Shadow carbon pricing

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Paris alignmentReasoning
Some progressAFD has considered both the benefits and drawbacks of utilising a shadow carbon price (SCP) policy. As a result, it currently accounts for carbon pricing in relevant economic studies as one of the factors which inform the decision-making process. In justifying this selective usage of a SCP, AFD explained that sometimes a SCP – and an over-reliance on carbon footprints – as tools for evaluating a project can lead to sub-optimal conclusions. The key reasons states were that it i) depends on a subjective definition of the boundaries and baseline of the project; ii) offers a static view of the project; iii) is a time-consuming exercise. Consequently, AFD suggests focusing on trajectories is a more appropriate approach. However, E3G continues to recommend the implementation of SCP, as a tool to be used effectively alongside other measures, rather than as a ‘solve-all’ approach. An effective SCP can be implemented flexibly using with a price range that can be tailored to relevant contexts.
Which projects are subject to greenhouse gas (GHG) assessmentAll projects
Which projects apply shadow carbon pricingN/A
Price levelN/A
How shadow carbon price is usedN/A
What is it compared to?N/A
Are scope 3 emissions included?N/A

Explanation

Within its mid-term review of its climate strategy, the AFD committed to “use an internal carbon price” by the end of 2022.

Within its Carbon Footprint Tool document there is no direct references to the use of a shadow/internal carbon price.

According to bank staff, the AFD has used a carbon price in economic and financial feasibility studies which varies depending on the context of the project (co-financing with MDBs, project submitted to the GCF, etc). AFD expressed to E3G that it has been considering the benefits and drawbacks of establishing a shadow carbon pricing (SCP) policy. Amongst the drawbacks of this tool, AFD explained that sometimes SCP -and the over-reliance on the carbon footprint- to evaluate a project can lead to a sub-optimal conclusion as it i) depends on a subjective definition of the boundaries and baseline of the project; ii) offers a static view of the project; iii) is a time-consuming exercise. As such, AFD stated that assessing projects under the lens of trajectories is a better alternative.

Despite the above-mentioned drawbacks, E3G does not recommend ruling out a SCP completely. Whilst decarbonisation trajectories are indeed critical, these cannot be decoupled from emissions, and a SCP in fact works to inform decision-making regarding trajectories. Crucially, this tool should not be thought of as a ‘solve-all’ approach – rather as an approach to be used most
effectively alongside other measures (such as for example, exclusion lists and emissions thresholds, amongst others). Furthermore, whilst uniform pricing has rightly been treated with scepticism, this does not reflect the
typical, recommended approach to utilising a SCP. For example, the High Commission of Carbon Pricing (HCC) suggests a range of prices to be utilised.

Accordingly, AFD could adopt a similar framework with a range of SCPs, where the SCP used is flexible and responsive to both contextual considerations and updated scientific input. Accordingly, while the process of categorisation should of course be transparent, it would be possible to apply a different SCP depending on the country-context being considered. It is true that decisions on baselines and the inclusion of differing scopes of emissions affect SCP analysis. However, transparency is key in mediating this. This is especially relevant should an approach utilising a range of prices be adopted. This would benefit from the methodology for the price levels chosen and the rationale for instances of implementation being made available for input. Relatedly, in instances where a SCP is already used for analysis by AFD, it is important to make clear both why and how it is being used on these occasions.

Recommendations: 

  • AFD should consider the implementation of SCP. However, this should not be thought of as a ‘solve-all’ approach – rather as an approach to be used most effectively alongside other measures. In this way, AFD should adopt a similar framework to the HCC which includes a range of SCPs which are flexible and responsive to both contextual considerations and updated scientific input. Accordingly, while the process of categorisation should of course be transparent, it would be possible to apply a different SCP depending on the country-context being considered. The corresponding methodology Although independently constructing an entirely original methodology for the implementation of a SCP might be unrealistic considering operational capacity, AFD could draw on existing SCP frameworks to inform their own SCP usage.
  • Given concerns about a SCP being too static and rooted in present evaluations of the cost of carbon, it would be useful to consider utilising a flexible price which draws on future forecasts for the cost of emissions and can adjust accordingly.
  • If AFD decides against carbon pricing, it should publish its rationale and position in a statement or position paper, to foster discussion across other public banks, DFIs and MDBs. Equally, if the use of a SCP is to remain a selective practice, the motivations for when it is used, and why it is used on these occasions should be made clear.

Last Update: November 2022