What Are The Two Types of Carbon Markets?

Carbon markets are important in our fight against climate change and global temperature rise. A carbon market is a marketplace to trade carbon credits or carbon allowances which represent 1 ton of CO2 emitted or removed from the atmosphere. Companies, regulators, and individuals all participate and affect prices. The price of carbon is valuable as it can represent the environmental damages associated with emitting a ton of carbon, and can deter businesses from making decisions that negatively impact the environment. In this blog, we will explore the two types of carbon markets, Compliance (Mandatory) Carbon Markets and Voluntary Carbon Markets (VCM).

Compliance (Mandatory) Carbon Markets

Compliance Markets are based on a cap and trade model, where governments or regulators set a “cap” on total emissions and allow companies to trade the credits on their own. It can be a way to reward lower-emitting companies and force high-emitting companies to internalize the costs of their environmental impacts.

Major Compliance Markets:

The European Union Emissions Trading System (EU ETS).

The EU ETS is one of the largest multinational carbon markets today. It was established in 2005 and covers over 45% of the EU's carbon emissions. [1] It aims to cut emissions from many different industries including transport, energy, aviation, and others. As a first milestone, the EU is aiming to reduce net emissions by at least 55% by 2030 compared to 1990. [2] Currently, the EU is in Phase 4 of trading where The overall number of emission allowances will decrease at an annual rate of 2.2% from 2021 onwards, compared to 1.74% in the period 2013-2020. The reduction rate is in line with the 2030 target of at least 40% cuts in EU greenhouse gas emissions. [3]

The California Cap-and-Trade Program.

The California Cap-and-Trade program is a key element of the state's emissions reduction efforts and has proven to be an effective tool in reducing greenhouse gas emissions. Under the program, the California Air Resources Board (CARB) is tasked with setting a declining, aggregate cap on the amount of GHGs allowed to be emitted in the state each year. Entities covered under the program represent roughly 75 percent of the state’s GHG emissions and include oil refineries, electricity generators and importers, and manufacturing facilities. [4] Since the cap-and-trade program began, California’s overall GHG emissions have declined by 14 percent. This is great progress and has proven that cap and trade compliance markets can reduce emissions on the state level.

The Chinese National Emissions Trading System

Another cap and trade program is the Chinese National Emissions Trading System, which began in 2021. It operates under a free allocation system where companies are allotted their allowances annually. It currently is estimated to cover over 4 billion tCO2 and accounts for over 40% of the country’s carbon emissions. [5] In July 2023, a total of 239.9 million tonnes of emissions allowances had changed hands on the market and the cumulative turnover had reached 11.03 billion yuan (US$1.54 billion), according to the latest statistics. [6] Huw Slater who led the 2022 China Carbon Pricing Survey found that 20% of the respondents predicted the market to “strongly” impact their companies’ decisions by the middle of the decade. As it is too early to tell to true effectiveness of these markets we can only hope that the increased awareness and infrastructure will lead to China decreasing carbon emissions as it the global leader in total CO2 emissions.

Voluntary Carbon Markets

The key difference between compliance markets and voluntary markets is that they are indeed voluntary. Companies and individuals can choose to purchase credits on their own accord and take steps to become net zero. The most important players in the market are verification agencies that manage the projects that produce carbon credits. Verra (VCS), which currently certifies over 70% of all issued carbon credits is the main verification partner along with the American Carbon Registry (ACR) and Gold Standard (GS). They occupy the supply side for carbon credits and certify all projects. There are a few marketplaces that exist for carbon credits, most recently the London Stock Exchange launched its own Voluntary Carbon Market to facilitate financing at scale into projects that mitigate climate change. [7]

The voluntary carbon market can support a wider range of projects that can benefit local communities as well. The types of projects can include renewable energy, industrial gas capture, energy efficiency, forestry initiatives (avoiding deforestation), clean water, regenerative agriculture, wind power, biogas, oil recycling, solar power, water filters, ocean cleanup, and many more. This along with the growing interest from consumers is responsible for the expected growth of the market. Boston Consulting Group projects the market to reach between $10 billion and $40 billion, while McKinsey projects $50 billion in 2030, and Morgan Stanley even estimates up to about $100 billion in 2030 and around $250 billion by 2050.[8] [9] [10]. As third-party verification entities improve and consumer demand continues to rise it will be exciting to see all the support for green projects and initiatives in the coming decade.

Conclusion

Carbon markets can be an exciting way to take action against climate change. We hope you learned something about these markets and how they can be a valuable tool for regulators to hold businesses accountable. If you are interested in learning more about how to get involved as an individual please go to Forevergreen's website and send us a message. Thank you for reading and have a great day!

What Are The Two Types of Carbon Markets?

Compliance (Mandatory) Carbon Markets

Voluntary Carbon Markets

Conclusion

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