Policy statement

Monitoring, compliance, e nforcement and liabilty under the Kyoto Protocol: An international perspective
Commission on Energy jointly with Commission on Environment, 26 October 1999

The International Chamber of Commerce represents over 7,500 businesses and associations of all sizes and sectors in 130 countries around the world. The ICC, based in Paris, has followed and participated in the U.N. Framework Convention on Climate Change (UNFCCC) since its inception, and co-organized the First and Second Dakar Government/Business Workshops on Investment and the Clean Development Mechanism, as well as the Workshop on Voluntary Initiatives in Climate Change in Buenos Aires, sponsored with UNEP, Keidanren, USCIB, WWF and the WBCSD. It has also taken part in UNFCCC technical workshops on a variety of issues.

This paper presents the views of the ICC and reaffirms the organization's continued commitment to the UNFCCC and related Kyoto Protocol processes. It is submitted without prejudice to the diversity of views within business about the Kyoto Protocol

Introduction

In a globalizing world characterized by more open trade and investment, the potential link between international treaty obligations, domestic regulations, and national implementation strategies and treatment assumes a growing importance for all companies, and in particular for multinational companies (MNCs). This is especially true with regard to compliance and enforcement measures, and their potential impacts on competitiveness, trade and investment. For small and medium enterprises (SMEs), onerous, costly and complicated compliance procedures may raise special difficulties as well.

This paper will discuss a range of business concerns, issues and perspectives relating to the Kyoto Protocol's compliance and enforcement measures, to, inter alia:

• Complement the ICC Position Paper on Kyoto Mechanisms of 8 June 1999 (1)
• Suggest options to encourage consistent climate policy compliance within the free market
• Raise questions relating to the business impacts of enforcement and compliance measures to be developed as part of the Kyoto Protocol
• Discuss the interface between domestic and international climate compliance and enforcement issues for business
• Highlight potential climate-related trade and investment issues that should be taken into account in light of the WTO Millenium Round

How enforcement and compliance issues are resolved will be of critical concern to business and industry, since they will influence the feasibility, credibility, use and market price of the Kyoto Mechanisms, and ultimately the extent to which they will be used by industry to contribute to a country's domestic climate change programs under the Kyoto Protocol.

Considerations of compliance, enforcement, and sanctions for non-compliance under the Kyoto Protocol and Kyoto Mechanisms involve three distinct, but interacting levels:

• The first concerns governments and their international obligations
• The second involves business domestic obligations and actions as part of national implementation strategies
• The third includes specific transactions such as credits for emissions reductions in projects or trades of credits or emissions permits

The Kyoto Protocol itself, following ratification and entry into force, would bind governments to their respective commitments. Sanctions for failure to meet Protocol commitments would apply to governments. Expectations of business will depend on the domestic implementation strategy of the country where a firm operates or does business.

Multinational companies will be affected by the varying commitments and implementation measures in each country where they operate. Local companies and SMEs will face similar challenges which could be encountered directly, as well as in connection with smaller companies' business relationships with larger firms (joint ventures, supplier/contractor, etc.).

Finally, the validity of individual transactions between entities involved in projects and trades could be subject to obligations ranging from international and domestic procedures, to contractual terms binding government and non-governmental participants in the creation or exchange of credits.

For a business enterprise of any size, compliance with domestic emissions obligations and national implementation strategies will involve a series of distinct issues in each one of the countries where it operates:

• What emissions are covered?
• Which business activities and/or products are covered?
• How are these emissions measured?
• How are emissions reported?
• How are decisions about compliance/non-compliance rendered?
• What procedures, including appeals procedures, apply to situations of non-compliance and possible sanctions?
• How does the domestic system link to international mechanisms?
• How are costs associated with compliance recovered by companies?

Business recognizes that answers to these questions may differ in each Annex I country depending on its unique implementation strategy. Differences by countries in handling these issues may also have implications for individual companies' business strategies. We may also expect that as non-Annex I countries assume commitments and undertake domestic programs under the Convention, these same issues can be anticipated.

II. Compliance and monitoring

A. Encouraging compliance

One of the principles of the Framework Convention on Climate Change is that measures to deal with climate change should be cost-effective to ensure global benefits at the lowest p ossible cost. This has clear significance for encouraging compliance. The extent to which the Kyoto Protocol develops truly "flexible" frameworks and institutions is a fundamental concern for business and industry and will be critical in ensuring cost-effective responses to the climate challenge.

Excessive rules, regulations and costs should be avoided and potential barriers to industry participation should be eliminated from the outset. A range of policy options, including:

• voluntary initiatives and negotiated long-term voluntary agreements
• changes in capital depreciation schedules
• tax incentives for research and development, and
• reform of regulatory barriers to commercialization of innovative technology, among others,

can also, if correctly designed and with proper enabling conditions in place, play an important role in reducing emissions cost-effectively. Such cost-effective options can in turn encourage compliance with lower transaction costs.

Artificial ceilings on the use of Kyoto Mechanisms would add other burdens of uncertainty concerning business use and compliance. Consider the case of a country near its ceiling and two companies, each with significant Clean Development Mechanism (CDM) projects nearing final approval. A supplementarity ceiling might only allow one project to be accepted. Both may have involved substantial, long-term business effort and expense to plan and develop a project proposal. Once one project has been approved, the next could not be allowed. This situation could create substantial disincentives to the advance effort required to develop a project in the first place. It would also create the potential for arbitrary or corrupt decision-making processes in governments and international authorities involved in the CDM process.

Similar situations could apply to emissions trading. A country near its supplementarity ceiling might find itself open or closed to trades as each new transaction alters its balance. Again this produces conditions under which markets would be highly constrained and potentially subject to manipulation.

B. Monitoring

Credible compliance and enforcement requires credible and consistent monitoring. The Convention has already instituted procedures for nations to report their emissions, although in some instances questions remain about the accuracy, timeliness and completeness of those reports. Resolving these issues is essential for decisions regarding the design of compliance and enforcement measures.

In each domestic setting, firms will encounter varying obligations and procedures for reporting and monitoring. To the extent possible, care should be taken in designing reporting requirements for companies to avoid imposing unnecessarily onerous and costly monitoring procedures, while ensuring accurate, meaningful, credible and comparable data.

The implications for companies of multiple and different monitoring requirements and procedures should be carefully considered. Wherever possible, voluntary approaches to monitoring and self-monitoring should be permitted. Principles of flexibility and efficiency and an appropriate balance betwee n the cost of monitoring and enforcement should be incorporated into monitoring frameworks and will be of critical importance from a business perspective.

III. Enforcement and non-compliance

Enforcement should be non-discriminatory and consistent across sectors, between domestic and foreign companies, and between SMEs and MNCs. Voluntary agreement reporting and enforcement should be consistent with those procedures required in other domestic implementation programs.

While recognizing that initially these remarks pertain to Annex-1 countries, industry believes that non-Annex 1 countries - as they assume commitments under the Convention -- should not lower their standards of enforcement of domestic programs in order to attract foreign direct investment.

A. Non-compliance and companies

A key issue for business is how non-compliance will affect companies of all sizes across each of the countries in which they operate. How will Protocol enforcement measures treat companies that are in compliance with domestic rules in a country that is itself out of compliance with its international obligations? Business cannot support proposals suggesting that such companies' Kyoto mechanism transactions should be revoked or reversed, in effect depriving companies of their property rights in instances where they have acted in good faith. Based on experiences with the Montreal Protocol, industry is concerned about whether instances of persistent non-compliance with the Kyoto Protocol will be uniformly enforced. By the same token, lack of compliance and broader "rule of law" considerations in some Annex 1 countries will certainly impact on competitiveness, and should be addressed in designing compliance and enforcement measures.

Business has noted discussions by Parties regarding procedures anticipating early indications of non-compliance, and believes such proposed procedures could limit the ability of firms and nations to take part in the Kyoto Mechanisms, particularly given that the targets will already be challenging to meet in light of projections.

B. Buyer and Seller liability

If appropriate contractual and legal frameworks are in place and are enforced, it is to be expected that markets will be able to incorporate risks that would be built into the costs. However, if national or international constraints are placed on the Kyoto mechanisms that distort the operation of the market, this will negatively impact the appropriate assignment of liability.

In situations without appropriate contractual and legal frameworks, the multiple layers of approval that could be required to authorize project proposals may lead to arbitrary or corrupt practices. Such practices would jeopardize the integrity of the entire linked system of Kyoto Mechanisms.

IV. Trade and environment issues

The Kyoto Protocol's enforcement and compliance measures should be developed to be consistent with the existing World Trade Organization (WTO) disciplines, observing most-favored nation (MFN), like-product rules and sound science criteria and avoiding discrimination based on methods of processing and production (PPMs).

Enforcement and compliance under the Kyoto Protocol should not compromise a country's WTO rights. Business is concerned that some forms of domestic implementation which seek to offset "carbon leakage," could lead to the establishment of trade barriers in the form of tariffs, border taxes, discrimination and labeling.

V. Conclusions

Business believes that working within liberalizing trade, commerce and investment frameworks and in accordance with market forces will facilitate compliance and lessen transaction costs for enforcement of Kyoto commitments. Working at odds with these framework conditions will place additional and unnecessary costs and obstacles to the already difficult task of addressing the climate challenge and implementing the ambitious Kyoto commitments. Clear and transparent regulatory frameworks, non-discriminatory enforcement, voluntary approaches and the avoidance of trade and investment barriers will all contribute to a successful response to the climate challenge while permitting economic growth and prosperity.

 

Document n° 222/308 and 210/573
26 October 1999

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(1) In this paper, the ICC states that the Kyoto Mechanisms should be market-based, designed and implemented to minimize transaction costs, use existing institutions and promote voluntary industry participation and initiatives. The Kyoto Mechanisms, if developed and implemented effectively through efficient market-based approaches, could offer an opportunity to meet the treaty's obligations more cost-effectively than would be possible through domestic actions alone. Any restrictions - particularly with regard to supplementarity -- can only serve as a disincentive to business involvement and will increase costs.