Annex I (industrialized) countries that have ratified the Kyoto Protocol can invest in projects that both reduce GHGs and contribute to sustainable development in non-Annex I countries. A CDM project provides certified emissions reductions (CERs) to Annex I countries, which they can use to meet their GHG reduction commitments under the Kyoto Protocol. Article 12 of the Kyoto Protocol sets out three goals for the CDM:
- To help mitigate climate change
- To assist Annex I countries attain their emission reduction commitments
- To assist developing countries in achieving sustainable development
CDM projects have three overall criteria:
- Projects must be voluntary
- Projects must be able to show long-term climate change mitigation benefits
- Projects must contribute to emissions reductions above-and-beyond business-as-usual (so called "additionality")
The purpose of the CDM is to benefit both the investor and host countries by contributing to sustainable development in the host developing countries and by allowing investor countries to meet their GHG reduction targets at the lowest possible cost by taking advantage of the lower marginal cost of reducing GHG emissions in developing countries. It is the sole prerogative of the host country to confirm whether the project contributes to their sustainable development.
Annex I countries and non-Annex I countries
The UNFCCC divides countries in two main groups: Annex I parties that include the industrialized countries and countries with “economies in transition” / EITs (the Russian Federation, the Baltic States and several other Central and Eastern European countries). All the others are called non-Annex I countries.
The Kyoto Protocol strengthens the Convention by committing Annex I Parties to individual, legally binding targets to limit or reduce their GHG emissions. The individual targets for Annex I Parties are listed in the Kyoto Protocol’s Annex B. In practice, Annex I of the Convention and Annex B of the Kyoto Protocol are used almost interchangeably. However, strictly speaking, it is the Annex I countries which can invest in CDM projects and non-Annex I countries can host CDM projects.
The Kyoto Protocol stipulates several criteria that CDM projects must satisfy. Two critical criteria could be broadly classified as additionality and sustainable development.
Article 12 of the Protocol states that projects must result in “reductions in emissions that are additional to any that would occur in the absence of the project activity”. The CDM projects must lead to real, measurable, and long-term benefits related to the mitigation of climate change. The additional greenhouse gas reductions are calculated with reference to a defined baseline.
The protocol specifies that the purpose of the CDM is to assist non-Annex I Parties in achieving sustainable development. There is no common guideline for the sustainable development criterion and it is up to the developing host countries to determine their own criteria and assessment process. The criteria for Sustainable Development may be broadly categorised as:
- Social criteria: the project improves the quality of life, alleviates poverty, and improves equity.
- Economic criteria: the project provides financial returns to local entities, results in positive impact on balance of payments, and transfers new technology.
- Environmental criteria: the project reduces greenhouse gas emissions and the use of fossil fuels, conserves local resources, reduces pressure on the local environments, provides health and other environmental benefits, and meets energy and environmental policies.
Certified Emission Reductions (CERs)
CERs are standardized GHG reduction credits that are becoming a commodity that can be bought and sold on the global market, and in some cases banked for the future. Most CERs will be used by companies in the Annex I countries to meet their GHG reduction targets, but CERs can also be bought by others to sell on the
international market, or retired by investors who want to expire that amount of future emissions.
Share of Proceeds
CERs generated by CDM projects are charged 2% of their value to finance a fund to help the most vulnerable countries adapt to climate change. In addition, administrative costs will also be taken out of the proceeds from CDM projects. The Executive Board is still determining this amount. Small-scale CDM projects in Least Developed Countries are not charged.
Executive Board (EB)
The CDM is supervised by the Executive Board, which itself operates under the authority of the Parties. The Executive Board is composed of 10 members, including one representative from each of the five official UN regions (Africa, Asia, Latin America and the Caribbean, Central Eastern Europe, and OECD), one from the small island developing states, and two each from Annex I and non-Annex I Parties.
The Executive Board will accredit independent organizations – known as operational entities – that will validate proposed CDM projects, verify the resulting emission reductions, and certify those emission reductions as CERs. Another key task of the EB is the maintenance of a CDM registry, which will issue new CERs, manage an account for CERs levied for adaptation and administration expenses, and maintain a CER account for each non-Annex I Party hosting a CDM project.
Designated National Authority (DNA)
Governments in developing countries need to designate a national authority for CDM projects. The National Authority takes part in the validation process and has the responsibility of certifying that the project contributes to the sustainable development goals of the host country.
Designated Operational Entities (DOE)
Operational entities are domestic or international legal entities that carry out CDM reporting and mediating functions. Operational entities must first become designated by the Executive Board to carry out these functions. Different countries may have different DOEs. The DOE's responsibilities are:
- To validate CDM project activities
- To verify and certify emission reductions
- To maintain a public list of CDM projects
- To submit an annual report to Executive Board
- To make information about CDM projects publicly available (unless deemed proprietary or confidential).