What are carbon markets, and why should you care? 

by Amelia Lee

As the climate crisis becomes more pressing, some have considered carbon markets the solution. While the concept isn’t new, there has been renewed interest recently. As carbon markets become more important in the emission reduction realm, everyone should have a good grasp of their inner workings.

This article will help you understand a few key terms within the carbon market landscape.

What are carbon markets and carbon credits?

Carbon markets are platforms on which carbon dioxide (CO2) and other greenhouse gas (GHG) emission reductions can be traded. Depending on the market, participants can range in scale, from an individual to a company to a whole country.

The currency on these platforms is carbon credits. One carbon credit is a certificate permitting the owner to emit one metric ton of CO2 or its equivalent in the potency of other GHGs. This unit is often abbreviated as tCO2e, and 1 million tons is 1MtCO2e.

Carbon credits can be sold, traded, and retired. When a carbon credit is withdrawn, it is taken out of the market and represents that 1 tCO2e has been removed from that purchaser’s carbon footprint.

Does the law regulate carbon markets?

Some do, and some don’t.

There are two types of carbon markets: compliance (regulatory) markets and voluntary markets.

Compliance carbon markets (CCMs) are regulated by international, national, or regional carbon reduction policies and laws. They are often called cap and trade schemes because they restrict the total carbon released (capping) and facilitate the exchange of these credits among participants (trading).

Under a CCM, carbon credits are often referred to as allowances. A set number of allowances are either auctioned off or allocated for free to participating organizations. These allowances can then be traded among participants and retired.

For example, a tech company is allocated 100,000 carbon credits for this year. By switching to energy-efficient lighting and appliances, the company emits 90,000 tCO2e. It retires 90,000 allowances to compensate for its emissions and sells the remaining 10,000 to another company that has emitted more than its allowance.

Over time, a system will reduce the number of total allowances. Theoretically, CCMs incentivize companies to reduce emissions most cost-effectively.

As of 2020, CCMs are valued at USD $100B.  The largest CCM is the EU Emissions Trading System (ETS).  Other examples of CCMs include the California Global Warming Solutions Act system and the Regional Greenhouse Gas Initiative (RGGI), which spans 11 states along the US East coast.

Voluntary carbon markets (VCMs) deal with the voluntary purchasing of carbon credits and are usually at a much smaller scale than CCMs.  VCMs were valued at USD$300M in 2020.

There has recently been more demand for sustainability from the consumer end; 85% of consumers globally have shifted to more sustainable purchasing in the past five years.  With this growing appeal for green practices, more companies have established emission reduction goals, and VCMs have grown and will continue to grow significantly.

Key VCM credit buyers are government, corporate, technology, energy, transportation, construction, finance, and insurance providers.  Some prominent companies buying VCM credits include General Motors (automotive manufacturer), Delta (airline), Alphabet (tech, Google’s parent company), PG&E (utility), and Shell (oil and gas).  Delta purchased 7.8 MtCO2e between 2017 and 2019, and Alphabet followed with roughly 3.5 MtCO2e.

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