BL Explainer

Explainer: Why carbon markets are set to explode after COP26?

M. Ramesh | | Updated on: Nov 29, 2021
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Carbon credits are ‘points’ issued to an entity to undertake activity that has the effect of either avoiding emission of carbon dioxide into the atmosphere or absorbing some of them back from the atmosphere.

What are carbon credits/offsets?

Carbon credits or carbon offsets are ‘points’ issued to an entity for undertaking an activity that has the effect of either avoiding emission of carbon dioxide into the atmosphere or absorbing some of the CO2 back from the atmosphere. One credit is given for a one-tonne reduction in CO2. (Now, when we say CO2, we mean either CO2 or any of the other six greenhouse gases.)

What does one do with the credit?

Sell and make money. That’s the reward for avoiding or sequestering CO2 and thereby helping to limit the rise of global warming. To the buyer, it is the penalty they for not avoiding spewing or sequestering CO2. So, the buyer of the carbon credit pays someone else—the seller—for doing the right thing, reducing CO2 in the atmosphere.

Who are the typical buyers and sellers?

The sellers could be anybody who saves CO2. A company has recently formed to give away cookstoves worth ₹1,600 apiece, free of cost, to poor villagers, in exchange for carbon credits worth more—because the cookstoves save fuelwood. The buyers are typically companies, governments, municipalities or any other organisations. For example, companies like Google, Amazon and Apple have vowed to go ‘net zero’ by a certain date, which means their operations will put no more greenhouse gases into the atmosphere than they can absorb back. Since it is impossible to fully stop greenhouse gas emissions or absorb them back, they keep their promise by buying carbon credits. And now, governments, which have international emission reduction commitments, will also buy the credits.

Is there going to be an active market in carbon credits?

There is already one in place, where the buyers are the companies that have come forward to go carbon neutral. Now, with the rules for the functioning of the markets having been agreed upon in the recent COP26 Glasgow climate talks, you can expect a deepening of the market.

What factors prevented the carbon markets from evolving?

Soon after the 200-odd countries signed the Paris Agreement in December 2015, the governments began making rules for operationalising the agreement. In time, they were able to agree upon all but the carbon markets. As they gathered again in Glasgow, there were three major issues relating to the carbon market. First, whether or not the old carbon credits (certified carbon emissions, or CERs) issued under an earlier regime—the Clean Development Mechanism of the Kyoto Protocol—are still valid. Counting them as valid would slow down climate action because those under commitments to reducing emissions would just buy the CERs and call it a done deal. However, declaring them invalid would disappoint all those entities that were given the credits. The second issue pertained to ‘double-counting’. If an emission reduction takes place in one country and another entity in another country buys the carbon credits, only one of the two countries should be logically allowed to use the activity against its commitments—not both. The third issue related to a fee levied on each carbon trading transaction to feed a fund to help poor countries adapt to the vagaries of the warming world.

Did COP26 resolve these issues?

Fortunately, all these three issues have been settled at COP26. On the old carbon credits, it has been agreed that all those credits (CERs) issued between January 1, 2013 and December 30, 2020, would be good to be sold in the market. On double-counting, they all agreed that there would be no double counting. It has been left to the respective government to decide which activity (project) would extinguish its commitment and which would be for tradable carbon credits.

On ‘share of proceeds’, it was agreed that 5 per cent of the proceeds of market transactions would be levied and put into a fund. There is no fee for bi-lateral transactions, but countries are “encouraged” to voluntarily give. Switzerland has agreed to put $25million into the Adaptation Fund.

Published on November 29, 2021

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