What picture does the title of this post brings to your mind? Six months back if I had heard this term I would have imagined six to seven sacks of coal being packed in a tricycle by two to three workers with beedis in their mouth and being sent away. But surprisingly its not carbon trading.It involves UNO, and the intellectuals from all over the globe.

Concept and Implementation:

The concept behind it is like this. Say you have a younger brother. Your dear dad gives each of you a crayon set and tells you should not bother him for more crayons. You draw a lot and it seems you will finish all the crayons very soon. This leaves you with two options. One option is you can reduce the crayon usage. The other option is you can teach your younger brother pencil art where he need not use crayon much and you can get the crayon later from him by giving him something.If you are going to get one crayon from him you should give him two chocolates.

Now you or the elder one is the developed country. The cute younger brother is the developing country. The crayons are nothing but carbon.The dad who sets limit on crayon usage is United Nations Framework Convention on Climate Change.This plan is formulated in Kyoto Protocol,one of the many conferences arranged by UN on global issues. Let me explain. Say a company is operating in Europe. It is currently producing X amount of carbon which exceeds the norm by Y. It must reduce the emission. It can either adopt green technologies in Europe or help its subsidary in India to adopt green technologies(teaching pencil art) so that the emissions in India will be lesser than those set by the UNFCC(lesser than one crayon set promised by Daddy). Say by the use of technologies the emission in developing country is Y less than the norm set by UNFCC. Then the Y is credited in the developing country account. Now the Plant in developed country can buy Y from the developing nation and use it.

In India carbon is included as a commodity in Multi Commodity Exchange (MCX).MCX is the exchange in Asia to trade carbon credits. Any company in India or any developing nation in Kyoto Protocol can contact United Nations Framework Convention on Climate Change and know the ’standard’ level of carbon emission allowed for its outfit or activity. The extent to which It is emitting less carbon (as per standard fixed by UNFCCC) it will be credited.

Role Of few Developed nations:

You will be astonished to know that America refused to sign Kyota Protocol. Like a whining child it pointed his fingers towards China and told, “I wont accept these carbon emission limits until China and India accepts.It is the largest producer of Carbon”. Let me confess. I have never seen such an illogical argument from a responsible country. US contributes 5% of world’s population. China constitutes 20% of the world’s population. Now Hold your breath. China constitutes 24% of world’s carbon emission and USA constitutes 22%!So,In carbon di oxide emissions per capita list China stands in 91st rank whereas USA is in 10th position.Similarly Australia has also refused to sign Kyoto protocol.

Impact of Recession on Carbon Trading:

As per Kyoto Protocol developed countries should meet the norms set by UNFCC by 2012. When carbon trading is implemented(By 2008),the economy was in boom and the production was high. So there was a great demand for these carbon credits . What the great men had in their mind while planning this wonderful scheme is that due to the increasing demand the price of carbon credits will be very high.So they expected that the companies instead of spending huge money on buying carbon credits will invest in green technologies and greatly reduce the usage of fossil fuels or anything that will create green house gases by 2012. They were true as the rates went as high as 36 euros for 1 tonne of carbon emission.But due to the meltdown the production has gone done. Obviously there is no great demand for carbon. Now the rate is in single digit like 7 euros for one ton of carbon emission. So instead of concentrating on green technologies developed nations are buying a lot of these carbon credits at throw away prices and using them. Unfortunately the dream of creating a better world by 2012 still remains a dream.

Well. I think its time for me to pen down something concrete and really informative rather than let my perspective dictating the post. So here I have chosen the topic, responsible for gloomy faces in my cubicle and many sad news flashing in business channels. Please bear in mind that layman refers to this humble fellow and so dont be surprised if you find the explanation very simple and trivial.

Ok. Let me try to illustrate this jargon “Sub Prime Mortgage Crisis” with a rhyme which many of us know.

Jack and Jill went up the hill
To fetch a pail of water.
Jack fell down and broke his crown,
And Jill came tumbling after.

I feel this poem represents the current scenario very nicely. Therefore I am using it for explanation. So no offence meant to Jack if at all he happens to read this post.

“Jack and Jill went up the hill
To fetch a pail of water.”

In our case Jill is a very good fellow, honest and repays all his debts. Jack doesnt repay his debts on time or never repays. As per bank Jill is a prime customer.(True.Isnt such a customer important?) Jack is a way below Jill and so he is a sub prime customer. Now bank plans to provide loans to Jack inspite of his bad credit record. But loan to Jack was provided with a high intrest rate and taking his house as a collateral.Say if Jill’s interest for Rs.100 is 10 then for Jack it will be like 30.

Now the motive behind this decision is not so noble. Many might argue that this plan was adopted to provide loans for unfortunate people who could not afford to loans due to unavoidable bad credit history. I dont subscribe to this view. If that is the case what is the guarantee that the unfortunate lot will be able to pay higher interest? These so called unfortunate people would have been viewed as an untapped market. If Jack is able to repay his debt correctly banks could get high returns. Even if he fails, banks could take away the house and sell it for good profit due to the real estate boom. But the following evaluations went fatally wrong leading to the economic turmoil.

1)Risk evaluation was faulty. Annual income and other such criteria were not evaluated properly during loan processing. So Jack who earns Rs.5000 per month was projected that he will earn Rs.10,000 by next year.

2)Asset evaluation was faulty. The value or worth of the houses which were taken as collateral was projected high. Saturation of house prize in due course of time was not taken into consideration.

In nutshell people were too optimistic. They expected house prices to go on rising and simulatenously people willing to buy houses also go on rising. So that even when Jack defaults they can happily snatch his house away and sell it for very high price.

“Jack fell down and broke his crown”

Things started to change. Jack failed to repay the debts. Bank took the property and put it for sale. Suddenly many sub prime customers like Jack started to default and gave away the house to banks. So lots of houses came to a market. Suddenly there seems to be no buyers. Real estate bubble has bursted. Supply > Demand. So it naturally resulted in fall of house prices. The fall is so great that it burnt the fingers of banks.

“And Jill came tumbling after.”

No funds were available in banks. Situation became so acute that loan was not even available to the prime customers. So it resulted in a situation where there is no finance for business expansions,start ups etc etc. Unfortunately it is not only Jill who came tumbling after but the whole global economy coming tumbling after.

PS: Please let me know if my comparison of the crisis with the rhyme makes the explanation confusing.