it stresses that there is no scope for unilateral determination by the assesses (developed country Parties) of which developing country Parties may be funded, or the extent (quantum) of funding required, or the funding modality (project, program, budgetary contribution). A multilateral governance structure that is sufficiently responsive to the perspectives of the developing country Parties undertaking the climate change actions is essential. 29 Accountability Article 11 of the UNFCCC provides for a financial mechanism that shall function under the guidance of and be accountable to the COP, which shall decide on its policies, program priorities, and eligibility criteria. In line with Article 11, the COP is the supreme body of any financial mechanism established under the auspices of the Convention. Developing countries have emphasized that the operating entity of a reformed financial mechanism should operate not only under the guidance but also under the authority of the COP. Some 27 For a discussion of the CDM and its governance, Charlotte Streck and Jolene Lin, Making Markets Work: A Review of CDM Performance and the Need for Reform, European Journal of International Law 19 no. 409 (2008) Ernestine Meijer, The International Institutions of the Clean Development Mechanis m Brought Before National Courts: Limiting Jurisdictional Immunity to Achieve Access to Justice, NYU Journal of International Law and Politics 39, no. 4 (2007): 877, at See the World Bank Disclosure Handbook, which replaced OP/BP A good example for transparency is the World Bank Forest Carbon Partnership Facility, which posts all decisions and documents on its website

20 Parties and experts argue that the deficiencies in the relationship between the GEF Council and the COP and the absence of a clear institutional authority link between these two bodies represent the greatest weakness of the current financing structure. 30 The establishment of clear accountability becomes more and more difficult the more bodies are involved and the more powers are delegated to special entities. To ensure the legitimacy of these bodies, fairness and equity in the relations between decision makers and addressees of these decisions are essential. Clear Operating Rules Accountability is further strengthened through clear rules and provisions that guide the operation of the financial mechanism. The values of legality, certainty, formal equality, accountability, due process, and access to justice establish the background for a number of due process principles which should form the backbone of any procedure. Experience with the CDM has shown that ambiguous decision making and conflict of interest can undermine a mechanism s credibility. Currently, only a few formalized provisions govern the interaction between project participants, the Executive Board, and its panels. Ambiguity regarding communications, hearings, and time lines often makes processes cumbersome and opaque. Though a reformed financial mechanism is unlikely to interact with non-party actors in the same way the CDM does, it is still essential that all operational decisions (disbursement, MRV, etc.) follow a clear set of rules which includes good governance principles, such as the right to be consulted, substantiating decisions with rationale, the right to recourse, and no retroactive applicability of rules. Conflict of interest should be avoided and political decisions limited to decisions on general guidance and oversight. A recourse and complaints mechanism can help to address violations of operational rules. A noncompliance mechanism can sanction the violation of Party commitments. Learning and Flexibility The financial mechanism should be periodically evaluated. Similarly to the performance evaluation undertaken for the GEF, evaluation should be presented to the COP. A reformed financial mechanism should, however, allow the COP to mandate the reform and adaptation of the financial mechanism to changing circumstances faster and more effectively than in the case of the GEF. Institutions In line with Article 11 of the Convention, the COP is the supreme body of any financial mechanism established under the auspices of the Convention. Decisions on the mobilization and overall allocation of funds are likely to remain with the COP. The collection and disbursement of funds may, however, be delegated to operational bodies. These bodies are accountable to the COP, which must decide on the degree of delegated authority. Below, we highlight the issues that rank high among the decisions that have to be made in Copenhagen: (a) who oversees the financial mechanisms and (b) how much of its administration is managed internationally. Oversight Function Developing countries argue for an inclusive decision-making structure by an operating entity that operates directly under the authority of the COP. The COP, under the proposal of the Group of 77 (G77) and China, would appoint a board that is an equitable and balanced representation of all Parties. 31 India follows this approach and proposes to model the board s constitution after that of the 30 Mueller and Gomez-Echeverri, India and Philippines make a similar criticism on the difficulties of harmonizing COP guidelines and the GEF activities in their submissions to the AWG-LCA