Proceedings of the Standing Senate Committee on
Energy, the Environment and Natural Resources
Issue 17 - Evidence, May 3, 2007
OTTAWA, Thursday, May 3, 2007
The Standing Senate Committee on Energy, the Environment and Natural Resources, to which was referred Bill C- 288, to ensure Canada meets its global climate change obligations under the Kyoto Protocol, met this day at 8:08 a.m. to give consideration to the bill.
Senator Tommy Banks (Chairman) in the chair.
[English]
The Chairman: This is a meeting of the Standing Senate Committee on Energy, the Environment and Natural Resources, which is here continuing its consideration of Bill C-288.
Before we proceed, I would like to introduce the members of the committee. On my right is the distinguished vice- chairman of the committee, Senator Ethel Cochrane from Labrador and Newfoundland. To her right is Senator David Angus, who represents Quebec in our committee, and to his right is Senator Elaine McCoy from Alberta. To my left are Senator Willie Adams from Nunavut and Senator Grant Mitchell, who represents Alberta and who is the sponsor of the bill before us.
Appearing before us this morning are representatives from the David Suzuki Foundation, Mr. Dale Marshall, the climate change policy analyst; from Natsource we have Mr. Doug Russell; and from the TSX Group, Mr. Richard Nesbitt, the Chief Executive Officer.
Richard Nesbitt, Chief Executive Officer, TSX Group: I am pleased to be addressing the Standing Senate Committee on Energy, the Environment and Natural Resources in its study of Bill C-288. My colleagues and I appreciate the opportunity to share our views, and this is an important part of the public policy process.
The TSX Group operates the Toronto Stock Exchange, which has been around for about 150 years; the TSX Venture Exchange, based in Calgary with 2000 smaller companies listed; and the Natural Gas Exchange, NGX, in Calgary, which trades natural gas and electricity, and these are, by and large, the large final emitters who are trading energy on our marketplaces.
We also operate fixed income markets and debt markets through Shorcan and CanDeal. We have five offices across Canada: Vancouver, Calgary, Winnipeg, Toronto and Montreal with people in all those offices serving their clients locally.
We are the seventh largest exchange group in the world, by market capitalization as of last March, and we are the largest exchange in the world in terms of the number of public companies in the mining and energy areas. We have over 50 per cent of the world's oil and gas companies and over 60 per cent of the world's mining companies listed on TSX, which is relevant to what we are talking about today.
I want to talk to you today from the perspective of a market operator, working with a range of stakeholders. I want to stress that I am neither an economist nor an environmental scientist. I am not in a position to comment on the economic or environmental effects of the bill or on climate change in general. I am not an expert on that. However, I want to talk briefly on three areas: consideration for issuers operating within a policy framework designed to produce cumulative reductions in greenhouse gas emissions; encouraging Canada to use market mechanisms as much as possible in the furtherance of economic efficiency while pursuing emissions reductions; and I will give you some comments on Kyoto and its effect on marketplaces.
Meeting Kyoto Protocol obligations and contributing to cumulative emission reductions would require a significant amount of change in how many activities are conducted by more than 3,800 public companies in Canada and, of course, many other organizations. Many issuers have told us that themselves. Indeed, they know that running a public company requires making trade-offs, and successful companies can handle these trade-offs as part of an overall strategy and execution. Those skills will be needed in dealing with climate change.
There are a number of other factors facing public companies in this regard. We discussed that earlier this year in Toronto at our facilities at TSX, when the National Round Table on the Environment and the Economy launched their final report.
There are matters of disclosure and determinations of risk, for example, where they pertain to environmental, social and governance issues and the relationship that providers of capital — investors — and those employing the capital to fuel their growth strategies in the context that there is heightened awareness of those environmental, social and governance factors.
Transparency — in other words, reporting on these things — is becoming very important and is of significant interest to public companies. That is happening today without the passage of Bill C-288 or any other measures; public companies are looking at this on how to satisfy their disclosure requirements on these matters.
Transparency in public policy helps these companies fulfil their obligations to shareholders and regulators. So, too, does the knowledge that once a policy framework is in place, the rules of the game will be more or less stable for the foreseeable future.
Thus, when it comes to your deliberations on Bill C-288 — and on environmental legislation more broadly — I recommend that you seek a balance between the appropriate cumulative greenhouse gas reductions and economic health, while at the same time considering the effect of these legislative changes on Canada's public company requirements in areas such as transparency.
Given a clear policy framework and attainable objectives, Canada's capital markets — comprised of the public companies that I have talked about — would adapt and continue to contribute to job and wealth creation from coast to coast.
Let me stress the point about objectives as it is a crucial one for our customers. These policy objectives have to be clear and realistic. To my mind, that is part of good governance of a public company.
The second area of my comments concerns the use of market mechanisms. I want to be clear about what we consider to be a market mechanism, because it is a buzzword when we talk about greenhouse gas regulation.
We consider any compliance system that permits an entity to comply with regulations by trading credits with others, in addition to the entity reducing its emissions, to be a market mechanism. It is especially one if there are few limitations on the use of such trading.
The following are three things that will lessen the effectiveness of market mechanisms: alternatives to compliance that involve taxes or contributions to a fund, especially with a price cap; selection and funding of emissions reduction projects and opportunities from a pool that has been financed by penalties, taxes and required ``contributions,'' and that is administered without continuous market oversight; and finally, significant interprovincial barriers to finding the most efficient opportunities to reduce emissions. These factors might be appropriate for other public policy reasons, but I wanted to point out they will lessen the effectiveness of market mechanisms.
I emphasize that difference for a simple reason. We believe that reliance on market mechanisms through emissions trading is what could allow Canadian emitters to find the lowest cost of complying with greenhouse gas emissions regulations, thereby reducing overall economic stress. In short, market mechanisms can and do finance innovation.
I wanted to mention what we are starting to call the ``cleantech'' sector here in our economy. It is comprised of a number of companies that are involved in environmental businesses.
We do not have a strict definition of cleantech yet on the TSX — it is something we are working on — but we have many companies in Canada involved in this aspect of our economy. In fact, we have more than 80 companies across Canada on our two equity exchanges that are involved in aspects of cleantech. The market cap of those 80 companies would be about $3.8 billion today.
Some examples of such companies are BioteQ Environmental Technologies Incorporated, a TSX Venture issuer that is a specialist in water treatment, particularly around mining projects; Polaris Geothermal Incorporated that was on TSX Venture and is now on the Toronto Stock Exchange, which focuses is on the development of geothermal projects in Latin America; Ballard Power Systems Incorporated, out of Vancouver, is listed on the TSX and is a world leader in hydrogen fuel cell technology; and, finally, Canadian Hydro Developers Incorporated, which is listed on the TSX and specializes in renewable energy, wind, water and biomass technology. Many changes are taking place in industry already to try to clean up the environment and reduce emissions.
Lastly, I have a few words about the Kyoto Protocol. Most discussions around the protocol are around the quantitative targets. However, some of the mechanisms in the protocol may not be appropriate for Canada, at least at present, irrespective of whatever quantitative targets are chosen. I would suggest that Canada should separately address what market mechanisms best suit it for the immediate future in pursuing emissions reductions and economic health, and not simply adopt Kyoto Protocol mechanisms.
Emitters and others we have spoken to have great concern about how efficiently they can trade emissions credits. They specifically fear the impact their own trading may have on market prices. Because we are in a very small marketplace in relative terms in Canada, there will be limited emissions credits. We have worked with emitters to identify specific market structures that will mitigate this risk for issuers.
We also know there appears to be an expectation among many emitters in Canada for a substantial amount of domestic activity in emissions reduction opportunities — and we hope they are right. These are called offsets, and we are encouraged by this. However, we also know that the Kyoto Protocol mechanisms are more geared to buying credits from developing countries than they are toward significant domestic offsets. Perhaps this is intentional. As well, the Kyoto Protocol mechanisms are not easily adopted by cash exchange-type markets. They seem to be most easily adopted by over-the-counter trading party to party.
The broader context here is the fact that Canada is increasingly part of a continental economy. Company managers operating within that context have decisions to make in running their companies. These decisions are part and parcel of the trade-offs to which I referred earlier.
I would thus return to my earlier point about setting realistic and attainable objectives in the legislation that this committee and Parliament as a whole considers. Whatever happens in this regard, I would stress that the time to act is now; markets respond to action.
In summary, we urge legislators to find a balance between appropriate cumulative greenhouse gas emissions reductions and economic health, while keeping in mind the effect that this legislative change will have on public companies. We urge the use of market mechanisms as much as possible, and encourage Canada to aspire to a cleantech leadership as part of this reliance on market mechanisms.
We also recommend that careful consideration be given to designing market mechanisms that work for Canada and its particular situation now, while remaining open to North American linkages — U.S. and Mexico. Again, we believe the time to take action is now.
Dale Marshall, Climate Change Policy Analyst, David Suzuki Foundation: I appreciate the opportunity to speak to you this morning with respect to Bill C-288. It is important that we remind ourselves why we are here, and what we are discussing and considering.
Bill C-288 is an approach that strengthens the Kyoto Protocol, the alternative being that we do not meet our Kyoto targets and instead go with the Conservative climate change plan that we saw last week. What approach we take will determine whether we tackle climate change head-on or whether we accept changes to our planet that would be dangerous.
I use the word ``dangerous'' because it is in the Framework Convention on Climate Change, which is a 1992 agreement that Canada signed on to. There are 188 other countries that have signed on to it as well. The objective of the Framework Convention on Climate Change is to prevent dangerous anthropogenic interference with the climate system — in other words, to prevent dangerous climate change. Of course, it begs the question, what is dangerous in terms of climate change? What level of changes and warming would be dangerous?
The EU and many others have come to an agreement that 2 degrees Celsius of average global warming is the threshold above which climate changes would be dangerous.
People from the Inuit Circumpolar Conference have said that 2 degrees Celsius likely means the disappearance of Inuit culture in this century. It means that 25 per cent of the world's species will be at risk of extinction. Significant portions of various ice caps, in Greenland and Antarctica, as well as many glaciers, will melt. That is why the Climate Action Network International, a coalition of international environmental groups that work on climate change, want to see stabilization as far below 2 degrees Celsius as possible. Frankly, we are running out of time to act, to keep the temperature below 2 degrees Celsius.
What does that mean for Canada, for the globe to remain below 2 degrees Celsius? Essentially, with respect to our greenhouse gas emissions, for Canada to take its full responsibility of its own contribution, our emissions would have to decrease by 25 per cent by 2020 and 80 per cent by 2050. Globally, we need to reduce emissions by more than 50 per cent and Canada's contribution, given we are a rich industrialized country whose emissions are very high, would be 80 per cent.
If we look at the Conservative plan that we saw last week, instead of a 25 per cent reduction by 2020, we are seeing a 5 per cent increase by 2020. Of course, this falls well short of what the science says is required to avoid dangerous climate change.
With respect to international law, Kyoto and Bill C-288 compels Canada to reduce its greenhouse gas emissions by 6 per cent below 1990 levels by 2010. The Conservative plan we saw last week allows emissions to be 5 per cent above 1990 levels by 2020, and, therefore, 11 per cent above our Kyoto target in 2020, eight years after the first phase of the Kyoto Protocol ends. We will not reach our Kyoto targets until approximately 2025.
Last week, Canada's environment minister proposed essentially that Canada break international law with respect to our commitments on climate change.
With respect to Canada and its role in the world and our global peers, 30 of 34 countries that have targets are on track to meet their Kyoto targets. Canada is the only country to say it will not even try to meet those targets. We cannot point the finger at China and India and tell them to take on emissions reduction commitments if we do not even honour ours.
Beyond the 2008 to 2012 period, the EU has said it is willing to reduce emissions to 30 per cent below 1990 levels by 2020 if it has global partners willing to match that commitment. Norway has said unequivocally that it will reduce its emissions 30 per cent below 1990 by 2020, and again Canada's emissions will be above 1990 levels by 2020, in the absence of Bill C-288 and honouring our commits under the Kyoto Protocol.
Minister Baird has challenged his critics to name one country that will be doing more over the next 13 years to tackle climate change. I just referred to 26 countries that will be doing more over the next 13 years. All of these countries are starting further ahead. The EU on average has per capita emissions well below one half of Canada's. It already has an economy that is low in greenhouse gases. They have already taken significant action to reduce them and are willing to go even further.
Of course, there are questions of whether Canada will even be able to reach the targets we have set, given that the plan that was proposed is so full of loopholes as to stretch credibility.
To conclude, the Kyoto Protocol was only intended to be a small first step that allows Canada and the world to be on track to undertake the kind of deep reductions that are required to avoid dangerous climate change. The Kyoto Protocol is not only a target, it is a process. The 2008 to 2012 period is only the first phase. We are now negotiating with the world what kind of emission reductions will take place after that. We have essentially said that we are not really interested in those negotiations, because we are not really interested in even meeting the first phase of our commitment.
Bill C-288 allows us to take that necessary first step, and it allows us to engage the rest of the world in these negotiations. We need to show leadership rather than defeatism. The Conservative plan involves more years of delay and is insufficient with respect to the science of climate change, international law and our global peers.
Doug Russell, Managing Director, Advisory and Research Services, Natsource: I am pleased to appear before you today to talk about carbon markets, in particular how they relate to Bill C-288, an act to ensure that Canada meets its global climate change obligations under the Kyoto Protocol.
By way of introduction, I work for a company called Natsource, a leading emissions and renewable energy asset manager. Natsource has been involved with emissions markets since 1995, beginning with the sulphur dioxide market that emerged as a result of the Clean Air Act in the United States. We currently manage one of the world's largest private sector pools — approximately U.S. $670 million — which is designed to purchase project-based carbon emissions reductions credits from around the world. We also manage other funds to invest in potentially high yield emissions reduction projects.
My role with the company is to oversee the advisory and research component of our business here in Canada and also to go out and find promising investment opportunities in other countries, most recently in the Far East and Southern Africa.
Prior to joining Natsource in 2002, I ran a small consulting company that advised a number of large Canadian and multinational corporations on their climate change strategies. Before starting that company in 1996, I had the privilege of working for over 20 years with the Government of Canada, including three years as co-head of Canada's negotiating delegation for the United Nations Framework Convention on Climate Change, UNFCCC, the precursor to the Kyoto Protocol.
This morning, I would like to point out some of the highlights of a report released just yesterday in Cologne at a conference there. The report was released by the World Bank and the International Emissions Trading Association on the state and trends of the global carbon market. Natsource has been one of the contributors to this annual report since its inception in 1996. These reports represent an authoritative overview of the global carbon market today. Our press release that summarized the report has been provided to each of you.
The key findings are as follows: The global carbon market has grown to an estimated value of U.S. $30 billion in 2006, three times greater than it was in 2005. Mr. Nesbitt will point out that $30 billion is what trades in a week in the Toronto Stock Exchange, to put it in context. Nevertheless, it is the largest-valued environmental market in the world at this stage.
The European Union Emissions Trading Scheme, EU ETS, is by far the largest carbon market with a value in 2006 of U.S. $24.4 billion. The value of the project-based markets through the Clean Development Mechanism, CDM, and Joint Implementation, JI, provisions of the Kyoto Protocol doubled from 2005 to 2006 to a value of $5 billion. Voluntary markets for reductions by companies and individuals grew strongly to an estimated value of $100 million last year.
The EU market experienced very high volatility in 2006 for allowances covering the period of 2005-07 — the first phase of their operation — while the project-based markets of the Kyoto Protocol showed greater price stability.
European buyers dominated the CDM and JI market with 86 per cent of market share. Japanese purchases were down sharply in 2006 from their 2005 levels. Private sector buyers, especially banks and carbon funds, continued to purchase large volumes of CDM assets.
Looking forward, there is a consensus among market analysts that the EU Emissions Trading Scheme, ETS, will likely create a demand for 1billion to 1.5 billion tonnes of credits in 2008-12. This amount almost exactly matches the estimate for uncontracted volumes in the CDM-JI pipeline at this time.
Drawing on the World Bank report and our first-hand experience in the market, I would like to make two points related to potential global supply and the price of carbon credits for the period of Kyoto, 2008-12.
The report, introduced to this committee by the government last month, entitled The Cost of Bill C-288 to Canadian Families and Business claimed that only 85 million tonnes of project-based credits would be available for purchase annually during the Kyoto period, which the report says ``. . . equates to less than one-third of Canada's annual reduction target.'' The same report assumes that the cost of those project-based reductions during that period of time will be CAN $25 per credit.
Based partly on these assumptions, the government has posited that Canadian business would be able to acquire 75 per cent of the 85 million tonnes, which would amount to about a quarter of Canada's commitment to Kyoto, and that the remainder could be accomplished by imposing a carbon tax of $195 per tonne to achieve the rest, to meet Kyoto.
Mr. Chairman, my first point is that we believe that there is, and there will continue to be, a much higher global supply of project-based emissions credits available for purchase. As of March 31, 2007, there were 1.9 billion tonnes in the CDM project approval pipeline, valid for the period of 2008-12. This amounts to approximately 380 million tonnes per year during the Kyoto period; some of this amount is already committed to buyers but is potentially available for purchase on the secondary market.
However, what the pipeline does not reflect is the number of emissions credits arising from new projects that are currently being developed around the world — in places such as Malaysia, Indonesia, South Africa and others, there is much activity taking place as a result of the Clean Development Mechanism. While there is no way of quantifying exactly how many credits these new projects might produce, the fact is that the volume of project-based credits has increased significantly each year since the Kyoto Protocol entered into force in 2005. In 2005, there were 382 million tonnes of project-based credits transacted. In 2006, that number had risen to 508 million tonnes — a 30 per cent increase. The World Bank in its report noted that ``. . . it would also not surprise the authors if strong additional demand and price signal could stimulate even further growth in the pipeline.''
Thus, Canada, if it were to consider making purchases of emissions credits in the international market, would find that there will be significantly more available than the 85 million tonnes that the government has assumed in its economic analysis.
The second point relates to price for project-based emissions credits. It is noteworthy that yesterday the World Bank reported that the price paid in 2006 for the vast majority of these credits in forward trades for delivery during the Kyoto period of 2008-12 falls within a range of 6 euros to 11 euros, and the average price for all such trades in 2006 was 8.4 euros, which is CAN $12.65. This price was higher by about 50 per cent than the price in 2005.
There is no way to forecast with any certainty what the price might be in future years, so I will not challenge the $25 price assumed by the government in its report to this committee. However, I will say that businesses and governments that have decided to participate early in the carbon market have been able to acquire valid Kyoto compliance units at a reasonable cost and have gained valuable experience for future participation in the global market.
With respect to Bill C-288 and the possibility of Canada reaching its Kyoto targets on time and at a reasonable cost to the country, we would need to make significant purchases on the international market likely well in excess of 50 per cent of our projected Kyoto gap. We believe that supply would be available, assuming that Canada, in addition to making large purchases of project-based credits — CDM and JI — would also buy assigned amount unit, AAUs, under the Kyoto Protocol, from countries in transition to a market-based economy. However, Canada would be coming late to this market at a time when many of the bargains have been scooped up and with limited experience in conducting transactions. Thus, even with extensive reliance on the international carbon market, I believe that achieving the goals of Bill C-288 would pose a significant challenge for Canada.
Senator Adams: You mentioned some of our concerns about climate change, especially living in a cold country such as the Artic, as I do. I have been living for over 40 years in Rankin Inlet. Before I come down here, I usually go out hunting on weekends. I put my nets out in the lakes in the winter and go out on the seal hunt early in the winter and the spring.
Last year, I was out on the sea ice — I know the area well after 40 years — and the ice and sea are changing now, especially this year. In October at high tide, the sea was about three feet higher than usual. It is the first time I have seen that in my 40 years in Rankin Inlet. We use that high tide to launch our boats. We had huskies tied close to the shore and because of the tide was so high, some of the dogs drowned. People there had never seen a high tide like that before.
We are talking about CO2, carbon polluting the air and mercury, and scientists are looking into the effects on the mammals. What percentage goes up into the air and comes down in the Arctic, or does it travel through the water? How do we tell? Mercury in the blood is three times higher for people living in the Arctic and is affecting the seals, whales, fish and caribou. Is the climate changing because of the pollution or is it natural? We would like to know why the weather is changing, especially because we see more of it up there in the Arctic.
Mr. Marshall: I am not an expert in chemical contamination and its global circulation. There are two different issues you are raising. Because of global transport systems, chemical use everywhere in the world ends up in the North. Despite a limited usage or release of those chemical contaminants in the North, they do accumulate there.
The other issue is with respect to climate change. Unfortunately, again, the North seems to be impacted to an extent comparatively greater than their contribution to the problem. With respect to climate change, it is clear that the North is warming much more quickly than the global average warming, which is why it is of significant concern for infrastructure and the culture of the people who live in the North.
I can get into the reason why the North is warming more quickly than elsewhere if you would like, but essentially we are seeing that Canada, being a northern country, will suffer a greater warming than average. This is especially true for the North, although impacts will be felt — and are being felt — even in southern parts of the country.
Senator Adams: I have not heard of scientists doing more studies; they are only talking about global warming. What about what happened two years ago at a copper mine with a family? They usually travel on the sea. We notice the difference in the danger between fresh water and salt water. In the last few years, we cannot tell it any more, especially sea ice. Last year, I thought I was seeing water on the top from just the warmer water. I went along close to it hunting on my Ski-Doo, and we found out it was open water. Usually, before anything gets dangerous, everything drains down the hole, down to the sea, from the top of the ice. Now there is still snow on the top, and it is melting on the bottom.
That is the kind of stuff that people understand, especially elders. They understand the danger between the ice of the fresh water and salt water. Now everything is a little different. Scientists do not look at that; they just look at the CO2 in the air and the toxins, and there are no studies about the differences now of the snow and ice.
Mr. Marshall: Your first-hand experience, and those of others who live in the North, is useful and a good contribution to the science. I know the Government of Nunavut has done a good job of integrating Aboriginal knowledge, especially amongst the elders, into the more traditional scientific understanding of climate change.
It is important that we continue to do that. There are people willing to contribute first-hand knowledge of the changes that are happening, especially in the North where the changes are happening much more quickly.
Senator Cochrane: The government presented an analysis of what it would take for Canada to meet the requirements of this bill. Have you or your organization done a similar in-depth analysis?
Mr. Marshall: No, we have not. I am perfectly willing to look at the assumptions that went into that study and explain why they are out of touch with reality.
Senator Cochrane: However, you have not done anything?
Mr. Marshall: No.
Senator Cochrane: Have you, Mr. Russell?
Mr. Russell: No, we have not done a study on that. That is not our business.
Senator Cochrane: What about you, Mr. Nesbitt?
Mr. Nesbitt: We have not either. We have looked at the aspects of market mechanisms and the effects on trading, but nothing beyond that.
Senator Cochrane: Mr. Marshall, at the last meeting we heard from the Canadian Association of Petroleum Producers. Mr. Hyndman said:
There is a lot of hype around North American trading. Think about it as saying that because we have got a target we will not meet, we will pay the Americans to do some reductions. They are the biggest emitter in the world. This world needs all the reductions they can make on their own without them claiming them as Canadian reductions, so we make fewer reductions all around. All we are doing is being taxed by American companies to pay them to do reductions, which they should be doing on their own anyway.
Could you comment on that? Do you share Mr. Hyndman's views?
Mr. Marshall: To be honest, I do not entirely understand Mr. Hyndman's views.
The Kyoto Protocol and Bill C-288 compel Canada to reach its Kyoto Protocol targets. We would not be paying the U.S. anything because the U.S. is not part of the Kyoto Protocol. If we were to buy international credits, we would buy them from countries that are party to the Kyoto Protocol. As Mr. Russell can explain and has already, there many available credits out there. With respect to the Clean Development Mechanism, the pipeline has 1.9 billion tonnes of emissions available, much higher than the amount Mr. Baird put as an assumption in his model.
We will have to engage in the international carbon market, but I do not see it happening with the U.S., because they are not party to the protocol.
Senator Cochrane: These are quotes from Mr. Hyndman from the Canadian Association of Petroleum Producers. He said this to us on Tuesday.
Mr. Nesbitt: This is what I was talking about. Fundamentally, Canada is now in a continental economy. We are under the North American Free Trade Agreement. Half the natural gas we produce goes to the United States. Our industries are heavily integrated.
Decisions are made in many companies on a continental basis. If it costs more to do something in Canada versus in the United States, we might see more capital invested in the United States. That is what I was talking about, and I believe Mr. Hyndman is taking a different angle on that to say that if we have a North American trading market we could buy credits on a North American basis from the United States or perhaps Mexico. That would send money into those economies, and they would use those to create offsets or credits.
Is that good or bad, or does that achieve the target of reducing carbon? That is something people have to think about.
I would disagree with Mr. Hyndman. One cannot put a judgement of good or bad on that. That is another way of achieving emissions reductions on a North American basis. To do it on a North American basis is better because our economies are closely linked. If we do not do it on a North American basis, we could get people shifting their capital investments in a way that maybe we did not intend.
The Chairman: We understand and have been told that purchasing emissions credits generated in the United States are not eligible as credits to meeting our Kyoto goal.
Mr. Nesbitt: They are not a signatory. This bill speaks to meeting the Kyoto Protocol. Therefore, it would not help you do that. If that is your objective it will not help you at all.
Senator Cochrane: Would a domestic emissions trading scheme reduce the overall costs of meeting regulated targets?
Mr. Marshall: Yes, of course. When the international market is opened, it allows Canada and Canadian companies to access credits wherever they have been produced. We do have the opportunity to buy lower cost certified emissions reduction, through, for example, the Clean Development Mechanism. That is why the fundamental assumption of Minister Baird's report is so flawed, because it severely limits the amount of credits that are out there, and because it says that we have to do it all domestically in the next five years, we have to impose a carbon tax of $195 per tonne. No one is suggesting that. If you open up the international market through the Kyoto Protocol and allow certified emission reductions that are additional to what would have happened otherwise, that are third party verified, then you allow for a much more economically sound and affordable way for Canada to reach its Kyoto commitments.
Mr. Russell: Your question was whether a domestic emissions trading system in Canada would lower the cost in theory. The answer is, yes, of course it will.
The interesting part is that markets work best when we have larger markets, and to get the kind of cost efficiencies that we need to have, we need liquidity. The current program that has been put forward by the new government would allow, in the first year, 70 per cent of the emissions reduction to be met at a price of $15 through a contribution to a fund. There are no other similar markets in the world that would have that kind of price cap. There are triggers at certain points where a market would say if prices in our domestic market rise above a certain price, then we will open it up to other markets. They do not say that they will set a price whereby you can pay a fee to a fund and use that for compliance.
An artificial element has been introduced into a market, and, as Mr. Nesbitt testified earlier, when that happens, markets do not function as well. We all know that.
Therefore, if we look at this in Canada and the prospect for a domestic market, first, we are not a big economy. In comparison to others, we are not that large in these areas. The market, globally, for this is $30 billion. The majority of that is in Europe at this stage.
In reality, when we have the option of paying $15 for guaranteed compliance versus looking at a domestic offset and taking into account that that domestic offset has to be proven. We have to demonstrate that the project is actually delivering, over the period of time, the number of reductions that it said it would do, that the market for that would be limited to some 30 per cent of the total amount imposed for a target of large final emitters. I do not hold out much hope in the short term for a domestic market in Canada to emerge that would provide much of a price signal or much of a cost-effective approach for people to comply.
However, over the longer term, if that evolves, that is great. I do not believe that the current plan on the table would kick-start the domestic market.
Senator Cochrane: Are there other countries, Mr. Marshall, having trouble meeting their Kyoto Protocol?
Mr. Marshall: Yes. As I have indicated, there are three other countries that are struggling.
Senator Cochrane: Are there only three?
Mr. Marshall: The EU has an overall EU target that is 8 per cent below 1990 emissions levels. Some of those countries have high emissions; some have reduced emissions already below their target, because there is a burden sharing agreement within EU countries. The EU as a whole is on target to reach its Kyoto commitments although some countries will be above and some will be below their targets.
In addition to those 25 countries, a handful of other countries are also on target; however, there are a few countries such as Japan and Norway that are struggling to meet their targets. The difference being that Canada is the only country that has said it will not even bother to try any more. Japan and Norway continue to put forward plans, strengthen their policies and put money toward international credits, and, in fact, are pushing really hard on the future negotiations after 2012. Norway has already committed to reducing its emissions by 30 per cent below 1990 levels by 2020. It is an interesting example as it is very similar to Canada's experience, where we have a northern country that has a small population compared to the size of the country. It is also an oil and gas exporter. Therefore, all the reasons we have been given why Canada cannot act on climate change are shown to be false given that Norway is acting quite aggressively with respect to climate change.
Senator Cochrane: Mr. Page, who is a professor from the University of Calgary, was also here on Tuesday. He said that the whole Clean Development Mechanism is too bureaucratic. It takes a minimum of 18 months to simply get projects conceptualized, and even then we are not guaranteed to receive enough credits needed to meet Kyoto. How will we drop our emissions by 35 per cent in eight months?
Mr. Marshall: I will address that, but Mr. Russell may also have comments with respect to this.
We cannot have it both ways with respect to the CDM. The government and critics of Kyoto have said that there is a whole bunch of hot air out there, and it is true. The Clean Development Mechanism is more bureaucratic because it ensures that we get certified emissions reductions through the mechanism; it is third party verified. There is a tool to ensure that the projects that get credits do lead to actual emissions reductions. We need a certain amount of bureaucracy to ensure that we are not simply buying hot air. We cannot, on the one hand, criticize the Kyoto Protocol for allowing hot air and then, on the other hand, criticize the CDM for having a bureaucracy.
Senator Cochrane: We have a time frame, though.
Mr. Marshall: As Mr. Russell said, there are 1.9 billion tonnes of CDM credits in the pipeline, all while Canada is sending exactly the wrong signal to the carbon market that we will not be participating in any meaningful way.
Mr. Russell: The Clean Development Mechanism began its operation in earnest in 2004-05. This was very new at the time for folks to look at all the methodologies to understand to be able to say what would have happened in the absence of a project being implemented and what would the emissions have been; then after we have put the project in place, identify the emissions reductions that we have achieved. That is exactly what this mechanism does.
Yes, it was bureaucratic at the outset. Yes, it remains bureaucratic. It takes time; there is no doubt about that. However, those time frames though are shortening as they have gained experience. At the end of the day, there are numerous types of technologies and approaches that one would see to reduce greenhouse gas emissions. However, there are a limited number, and as we have seen more and more of those then we deal with precedents so that we do not have to go through the laborious back and forth of proving the methodology that happened in the initial times.
We are seeing the times for approval of these credits improving as they gain more experience. It is still not a quick process; nevertheless, many of the projects that are transacted are forward sales. In other words, we buy them from the time that the project will be actually put in the ground. It might be, say 2009, when a project starts. All of the project approvals can be based on the plans, so when the project starts, and it starts to generate reductions, they will have gone through the approval process to maximize the number of credits they can get. It is in the best interest of the project developers, who will get paid for those project credits, to get the approvals done as quickly as they can.
I would say, yes, it is bureaucratic, but the times for approval have improved, and there will always be some sort of approval process because at the end of the day if it does not have environmental integrity, the credits are worthless. That is an important point to recognize. I feel it is important as well that the government has recognized, in its own brief to this committee on Bill C-288, that the Clean Development Mechanism does have environmental integrity. It is important to recognize that this is the first time that this government has said that.
The Chairman: We seem to be focusing on trading this morning. I want to remind members that next Thursday the steering committee has determined that we will hear from the International Emissions Trading Association, IETA. We will have more information on that.
I want you to assume for a minute that I am a Canadian sitting at home watching this on television. I understand so far — because I have been told by successive governments, including this one and the previous one — that the object here is for us to reduce our emissions of greenhouse gases in this country. Explain to me, please, how we achieve that by buying, however certified they are, emissions credits that have been generated in Malaysia.
Senator Angus: May I interject and say a word, Mr. Chairman, on that, because that is the precise question I had intended to ask, except perhaps to take it a step further. We are very blessed to have these experts at our disposal this morning. From a diverse position in the specific area, and as background for next week, I will add to your question by asking them to look at us as citizens at home in our chairs and explain the whole system of trading emissions credits and how it actually works. This leads into your question of how on earth could it reduce greenhouse gas emissions in this country. I am sure there is a great answer, and you are the ones to give it to us.
Mr. Russell: I will draw on some of my background from a long time ago. I was a weather forecaster for places such as Gander, Newfoundland.
The Chairman: What was your average?
Mr. Russell: We will not go there.
Senator Angus: Let me tell you, having heard this tragic story of these husky dogs drowning in the first high tide of the year in Rankin Inlet, we need weather forecasters up there.
Mr. Russell: Perhaps.
I did have the privilege of spending time with scientists. Carbon dioxide and the greenhouse gases that cause global warming are well-suited for an emissions trading system — in fact, almost uniquely suited, particularly globally. One has to remember that when one emits a molecule of carbon dioxide into the atmosphere that molecule stays there for a hundred years. Therefore, it is thoroughly mixed within the atmosphere. That molecule that is emitted in Malaysia, which goes into the atmosphere, can help cause radiative forcing — what the scientists describe as being the cause of global warming — and the impact of radiative forcing from that one molecule going up in Malaysia is equal to exactly the same radiative forcing as another molecule emitted in Canada.
Therefore, from the point of view of the environment and meeting an environmental goal — and this is a global environmental agreement — it does not matter whether we take out a tonne of carbon dioxide in Malaysia or if we take it out in Mexico or any other country. If we remove that tonne of carbon anywhere in the world, it has exactly the same effect on the problem we are trying to address.
That is why, early on in the UNFCCC negotiations, as early as the 1990s, when I was part of the delegation and was involved in the political side of it, in the legal side of it, it was recognized by the world at the time that some provision would need to be made in order for us to have other countries participate in this. The whole premise of the UNFCCC has been that there will be common but differentiated responsibilities of various countries.
The majority of the radiative forcing is caused by the molecules of carbon dioxide emitted by the industrialization of developed countries. As a result, it was negotiated — and these are negotiated political agreements — that the developed countries would take the lead in reducing their emissions. However, we also recognized that developing countries needed to come on board, and that there had to be some way to ensure that there would be action taken in those countries.
One cannot dictate, as a government of the developed world, that one will deploy certain greenhouse gas technologies in other countries. Obviously, there are sovereign rights of various countries to do that. It does not make any sense for governments that do not own these technologies to commit to saying that these will be deployed in places such as China, India and elsewhere. The only way to do that is to put in place a market mechanism that makes it profitable for companies to invest in these various emission reduction projects in various countries of the world.
Part of the rationale behind the original deal that led to the Kyoto Protocol was that there would be the opportunity for a global emissions trading system to emerge over time that would allow for the environmental goal, which is to reduce tonnes of carbon dioxide and greenhouse gases, and to have that emerge in such a way that it would be linked to a global price signal.
That was the underlying rationale for much of the thinking that went on during that period of time. Consequently, a global market has emerged, which is not entirely global at this point, but it is emerging. I can say from first-hand experience, there is much activity in various countries around the world to reduce greenhouse gases much more than there was three, four or five years ago, because all of a sudden there is a price signal in those countries.
It is rather ironic that we do not see as much activity in Canada in this regard. We see more in other countries of the world. There are more innovative, existing technologies being deployed because it makes sense to do so from a profit motive.
With respect to your question, it does not matter from the environment's point of view — and again we are talking about an environmental treaty here, or at least one part of it is environmental; there is economics in it as well — that same molecule of carbon dioxide that we reduce in any given country has exactly the same benefit for the environment no matter where we reduce it. That is why emissions trading works in particular for a global issue of this nature.
Mr. Nesbitt: I will be very blunt. I do not disagree with anything Mr. Russell said, but the fact is that if we buy a credit in Malaysia, it does nothing to reduce the carbon footprint of Canada's industrial base at all. That was my point about the cleantech industry. We would like to see an investment in the cleantech industry in this country to help reduce the overall carbon output here in Canada.
We really have to decide what we are trying to achieve. Are we trying to achieve adherence to the Kyoto Protocol, which is what Bill C-288 does, or is there a broader mission here to reduce our actual output of carbon here in Canada and then to create industries around doing that? That is what we are in favour of, and that is why we need to have a domestic market first; otherwise, we will be buying credits on the international market. I believe we will ultimately get there, but we may get much less reduction here in Canada if we immediately allow purchase of credits outside of Canada.
I would like to talk about how emissions trading works, in a simple way. Emissions trading is not a panacea to carbon. We do not say, ``Let us all trade and then carbon will get reduced.'' That will not happen at all.
Senator Angus: That is how they make it sound.
Mr. Nesbitt: Yes. It is clear what we have to do. Let us take a simple example. Let us say our carbon output is 1,000. We have to start by saying it will not be 1,000 anymore; it will be 700. Then we have to say it is going down in total, but that will cause much pain and suffering on the economy, individual companies and governments, et cetera. Therefore, we then say there will be winners and losers: Some people will have more credits, some people will need more credits and some people will be able to move faster than others. Within that 700, the winners and losers can trade. I use ``winners'' and ``losers'' in terms of people with excess credits versus people with deficient credits.
We have to start with the total number we are at today, where we want to go and over what period of time. It has to be a lower number than where we would otherwise be, or else trading is just a churning activity. From a simple perspective, we start by lowering the number at some point in the future, and we give trading as an adjustment mechanism to allow individual companies and municipalities, et cetera, to get there.
It is seen as a more efficient mechanism than having it all go through a central government, for example, and have a government dole out credits and decide which projects are good and bad, and have it all through a central bureaucracy. Of course, we run a stock exchange, so we believe market mechanisms are generally more efficient than a centralized planning approach.
From a simple perspective, that is why trading works, because the total number is forced down.
The Chairman: Mr. Nesbitt, you have suggested a choice be made between international trading and domestic trading. We know that there is an international market. Is there a functioning domestic emissions trading market?
Mr. Nesbitt: No. There have been a small number of trades done in Canada by companies — what is called bilateral, company to company — but there is no organized market today, and it is awaiting the definition of what the market is.
The Chairman: Is it the TSX's intent to set up such a market?
Mr. Nesbitt: Yes, it is.
Mr. Russell: Just an added point to what Mr. Nesbitt had said. The intention of any kind of emissions trading system does have to be driven by regulations. We cannot have an emissions trading system without some sort of targets, and that means regulatory targets have to be established and the system has to deliver whatever the environmental goal is.
The intention of this is to help smooth out the cost of capital cost turnover. If a company is in a cycle whereby it will not be able to modernize at a price that is reasonable for a period of time, then it should have as many options as it can possibly have to do so in such a way that minimizes the cost.
Unless the government is willing to come in and put in a price cap of some sort, the best way of minimizing that cost is to have access to the broadest market possible. Right now, that broadest market is in the international community, not domestic. At this stage, as I said in my previous comment, it will take some time for a domestic market to emerge that will be attractive enough for people to make the investment in Canada versus taking the $15 contribution to a technology fund that would then be administered, presumably, by the government, and the government would pick and choose winners in that situation.
Again, a market is intended to find the next lowest cost emissions reduction. Therefore, if you go to the market, you will find wherever the next cheapest cost will be — wherever that may be in the world or in Canada — but if you have price caps put in your domestic system, you immediately put a cap on what it is that you will be able to receive as a seller in that market. Unless the price caps are significantly high, this may not stimulate the kind of domestic market that you are looking for.
Senator Mitchell: I am very interested in this. Thanks to each of you for your presentations. It is really the cutting edge. This is a huge adventure and venture for the world, in a sense, in creating these markets.
I have been reading about the history of markets and the 12 people in a restaurant in downtown Toronto that started the TSX; now look at what it is. I have been reading about the possibilities, and how the human mind and human effort can conjure these things up and make what would seem to be the impossible work. We are already making tremendous progress.
I am interested in Senator Angus' pursuit of the actual market mechanisms and how they specifically work. Those who are reluctant to pursue the Kyoto Protocol or climate change argue against the effectiveness of these markets. They generally argue two aspects, one of which is that there are not enough credits, and you have answered that. Even now, with the $1.9 billion, there are enough, and of course as this is heating up — no pun intended — there will be more and more, and the markets will become more focused.
The second argument, which Senator Angus is getting at, is that if we can go abroad and buy that credit — and I can buy it relatively inexpensively, because it is so much cheaper to reduce carbon in a country with poor technologies than in a country which already has relatively good technologies — I might spend $100 here to get an ``X'' reduction, whereas I only have to spend $1 in Indonesia to get that reduction. Thus, why would I not go there, and why would I not keep going there?
Is there any incentive in this system for me to stop spending that money somewhere else, to gradually move away from that because I have an incentive to spend on technology here, to invest in my business here, to invest in Canada? They want to say that there is no incentive whatsoever, and we are happy to keep spending that $20 per tonnes somewhere around the world and never change a single thing that we are doing in the oil sands. Is that the case?
Mr. Russell: No. If we look at all the other emissions markets that have emerged — and the one that is most often cited is the sulphur Clean Air Act emissions market in the United States — the intention of any of these markets is that the government has to impose a limit on greenhouse gases. Kyoto was just a starting point, what was feasible at the time. The intention of the world community was always to move to the next step and the next step, so that those planners in companies looking downstream would have a clear signal that this is just a starting point and that the winners are the companies that can achieve emissions reductions and do those things that will be required of them in the future. Those who can get ahead of that curve will be at a competitive advantage.
Therefore, I feel that all the Canadian companies, starting as early as the early 1990s, have been looking at this carefully in terms of what they can do internally in their own operations to become more competitive and to become more competitive in a carbon-constrained world.
There is no doubt that the search continues. The point about emissions trading is that it is a temporal shift of costs so we can smooth over our capital cost turnover. We can see that in Europe and other parts of the world, where they are continually making more gains to wean themselves off fossil fuels, as companies are doing in Canada.
We have seen tremendous strides, aimed at reducing emissions, in the oil sands and in our energy-production facilities already. However, it does not coincide with the times that have been put forward for Kyoto targets.
At the end of the day, we will have a situation in which — as demand increases, in other words the targets get ratcheted down, the price goes up — all of a sudden it becomes more economical to do things at home. We do it at home because we have already been planning for that. Eventually, everyone begins working in their own countries toward these goals.
Emissions trading is only there as a temporal smoother. It is not the be-all and end-all by any stretch of the imagination. Government regulations and political will will solve this problem, not the markets. The markets are there to help businesses smooth over and minimize their costs of doing it.
Any company that is not paying attention to this file now and is not planning for its next round of capital investments to be as low in carbon imprint as possible is a company that will not be in business in 20 or 30 years. None of our corporate leaders in Canada has missed that point. Most of them are pretty much on the ball on that front.
Senator Mitchell: One of the other arguments, which stems from those who are reluctant to embrace Kyoto, is that if we invest in Malaysia or Indonesia that is money that is not stimulating the economy here. There are no companies on the TSX that we discourage from investing internationally. We want to be international leaders.
It seems odd to me that reluctant people suddenly say they do not want to encourage anyone to invest in environmental technology outside of Canada. They can invest in guns and tanks and helicopters that are used halfway around the world and built somewhere else, but they do not want to invest in any kind of environmental technology that is 50 miles from their home.
There is an absurd irony to that, it would seem to me. The fact of the matter is that through CDM or other mechanisms that may evolve, such as your Canadian one, a company could actually invest in a project abroad that would make return, similar to other investments they make abroad now, and build the Canadian economy. It is a Canadian firm paying Canadian taxes and employing Canadians to do all these things; for example, oil companies that drill in Africa. Is that right?
Mr. Nesbitt: I agree with 90 per cent of what you are saying. You are on an important topic; the foreign trade topic. If it is cheaper to produce somewhere else and have a competitive advantage, why would we not take that? I would say that is a very valid argument. In terms of efficiency, we would tend to support that kind of argument.
I would say the analogy here might be toward food production. Let us say we can get all our food produced in Malaysia; we do not produce any food in Canada at all, because it is cheaper to produce in Malaysia. Would that be good public policy to get rid of our food-production industry?
It is the same here. We want to see a cleantech industry develop domestically. We do not want to see it all go to Malaysia. It is probably a balance of the two ultimately, which is what you see. However, you need to get something started here in Canada, otherwise you will never get to a balance of the two. I would temper my great belief in free markets and free trade with a desire to have a strong Canadian base of food production and cleantech industries.
Senator Mitchell: I agree with you. It refers back to Mr. Russell's point that that would occur because there are opportunities here. The cost mechanism would drive us to do it here.
One of our earlier witnesses made the point that there will be three coal-fired electrical plants built in China per week some time in the not-too-distant future. It would be wonderful if we were developing the technology as Canadians; we could go over to build every one of those and create a new industry.
This is a specific market mechanism issue. I think of Cisco Systems Incorporated in 1999, a stock that had ``X'' value, but because of supply and demand and the market warping at that period, it was given a higher market value.
Senator Angus: It is called irrational exuberance.
Senator Mitchell: That would be the word. There must be a relationship between the cost of that credit and the real reduction in carbon, whereas in the markets today there does not necessarily have to be a relationship between the actual value of that company and the value that the market places on that company.
What is the difference in the markets that you are designing that would ensure that relationship? It must be real.
Mr. Nesbitt: It is the tension between doing it yourself versus buying the credit. We make these trade-offs personally every day: I could mow my lawn myself or get someone to do it for me.
Senator Mitchell: In which case, you can then go off and make money doing what you do.
Mr. Nesbitt: Exactly. I would point out that in the case of Cisco Systems Incorporated, and other dot-com companies, gradually the markets brought them back into line. This is the temporal argument; everything adjusts over time.
I honestly believe that companies will make that trade-off as long as they know exactly what they are trying to do. They have some targets to achieve, so they will make those trade-offs quite rationally: Can I do it cheaper myself or should I buy the credits?
Mr. Russell: To further the analogy and bring it into the carbon markets, it would be useful to look at the pricing of two different commodities in the global carbon market right now. One commodity is called the European Union Allowance, which is established under a cap and trade system where governments allow a certain number of permits to be out in the market, and companies are allowed to trade — buy and sell — as they see fit, depending on their own particular position.
At the start of the market in Europe in 2005-06, we saw a very rapid rise in the price of those allowances — up to 32 to 33 euros at one point. That was based on a market perception. Many people in the market did not necessarily understand the market as well at that point; many people did not know whether they should be holding or not and were not necessarily active traders. That was a true market working. We saw the market going up, and all of a sudden it dropped very rapidly for that phase one when people started to report on what their emissions really were and realized the whole system is long. That being the case, the market dropped off.
We have seen volatility in that market already in Europe during the period of 2005-07, phase one, and they are fixing that for phase two when they are going into the next go around.
The Chairman: If I had bought those credits early in the game at 12 euros and they increased to 33 euros, could I sell them at that price?
Mr. Russell: Yes; if you could find a buyer.
The Chairman: In the normal sense of the word, it is a mechanism that could be profitable or disastrous, similar to stocks.
Mr. Russell: Some companies that were very well-versed in emissions trading did very well because they had done their homework. It is like any market — buyer beware.
The interesting part is the CDM market, which we talked about earlier, and the World Bank has reported on the relative price stability in that market. Those markets are tied much more to the underlying costs associated with reducing emissions.
In that situation, if I am a project developer, I take a look at it and say that if I put this biodigester in my plant that will produce ethanol and generate electricity, it will cost me ``X'' number of dollars extra to do that. If I am to receive ``X'' number of credits as a result of that and if I get a price of whatever that may be, I know I will make a 25 per cent return on my investment.
If that is the case, and that is acceptable to me — because I have a number of other things happening in the same project — that is good. Thus, we see people buy these and look at that based on individual project economics as opposed to what the overall market would do.
While the European market went as high as approximately 33 euros and then dropped down, at the same time, for the last three or four years, all the forward trades in the CDM market have been staying relatively stable between 6 euros and 11 euros, based on the underlying economics of the project. In real terms, two different things are happening. The seller looks to get a reasonable return on investment. He or she determines what is reasonable and decides to buy or sell as they see fit.
The other market — EU ETS — was much closer to a market and had much more volatility.
Senator Mitchell: Mr. Nesbitt, when we do develop this market in Canada, could you put it in Calgary? I am from Alberta. Calgary would be an excellent place to have it, would it not?
Mr. Nesbitt: This is a dangerous question. Several parties want to provide this market, whether it is in Quebec, Manitoba, Ontario or Alberta.
Senator Cochrane: Or Atlantic Canada.
Mr. Nesbitt: They may want to as well, although they have not stepped up and said so.
Senator Cochrane: It is coming.
Mr Nesbitt: The technology exists to create these markets in several places in Canada. We have been clear in our main message that once you decide what you want to do, the government should not dictate the market. They should let the market develop. There are several parties that want to compete.
Would we be happy to have it in Alberta? Absolutely. We have two exchanges there and would be happy to have it there.
Senator Mitchell: It would be so efficient to have a third exchange.
Mr. Nesbitt: The reality is that many of the large emitters are there, the energy producers and consumers, and they will be driving the market, because the emissions are ultimately a by-product of what they do. This market will be heavily related to the energy market.
The Chairman: Let the record show that everyone is nodding.
Senator McCoy: The upstream energy industry in oil and gas is not as big as the electricity sector in Canada. It is not even as big as the transportation sector all across Canada.
The Chairman: Do you mean in terms of emissions?
Senator McCoy: Yes, in terms of their total emissions. For us to concentrate on oil and gas would be misleading to the Canadian public.
The Chairman: That is correct.
Senator Mitchell: It is also true that the biggest emitter in the oil sands, at 10 megatonnes, is smaller than the coal- fired electrical emitter in Nanticoke, Ontario, at 17 megatonnes.
How does the market work? I can buy XYZ stock now on a stock exchange, then I can sell it, and the buyer can sell it. Obviously, that is what happens in a secondary market.
How does that work? You are implying that that does occur, but if the emitter here buys a credit in Malaysia that is worth a reduction of 10 tonnes, how can they in turn sell it again because we want that reduction done? The next time it is sold it is not getting another 10 tonnes reduction, or the next time. How does a work?
Mr. Russell: Part of the bureaucratic process that was talked about earlier for the Clean Development Mechanism is a full tracking mechanism under which they serialize each reduction that would be claimed. For example, that 10 tonnes from ``Project X'' in Malaysia would have serial numbers on each certificate to trace them throughout where they are traded. As soon as they are applied against whatever kind of regulatory commitment it is used against, they are out of the system and cannot be used again.
However, until such time as the certificates are retired or cancelled — or whatever word will be used — they can be traded in a secondary market. If I bought them for 5 euros and the market moves to 20 euros, or if I can do things internally at 10 euros, I have my 5-euro asset, and the market has moved to 10 euros or 15 euros. I can sell the certificates at 15 euros, do the internal reduction in my own company at 10 euros, and not only make a profit of 10 euros on the 5 euros I invested earlier, but also save myself 5 euros because I beat the market by doing things internally.
The Chairman: In addition, you might have further emissions credits to sell.
Mr. Russell: Exactly. That is how a market works. There is a secondary market, and the report to which I referred you earlier indicates that the secondary market in the CDM, that is, the resale, is about 10 per cent of the value of the primary market, which is the original buy at this stage. One would expect that there will be more secondary sales happening as time goes on and people get more experience in the market.
That is a good demonstration of exactly how a market can work. As demand increases, prices go up, and it becomes more profitable to do things at home. If you happen to be hedging by buying some credits early, you have an asset you can then sell.
Senator Mitchell: It is often inferred, again by those who are reluctant to do it, that when we buy a credit abroad it is one time, and we have to buy each year thereafter. This is particularly the argument about the four years between 2008 and 2012 somehow.
If I have a company here and we implement technology that reduces 10 tonnes now and get to our level today, and the technology is there next year, I do not have to spend any more money to get to my level the next year or thereafter. If I buy an equivalent technology in a plant in Malaysia this year and it costs me half as much because their existing technology is so bad, and we can achieve it much more easily there, I do not have to buy it again next year because they are still not generating that extra. Is that correct?
Mr. Nesbitt: You are absolutely right. Likely, as the market matures, you will be able to buy four, five or 10-years strips, as we call them. They can sell four years to you and the next five years to someone else. There is no requirement to limit it to a one-time, one-year requirement. That is the way the energy markets work today. With electricity, you can buy power right out through two, three, or four years.
Senator Mitchell: If I feel that I cannot do it by 2010, I can buy it out to 2010, buy fewer out to 2011 and fewer out to 2012, because I know that I am cranking up my own technology.
Mr. Russell: I want to be absolutely clear on this, because it is an important point. Let us take the five-year period 2008-12. In most of the contracts that we purchase for our buyers who are interested in having to comply during that period of time, we will agree to pay the person in Malaysia, for example, ``X'' number of dollars per tonne for the tonnes they deliver in 2008. We typically use the same number across. There will be another payment in 2009 for those tonnes that are delivered and verified in 2009. They verify them every year.
For example, when I buy 10 tonnes a year, I am actually buying a cumulative number of 50 tonnes multiplied by whatever price we agree on. We must recognize that when they serialize these things, they say that this tonne comes from this project and it is vintage 2008; next year it will generate another ``X'' number of tonnes, and that will be vintage 2009. Those would be retired against your commitments in those specific years. It is tied to the year and to the project.
Mr. Marshall: If I can add to that. Much of our talk is about markets. Everyone on the panel here has acknowledged that regulated emissions reductions drive this; that is the end goal. Those targets have been agreed to internationally and are then implemented at the national level. The regulated emissions reductions are essentially what drive the market. Companies will evaluate the trade-off of how much it costs to buy internationally and to reduce their own emissions internally. It is clear that there will be a combination of those two factors.
In the short term, as Mr. Russell said, there will be the smoothing out that happens through the purchase of credits abroad in the long run. Even in the short term, we will see much investment in emissions reductions here at home.
I will cite one report. This is not from an environmental group; this is from Petroleum Technology Alliance Canada, an industry association. They have said that they can reduce emissions within the petroleum sector by 29 megatonnes per year, within four years, at no net cost, because every dollar invested comes back to them in the form of energy savings.
Those are the kinds of things we will see in the Kyoto period if we decide to implement the regulated emissions reductions that will drive the market and that will also drive investment and infrastructure.
We have to remember that if we do not see that regulated emissions reduction, if we do not see a price on carbon, whether it is through some sort of cap and trade system, we will see investments in infrastructure happen over the next three, five, or seven years. The longer we wait to see an actual emissions reduction — and we are not seeing it anywhere other than through Bill C-288 and our international commitments — the more the companies will invest in infrastructure that does not take into account the carbon market and the cost of implementing those emissions.
We will see at least two more coal-fired power plants in Alberta that will be there for 40 to 50 years. The sooner industry gets the message that there will be a cost for carbon — and it is coming right now — the sooner will see the shifts in terms of that assessment of whether we want to buy investments abroad or do things here, and what kind of infrastructure investments we want to see over the short and long term.
Senator Angus: I am assuming you have all been following our hearings and our efforts to try to better understand this complicated subject.
Mr. Nesbitt, there has been a debate about the location of a carbon exchange. We just had a little banter about it here. The materials I have read have shown that the debate is more between Montreal and Toronto. Nothing against Alberta, but Jean Charles Robillard of the Montreal Climate Exchange, which already exists, has stated that he does not view this as an issue and that there is room for both. Is that what you were saying a moment ago?
Mr. Nesbitt: Yes, that is exactly what I am saying. There will be room for both. There is a pre-existing agreement between the Montreal exchange and the TSX that Montreal does derivatives and TSX does cash trading, which means immediate trading. That agreement is valid until 2009. If trading starts between now and then, they will do derivatives, and we will do the cash trading. What happens after 2009? No one knows at this moment, but maybe we will be involved in both.
For that reason alone, carbon exchange will exist in two places. Other people have aspirations as well, for example, Winnipeg Commodity Exchange Incorporated. We definitely want to link it with what we are doing in Alberta through NGX, the Natural Gas Exchange, trading gas and electricity.
You will see this market exist in one form or another at least in those four jurisdictions. It is important that the government allows that kind of innovation to happen as opposed to designating an area. If we designate an area or one particular marketplace, it will have distorting effects.
I believe there is room. This will not be a large market. In Canada, the market will develop in a unique Canadian way. We have some ideas on how to foster that market and get it growing once the rules of the game are set. It will not be a market similar to the stock market today, especially in the early years. It will be quite different. There are other market technologies that we can apply. If the rules of the game were set today, we could be up and trading within three to six months; no problem.
Senator Angus: I will come back to the fundamentals of these emission credits. Mr. Russell, and Mr. Nesbitt in particular, you have the experience: Is this international carbon credit trading or CO2 emissions credit trading akin to derivatives-type products? Is this a levered type of business? You used the magic word ``hedge,'' a minute ago, but it was in another context.
Mr. Nesbitt: In every market, we start with the core underlying demand, producers and consumers — in this case, emitters and credit producers. That is the core underlying demand, but then in every market we can think of, we have speculators come into the marketplace who help produce price; they create flow.
In many markets, we will find that we have a multiple of trading relative to the natural demand. If the natural demand is 1,000, we might see trading of 5,000. That is all the speculators trading about. That is the natural formation.
We have to start with the natural demand. The reason the market has not yet started in Canada is because of the natural demand. Today, there is not really a price on carbon emissions. It is not the same as a stock or a bond or natural gas.
Senator Angus: It is not the same as a commodity.
Mr. Nesbitt: No, nor a commodity, such as grain or canola. The market does not yet have a natural demand. It is coming, obviously, and in Europe there is a natural demand by regulation. That is the role of government here.
The Chairman: If there is no regulation, there will be no demand; is that correct?
Mr. Nesbitt: Other than that companies are feeling very responsible for environmental, social and other governance issues; therefore companies are moving anyway. Perhaps we can say they are expecting regulation, but they have consumers, employees and stakeholders that are demanding they do certain things. There much activity happening, but there will not be an organized market unless the government does something.
Senator Mitchell: It is also true that although it is small right now, there is actually some demand emerging for CO2 as an enhanced oil-recovery commodity, so it could become a commodity with a market value of its own.
Mr. Nesbitt: Possibly.
Mr. Russell: In the way of regulatory demand in Canada, there is one province, Alberta, which actually does have regulatory demand in place. That was a result of the siting requirements for the new plants in Genesee. In order to get the permits, they had to prove they would be offsetting emissions equal to a combined cycle gas plant. That created some demand, and there have been trades in the market as a result.
You are right. Picking up on what Mr. Nesbitt was saying, it is interesting that the secondary market and the speculators are starting to move quickly into this carbon market. We are seeing much of that kind of interest among some of the big financial players in United States and Europe.
I would also like to bolster Mr. Nesbitt's argument that the government should not designate where a particular exchange should be. If we look at the European situation at the time when they were starting to look at putting together their trading system, there were many exchanges that said, ``We will be part of that. We will be the exchange.'' The government said, ``Fine. Whoever has the most innovative product will win.''
That is exactly what happened. There might have been 15 or 20 of them looking at this as a potential business opportunity, and then the strongest ones emerged as being the ones most attractive to the market.
The other point relates to the notion of voluntary commitment to the voluntary market. I talked about that in my testimony. One of the voluntary markets, whereby companies have come together in North America, is the Chicago Climate Exchange. You have probably heard a little about that.
It is there; it is small. For example, in 2005, it traded 1 million tonnes of allowances, according to the World Bank report, and that increased tenfold in 2006, to 10 million tonnes. However, it is still a small market. Prices are quite low — about U.S. $4 a tonne — but it was designed as something to be there to get market experience. The companies that participated in it have got their market experience. It does exist in North America, although very small in comparison to the others.
Senator Angus: With respect to the macro sense of these markets, we are all doing much reading to try to understand this. Otherwise, we cannot do our job of making public policy that matters.
I spend much of my time as the Deputy Chairman of the Standing Senate Committee on Banking, Trade and Commerce. We are dealing in markets, so we do know a little about markets, leverage and global hedge funds. The situation we are dealing with now has $350 trillion of underlying value afloat with all this lending mania.
I was reading in The Economist that the European Union ETS has lost 90 per cent of its value since December 31. First, are you aware of that? Is there an explanation? Is there a meltdown?
Mr. Russell: The meltdown referred to the first phase of the European Union Emission Trading Scheme. Let me explain how that was established. The government established two periods of time for their trading system; the first was between 2005 and 2007, and allowances were valid during that period of time. The second phase is 2008 to 2012. In that first period, the governments came together and allocated what they thought, at the time, was a reasonable allocation for the various 10,000 companies that were to be covered under the system.
In the period since December, the reports actually came out of the actual emissions coming from these companies during the period of 2005 to 2007, and it looked as though they would meet the targets, so the prices dropped considerably. As soon as they know they have met their target, the demand goes out of the market, so the market drops. That is exactly what happened during that period, but only for 2007. That is when that period ends and another one comes into place.
They have learned from that. The governments, because they create the demand, will be and are reviewing the National Allocation Plans, NAPs, for these various companies and countries. They are looking at that closely to ensure that there is a robust enough demand to keep the market going.
If we look at it from the point of view of value, in 2005, the overall value in all the EU ETS, both phases one and two, was $7.9 billion and that value was $24 billion by end of the 2006.
We have to look at it from the point of view of not just phase one, which is what they talked about in The Economist, but phase two as well.
Senator Angus: We have had people here from the Carbon Trust in England, and we have heard about the carbon tax. You have answered the questions well this morning. However, I need a little more help.
In the context of the Kyoto Protocol, you can get credits. What is an emission credit? I assume to comply with these targets by trading credits, somebody has to do it. Is it an emitter? Is it one of the polluters that does this to avoid having to do other things they cannot do in the time frame? Who does it, to get into the compliance score card, so to speak? Can you go elementary with your answer? For example, the same as saying that Ms. Jones has her RRSP, and she has $200 free, so she will buy one share of Warren Buffet.
We do have a web cast for a television audience; we need to really understand it, and I do not yet.
Mr. Nesbitt: I will try to use analogies in existing markets.
For example, let us take the bond market, because these credits are more like bonds than stocks. Stocks represent an ownership unit in a company, where a bond is a promise to pay, and this is a future promise to deliver offsets.
Those credits have to be verified and held in a central depository. Someone has to verify them, and this is where governments will have to set the rules on what is an eligible credit. Kyoto has set rules, but Canada will have to adopt its rules, whether they are Kyoto's or others'. Otherwise, everyone will come up with their own definition. We have to have one definition of what is an eligible credit. Someone trustworthy and independent has to verify those on an ongoing basis, because these credits are delivering in the future.
We have to get that side of the system set up, so these credits are verifiable, independently adjudicated and held in a depository, and there is a registrar who records who owns them. That is the creation of the supply side.
Mr. Marshall: They are only created when we have an emissions reduction. That is what the independent entity is verifying. Once we have that emissions reduction, then that credit is created.
Mr. Nesbitt: It is some project that results in the reduction of carbon in some way. There are many different ways to do that.
The Chairman: If I operate a nickel plating plant, do I apply to somebody, some office? How is it created?
Mr. Nesbitt: Give me an example of a project growing something to take carbon out of the atmosphere.
Mr. Russell: Let us take a real example: You put a wind farm in Namibia, and currently in that country you produce electricity based on whatever the mix is — some of it is coal. Let us say that by producing 10 megawatts of electricity with no emissions — because you are using wind — you are displacing whatever base would have been used. Thus, you might have displaced and, therefore, reduced 5,000 tonnes of carbon dioxide, for the sake of argument — I do not know what the numbers would be.
To answer your question, Senator Angus, the commodity being traded is 1 tonne of carbon dioxide equivalent, because there are other greenhouse gases to complicate things as well, which have different global warming potentials, but the unit that the world has chosen is based on 1 tonne of carbon dioxide equivalent. That is the equivalent to the radiative forcing of one tonne of carbon dioxide. That is the commodity being traded in all these areas.
There are two types of trading, and it is important to understand that. One is what we have described in project- based trading, where we look at what was there originally related to that project, such as that wind farm in Namibia, where before, power was being generated by whatever non-renewable sources were there and there were ``X'' number of emissions.
The wind farm comes in, and all of a sudden there are no emissions; you are producing zero now. The difference between that and what you were producing before is what you get for your credit each year.
Senator Angus: In that particular example, you have brought in the wind farm and reduced emissions then someone does a scientific measurement to say you have 10 credits. You are trying to comply; you can use that; you can go somewhere and trade it. Is that correct?
Mr. Russell: That is correct. You can sell it to someone who needs to comply with Kyoto in whatever country it may be.
Senator Angus: Even though they are only putting up the cash?
Mr. Russell: That is right.
Senator Angus: Would it be someone who is an emitter? Would it be a coal-fired power plant in Ontario that buys that? They want to get those 10 credits that are out there.
Mr. Russell: Typically, how these decisions are made at the corporate level is that corporations will look at it, in Ontario, for example, and say, ``How much will it cost me to reduce emissions during that period of time if I do it internally?'' They recognize that if they invest money now, they can forever reduce their emissions. Therefore, they spread them out over a longer period of time and look at what it will cost per year. If it costs them $20 a tonne to do it when they can buy it for $10, the economics say buy it for $10.
Senator Angus: They will continue do their other things.
Mr. Russell: They will do their other thing, but they do not think they can do it for anything less than $20. Lo and behold, if all of a sudden they do it for less than $20, they have this asset they bought at $10, which they can sell.
The idea is you do it in a way that makes the most sense from your own business perspective.
Senator Angus: Is it private-sector driven? Who decides? You are saying in this case the hydro company using a coal- fired generator has made this executive decision in achieving their goals that it is cheaper to do up to those 10 credits, so they will buy those. Is there public involvement as well that would drive the hydro company to do that?
Mr. Nesbitt: Only in the setting of targets. Your role in government is to set the target. That target will say: You are here, you will go down to here, you have multiple ways of getting there; use new technologies, shut down the plant, buy credits.
Your other role in government is to ensure those offset credits are real, verifiable and legitimate. Otherwise, all sorts of bodies will crop up and you will naturally end up with the question of whether the credits are real or phoney. Governments, in this market, have an important role in ensuring that those are valid credits.
Senator McCoy: The targets must specify a national tonnage that will not be exceeded by such-and-such a date.
Mr. Nesbitt: We start with the overall target and then we have to allocate it down to the large emitter, the company- specific level. Otherwise, they will say it is the other guy's problem, not my problem. If we do it to the industry, what is an industry? You must get it down to the company level. Then the company says, ``I can invest here; I can buy credits; or I could shut down this plant and move it somewhere else.'' They will make those trade-offs, and that is what I was talking about.
Once they get the price signal of what the different alternatives are, then it will be a very normal corporate decision that they make almost every day. It is down to the company level.
Senator Angus: Mr. Marshall, it occurs to me that in comparing today to four years ago, you and your colleagues at the David Suzuki Foundation must be delighted that people you never would have imagined have bought into the science of climate change and have a realization it is happening. Even though you may not agree that they are fastest way of getting to Kyoto targets, people are suddenly doing things, focusing and spending significant amounts of money. Would that not be giving at least some pleasure to Mr. Suzuki?
It seems to me it is night and day from four years ago, whether it is Canada's new government or any other government. Take us on this committee, for example, and the information we have learned. It is a microcosm, but there is a focus on the issues that people, such as David Suzuki and Greenpeace, have been hammering away at over the years without getting a receptive audience; it is suddenly there. It is real; people are buying into it, and in good faith they are trying to do something about it. Does that not give you some joy? I want you to be totally honest.
Mr. Marshall: To be totally honest, and with respect, what would delight me is to actually see our emissions go down. Our emissions are going up. They are projected to go up for five more years. I enjoy coming here and talking to all of you about this. It looks as though everyone is on board, but our emissions are going up.
In the end, the environmental result is what we are looking for. Obviously, public perception of the problem and acceptance of the need to do something about it are ingredients in action. However, so far we only have the ingredients, not the action. That is what will absolutely delight me, and Dr. Suzuki.
Senator Angus: The rest does delight you a little.
Senator Mitchell: Essentially, he is asking if you would be delighted if your basement was filled with three feet of water and you implemented systems so it would only go to four feet instead of five in the middle of the flood: I am delighted it is only four and not five feet deep. Of course you are not, because we must achieve something real; we have to get the basement dry.
The Chairman: I did not hear the question that way.
Are you not given some pleasure by the fact that there are people who are now seeing that this must be addressed who did not see it four years ago? Are you not taking some comfort from that?
Mr. Marshall: We are not looking for public support. We are looking for action on the environment. We have not seen it yet. Of course, I am happy to have people supporting our cause and saying we need to do something about it. In the end, the reason we come here and we exist is to provoke action, to hope we will actually see a result that will avoid dangerous climate change. We have not seen that in Canada.
The Chairman: Senator Angus was asking you about public support, for example companies which have said they will try to do this.
Mr. Marshall: Broad societal support, we are obviously seeing it now. All the parties in Parliament supposedly support this, and yet our emissions are still going up. We are not seeing the environmental result we need. That is what would give me tremendous delight.
Senator Angus: Absolutely.
Senator McCoy: Questions from senators have so far established that there is not one market. When we talk emissions trading there are various things that are being traded, and various markets. Am I right? There is not a single market solution that anyone is looking to achieve.
We would like to have our very own market in Canada, because it is an economic generator in and of itself. We cannot do that unless the government actually sets a cap and then makes allocations. That has not happened yet, and it has not happened in Alberta either.
The Chairman: You mean sets a cap or a goal?
Senator McCoy: I mean a cap. We must have a ceiling on allowed emissions; otherwise, we have nothing to trade in the kind of market we would like to develop in Canada. In the meantime, we can all buy and sell on these other markets, which are CDM certificates or JI certificates. That has been established, which is very helpful.
The federal government and the Alberta government, which has legislated in this area, have both moved to allow offset purchases. That means we can help someone next door reduce their emissions if it costs less, and it will be accepted as a measure of reduction toward their own plant. However, in Alberta they said, only if they invest in Alberta, and I believe the federal government has said, only if they invest in Canada.
Companies in Alberta are saying that is not enough, it is not a big enough market. I would like to ask your opinion of what you think in terms of Canada's approach.
Mr. Nesbitt: As I mentioned in my remarks, the smaller we make the geographical region or the industrial base that we are dealing with, the more difficult it is to get a market going.
We have seen this around the world, such as in Australia where the states really took action before the federal government. We are starting to see significant activities in some of the provinces here in Canada; they are moving along on their own path.
If we are to create a market mechanism we would rather have a bigger industrial base to deal with, so that would mean the whole country. We would prefer that.
Senator McCoy: We are talking from the federal government's point of view. Is Canada a big enough market to actually drive an efficient economic tool?
Mr. Nesbitt: An analogy would be the stock market, which I know a little about. Over 40 per cent of our trading now comes from outside of Canada on our stock market. Markets need liquidity from wherever they can get it in order to operate efficiently.
The point of my remarks was to say that we are fundamentally in a continental economy. We can read all about globalization and the effects of that, but effectively we are in a continental economy. We should first look to continental mechanisms, because those mirror the trade-offs that companies will make. If we can build a refinery in Canada or a refinery in the United States, we will look at all the costs of doing that including the costs of carbon offsets when we make that decision. Those are the kinds of decisions people are making on a regular basis.
I am saying that, while we cannot divorce ourselves from the fact, we are part of a continental economy and those trade-offs will be made; we want people making the right decisions within the context of that.
We have used other countries in our examples, but we really trade and do business in a North American context primarily.
Senator McCoy: To restrict it to a province by the provincial government and to the nation by the federal government would be an unwarranted intrusion into the marketplace. Would you not go as far as to say that?
Mr. Nesbitt: I would not say ``an unwarranted intrusion.''
Senator McCoy: How far would you go?
Mr. Nesbitt: It would lessen the effectiveness of the market mechanism. In other words, it would not be as robust a market.
Mr. Russell: I would echo that. If we had the situation where each of the provinces decided to put in place a provincial trading system, it would very quickly collapse. There would not be any liquidity.
I would call your attention to a paper from the national round table last year. One of the underlying papers was a paper we produced for them that looked at the challenges of linking markets — carbon markets in particular — based on the previous federal plan at the time, which had many similarities to the one put on the table recently.
Our observations were, first, the question of why we want to link a market. We want to link a market to other markets so we have more liquidity and a clearer price signal. It is desirable from a market's perspective to have as much market liquidity as we possibly can.
Given that the demands are all different from different countries, based on their own national circumstances and the programs that they put in place, the challenge is how much we put in place to appease our own political situation in our own country and how restrictive that becomes when we try to link to other markets.
For example, we would observe that if a price cap is placed on a market, then that is something that sets it aside; it makes it unique and more difficult to make linkages to other markets. If we are undertaking a certain amount of effort, that is, that our reductions are so much less than someone else in another market, they will not likely want to link with us.
These are very practical terms when one considers them from a market's perspective only — this is only from the market's perspective. When we design the regulatory program in a specific country, with the idea that we will outreach into the global economy, we would want to make sure we take those things into consideration.
The notion of, for example, a $15 price cap or a contribution to a technology fund as one of a clients mechanisms may be something that other markets around the world and in the United States would find unattractive, because it is not an equal playing field.
Also, it creates a tremendous opportunity for arbitrage if it is not designed properly. Those are the kinds of design issues we have to think about if we want that goal to link to other markets.
It is important at this stage of your committee's deliberations to think about that, if indeed you want the markets to help in this regard. The larger the market, the more liquidity, the better the situation for those companies trying to comply with the various regulations.
The Chairman: Thank you very much. On behalf of all the members of the committee and all of those present, these excellent witnesses, you have been most informative and useful in our deliberations.
The committee adjourned.