Under the current conditions, the key tools for emerging markets for adaptation and mitigation are likely to be:  BIS Review 97/2008  3  First, is CDM, which presently offers clarity up to 2012. CDM provides core demand for carbon credit that forms the core primary market and allows secondary and derivatives market to grow. Second, is the insurance market that offers products for risk mitigation. Third, is the investment fund market that bridges carbon credit buyers (which is CDM driven) and sellers in emerging markets. Many countries have set up such funds, but less so in the context of emerging markets’ own funds. And fourth, is the direct lending by financial institutions in emerging markets to promote energy-efficient projects and companies. Response to climate change in emerging markets, therefore, can be judged in the deployment of these four tools. Currently, the efforts remain scattered. Promoting the use of these instruments will be key for building momentum in adaptation and mitigation. At this time, however, there are many problems in emerging markets that remain to be tackled. For example, in the case of CDM, existing practical problems include the absence of key global infrastructure beyond 2012, lack of legal recognition of carbon credits as tradable securities or assets, lack of knowledge and awareness including the high search cost for identifying sellers and matching trades, and the need to set up a supportive “Guarantee Fund” to help banks share risk on lending to CDM-projects.
Also, an increasing number of banks are recognizing climate change risk in response to investor and other stakeholder initiatives. Judging from this evidence, while the response of financial institutions is positive, it is still very much in an early stage. And in the case of Asia, the progress is even more limited. The main supplier of carbon credits in CDM is China, while the rest of Asia lags behind. In Asia, the engagement of financial institutions on climate change is scattered and not yet a momentum. The progress is hampered partly by inadequate supporting framework that includes lack of clear policy and incentive as well as information. Let me now discuss some of the current problems in Asia and the prospects for the financial system in emerging markets, especially in Asia, to become more engaged with the issue. Given limited progress so far, the challenge is how to engage the financial system in emerging markets more extensively on climate change. In moving this issue forward, a critical role has to be played by policy, especially on the role of incentive and the development of tools that can facilitate the response to climate change. On incentive, a good starting point is to discuss the principles that would be important in guiding the design of policy, which in my view, four key principles stand out. First, the role of the states and policy are critical to ensure that the global rule of the market is clear and continuous beyond 2012.