Environmental Engineering Reference
In-Depth Information
companies' financial goals and their clients' ex-
pectations, carbon offsetting can be utilised not
only to reduce negative reputational risk, but also
to pioneer sustainability in business practices. For
example, physical trading companies subjected
to sustainability standards by their counterparties
are learning what carbon and resource intensity
means, and how to minimise these in order to
remain attractive. Using carbon as an instrument
for risk management has meant learning to adapt
to greener business practices.
The chapter begins with the economic theory
behind climate change oriented policies and de-
cisions, and explains how the discourse around
climate change has become embedded in society.
Then, after briefly showing the development of
carbon into a financial instrument and discuss-
ing the risk management tools it has created, the
chapter addresses how companies can manage
project, market and reputational risk using carbon.
Carbon-related investments are also discussed.
The chapter then builds on the examples and rec-
ommendations of the previous sections to describe
the case study of HSBC, a global banking leader
which has been notably successful in building a
sustainability practice into its business model on
the back of its exposure to and experiences with
the emissions markets. The chapter concludes by
reiterating key points and discussing emerging
trends in green finance and sustainability, with
a focus on carbon related opportunities. Finally,
upcoming market developments are mentioned,
to reinforce carbon as an emerging asset class
with its own unique risk and investment profile.
thesis was solving the problem of externalities,
defined broadly as a cost or benefit not transmit-
ted through prices and incurred by a party who
did not agree to the action causing the cost or
benefit. His conclusion was that in the absence
of transaction costs, bargaining would lead to
an efficient allocation of goods regardless of the
initial allocation in a system. Applied to emis-
sions—carbon dioxide, methane, sulphur dioxide
and nitrogen oxide among others—viewed argu-
ably as the most significant negative externality
of the 21
st
century resulting in a cost rather than
a benefit to the third party unwittingly exposed to
air pollution, Coase's theorem can be identified as
a driving force in the emergence of the emissions
trading market.
According to Coase's theorem, regardless of
the initial allocation of CO
2
(measured by total
output and today significantly more for OECD
countries than less developed parts of Asia and
the African continent due to differences in timing
and intensity of industrialisation), trading emis-
sion rights will ultimately yield an economically
efficient allocation of CO
2
. The most polluting
parties—nations and emitting installations—will
either receive or be legally mandated to purchase
an economically equitable proportion of emission
rights vis-à-vis less emitting entities. Coase's
theory is demonstrated to work in practice. Though
as is the case with all nascent markets, some still
need convincing that the carbon markets are truly
working, the pioneer environmental market in the
US is evidence that Coase's theory in practice
is effective, overcoming obstacles to efficient
allocation.
The sulphur dioxide (SOx) and nitrogen oxide
(NOx) markets developed in the US in the late
1980s to address the problem of acid rain, but
not without considerable transaction costs and
obstacles to efficient allocation to say nothing of
the industrial hand-wringing and teeth-grinding
that took place prior to its acceptance. Indeed, as
the market developed, these obstacles diminished,
BACKGROUND
Addressing Negative Externalities
and Environmental Risks
Ronald Coase propelled the emissions market
through his 1960 article 'The Problem of Social
