There are two types of carbon markets, compliance and voluntary, each of which have unique factors that affect the price assigned to a ton of carbon.
Global Carbon Budget - The Clock is Ticking
The Carbon Clock shows how much CO2 can be released into the atmosphere to limit global warming to a maximum of 1.5°C and 2°C, respectively. With just one click, you can compare the estimates for both temperature targets and see how much time is left in each scenario.
The carbon clock from the Mercator Research Institute draws on data from the Intergovernmental Panel on Climate Change (IPCC), which represents the verified state of research. The IPCC last updated its estimate of the remaining carbon budget in summer 2021, with the presentation of the first part of its Sixth Assessment Report.
According to report, on the 1.5 degree Celsius target, the atmosphere can absorb, calculated from the beginning of 2020, no more than 400 gigatonnes (Gt) of CO2 if we are to stay below the 1.5°C threshold. Annual emissions of CO2 – from burning fossil fuels, industrial processes and land-use change – are estimated to be 42.2 Gt per year, the equivalent of 1,337 tonnes per second. With emissions at a constant level, the budget would be expected to be used up in less than eight years from now. The budget for staying below the 2°C threshold, for its part, of 1,150 Gt, would be exhausted in about 25 years.
The budgets are calculated in such a way that it is highly likely that the respective temperature target will be met, that is in two thirds of the climate scenarios examined.
Making Carbon Markets Work for Faster Climate Action
The global carbon markets are possibly one of the most effective mechanisms available to encourage decarbonization of all kinds. Put simply, these markets put a price on carbon to incentivize businesses to reduce their carbon emissions where it is most financially feasible, and act now to manage the negative effects they can't eliminate. One tool used within the market are “offsets,” which allow emitters to balance their excess carbon emissions by purchasing credits from sellers who have a surplus carbon budget—either because they’ve avoided emissions or undertaken some additional activities that reduce or sequester emissions. But despite their ability to unlock billions of dollars annually for climate action, these markets are not currently scaling up quickly enough.
Carbon offsets in context: what they’re NOT
It is critical to note that offsetting emissions through carbon credits is not a substitute, but a supplement to the vigorous decarbonization actions that will get us to net-zero emissions as soon as possible. In other words, they are a near to medium-term solution for difficult-to-achieve reductions on the way to a future where emissions are balanced by carbon sequestration - one we must achieve by 2050 at the very latest.
Realistically, it will take time to drive the technological breakthroughs, improved management, and financial transformation required for delivering longer-term change, and offsets can prevent the emissions gap increasing in the meantime. In fact, if implemented correctly, carbon markets could both speed up our ability to address climate change, and offer additional benefits to nature and people - especially in the Global South, where much of the potential for credit generation exists.
Voluntary and compliance: Making the most of the markets
At present, there are two types of markets that can help accelerate climate action - voluntary and compliance markets.
The voluntary carbon market has seen rapid growth in recent years, driven in part by the growing chorus of net-zero commitments made by companies around the world. A recent survey by the Taskforce on Scaling Voluntary Carbon Markets (TSVCM) - an initiative led by the Institute of International Finance - estimated that the voluntary market has an opportunity to grow 15-fold in order to fund up to 1 gigaton of additional emissions reductions per year by 2030 and up to 100-fold to
achieve net zero by 2050 .
GROWTH FORECAST OF VOLUNTARY CARBON MARKETS TO 2030
The depicted projection assumes NCS market share remains at 2020 levels through 2030.
NCS data: WEF, ‘Consultation: Net and Net Zero;’ Overall market growth: IIF, ‘Taskforce on Scaling Voluntary Carbon Markets
However, without demand, the market doesn’t exist. And while companies across sectors and geographies are beginning to align their sustainability targets with the Paris goals, they are still insufficient in scale and too new for us to have certainty that this burgeoning market will see a boom. That said, improving governance to ensure the integrity of these credits and demystifying the transaction process, a key objective of the TSVCM taskforce, could certainly create favorable conditions for growth.
In addition to the voluntary carbon market, we have the compliance, or regulated, markets. These markets can send clear and predictable signals to participants, because they are established through legal frameworks that can mandate action over a set period of time. In addition, as they are established by governments, they could deliver an even greater level of scale than voluntary corporate commitments.
At the global level there are two such market mechanisms on the horizon. The first is the Carbon Offsetting and Reduction Scheme for International Aviation (CORSIA), one tool developed to meet the aviation sector’s commitment to carbon-neutral growth post-2020. While more ambitious goals are needed to bring aviation in line with the Paris Agreement, it is an important first step for the sector and could produce an estimated demand of around 1/3 Gt carbon credits per year by 2030, including from some types of nature-based solutions.
Stepping down from the global level, there has also been a rise in domestic regulated carbon markets such as those in the EU, South Africa, China, Colombia, and the U.S. state of California. These domestic markets have the potential to drive scale and increase predictability, which is essential to creating more efficient and effective markets that attract the private sector investment needed to decarbonize our economies in line with the goals of the Paris Agreement.
GEOGRAPHIC DISTRIBUTION OF COMPLIANCE MARKETS NOW AND IN THE FUTURE
Source: Emissions Trading Worldwide, 'The state of play of cap-and-trade in 2021,' International Carbon Action Partnership (ICAP) Status Report 2021.
While the design of all of these markets are continually being improved as regulators and legislators learn and adapt, some of the more mature markets are now showing signs of sending meaningful price signals into the economy - for example the EU emissions trading scheme, currently the world’s largest, has had a market price of over €80 per ton of carbon equivalent (tCOe) as of year-end 2021.
Carbon markets are a market driven strategy that can help us achieve the goal of mitigating climate change. We are already two years into a critical decade for climate and biodiversity action - the action we take now will determine if it’s the decade in which we successfully fund the end of the carbon-based economy.
Source: The Nature Conservancy