Carbon trading: rational policy in an irrational world?

How to construct an international financial governance system for carbon trading has become a more pressing question in light of the exposure of global banks to investments in sub-prime mortgages – with the OECD estimating losses of $300billion – described as “a measure of the depth of mismanagement, non-regulation and structural dysfunctionality of today’s financial system.”

The growth of derivatives and other investment vehicles and their impact is told by John Lancaster in the London Review of Books.

But it is from this mess that phoenix-like new and credible instruments and regulations will be needed not least for the delivery of payments on an unprecedented scale to a variety of forest stakeholders – forest managers, poor rural communities, government agencies — to manage and conserve forest resources. While initiatives such as the World Bank’s Forest Carbon Partnership Facility, and other similar multilateral and bilateral assistance to countries to implement carbon trading systems, as well as conservation efforts — such as the recent news to support Sierra Leone’s Gola forest, and Guyana’s invitation to the UK to its manage tropical forests (which conjures up images of ‘reversed’ groundnut schemes) are all welcome, the bulk of the necessary investment can only come from international private equity markets.

The central point — whether sub-prime lending or payments for avoided deforestation — arises from the principal-agent problem: the separation of consumers — mortgage holders or forest stakeholders — from financiers. The myriad of ever more complicated investment vehicles designed to spread risk began to create the illusion that risk had been abolished, and in doing so magnified the risk and infected financial markets to such an extent that everyone now bears a part of the risk. The credit crunch at Northern Rock was not as a result of mortgage holders being unable to make their regular payments; the problem was the bank’s inability to secure liquidity in the wholesale money markets which had in essence become the bank’s main customer.

Dani Rodrik in “One Economics, Many Recipes” argues for policies rooted in local realities and strategies that respond to their specific constraints. Forest governance can be designed at a local level — its success will reduce risk and increase carbon values. The success of forest certification over the past 10 years provides a starting point, together with improved national fiscal systems. Poorly performing states will receive, and be answerable for, lower carbon receipts

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