By any standard? Meeting sustainability commitments through credible carbon markets

Carbon markets offer a practical solution for companies to meet greenhouse gas (GHG) reduction targets during the transition to a net-zero economy by supplementing their ongoing emissions reductions.  These markets facilitate the trade of carbon credits and offsets from avoided emissions below a cap or from projects with negative carbon emissions.

One carbon credit is assigned a commercial value for reducing one metric ton of GHG emissions. Where a company’s project leads to real reductions in GHG emissions, the company generates carbon credits that can be sold in carbon trading markets. The generation of carbon credits enables a company to not only meet its own carbon reduction targets, but if additional carbon credits are generated, the company can trade or retire them.

Companies have different motivations to trade carbon credits. Some companies in the compliance markets are subject to legal requirements to reduce emissions. Other companies may voluntarily trade carbon credits to meet strategic goals or build an environmental, social, and governance (ESG) portfolio. While compliance credit markets are regulated by governments and supported by a controlled certification process, voluntary carbon markets are self-regulated, with carbon credits directly traded between the project developer and the buyer. Voluntary and compliance markets serve complementary functions, with voluntary markets enabling the development of projects not otherwise supported by the compliance markets.

Carbon trading in the US

In the US, carbon credits and offsets can be traded in either voluntary or compliance markets. Exchanges may also facilitate the trade of regulated carbon credits. For instance, the California Air Resources Board (CARB) runs a Compliance Offsets Program within its broader Cap-and-Trade Program. CARB issues Air Resource Board (ARB) Offset Credits to qualifying projects that reduce GHGs pursuant to six CARB-approved Compliance Offset Protocols. Market participants can use Offset Credits to meet up to 8 percent of their compliance obligation for emissions through 2020; 4 percent of their compliance obligation for emissions from 2021-2025; and 6 percent for emissions from 2026-2030. These ARB credits can also be traded on a private exchange.

Increasing access to voluntary markets may be crucial to (a) addressing climate change; (b) supporting companies voluntarily seeking reduction targets; and (c) directing private finance toward innovative projects. Companies with significant emissions can use carbon trading to reduce their overall GHG footprint. Some companies may someday find such offsetting necessary in light of President Joe Biden’s pledge to cut domestic GHG emissions by at least 50 percent by 2030.

To broaden access to voluntary markets, the Taskforce on Scaling Voluntary Carbon Markets (TSVCM), a multi-stakeholder private-sector initiative, is working to streamline voluntary carbon credit trading and to promote the flow of high integrity carbon credits from supplier countries to voluntary markets. The TSVCM has developed operational requirements for standards’ terms of use for issuance of carbon credits to enhance fungibility, and clauses for general trading terms to standardize the legal framework underpinning credit issuance and trading contracts.

The hope is that these legal principles and contracts will facilitate the adoption of standardized contracts for exchange trade, fulfillment of imminent and long-term claims, and specific seller-buyer needs. The proposed terms of use also address risks associated with bad actors in the market, provisions on force majeure, and dispute resolution mechanisms.

Standards for assessing emissions impacts

The voluntary carbon trading ecosystem also includes exchanges and carbon registries, standard setters, and rating agencies. One important consideration for would-be carbon market participants, compliance and voluntary alike, is the standard for assessing emissions impacts from credit-generating projects. That standard will determine the credit value of projects to remove, avoid, or reduce atmospheric GHGs – such as afforestation campaigns or projects to supply renewable power to the grid – to generate verified and tradable carbon credits that meet the rigors of various carbon-market regimes around the world.  When combined with environmental impact assessments, a methodologically sound standard allows markets and regulators to understand the real-world carbon reduction attributable to these activities and compare peer projects.

The quality of these standards has become a critical concern as multiple standard-setting and certification bodies have entered the market in a quest to become the default industry standard.  Market experts note that high-quality standards for carbon credits are essential to making voluntary carbon markets credible. 

For instance, the American Carbon Registry, an independent crediting mechanism, oversees the registration and verification of carbon offset projects against the American Carbon Registry Standard and maintains a transparent registry system for offsets tradable in both compliance and voluntary markets. Similarly, GREEN-E implements the Green-e Renewable Energy Standard for Canada and the United States for renewable energy and companies that use renewable energy. Verra, a standard setter and registry, implements the Verified Carbon Standards to audit and certify renewable energy and forestry projects generating carbon credits.

High-quality standards and certifications are thus important to carbon-credit purchasers wanting to secure access to carbon markets and provide transparency to stakeholders about their sustainability efforts. Ideally, these standards should be coherent across projects and regimes to maximize the trading potential and environmental impact of the carbon credits.

Keep these tips in mind

When trading carbon credits in voluntary markets, carbon market participants should keep the following tips in mind:

• Identify whether credit-generating project has been certified by an independent third party that is recognized by an approved carbon standard.
• To determine the nature and impact of a credit-generating project ask key questions.  How was the project created? How does the project generate credits? What sector (eg, renewable energy, reforestation, agriculture) is the project in? Is it reducing or removing GHG emissions? Are the reductions permanent?
• Confirm whether the carbon credits have individual serial numbers and are verified and listed by a recognized registry. This is crucial for retiring carbon credits, avoiding double counting, and achieving net reductions in emissions.
• Track and keep good records of transactions.

Trading carbon credits is an increasingly accessible solution for companies to reduce their GHG emissions and meet their reduction targets. But such trades have many moving parts. Companies seeking to engage with voluntary markets must conduct due diligence on projects underlying the carbon credits to determine the projects’ potential to meaningfully reduce GHG emissions. Exchanges and standard setters support the ecosystem by enabling access. Multi-stakeholder initiatives are addressing challenges of verification, transparency, and integrity by providing industry wide guidance. As a result, while voluntary carbon markets are still evolving, they have reached the mainstream and have significant potential for helping companies to mitigate their contributions to climate change.