Changeblock explains…
In order to understand what a Carbon Credit is, we first need to learn about what causes global warming in the first place. The gases that trap heat in the atmosphere are called greenhouse gases (GHGs). As a result of the accumulation of these emissions, the earth is warming toward dangerous levels. Therefore, to address this problem, under international agreements called the Kyoto Protocol and the Paris Agreement, specific emissions have become subject to emission reduction regulations. These emissions include:
- Carbon dioxide,
- Methane,
- Nitrous oxide,
- Hydrofluorocarbons,
- Perfluorocarbons, and
- Sulphur hexafluoride
One tool that nations can use to manage their GHG emissions is the trading of climate-related assets. Thus climate-related assets, sometimes called GHG-assets or carbon-assets, are tradable property rights that utilise market forces to internalise the environmental cost of its existence. These assets form a group of tradable instruments that have similar financial characteristics but represent a fundamentally independent asset class and respective marketplaces
The family of climate-related assets differs according to their regulatory characteristics. These differences include the dichotomy between assets that are defined by regulators, such as compliance allowances and credits used to comply with a regulatory obligation, or credits that are solely governed by the marketplace, namely voluntary credits.
Carbon allowances, another type of climate-related asset, arise when an authority sets an emissions cap and freely allocates or auctions-off allowances. The resulting allowances can then be traded within the pre-defined and regulated market, such as the EU allowance trading scheme, the UK allowance trading system, or the California trading system to offset (comply) with a firm’s emission control regulatory obligation. The allowance usually allows the buyer to emit one metric tonne of CO2 equivalent for one year.
A second market for climate-related assets is called the voluntary carbon credit trading system. Voluntary credit sellers work with voluntary registries to certify the good environmental attributes of their proposed GHG emission reduction credit. But, of course, even the voluntary carbon credits must meet certification standards of emission credit registries, and, in general, the more selective and restrictive is the certification standard, the more valuable the credit will be. Changeblock has explained here why the markets need a meta-registry
It is rare that a voluntary credit could ever replace an UN-blessed GHG credit. However, one should not think that voluntary registries are lax. This is because in the voluntary market, credit integrity is everything and industrial buyers try to avoid purchasing GHG credits that could be a subject of “green-washing” accusations from the environmental community.
Bearing in mind both present and future developments in climate science and associated markets, we acknowledge that other environmental assets may become tradable in an attempt to mitigate climate change, these may include, non-exhaustively:
- Plastics,
- Industrial chemicals, and
- Non-industrial chemicals.
