SPECIAL REPORT-Making forests pay in a warming world

been protected from
being cleared, dry-season fires prevented and logged areas
replanted.

Crucially, a portion of any credit sales would flow to
local communities and central government coffers.

But to maximise the benefits, investors need a market.

“We cannot be sustainable in five years without a market
for the credits,” Kusumaatmadja’s business partner Hartono,
36, told Reuters in Jakarta.
“We’re fighting a losing battle if there’s no transaction,”
said the U.S.-trained former investment banker for J.P.
Morgan, who runs private firm PT RMU. More than $2 million had
already been invested in the project, he added, with another
$4.5 million to be paid up front when the central government
issues a special licence.

Underpinning hopes for that new market is a U.N.-backed
scheme called REDD, or reducing emissions from deforestation
and forest degradation.

The idea is to reward developing nations that preserve
their forests, boost the carbon stock, and have sustainable
forestry management. Kusumaatmadja and Hartono’s project is
one of nearly 40 early REDD prototypes, the Indonesian
government says.

Those rewards would ultimately take the form of an annual
sale of forest carbon credits to rich nations to help them
meet part of their mandatory emissions reduction targets in
market that could be worth $30 billion a year, the U.N. REDD
programme estimates.

That’s the theory.

Two years ago it seemed to be falling into place with the
United States and Australia proposing domestic emissions
trading schemes that would have allowed companies to use large
amounts of offsets from overseas. Legislation to enact those
schemes foundered in both countries, however.

Only Europe and New Zealand currently have emissions
trading schemes, but the EU bars use of REDD credits and it is
unclear if it will allow them to be used in the third phase of
its trading scheme from 2013.

U.N. talks are far from sealing a broader climate pact to
expand or replace the existing Kyoto Protocol from 2013 , in
which REDD would be a central part, casting yet more
uncertainty over the plan.

That leaves the newly passed California emissions trading
scheme and a planned bilateral carbon offset programme by
Japan as the only real potential buyers at the moment.

The lack of major demand for credits comes as an irony,
since over the past two years, governments and institutions,
including the World Bank, have stepped in to finance pilot
REDD projects in developing countries in Asia, South America
and Africa.

The voluntary carbon market has also developed rigorous
standards for projects to ensure the carbon reductions are
real, measurable and verifiable to give investors confidence.

Yet the voluntary market remains miniscule. It shrank 47
percent in 2009 to $387 million, compared with the EU’s 100
billion euro ($134 billion) emissions trading scheme. Only a
fraction of the voluntary market volume covered trade in
avoided deforestation offsets.

WHERE’S THE DEMAND?

“Two years ago, mainstream investors didn’t want to get
involved in projects that appeared to be run by cowboys with
ridiculous return expectations,” said Chris Knight, assistant
director of PricewaterhouseCoopers’ climate change, forestry
and ecosystems advisory.

Now, because of much improved standards, investors are
less concerned about the risk at the project level, he told
Reuters last month by telephone during a REDD conference in
Malaysia.

Instead, investors are looking for more certainty over
demand for the carbon credits, said London-based Knight, who
is working on ways to draw in private-sector financing until
there are stronger REDD policies in place in developing
countries.

Some banks, such as Bank of America Merrill Lynch and
Australia’s Macquarie, have invested in projects or bought
credits once projects pass a tough auditing process.
Macquarie, in a 2009 report, estimated the potential emissions
reductions from reducing deforestation at two billion tonnes
of CO2 by 2030 and 1.3 billion tonnes for reforestation.

Karmali of Bank of America Merrill Lynch signed an
agreement in early 2008 to buy carbon credits from a 750,000
ha project in Indonesia’s Aceh province that aims to cut
deforestation in the Ulu Masen forest area by 85 percent.

A deal with the government of Aceh in northern Sumatra and
Singapore-based firm Carbon Conservation aims to reduce 100
million tonnes of emissions over 30 years and boost local
livelihoods to prevent logging.

The credits, though, are still some way off, with the
project still to complete the carbon auditing process by the
respected Voluntary Carbon Standard based in Washington. But
the project has already been approved by the equally respected
Climate, Community and Biodiversity Alliance standard.

Karmali said it was essential to reward early action by
REDD investors. It was also essential for the public sector to
leverage private capital to drive investments in the forestry
sector that would ultimately prove to be a cheap way of
cutting greenhouse gas emissions.

“The other thing you could do is you could have a
purchaser of credits of last resort,” he told Reuters from
London. This was an idea raised in the 2008 Eliasch Review for
the British government. That report estimated that doing
nothing to halt deforestation could lead to climate change
costs to the global economy of $1 trillion a year by 2100.

Karmali pointed to the need to have some sort of global
public sector fund that could buy up emissions reductions.

“If such a mechanism were deployed, it would be de-risking
private capital,” he said.

A BRIDGE TO FINANCE

For project developers, time is running out. East of PT
RMU’s Katingan project in Central Kalimantan, Hong Kong-based
Infinite Earth is hoping its Rimba Raya project will be the
first REDD investment to be fully validated by the Voluntary
Carbon Standard by the end of this year, subject to the
Indonesian government granting it a special license.

The nearly 100,000 ha project on the edge of a national
park has forward-sold enough credits to cover operations for
the next five years, but at a substantial discount to the 5 to
7 euros per carbon credit mentioned by brokers.

“Appetite for Rimba Raya credits has been good but
definitely we need a compliance (emissions trading) market to
support the prices REDD needs in order to be competitive with
alternate land uses, such as palm oil,” Infinite Earth CEO
Todd Lemons told Reuters.

Knight of PwC said some sort of bridging financing or
guarantee mechanism was crucial for investors until a global
market evolved. “Unless you provide some sort of bridging
finance before there’s regulatory certainty then the risks are
just too high for the private sector,” Knight said.

One possibility was to ramp up the use of environment
funds to help disburse some of the billions of dollars pledged
by rich nations for REDD. These are often endowment funds and
therefore independent of governments. Another was revolving
funds, in which a portion of any REDD credit proceeds are
returned to the fund to keep it running.

In the interim, large amounts of public money from
governments, foundations and conservation groups are vital.

Earlier this year, dozens of nations teamed up to create
an interim REDD partnership to guide spending of about $4
billion in pledged funding, build institutions and develop
pilot projects between 2010 and 2012. To date, more than 70
nations have signed up.

Billionaire investor George Soros has also stepped in.

In a letter to U.S. President Barack Obama on Aug 21 this
year following a trip to Indonesia, Soros said $10 billion a
year would be sufficient to put a price on avoiding and
reversing carbon emissions from rainforests.

He proposed a 5 percent surcharge on airline t

SPECIAL REPORT-Making forests pay in a warming world