Carbon Credits: Are we missing the forest for the trees?

Climate change and decarbonisation have risen to the forefront of the agenda for countries, corporations, and consumers around the world. While the promise of climate change and the much-touted net zero claims should predominantly stem from a credible transition plan targeting emission reductions, it is the proliferation of voluntary carbon credits that have come under the spotlight as an easy quick fix. Recent controversies however underpin the challenges faced by the unregulated voluntary carbon credit market and the risk that in some instances these credits might actually do more damage than good to the climate, laying corporates across the world with a charge of greenwashing.

The proposition of nature-based carbon credits is straightforward enough: funding from emissions-intensive businesses in developed nations to green projects typically in developing countries, where large swathes of forest hold the potential of absorbing carbon emissions. The foundation of any carbon credit that intends to impact climate change rests on some basic concepts of additionality and permanence. Additionality requires that the project from which credits are issued would not exist but for the funding received in exchange for the credits; while the requirement of permanence guards against any possible reversal of the project’s climate impact after credits are issued. Any deviation from either concept runs the risk of making a charade of climate change, creating a multi-billion dollar industry obsessed with paper credits and hollow pledges.

Problems with the carbon credit market

The voluntary carbon market has long been beset with problems surrounding integrity, credibility and transparency. A recent investigatory article by The Guardian has indicated that more than 90% of the credits generated by forestation projects and accredited by leading standards body Verra had no benefit to the climate. The problem is perhaps best examined from the recent exposé of South Pole, the world’s biggest carbon trader. Dutch publisher Follow The Money (“FTM”) has accused South Pole of seriously overestimating the amount of avoided carbon emissions with its forest conservation project in Kariba, Zimbabwe.

By overstating the threats to forests, South Pole’s baseline inflation escaped the review of multiple certification agencies including Verra. According to FTM, Verra’s guidelines did not require the verification of actual deforestation in the years after the project’s inception but simply whether calculations were done based on the initial model submitted at the start. As a result, the calculation model and its inherent assumptions were left untested for 10 years. The report damningly concludes that the Kariba project was ultimately climate-negative (resulting in more emissions released than retained).

Both South Pole and Verra have refuted the allegations, challenging the research methodologies used and attributing the claims to sensationalist journalism, but have nonetheless undertaken to review their processes. The case highlights the inherent difficulty with the methodology for deforestation projects: by using favourable comparators e.g., selecting an area at higher risk of deforestation, there is a danger of creating a skewed analysis for a project based on a discretionary sample size. Without constant verification, there is a danger that credits are issued based on a baseline that subsequently proves to be inaccurate. These incidents suggest that the system is indeed in need of fixing with the ultimate focus on the accountability of the gatekeeper of carbon credits.

Given these concerns, the Integrity Council for Voluntary Carbon Markets (“ICVCM”), an independent governance body for the voluntary carbon market, has sought to introduce new measures aimed at shoring up confidence in the market although it continues to jostle with existing verification bodies like Verra and Gold Standard to set the standards for the carbon markets. In March this year, the ICVCM issued its Core Carbon Principles (“CCPs”), Assessment Framework, and Assessment Procedure, in a bid to lay down the definitive standard as to what constitutes a high quality carbon credit. However, the much-anticipated ICVCM framework appears little more than a restatement of the current processes. Beyond the 10 broad motherhood principles outlined in the CCPs (not dissimilar to those already considered by standards bodies), the ICVCM does not stipulate what is the right test to apply, or what the specific elements of that test should be and as such raises the question as to whether the new framework would have averted debacles like the Kariba project. The potential of the ICVCM therefore appears more to be in its role of a quasi-government regulator that would conduct samplings and audits of projects that it lends its accreditation to, although the sustainability and effectiveness of such measures are yet to be seen.

The quest for credibility and transparency

The road to redemption for the carbon markets continues to be a challenging one although significant progress has been made on other aspects to restore confidence in a system deemed broken by some detractors.

The launch of the Climate Action Data Trust in December 2022 promises to eradicate the pernicious issue of double-counting. An open-source, decentralised solution built on blockchain that can link, aggregate and harmonise all major carbon market registry data, it holds the potential towards increasing transparency across fragmented registries and eliminating the risk of multiple use of the same credit.

The increased establishment of various exchanges which list and connect projects directly with end buyers has also promoted accessibility and transparency in pricing. Due to the historical lack of accessibility to carbon credit projects, the market has been rife with brokers who act as intermediaries to buy credits on a customer’s behalf. Capitalising on the information asymmetry, there was low price discovery, and many of these brokers sold credits to their customers at a significant mark up. Pricing per ton does not always ensure the best credits are being bought, distorting a company’s assessment of the impact it is truly making to climate change by purchasing carbon credits. Accessibility issues meant that brokers held registry accounts on their customer’s behalf, which obfuscated the identity of who is utilising the carbon offset, and exacerbated the problem of double-counting. The proliferation of exchanges with competitive and transparent price listing will by and large reduce such unscrupulous activities of some brokers. 

The ICVCM’s recent initiative is likely to serve as an important reference point for countries to regulate the use of high-quality carbon credits. Short of legislative backing however, the ICVCM’s impact could only be as valuable as the uptake in the market. Until such time, issuers and users of voluntary carbon credits alike, should continually seek to satisfy themselves that their credits are indeed making a positive contribution to climate change.

* This article was first published in The Jakarta Post on 19 May 2023.

Insights

Oil Storage: Considerations for Financiers & Traders
Asset Recovery in Commodities: Know your Tools
International Trade: The Anti-Money Laundering Achilles’ Heel