Financing environmental sustainability for small landholders in Guatemala: exploring the potential of the carbon banking approach

Abstract

Carbon sequestration through forestry or agro-forestry is an option for reducing carbon dioxide from the atmosphere. Carbon markets have been identified as potentially being an important contributor to slowing deforestation and forest degradation by providing payments to small landholders to sequester carbon. This is also the case in Guatemala, where 43.4% of land is held by small landholders, much of which is forested or could be forested. However, small landholders face limitations to tap into carbon markets. One limitation relates to market exclusion because of landholding size, as carbon markets require large scale forestry projects to provide stable carbon stocks over time. Small landholders might be exposed to release of carbon through intentional disturbances such as landholders’ decisions about land use, and unintentional disturbances such as drought, floods, forest fire, pests and landslides. There are also institutional limitations in the structure of carbon markets. For instance, international carbon markets require a single upfront payment. Also, costs tend to be high for carbon projects when small landholders are involved. Carbon banking, which is based on an annual carbon rental market, may potentially overcome these limitations faced by small forest owners. This approach uses a financial institution that aggregates deposits of forest carbon from small landholders (depositors) in exchange for annual rental payments, and then rents out forest carbon to those who have carbon liabilities (renters). This research investigates the stability of carbon pools formed by small landholders and the ability of a bank to structure payments to small landholders in a lease arrangement, after accounting for forest fires, forest pests and landholders’ decisions about land use, administrative costs and international carbon prices.To investigate the carbon bank approach, a mathematical model was designed to model variables associated with the risk small landholders’ forest carbon is exposed to and how the bank should structure payments to small landholders considering risks of fire, pest, landholders’ preferences on land use (socioeconomic), and changes in international carbon prices and administrative costs. For forest fires, this study uses data on area burnt annually in three regions in Guatemala (Dry, Wet and Moist, and Montane) to estimate the risk of loss of forest area due to fire. This information was used in a Monte Carlo simulation to estimate the 95th percentile annual proportion of area burnt by fire in each region. To estimate the combined effect of forest fire, pest and socioeconomic risks the Montane region was chosen to assess the carbon bank approach. The results for fires in the Montane region showed that 98.87% of forest carbon under contract from small landholders can be made available for renting out in the carbon rental market. For pests 99.95% of carbon is available to lease. Further, landholders’ decisions about land use were modelled using a double hurdle model. Model output showed that 99.8% of carbon is available to the bank for renting out. After combining these risks using joint probability theory, the bank is able to rent out 97% of forest carbon deposited. Taking into account the effect of biophysical (forest fire and pests) and socioeconomic (land use change) risks, administrative costs and international carbon prices, a carbon banking viability analysis was undertaken. The main assumptions for this analysis are: a constant interest rate (λ) of 4.9%, the total area of forest in the Montane region (Ar), the proportion of sequestered carbon deposited in the bank by small holdings (Wir), and density of carbon sequestered by a landholder (Dir). Complementary variables for the carbon banking analysis from this research are: carbon deposited is 1.494 M tCO2e if the whole forested areas is banked, risk-adjusted carbon available to rent out is 1.449 M tCO2e, total cost estimates from this study ($743,272), total cost estimates from related work ($265,670), and carbon prices in international markets (Pc $5/tCO2e and $20/tCO2e). The effect of total costs and carbon prices on πρL₌₀ was assessed using sensitivity analysis. Results showed that using high total cost estimates from this study and the current international carbon prices ($5/tCO2e), the πρL₌₀ of $-390,000. Assuming low carbon prices and low total cost estimates, πρL₌₀ is $90,000. In addition, the payment analysis encompasses two variables; total cost estimates and carbon prices. Considering the total cost estimates from this study and the current carbon prices in international markets ($5/tCO2e), the bank cannot afford to pay to small landholders to protect their forest. Also, small landholders’ willingness to maintain their forest based on what they would require per year was analysed. Due to the question was not properly understood by landholders, and data reported wide variations, results were not included in the carbon banking model. Finally, this study has identified some potential areas for further research, has included policy implications, and has also contributed to the carbon banking knowledge.