What is Trade Carbon Credit?

Using the emissions trading approach, companies, individuals and governments can participate in a voluntary carbon market by buying or selling carbon credits, or offsets. These are credits resulting from projects that remove greenhouse gases from the atmosphere. Unlike carbon dioxide, which is priced in Euros per tonne, offsets are priced according to the global warming potential of the carbon they are used to offset.

One carbon credit is equal to one tonne of carbon dioxide. A credit is generated by a project that removes carbon dioxide from the atmosphere. In turn, the credit is distributed amongst participants in proportion to the amount of carbon dioxide they have reduced in the past. Credits are issued in a variety of forms, including paper certificates, digital or a combination of paper and electronic accounts. Using the carbon credit model, companies can either buy or sell credits directly, or they can take part in an auction for carbon credits.

The core of any trade carbon credits market is its allocation of greenhouse gas emissions among regulated sources. These allocations are achieved through national registries. These registries have to be approved by the United Nations Framework Convention on Climate Change (UNFCCC). The resulting carbon credits are then validated by qualified third parties. This process requires long lead times.

Other key elements of the carbon market are the supply and demand of carbon credits. This is facilitated by the presence of futures exchanges, which allow for spot delivery and longer dated deliveries. The exchange also provides an options market, which enables companies to buy or sell allowances at prevailing market rates. The carbon credit market is expected to grow in the future. Companies, governments, individuals and investors have the option of participating in a voluntary carbon market.

There are various types of carbon projects, which range from a country’s national scheme to one created by a private operator. Each project is unique, and comes with its own set of risks. For example, one seller might offer to offset emissions through a project in the developing world. Another might offer to offset a factory’s emissions through a renewable energy project.

There are two main types of carbon credits: allowances and offsets. Allowances are legal permits that can be traded internationally. They are equivalent to one metric ton of CO2 emissions. They are held electronically in’registry’ accounts that are managed by a compliance system regulator. They are usually auctioned to companies in the sector. In many schemes, allowances are awarded free of charge. Other schemes allow companies to buy or sell excess permits for cash.

Using the market mechanism, companies can reduce emissions by reducing their own activities, by purchasing credits or by partnering with companies that have reduced their emissions. For example, a factory with 100,000 tonnes of greenhouse gas emissions may decide to buy carbon credits.

The key challenge is to develop a market for carbon dioxide, which is a finite resource. The market will have to promote scarcity in order to boost the price of carbon credits. The resulting market price will encourage more companies and individuals to engage in environmentally friendly activities.