"The traditional environmental and political support instruments alone are no longer enough to be able to counter global climate change," KfW's economics expert Klaus Oppermann told Reuters.

"One of the most interesting further instruments to use is trading in emissions credits and rights," he added.

Germany's exisiting environmental tools include a voluntary commitment by the energy industry to cut emissions and a renewable energy law that supports producers of electricity from green fuels such as wind, solar and biomass.

The first fund will help companies finance environmental projects in developing countries as part of the Kyoto-suggested Clean Development Mechanism (CDM).

"Companies will be able to pay back the financing for CDM projects by submitting the credits they receive for CO2 reductions to the fund for sale to other firms," Oppermann said.

The role of the government in the fund will be to provide a guarantee for the investment, while the actual financing will be drawn from capital markets.

"The fund could issue bonds that guarantee a minimum return, in addition to variable renumeration from the sale of the credits," Oppermann added.

A second fund would aim to encourage small to medium sized firms to take part in emissions trading in a Europe-wide company cap and trade system, which the EU plans to launch in 2005.

The scheme is likely to be mandatory for larger firms, while other instruments are suggested for smaller ones, such as a climate change levy.

"Smaller firms are effectively excluded from the planned cap and trade scheme because the administrative costs could be too high for them," Oppermann said.

"But by opting into the fund, they can avoid the levy by paying its equivalent in exchange for emissions rights, allocated according to their historical emissions levels."