NEWS

What is the role of carbon markets in fighting climate change?

May 2021

Regulated and voluntary markets as a way to encourage the decarbonization of the economy

NEWS

Carbon markets are one way to put a price on greenhouse gas emissions. Both regulated and voluntary markets have been at the center of discussions on the transition to a low carbon economy, given the increase in emission neutrality targets (net zero) by countries and companies. On May 24, Catavento’s senior partner, Bruna Mascotte, participated in the Youth Round of the Brazilian Petroleum and Gas Institute – IBP. The discussion revolved around the challenge of climate change and its impacts on the O&G sector, and Catavento’s contribution focused on the role of carbon markets. Below are some key takeaways. The full video of the event can be watched here.

Considering the urgency of the climate crisis, the pricing of emissions, which is the establishment of a price for the negative externality of greenhouse gas emissions, is identified by several entities as a key element to drive the transition. In a simplified form, this can be carried out through markets, either regulated or voluntary, or taxation [1].

Regulated markets are established by jurisdictions (countries, regions, states, or cities) that determine a ceiling on total emissions (cap) and the sectorial coverage of the market. After allocating emission allowances to each of the covered entities, they sell the spare allowances when they emit less than the allowable amount and buy them when they exceed their limit. Therefore, regulated markets are also called cap-and-trade. Companies may have an increase in their expenses due to greater restrictions on emissions permits, which lead to an increase in their price, as is already seen in Europe. Currently, 16% of global emissions are covered by cap-and-trade mechanisms, notably in Europe and China.

There are also voluntary markets, where companies trade offsets, carbon credits for emissions already reduced or absorbed. In 2019, the volume traded exceeded 100 MtCO2e, with a total value of US$ 320 million, an increase of 8% vs 2018. Renewable energy and forests accounted for more than 3/4 of the credits traded that year [2]. There is, however, a perennial challenge in this market regarding the proof of the additionality of such credits, that is, that the financed reduction/absorption of carbon would not have occurred if the credit had not been issued. Still, there are questions about the permanence over time and about the risks of leakage (e.g., the protection of a forest area generating deforestation in a neighboring non-protected area).

Several companies use or intend to use such credits to argue that they have carbon neutral products, or that they are already carbon neutral companies. This is because companies with emission neutrality targets have already totaled more than 1500 in 2020, a threefold increase compared to 2019 [3]. Calculations from Taskforce on Scaling Voluntary Carbon Markets point to a potential 15x increase in demand by 2030, and up to 100x by 2050 [4]. It is important to emphasize, however, that companies must include carbon markets only as part of the solution, prioritizing the effective reduction of emissions throughout their processes and value chain, and using neutralization credits (whether forestry or technological) for residual emissions, based on robust and transparent criteria.

Lastly, Brazil may have a great opportunity in this scenario, as companies with activities in the country adopt neutrality goals (e.g., Ipiranga, Vale, Braskem) and publicly position themselves in support of the establishment of a carbon market. Furthermore, the country can be a potential provider of credits, especially regarding solutions based on nature, containing of 20% of the tropical potential, notably for conservation and avoided deforestation (63%) [5]. To guarantee the use of such opportunities, however, it is essential to guarantee the credibility of Brazilian credits, both through fighting illegal deforestation and through engagement in the COP26 negotiations (Article 6), in line with best practices.

Sources:

[1] ICAP – “Emissions Trading Worldwide 2021”, 2021

[2] Ecosystem Marketplace – “Voluntary Carbon and the Post-Pandemic Recovery”, 2020

[3] IEA – “Net Zero by 2050 – A roadmap for the global energy sector”, 2021; UNEP – “Emissions Gap Report”, 2020; UN PRI – “Investor guide to negative emissions technologies and land use”, 2020

[4] Taskforce on Scaling Voluntary Carbon Markets – ”Final Report”, 2021

[5] ICS,CEBDS – “Oportunidades e barreiras de financiamento de soluções baseadas na natureza”, 2020

photo: Andrés Medina via unsplash

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