Compliance Carbon Markets Are the Secret Weapon Against Climate Change

Now, more than ever, your climate commitments are watched and noted by everyone from the workforce to investors to customers. As a result, your organization may be considering programs for its carbon reduction strategy or even full carbon neutrality. Yet the carbon market landscape is wide and varied, with its own vernacular to boot. Deciding where and when to jump in are daunting propositions, even for sustainability pros. Compounding the complexity is the fact that the compliance carbon markets (CCMs) and voluntary carbon markets (VCMs) are not equivalent entities. Each market offers different value propositions—the traditional VCM expansive options, accessibility, and a free market approach, and the CCM scale, accountability, verifiability, and reliability. It’s the characteristics of the latter that make compliance carbon markets the secret weapon against climate change.

Not all carbon markets are created equal 
It’s like if you have a choice between a $5 Canadian bill and a $5 US bill: while both bills have the same denomination, they hold different values in different contexts, and which you’ll choose depends on your circumstances.

This is how we think of the two main categories of carbon markets. Both VCMs and CCMs offer carbon reduction solutions, but in different ways (and with different levels of certainty and credibility). For an example of how this happens, check out this clip from John Oliver, or this one from later in the same program

Markets can be a powerful force for good when it comes to combating climate change. At Climate Vault, we turn to the CCMs to knock out carbon because of the credibility and guaranteed additionality of locking up carbon allowances. The elegance of CCMs is their simplicity: when you purchase one allowance, you prevent a regulated polluter from emitting one ton of CO2.

Compliance Carbon Markets 
CCMs are an integral component of cap-and-trade programs in locations that regulate the emissions from certain industries, such as energy production and oil & gas. Participants in those industries are legally compelled to purchase emission allowances that grant them the legal right to emit carbon dioxide and other greenhouse gasses. Steep financial penalties incentivize participants to remain within the limit of their purchased allowances. Governmental regulations cap the number of allowances available in a given year and generally reduce that number each year in an effort to reduce greenhouse gas emissions over time.

This cap serves as a catalyst for decarbonization, so that regulated participants either strive to avoid purchasing additional allowances or ultimately pay increased prices for securing them. While CCMs are intended for participants in regulated industries, other parties may also trade emission allowances. Companies that complete the requisite bureaucratic processes are able to buy and sell these allowances (like Climate Vault), however, individuals are largely gated from directly participating.

There are a dozen significant CCMs globally. These include markets created and overseen by:

• Regional Greenhouse Gas Initiative (RGGI) in the northeastern United States
• California Air Resources Board (CARB)
• EU Emissions Trading System (EU ETS)
• Canada Federal Output-Based Pricing System (OBPS)
• The linked yet independent Tokyo Cap-and-Trade (C&T) and Saitama Target-Setting Emissions Trading (TSET) programs

Non-regulated voluntary decarbonizers are drawn to emission allowances as a vehicle for reducing carbon emissions: they purchase allowances (directly from the CCMs or, more commonly, through a secondary market provider) in order to prevent those emissions from occurring. CCMs offer these voluntary decarbonizers a great deal of certainty. Governments generally mandate precise emissions accounting and monitoring systems for regulated participants. Reported data is publicly available, enhancing the transparency and accountability of the CCMs. Furthermore, many CCMs bake social benefits into their programs, creating economic and environmental benefits for their regional communities.

Voluntary Carbon Market 
The VCM supplies carbon credits for both organizations and individuals. It was designed with the goal of each credit representing the removal or prevention of one ton of carbon dioxide equivalents (CO2e), a unit of measurement that compares the global warming potential of any greenhouse gas to that of carbon dioxide.

The VCM is a decentralized entity. Developing countries generate most of the supply of carbon credits, while developed countries drive the greatest demand. These credits can be sold directly by project developers or governments, or through intermediaries who market them to end users.

VCM offerings primarily include:

• Offsets
• Renewable energy certificates (RECs)
• Carbon dioxide removal (CDR) projects

The VCM expanded in the late 2000s and through the 2010s to meet escalating demand for carbon offset solutions. Its growth has escalated since 2016, as the demand for carbon credits by private actors outside of regulated regimes continues to rise. Yet as the VCM has grown, quality issues with their offerings and questions of efficacy have increased as well.

The VCM suffers from a lack of standardization and opaque pricing. Even when the net carbon impact of the VCM program is smaller than the tonnage of carbon credits issued, these purchasers can still claim credit for the full amount of carbon credits. This disconnect between offsetting and real-world impact has led to many organizations receiving PR blowback, accusations of greenwashing, and even lawsuits for achieving less carbon impact than they report. Yet the VCM offering will likely remain a significant portion of the carbon reduction landscape, due to their ease of purchase and general availability. Organizations looking to make quantifiable, verified impact, however, may be better served by other solutions.

Verification matters 
Carbon programs aim to reduce or offset footprints in various ways, with varying levels of verifiability—proof that they accomplish the carbon impact they claim. That is, if they make any actual impact at all: a European Parliament report found that 85% of VCM offsets fail to reduce emissions. Of course, there are valid programs in the VCM. The onus falls on the participant, to learn how a program tracks and measures its offsets and to ask for verification of a program’s additionality. Verification is significantly more standardized when participating in the CCM. Emission allowances are serialized so they can only be used once, are fully auditable, and are definitively quantified.

Price does not always reflect value 
What is the cost of a ton of carbon? It depends: in the VCM, prices can vary from $10 to nearly $1200. Offsets in the VCM that cost more are generally more sound in their impact and long-term benefit to the environment, but this is not a perfect correlation. Factors other than cost-per-ton affect offset prices, such as broker percentages and registry fees.

Whatever the cost of offsetting a ton of carbon, the value of an offset factors in whether you actually get the tonnage you’re paying for—and what ripple effects it has. For instance, some offset projects actually harm the communities they set out to help. And depending on fees and commissions, much of your investment may never make it to a project developer.

Prices vary in the CCM, driven solely by market conditions (supply and demand) rather than commissions and fees. The price for a metric ton of carbon in the compliance market fluctuates less and is often more affordable than in the voluntary market. This affordability reflects the higher quality and reliability of the impacts achieved, ensuring that investments in the CCM lead to genuine environmental benefits rather than unsubstantiated claims.

One size does not fit all 
Considering the diverse landscape of carbon offsets and permits, each organization must determine its own best course for tackling its carbon footprint. But one thing is for certain: action is imperative, both for businesses and for the planet.

Top talent, customers, investors, other stakeholders: they all increasingly require environmental and social responsibility from companies. Staying competitive means showing a serious commitment to those responsibilities. Understanding the carbon markets helps you resolve the best course for your sustainability needs, according to your own specific circumstances.

The carbon landscape is complicated. Climate Vault's team of experts have compiled your comprehensive guide to carbon credits, offsets, and more in the new Carbon Landscape eBook. Download your copy today for detailed insight into carbon markets, emission allowances, carbon offsets, RECs, and CDR, as well as reporting frameworks and standards.