How would a carbon market function?

The recently held Conference of Parties (COP- 29) of UNFCCC in Baku approved standards for establishing an international carbon market.

What is a Carbon Market?

• A carbon market allows entities to buy and sell the right to emit carbon into the atmosphere.
• Origin: Carbon credits were first used in the 1990s in the U.S., which introduced the cap-and-trade model to control the emission of sulphur dioxide.
• Mechanism:
  • Carbon credits: Certificates allowing the emission of a fixed amount of carbon (1 credit = 1,000 kg of CO₂).
  • By limiting the number of carbon credits that are issued, governments can control how much carbon is released into the environment.
  • Entities without carbon credits are not allowed to emit carbon.
• Trading:
  • Surplus credits can be sold by entities that don’t need them, at market-determined prices based on supply and demand.
  • Carbon offsets: Purchased by polluters from entities (e.g., NGOs) promising to offset emissions through activities like tree planting.

Mechanism of Carbon Markets

1. Carbon Credits:
   • A carbon credit represents the right to emit 1,000 kg (1 metric ton) of CO₂ or an equivalent amount of other greenhouse gases.
   • Governments or regulatory bodies allocate a specific number of carbon credits to entities such as businesses, industries, or countries, effectively setting a cap on the amount of CO₂ they can emit.
   • If an entity emits less than its allocated carbon credits, it can sell the surplus credits to others. If it exceeds its allowance, it must purchase additional credits to cover the excess emissions.
2. Cap-and-Trade:
   • Under this system, a cap is set on the total amount of emissions allowed. The cap is usually reduced over time to encourage a decrease in emissions.
   • Entities are allocated a certain number of carbon credits, and those that can reduce their emissions below their allocation can sell their unused credits to those who need more.
   • This system creates a financial incentive for companies to innovate and reduce their carbon emissions to avoid the costs of purchasing additional credits.
3. Carbon Offsets:
   • In addition to carbon credits, carbon offsets are another mechanism that allows polluters to compensate for their emissions.
   • Offsets can be purchased from projects that reduce or capture emissions, such as reforestation, renewable energy projects, or methane capture initiatives.
   • These activities act as a form of environmental mitigation, offsetting the polluter’s emissions by reducing an equivalent amount elsewhere.
4. Trading:
   • The carbon market functions on the principles of supply and demand. The price of carbon credits fluctuates based on the number of available credits and the demand for them.
   • Entities that do not need their full allocation of credits can sell them at a price determined by market forces. Those with higher emissions than their credits allow can buy the required credits from others.
   • The trade of carbon credits helps create a more cost-effective solution for reducing emissions. Businesses can either reduce their own emissions or pay for the right to emit more, depending on what is economically feasible for them.

Key Features of a Carbon Market

• Flexibility: Carbon markets provide flexibility in how to meet emission reduction targets, allowing entities to choose the most cost-effective method.
• Global Participation: In international carbon markets, such as those that will be established through the UNFCCC COP-29 agreements, countries can trade carbon credits across borders. This encourages global collaboration in the fight against climate change.
• Transparency: The carbon market requires robust monitoring, reporting, and verification (MRV) processes to ensure that the emission reductions or offsets are real and measurable.
• Market-Driven: The system relies on market forces to drive reductions in carbon emissions. As the cost of carbon rises, companies are incentivized to innovate and invest in cleaner technologies.

Role of COP-29 and the International Carbon Market

The Conference of the Parties (COP-29) of the UNFCCC, held in Baku, marked an important milestone in the establishment of international carbon markets. COP-29 approved standards for the creation and regulation of a global carbon market that aims to:

• Facilitate cross-border trading of carbon credits.
• Ensure that carbon credits represent genuine emissions reductions.
• Create a framework for the development of a transparent, equitable, and effective carbon market system.
• Encourage global cooperation by making carbon trading accessible to developing countries and promoting sustainable development goals.

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