Carbon credits is a concept that has been developed for international trading as part of a recognised permit scheme. In this scheme, greenhouse gas emissions have been given a monetary value. The owner of a single credit is allowed to emit one tonne of carbon dioxide into the atmosphere. Carbon credits are generated as the result of an additional Carbon Project (a business initiative that receives funding because of the cut in the emission of greenhouse gases that will result from it) the company has undertaken. It is also a scheme set up in order to involve developed as well as developing countries, in the hope to cut world-wide green house gas (GHGs) emissions.
All about carbon credits
In addition to the burning of fossil fuels, major industry sources of GHG emissions are cement, steel, textile, and fertilizer manufacturers. The main gases emitted by these industries are methane, nitrous oxide, hydroflurocarbons, etc, which increase the atmosphere's ability to trap infrared energy.
The concept of carbon credits came into existence as a result of increasing awareness of the need for pollution control. It was formalized in the Kyoto Protocol, an international agreement between 169 countries. Carbon credits are certificates awarded to countries that are successful in reducing emissions of GHGs.
For trading purposes, one credit is considered equivalent to one tonne of CO2 emissions. Such a credit can be sold in the international market at the prevailing market price. There ar at least four exchanges for carbon credits: the Chicago Climate Exchange, European Climate Exchange, NordPool, and PowerNext.
Under the Kyoto Protocol, developed countries must cut all greenhouse gas emissions by an average 5% below 1990 levels by 2012. Countries, in turn, set quotas on the emissions of businesses. Businesses that are over their quotas must buy carbon credits for their excess emissions, while businesses that are below their quotas can sell their remaining credits. By allowing credits to be bought and sold, a business for which reducing its emissions would be expensive or prohibitive can pay another business to make the reduction for it. This minimizes the quota's impact on the business, while still reaching the quota, i.e., reaching the objective to cut GHG emission in an attempt to slow down global warming.
Credits can be exchanged between businesses or bought and sold in international markets at the prevailing market price. There are currently two exchanges for carbon credits: the Chicago Climate Exchange and the European Climate Exchange.
Personal carbon trading
A related concept, personal carbon trading, is also gaining significance. This entails providing a set "carbon emissions allowance" to each individual, who can then trade carbon credits s/he amasses on a designated carbon market. It would also allow people to buy extra credits if they choose to do something that exceeds their allowed emissions limit, such as riding a plane.
In June 2008, a House of Commons committee has suggested that the U.K. Parliament create a personal carbon-trading scheme for all citizens of the United Kingdom. It is the strongest statement yet by any government in favor of an individual cap-and-trade system for buying and selling greenhouse gas emissions.
How are credits acquired?
The Kyoto Protocol provides for three mechanisms that enable developed countries with quantified emission limitation and reduction commitment to acquire greenhouse gas reduction credits. These mechanisms are --
- Joint Implementation (JI)
- Clean Development Mechanism (CDM)
- International Emission Trading (IET)
Recently, NordPool listed a contract to trade offsets generated by a CDM carbon project called Certified Emission Reductions (CERs).
Under JI, a developed country with relatively high costs of domestic greenhouse reduction would set up a project in another developed country where the cost of reducing green house gas emissions is relatively low. Under CDM, a developed country can take up a greenhouse gas reduction project activity in a developing country where the cost of greenhouse gas reduction project activities is usually much lower. The developed country would be given credits for meeting its emission reduction targets, while the developing country would receive the capital and clean technology to implement the project. According to May 2008 figures released by the World Bank, China (73 per cent) and India (6 per cent) have the maximum number of greenhouse gas reduction projects. Under IET, countries can trade in the international carbon credit market. Countries with surplus credits can sell them to countries with quantified emission limitation and reduction commitments under the Kyoto Protocol.
How buying carbon credits attempts to reduce emissions
Carbon credits create a market for reducing greenhouse emissions by giving a monetary value to the cost of polluting the air. This means that carbon becomes a cost of business and is seen like other inputs such as raw materials or labor.
By way of example, assume a factory produces 100,000 tonnes of greenhouse emissions in a year. The government then enacts a law that limits the maximum emissions a business can have. So the factory is given a quota of say 80,000 tonnes. The factory either reduces its emissions to 80,000 tonnes or is required to purchase carbon credits to offset the excess.
A business would buy the carbon credits on an open market from organizations that have been approved as being able to sell legitimate carbon credits. One seller might be a company that will plant so many trees for every carbon credit you buy from them. So, for this factory it might pollute a tonne, but is essentially now paying another group to go out and plant trees which will, say, draw a tonne of carbon dioxide from the atmosphere.
As emission levels are predicted to keep rising over time, it is envisioned that the number of companies wanting/needing to buy more credits will increase, which will push the market price up and encourage more groups to undertake environmentally friendly activities that create for them carbon credits to sell. Another model is that companies that use below their quota can sell their excess as 'carbon credits.' The possibilities are endless hence making it an open market.
Managing emissions is one of the fastest-growing segments in financial services in the City of London's financial district with a market now worth about $30 billion, but which could grow to $1 trillion within a decade. Louis Redshaw, a former trader at Enron and now head of environmental markets at Barclays Capital predicts that "Carbon will be the world's biggest commodity market, and it could become the world's biggest market overall."
Additionality and its importance
It is also important for any carbon credit (offset) to prove a concept called additionality. Additionality is a term used by Kyoto's Clean Development Mechanism to describe the fact that a carbon dioxide reduction project (carbon project) would not have occurred had it not been for concern for the mitigation of climate change. More succinctly, a project that has proven additionality is a beyond business as usual project.
It is generally agreed that voluntary carbon offset projects must also prove additionality in order to ensure the legitimacy of the environmental stewardship claims resulting from the retirement of the carbon credit (offset). According the World Resources Institute/World Business Council for Sustainable Development (WRI/WBCSD) : "GHG emission trading programs operate by capping the emissions of a fixed number of individual facilities or sources. Under these programs, tradable 'offset credits' are issued for project-based GHG reductions that occur at sources not covered by the program. Each offset credit allows facilities whose emissions are capped to emit more, in direct proportion to the GHG reductions represented by the credit. The idea is to achieve a zero net increase in GHG emissions, because each tonne of increased emissions is 'offset' by project-based GHG reductions. The difficulty is that many projects that reduce GHG emissions (relative to historical levels) would happen regardless of the existence of a GHG program and without any concern for climate change mitigation. If a project 'would have happened anyway,' then issuing offset credits for its GHG reductions will actually allow a positive net increase in GHG emissions, undermining the emissions target of the GHG program. Additionality is thus critical to the success and integrity of GHG programs that recognize project-based GHG reductions."
Individual carbon credits
Carbon credits are also used by individuals who intend to offset their Carbon Footprint. Each carbon credit is associated with a single tonne of carbon dioxide. These can be purchased from many agencies.
Agencies purchase fully certified carbon credits from forests. NGACs (National Greenhouse gas Abatement Certificates) are the most trusted and wide-spread certification. Also known as the New South Wales Greenhouse Abatement Certificate, it includes Kyoto Protocol measures but also goes beyond them. The certification process ensures the following:
- That each NGAC represents one ton of carbon dioxide stored for at least 100 years.
- That the trees have been planted since 1990.
- That the trees weren't planted on old growth forest cleared land (the land must have been clear prior to 1990).
- That should the tree from which your carbon credit came come to any harm within 100 years of your purchase, e.g. due to fire, disease, logging, etc., that carbon credit will be replaced immediately from another source.
Most forests’ carbon pool is audited annually to ensure that every carbon credit issued corresponds to the promised amount (mostly one ton) of carbon dioxide removed from the atmosphere for 100 years. The agency then permits the public to buy these credits and transfers ownership of the credit to the individual. With the received money the agency can purchase more credits in bulk, and in turn, more trees can be planted in the certified forests.
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- Virtual Water
- Sustainable Architecture
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- Herald Tribune Business, “Carbon Trading: Where Greed is Green”
- Carbon Planet
- National Geographic
- The Times