Exchange for carbon credit

Oddly, India, a leading seller of carbon credits under the clean development mechanism (CDM) of the Kyoto protocol on climate change, does not have an internationally-linked domestic exchange for undertaking spot and futures trading in carbon credits. This, as can be imagined, is costing the Indian clean technology-based projects dearly. They are denied full financial benefits from this multi-billion dollar global business that is expanding rather briskly despite being viewed by some as not the ideal way to combat global warming.

The biggest grouse of those selling certified emission reductions (CERs) is that they have to play to the tunes of the buyers due to the lack of a price discovery mechanism and settlement guarantee system. Consequently, they have to mostly settle for discounted prices, besides incurring higher transaction costs of trading at international exchanges. What is worse, the valuation of CERs of Indian origin is further discounted because of the relatively low financial and credit rating of the Indian companies concerned, most of which are small in size.

Besides, factors like paucity of support from financial institutions and the perceived risk of default in actual delivery of CERs contribute to the low price of Indian carbon credits. Moreover, the Indian suppliers have to also contend with the lack of opportunity for hedging against adverse international price movements in the absence of any domestic carbon trading platform that can ensure transparency and fair play.

It seems imperative that the country has its own exchange for spot and futures trading in emission reduction credits. For this, the government will have to take legal and other measures apart from identifying a suitable regulator. In its present form, the Forward Contracts (Regulation) Act, 1952, which governs futures trading in commodities, does not allow trading in CERs since it is not clear whether CERs can be deemed as deliverable goods. The confusion over the exact nature of carbon credits, which were unheard of at the time this statute was enacted, deters the commission from giving its consent to the launch of futures contracts, putting the ball firmly in the government's court.

While these issues can be resolved by amending the Forward Contracts Act, the trickier issue to be negotiated is whether CERs are commodities or financial instruments to be trading on commodities or stock markets. There is no consensus on this in most other countries as well. However, the stock exchanges in India, pre-occupied with vibrant stock trading as they are, have not yet evinced much interest in taking to CERs. On the other hand, some commodity exchanges, including the National Commodity and Derivatives Exchange (NCDEX), are not only eager to take up this job but have also done the necessary spadework. This tilts the scales in their favour. The decision, ultimately, has to be taken by the government. The problem does not seem so serious in the case of setting up the regulator, which is also a pre-requisite for launching carbon trading under the existing Forward Markets Act. The environment ministry already has a cell for giving the host country approvals for carbon trading. This can also function as the regulator for exchange-based transactions.