Switching GHG accounting systems is not a solution

Climate and Energy

Is Canada’s greenhouse gas emission problem just an accounting issue? Is the GHG measurement system used by the UNFCCC fundamentally flawed, unfair to Canada, or both? Would switching systems make achieving our targets easier and solve concerns around emissions leakage? Short answer: not so much.

The status quo: “territorial-based” GHG inventories

Let me start by setting out some basics. The United Nations Framework Convention on Climate Change (UNFCCC) receives regular Greenhouse Gas (GHG) inventories from 197 countries. They do so under a “territorial-based” accounting system, using methodologies agreed on in the 1990s. Under this system, only those GHG emissions that occur within a nation’s borders count toward its inventory. For example, if Canada produces a barrel of oil, the GHGs associated with producing that barrel count toward our inventory. But if it’s exported, the GHGs associated with its consumption do not. Similarly, if Canada imports air conditioners from China, only those GHGs associated with operating them count toward our inventory. The production emissions count toward China’s. If the raw materials in the air conditioners were produced elsewhere, the associated emissions count toward those countries’ inventories.

Territorial-based accounting provides a rigorous and reliable way of quantifying a country’s GHG emissions. Under this system, emissions are estimated and quantified (e.g., by tracking sales of fossil fuels or monitoring industrial facilities) in a transparent and verifiable way.

A potential alternative: “consumption-based” inventories

An alternative to this system is so-called “consumption-based” emissions accounting. Consumption-based accounting would allocate the emissions associated with producing, transporting and consuming goods or services to the consuming jurisdiction (i.e., regardless of where those emissions actually occurred).

Consumption-based accounting can be quite appealing in theory. First, such a system could account for emission sources that currently aren’t allocated to any country under territorial-based accounting, such as international shipping and aviation. Second, it would convey the full lifecycle GHG emissions of a country’s imports. This would provide a more complete picture of the GHG emissions driven by its consumption. Third, by shifting production emissions to the ultimate consumers of a good, it would avoid creating a dilemma for policy-makers when greater domestic production would increase the domestic GHG inventory but decrease global emissions (e.g., by displacing carbon-intensive production from other countries).

Despite these theoretical advantages, consumption-based accounting faces challenges in practice.

Consumption accounting is probably impossible to do

To measure consumption-based emissions with a degree of precision similar to the territorial approach, we would need to quantify and track the GHGs embedded in nearly every product that we export and import. Let’s return to the example of air conditioners. We would need to know not only how much energy went into an imported unit’s production, but how emissions-intensive that particular energy was. We’d need to know the emissions embedded in its packaging, its transport, and the production of all the raw input materials. Accurately tracking all this information and attributing it to individual goods would be extremely complex. Even if we could get the required processes and technology right—a big if—it would add a major administrative burden (and cost) to global supply chains.

Implementing consumption-based accounting would also require all 197 UNFCCC countries to sign off. Fundamentally changing GHG inventory methodology is not something that one country can do alone. For global GHG accounting to work—and avoid double counting—all countries need to use the same system. UNFCCC countries use a territorial-based accounting system because, despite its shortcomings, it provides a practical and reliable way of tracking GHG emissions. It ensures that when taken together, national GHG inventories provide a coherent picture of global emissions.

Canada’s emissions would be higher under a consumption-based measure

Just for arguments’ sake, let’s say that consumption-based accounting was both practical and feasible, and that all UNFCCC countries were on board. What would switching to such a system mean for Canada?

While consumption-based emissions are difficult to directly measure, some have tried to estimate them. Dolter and Victor (2016) use a global input-output database to create a multi-region model that accounts for the GHG intensity of countries’ exports and imports, in order to estimate their consumption-based emissions. They estimate that since 2006, Canada’s emissions have in fact been slightly higher under a consumption-based measure than under the production-based measure—despite Canada having a large resource-based economy. This finding is echoed in subsequent work by Fellows and Dobson (2017), who estimate that consumption-based emissions have exceeded territorial-based emissions since 2011. Dolter and Victor find that the change is largely due to growing imports from China and the GHG-intensity of industrial production and manufacturing there.

Policy-making would still face challenges

Let’s continue the thought experiment. What are the implications of pricing carbon (or applying some other climate policy) under a consumption-based accounting system?

First, rather than lowering the costs of Canadian climate policy, consumption-based GHG accounting would simply change who bears them. We would no longer apply carbon pricing to Canadian products destined for export (since those emissions would now count toward the importing country). However, imported products’ carbon costs would go up, since carbon pricing would (at the point of importation) apply against these products’ full lifecycle emissions. Canadian consumers and businesses with global supply chains would bear these costs.

Second, differences in policy stringency across countries would still create challenges, though in a different form. Under territorial-based accounting, policy asymmetries can drive production “leakage”—where climate policy in Canada causes emissions-intensive economic activity to fall here, only for it (and the emissions that come with it) to pop up somewhere with less-stringent policy (we currently address this issue with output-based pricing).

Consumption-based accounting presents a different leakage risk. If Canadians paid for the emissions embedded in the goods they consume, imports of Chinese products, for example, might decrease. But countries with weaker climate policies (or China itself) might just consume those same goods instead. This would undermine the GHG reductions from Canadian policy.

Third, a different accounting system ultimately wouldn’t affect many of our biggest emissions challenges. Traded goods are only one part of Canada’s GHG inventory. The GHG emissions from the energy we use in our buildings, our transportation system, our electricity sector, and the industrial output that we don’t export would stay the same. The fundamental imperative to address these sources of emissions would remain.

A complement? Yes

Does the fact that GHG mitigation will present challenges regardless of our accounting system mean that consumption-based metrics are useless? Not at all. As information, an alternative measure of Canada’s GHG emissions could be very valuable. The U.K. government estimates its consumption emissions as a complementary way of measuring the country’s GHG footprint. It uses the estimates both to understand the country’s impact on the global climate and to encourage the development of new policy options. Something similar could make sense for Canada.

The emissions embedded in our imports matter for global GHGs. By better understanding them, we could enact policies that help reduce global emissions. For example, public procurement processes could start to consider the GHGs embedded in imported materials such as steel and cement. Or we could identify the countries that disproportionately contribute to Canada’s consumption emissions and provide technology transfer or financing support to help them decarbonize. Having consumption-based metrics could also be a useful step toward eventually implementing Border Carbon Adjustments.

A substitute? No

Consumption-based accounting isn’t a substitute for territorial accounting.

Even if a formal shift to consumption-based accounting was possible (and it almost certainly isn’t), the new system would present Canada with many of the same challenges that the current one does.

It would also be highly disruptive. The global consensus on how countries should measure and report emissions has been hard-won. Paris pledges—including Canada’s—have been set based on it. We use the accounting system we do because it enables consistent, transparent reporting, which enables better global climate policy coordination. Even if a consumption-based system offered a clear win for Canada—and it’s not clear that it does—we have no business trying to remake the system in our own interest.

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