CERs, generated by hydropower projects, with a generating capacity exceeding 20 MW - so-called large hydro CERs (LH CERs) - have been excluded from trading on carbon exchanges, due to a different interpretation by some Member States regarding a respective paragraph in the EU ETS Directive. In the past years, the EU Commission initiated a process with the aim of harmonising the Member States' assessment criteria for large hydro projects on a voluntary basis. The process resulted in a harmonised compliance report that all EU-27 Members States have agreed to use for the assessment of large hydro CDM projects.

Approval of large hydro CDM projects is given with the issuance of the letter of approval (LoA) by the national authority of an EU Member State. The EU Commission and the EU Member States announced in April 2009 that all large hydro CDM projects, assessed and approved by a LoA as of July 1st 2009, shall use the harmonised compliance report. So the interpretation of Article 11b No. 6 is regulated with the result that all issued LoAs from EU Member States will be acknowledged by each other.

Therefore, greenmarket include large hydro CERs in the regular CER listing under the following two conditions: 1. Issued Letter of Approval as of 1 July 2009 and, 2. approved by an EU Member State DNA or another DNA (e.g. Norway) that approved the project in line with the Article 11b(6) compliance requirements adopted by EU Member States as of 1 July 2009.

Protocol about Panel Discussion

CERs, generated by hydropower projects, with a generating capacity exceeding 20 MW – so
called large hydro CERs (LH CERs) - have been excluded from trading on carbon exchanges,
due to a different interpretation by some Member States regarding a respective paragraph in
the EU ETS Directive. All EU Member States agreed to use harmonised criteria for the
assessment and approval of large hydro projects as of 1 July 2009. These criteria are defined
and outlined in the document “Guidelines on a common understanding of Article 11b (6) of
Directive”. Therefore, the deadlock has been overcome and greenmarket is ready to include
Large Hydro CERs in the regular CER trading.

1. Background and history of large hydro CER projects

In the framework of the UNFCCC, it was agreed that the issuance of CERs (Certified Emission Reductions) generated by CDM projects in developing countries require an Annex-I country approval. Industrial countries shall approve CDM projects for the legal import of the CERs and subsequent use for compliance reasons in their country. In the case of the EU ETS, additional requirements were introduced for large hydro projects by means of Article 11b, sub 6 in its Linking Directive (2004/101/EC). Since CERs can flow freely across the borders, it is necessary that each country recognises the other countries’ approval for the project. Denmark raised the possibility in the past that they may not accept unconditionally CERs resulting from large hydro projects for compliance under EU ETS. Consequently, carbon exchanges in Europe banned CERs from those projects from their trading platforms in 2007.

The root of the problem lies in certain provisions in the Linking Directive which in 2004 added to the regulatory framework of the EU ETS to provide for different forms of linking with other ETS, and for the import of CERs into the EU ETS. It states that:

“In the case of hydroelectric power production project activities with a generating capacity exceeding 20 MW, Member States shall, when approving such project activities, ensure that relevant international criteria and guidelines, including those contained in the World Commission on Dams November 2000 Report “Dams and Development A New Framework for Decision-Making”, will be respected during the development of such project activities.”

There has been disagreement between the EU Member States on the interpretation of this text. Some have seen the mention of WCD report as an obligation to meet all the WCD criteria, whilst others have argued that the mention of WCD is just meant as an example, and that other “relevant international criteria and guidelines” can be used. The latter have highlighted the inapplicability of the WCD report for this purpose, a report covering more than a thousand pages with no clear rules or standards.

Hence, some EU Member States required as an accompanying document to an application for a Letter of Approval (LoA) a compliance report, while others followed a more pragmatic approach requiring a signed statement by the applicant in which the latter states that he respects and will respect the WCD criteria and guidelines during the implementation of the project. The International Hydropower Association (IHA), as international hydropower initiatives, released in the past years the Sustainability Guidelines (2004) and Sustainability Assessment Protocol (2006).

The later document is in the last stage of a cross-sectoral review process, the Hydropower Sustainability Assessment Forum (HSAF), which involves representatives and stakeholders from governments (including EU Member State governments), international governmental organisations, NGOs, other sectors and civil society around the world. The HSAF is likely to produce a broadly endorsed Hydropower Sustainability Assessment Protocol (HSAP) by mid-2010. Draft versions of the HSAP have been trailed worldwide and are already being used by prominent project developers and Designated Operational Entities (DOEs).

It is widely considered that the HSAP would be better suited for the purpose of EU ETS. One of the broad objectives of the HSAF cooperation was to provide the carbon market with a workable tool for the assessment of large hydro projects, the ultimate objective being to give a clear signal to the carbon market that CERs resulting from large hydro projects do not differ from CERs resulting from other projects. Norway has approved CDM projects based on compliance with the HSAP over the last year.

Other countries have set up their own rules as to how they interpret the Linking Directive on this point, varying from requiring a statement to a validated compliance report. The different interpretations and practices among member states lead to a situation where some Member States expressed that they would not unconditionally recognise large hydro CERs for compliance in their country that had been approved by other Member States.

2. EU wide voluntary harmonisation of JI/CDM project types accepted for compliance under the EU ETS

In the past years, the EU Commission initiated a process with the aim of harmonising the Member States’ assessment criteria for large hydro projects on a voluntary basis. The process resulted in a harmonised compliance report that all EU-27 Member States have agreed to use for the assessment of large hydro CDM projects. The EU Commission and the EU Member States announced in April 2009 that all large hydro CDM projects, assessed and approved by a LoA as of July 1st 2009, shall use the Harmonised Compliance Report. So the interpretation of Article 11b No. 6 is regulated with the result that all issued LoAs from EU Member States will be acknowledged by one another. The deadlock has been overcome.

The new approach, as reflected in the non-paper on the “Guidelines on a common understanding of Article 11b (6) of Directive” (LH CERs Guideline), and its associated template for a compliance report also contains provisions on the acceptance of CERs resulting from a project for which a LoA was already issued by EU Member States before 1 July 2009. More information is available on: http://ec.europa.eu/environment/climat/emission/ji_cdm_en.htm

The ultimate question is whether CERs from a project with investor country approval (LoA), based on the new harmonized compliance report, can be rejected for compliance by any Member States in the future. All CERs imported into the EU ETS from a CDM project run through a qualitative assessment by a Member State. The harmonized approach assures the qualitative assessment for the project type large hydro. Paragraph 7 in “Guidelines on a common understanding of Article 11b (6) of Directive” states that all countries must accept CERs based on the compliance report template for compliance.

“Once a project activity has received a Letter of Approval (LoA) from an investor country upon the submission and positive assessment of a validated Article 11b(6) Compliance Report, all Member States agree to accept CERs/ERUs from this project for use in their national registries under the EU ETS.”

Note: For no other project type is there such an assurance!

Denmark committed to the harmonized approach like the other EU Member States and has, as one of the first countries, used the harmonized compliance report template to approve a large hydro CDM project in 2009.

3. Greenmarket is ready to include Large Hydro CERs in the regular CER trading

Due to the voluntary harmonization, carbon exchanges have started consultations with their stakeholders as to whether LH CERs shall be included and how this should be realized. So did greenmarket which followed the developments of the EU Commission and carbon exchanges in 2009, and which discussed possible implications with project developers and compliance buyers. The question was on what basis an inclusion of LH CERs should be realized, due to different existing options with contrary implications. Greenmarket eliminated the options for an inclusion of LH CERs on an auction basis, as well as in a separated CER listing, and it is ready to include large hydro CERs in the regular CER listing under the following two conditions:

1. Issued Letter of Approval as of 1 July 2009 and,
2. approved by an EU Member State DNA or another DNA (e.g. Norway) that approved the project in
line with the Article 11b(6) compliance requirements adopted by EU Member States as of 1 July 2009.

Greenmarket started the spot market for EUAs and CERs on 2 October 2009, thus only issued CERs
can be traded. In keeping with both criteria, the following large hydro CDM projects qualify as being
included so far. The 12 CDM projects highlighted in the table below comprise, according to the
documentations provided by the project developer, an issuance potential of 2.8 million CERs by the
end of 2012.

4. Panel Discussion - Trading Large Hydro-CERs on carbon exchanges

The above-mentioned project listing, as well as both inclusion criteria, were announced in a panel discussion at the greenmarket booth at the E-world Energy & Water Trade Fair in Essen on 10 February 2010. The panel discussion with the topic “Trading Large Hydro-CERs on carbon exchanges” was moderated by Dr. Roland Geres from FutureCamp Holding and supported by the following panellists:

· Mr Lang – greenmarket / Börse München
Presentation “Introduction greenmarket, potential large hydro & criteria LH inclusion”
· Ms Ahlberg – German Emissions Trading Association (DEHSt)
Presentation “Large hydroelectric CDM/JI projects EU Harmonized Approach”
· Mr Saili – International Hydropower Association (IHA)
Presentation “Hydropower Sustainability Assessment“

All presentations can be downloaded here:
http://www.bayerische-boerse.de/greenmarket/media-center/praesentationen.html

5. Questions to the panellists

1. Question: How do you assess the activities of the European Commission to harmonise on a voluntary basis the Member States’ assessment criteria for large hydro projects? Do you recommend applying the guideline on a compulsory basis?

Ms. Ahlberg: In 2008, Germany initiated the dialogue between MS and we were strongly supported by the Commission. The common approach is based on two documents – the Common Guidelines and the Compliance Report Template. Since we are gaining more and more experience with the implementation of Article 11 b (6) we may jointly assess and modify the content of these documents in order to ensure the desired level of harmonisation. So the Guidelines and the Template are still “living documents”. For the third trading period, it may be useful if Article 11 b (6) refers to the Common Guidelines and Compliance Report Template and thus the common approach would be mandatory. Regardless of the discussion within the EU, it would also be important to ensure sustainability criteria for these projects at the UNFCCC level. So the reigning questions are how to safeguard the social and environmental integrity of the CDM and how European Standards could be transferred to the international level.

Mr. Saili: Practically speaking, this is a very positive decision and action by the EC which makes large hydro CERs fungible all across Europe. And it has positive ramifications far beyond Europe. However, it is important to note that from the sector’s perspective, the Linking Directive puts an arbitrary limit on hydro projects by the size of installed capacity without really understanding the technology and with limited dialogue with the sector. All hydropower generates electricity by essentially the same technology - water which moves turbines - irrespective of scale. What is relevant in looking at the technology is how a hydropower project captures and harnesses its water and, perhaps, whether it is connected to a grid or not. Better categorisation for EU ETS purposes would therefore be "reservoir (including pumped storage)", "run-of-river", and perhaps an "off-grid" annotation for both as relevant. Categorisation by "large" or "small" falls into the trap of policy relativity rather than technology/science. "Large" and "small" vary widely across regions and countries from 1 to 50 MW reflecting the policy choices of a particular region or country.

Mr. Lang: Greenmarket welcomes the EU harmonization process and supports, with the LH CER inclusion, the renewable sector hydropower because it is now a fungible product which qualifies for trading on carbon exchanges. Large hydro as a project type offers huge potential, which is available on a large scale in developing countries. CDM can ensure the implementation of the existing potential in a sustainable way, but only 41 large hydro projects have issued CERs by now. The UNEP Risoe CDM pipeline indicates around 430 hydro projects at the project level registration and validation with a generating capacity exceeding 20 MW. These comprise an issuance potential of around 330 million CERs until the end of 2012, which will be approx. 10% of the issuance potential of the whole CDM market for the Kyoto Protocol period 2008 - 2012.

2. Question: A lot of large hydro projects had already been approved by Member States before 1 July 2009. Do you think project developers will request a renewed LoA, and do you endorse further criteria to be put in place for the inclusion of LH CERs on exchanges, e.g. exclusion of dam projects?

Ms. Ahlberg: Project developers are welcome to renew LoAs if their projects meet the criteria – which mean that they have to submit a compliance report based on the EU Template to a European DNA. Pertaining to Article 11 b (6), there is no need to add further criteria – besides those mentioned above - for the inclusion of LH CERs on exchanges.

Mr. Saili: Regarding a renewed LoA, I guess a little depends on whether this becomes a risk avoidance strategy by compliance buyers.
Regarding additional criteria, the categorisation by "large" or "small" fails to encompass practical sustainability considerations. For example, a "large" project can have minimal socio-environmental impacts, whereas the cumulative effect of multiple "small” projects can cause significant degradation. No other renewable energy technology is categorised in this way – and it would be a significant barrier to climate change mitigation if this trend migrates to other renewable energy technologies. It is fundamental that the debate between "large" and "small" be recast to accurately reflect the technical/scientific nature of the renewable energy technologies and highlight the sustainability choices societies must make according to current and future needs. This why the sector is unhappy with the WCD reference in the Linking Directive – policy makers, regulators, auditors, civil society and the sector alike all agree that the WCD does not fit for purpose when it comes to assessing the sustainability of hydro projects. Hence the current cross-sectoral efforts to produce a revised Hydropower Sustainability Assessment Protocol. The EC and Member States are closely watching this development which is likely to influence the evolution of the Harmonised Guideline.

It’s important to note that at the moment most hydro projects getting through the CDM are run-of-river, so dams are a ‘red herring’; they’re irrelevant. Even when reservoir projects finally get the green light of full participation from the CDM administration, the only sustainability criteria, in addition to the subject country’s socio-environmental laws/regulations, should be compliance with the Protocol. If anything, we are now in happy circumstances with the harmonised EU approach, and soon a broadly endorsed Protocol where the sustainability assurance of large hydro CERs is only going to get better and better.

3. Question: Do you think the issuance of LH CERs by 2012 comprising approx. 10% of all issued CERs is a realistic scenario?

Mr. Saili: Yes, I think it is a prudent conservative scenario based on existing conditions.

4. Question: What are the next steps for greenmarket regarding the inclusion of large hydro CERs?

Do you intend to include LH CERs in 2010? Mr. Lang: For the inclusion of LH projects, please send an e-mail with relevant project details to info@greenmarket-exchange.com. Greenmarket will collect these requests. All CDM projects will be checked individually before the inclusion, and qualified LH CDM projects will be published with their project IDs in the greenlist.

6. Conclusion

A compliance buyer in the EU ETS has no less (or more) certainty to be able to use LH CERs for compliance than he has for CERs from any other project type. If there is a question raised about a country’s possibility to refuse a CER for compliance on the basis that it does not recognise the assessment and approval by another EU Member State, then that question is valid for any project type. Because there is mutual recognition between Member States to approve LH CERs, the risk should be lower than for other CERs where no such agreement has been reached.

There is no reason to maintain the filter on large hydro CERs on carbon exchanges. Thus greenmarket opens trading of LH CERs with immediate effect.