A study on evaluating risk in CDM

Abstract

As the first commitment period of Kyoto protocol comes nearer, Clean Development Mechanism (CDM) attracts more and more attention to economically reduce greenhouse gas emissions. In this paper, we investigated how to quantify and to manage risks in CDM. Since management of project risks is crux of this paper, real option theory is applied to evaluate CDM projects, so that we could quantitatively compute the option values. Namely, a mathematical model of CDM was represented with a compound rainbow option, which includes continuous procedures from registration to investment. The evaluated results identified the condition of profitability, in which investment as CDM are feasible. Our evaluation also quantified how the execution of CDM became difficult by the registration risk and the post-2012 risk. Then we investigated the effect of CER procurement by government. Based on actual financial data on CDM, we finally investigated how the risks and the governmental policy influence the number of executable CDM.