from Energy, Security, and Climate and Energy Security and Climate Change Program

How to Waste Money Fighting Climate Change

December 01, 2011

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The only concrete development out of the Durban climate talks so far is an announcement that Qatar will host next year’s negotiations. As John Broder points out in the New York Times, Qatar has the distinction of being the largest per capita greenhouse gas emitter on the planet. It’s also home to a Clean Development Mechanism (CDM) project that’s a textbook study in that system’s often severe flaws.

The Al Shaheen Oil Field produces about 200,000 barrels of oil each day. It also produces a lot of natural gas, much of which has historically been flared (increasing emissions) rather than captured and sold. In 2006, Qatar Petroleum (QP) submitted an application to the CDM executive board, asking that it be allowed to generate carbon credits in exchange for capturing and selling the associated gas, and in 2007, the project was approved.

CDM projects are supposed to provide financial support for emissions-cutting activities that are otherwise uneconomical. How did QP make its case? Its documents assert that the project would require an initial capital investment of $260 million, followed by about $12 million in annual operating and insurance costs. The project would also generate just under $29 million each year from gas sales. QP estimated that over a twenty one year period, the project would yield an annual return on investment of 9.7%, less than the 10% hurdle it normally imposes on new investments. Put another way, QP claimed that the net present cost of the project would be about $5 million dollars (including a requirement that it return an annual 10% profit to its owners).

Hence the claimed need for carbon credits, which QP estimated would generate$46 million each year. Indeed when it recalculated its economic including carbon revenue, it ended up projecting an annual return of 16%, or a net present value (again allowing for a 10% annual discount rate) of $111 million.

Think about this for a moment: a $5 million grant could have made this project economic. Through the magic of the CDM, though, Kyoto signatories will be paying Qatar $128 million (discounted to the present) for it instead.

And that is a charitable interpretation. Could QP really not have negotiated the capital cost down from $260 million to $255 million? That would have made the project profitable without carbon credits.

Moreover, if you look at the QP documents, you’ll find that it expects to sell the gas for a mere 70 cents per mmbtu. (For reference, gas prices in the United States, which are low by world standards, are about four bucks for the same amount.) QP points out that domestic Qatari gas prices are low, which is true. But that’s because the government controls prices; the value of the gas is higher. So you’ve got a bizarre situation: a state owned oil company is saying that it needs foreign subsidies in order to overcome the hurdle presented by price controls that are imposed by the state itself.

It doesn’t take a genius to conclude that this leaves a lot of room for mischief. Indeed the document I’ve linked to is a second draft of QP’s application. There’s only one change in the assumptions from the first one: the initial draft assumed a gas price of 80 cents per mmbtu, which would have rendered the project economic without carbon credits, while the second one pushed the assumed price down and made offset sales essential.

Not all CDM projects, of course, are so ridiculous. But the Al Shaheen experience should remind us that setting up effective mechamisms for solving global problems is tough, especially when a lot of money is involved.