It does not appear likely that governments could rely exclusively, or even predominantly, on program spending or subsidies to meet Canada's Kyoto target. The impact on government debt levels and/or overall tax burdens would likely be unsustainable, while the ability of initiatives of this type to bring about the emissions reductions required in such a short period of time is doubtful. More credible alternate scenarios for meeting Kyoto starting next year would revolve around different degrees of access to international credits as a complementary compliance option to initiatives such as a carbon tax. A brief discussion of the two "end- points" in terms of access to international credits - no international trading, and unlimited international trading - is presented below to illustrate a number of key considerations and probable limitations.
This alternative would have Canada rely solely on domestic emissions reductions in the Kyoto period, with no purchases of international credits whatsoever. From an economic perspective, this option simply does not seem plausible. To achieve reductions in the order of the Kyoto target under this approach, a comprehensive carbon tax (or similar charge, such as the permit price under a hard cap and trade system) would have to be set so high that, in the Kyoto compliance period, the Canadian economy would experience an average annual loss of well over the 6.5% or so of GDP estimated under the option detailed above (possibly in the 10% range).
The second alternative would assume unlimited access to any and all international carbon credits as a compliance mechanism for Canadian emitters. This introduces a completely different price dynamic for Canada. The scenario examined in detail above, where about 75% of the reductions on average would have to occur in Canada due to the limited availability of reliable project-based credits, would require a carbon charge for domestic reductions of $195. With unlimited access to international trading (regardless of "hot air" risk), the $25 per tonne international credit price assumed for the purposes of this analysis would effectively become the price ceiling for Canadian emitters, making it unnecessary to consider any domestic reductions at a cost above that price.
It is therefore reasonable to assume that this scenario would see international credits becoming the source of reductions for the vast majority of Canada's Kyoto target (the analysis presented above indicated that only a small portion of Canada's domestic emissions reductions could be achieved at a cost below $25 per tonne over the Kyoto period). This would dramatically lower the overall cost of reductions for Canadian emitters, and as a result would carry a much lower economic cost for Canada than presented above, although some negative impacts would be inevitable.
At the same time, while putting aside the issue of whether or not this heavy use of international credits could be technically acceptable under the Kyoto Protocol, it is evident that this approach would likely not be consistent with the spirit and intent of that agreement, which envisaged that domestic reductions would make up a significant portion of each signatory's target (as previously noted, those Kyoto signatories in the EU that appear to be on track in meeting their respective targets seem likely to rely on international credit purchases for 30% or less of their overall reductions). There are, moreover, a number of environmental and other challenges presented by this scenario.
Assuming that 80% or so of Canada's Kyoto target would be met through international credits, somewhere in the range of $6 billion annually would be required for these purchases, while at the same time there would be little incentive for domestic investment in energy efficiency and GHG reduction technologies.
Given the limited volume of available project-based credits, over 60% of Canada's international permit purchases would have to be AAUs.15 It is expected that most of the AAUs available in the first commitment period will be surplus allowances from economies in transition, countries such as Russia and the Ukraine, where emissions reductions have occurred solely due to economic decline during the 1990s (frequently referred to as "hot air"). Canadian businesses would therefore be expected to send over $3 billion annually to these countries, for which there would be no incremental emissions reductions, and no potential technological or other co-benefits in Canada.
15 As the JI market is still in its infancy, the availability of JI credits will likely be quite limited (only JI credits issued after 2007 are eligible under the European emissions trading scheme).