A Brief History of Carbon Markets

We are a carbon-based life form. In fact, Carbon is the primary element in all life forms on Earth, not just us humans. Ergo, anything that any living organism does, including something as basic as breathing, results in Carbon Emissions. In order to maintain balance, the Creator or the serendipitous evolution of life on Earth (depending on what you want to believe in), also ensured the presence of plants (including algae and cyanobacteria) that convert the main carbon emission gas, i.e. carbon dioxide (CO2), into Oxygen – the life gas for all living organisms. Everything happening and co-existing in perfect harmony. This sustainable harmony is also a primary goal of product engineering services as well, to create processes that have minimal impact on the environment.

Coming back to Carbon Marketplaces and how they came into being, we go back, not to the Kyoto Protocol in 1997 (which is when carbon trading started formally), but to the United States of early 1980s, when the effects of Acid Rain gained majorly threatening proportions. Several measures were taken. For example, the use of fuels that did not produce Sulphur dioxide (or at least not a lot of it) – wherein instead of burning coal (the biggest culprit), other refined fuels like Natural Gas were used. Innovations and streamlining of production processes to avoid waste and treat wastes and emissions were also employed. And the other major and novel measure introduced was that of “cap-and-trade” model of capping Sulphur dioxide emissions from factories on an annual basis and the carrot-and-stick policy of trading Sulphur dioxide “permits” between companies that produced more than the cap and companies that produced less than the cap. And thus, started the model of commoditizing emissions and trading them.

By the 1990s, levels of Carbon emissions had started ringing alarm bells across the globe – thanks to a formal testimony by a leading NASA scientist, James Hansen, in 1988. It is worth noting that concerns around Carbon emissions and human-caused climate change were raised much earlier as well, and that too by multiple people, studies and on numerous occasions (which too can be a blog post in its own right), but were not given as much attention. The United Nations Framework Convention on Climate Change (UNFCCC) draft in 1992 in Rio kick-started the formal response to climate change, specifically carbon emissions. But it was only, after seeing the massive positive impacts of the cap-and-trade model in the US to tackle the acid rain problem, the UN’s Kyoto Protocol on climate change formally considered Carbon as a commodity and thus, Carbon trading officially started in 1997. Of course, there were other goals and actions identified too, but we are focusing only on Carbon Marketplaces and Trading in this post.

The whole idea was to set a cap on the amount of CO2 (and other Carbon Greenhouse gases like CO, Methane etc.) that an industry can emit. This cap was then split into permits and given or sold to companies that were part of that industry. And as part of the carrot-and-stick mechanism, companies with more carbon emissions than the cap can pay companies that managed their emissions to be less than the cap to offset their extra emissions. Of course, the carrot for companies was to reduce and contain their emissions so that they not only are recognized as responsible companies (good marketing and branding too) but also earn money for their efforts and innovations.

Each year, the cap was supposed to get stricter, resulting in fewer resulting permits becoming more and more expensive, thus incentivizing companies to reduce their emissions or pay even more to offset their extra emissions.

In theory, this was perfect and should have worked the way acid rains were controlled in the 1980s US. However, the results were not so encouraging for Carbon emissions.

There are multiple reasons (and interesting ones, too), which is the subject of another separate blog post – like:

  • only a handful of countries are actually doing something (across the 2 phases of the protocol – i.e. from 2008 – 2012 and 2013 – 2020)
  • innovations in green energy were not immediate (at that time)
  • climate change was not a priority, and
  • the incentives (or the penalties) were not big enough

But what did happen was that a formal foundation of Market-Based Instruments (MBIs) was laid down for controlling & reducing emissions. The Clean Development Mechanism (CDM) Methodology was one such instrument, which allowed countries with higher (than the cap) emissions to implement or fund green projects in the developing world, thus earning credits to offset their emissions.

Similarly, another instrument was International Emissions Trading (IET), wherein the countries participating in the Kyoto Protocol could trade credits amongst themselves wherein the country exceeding the cap could buy credits from countries that met and beat their emission targets. Unlike CDM, this is purely a financial transaction and no real-world projects that would actually help the environment.

Finally, the third and final instrument was the Joint Implementation (JI), which was similar to CDM, with the difference that the green projects were funded between developed countries (and not in a developing country).

So while it is generally felt that the Kyoto Protocol didn’t meet its goals, it was a giant step in the right direction, paving the way for the Paris Agreement of 2015. In this agreement, there are commitments from all countries (developed and developing – with few exceptions) to reduce greenhouse gas emissions and attain “net-zero” by 2050 – either by reducing emissions or by offsetting by trading in carbon credits.

Thus, we see formal and effective implementations of Carbon Marketplaces (or Carbon Markets) now. There are two types of carbon markets:

  1. The Compliance Market
  2. The Voluntary Market

The Compliance Carbon Markets – are where countries/states/cities trade carbon credits as part of their commitments to the Paris Agreement. The European Union Emissions Trading System (EU ETS), Western Climate Initiative (WCI), and Regional Greenhouse Gas Initiative (RGGI) are some examples of Compliance Carbon Markets.

The Voluntary Carbon Markets – are where private companies and other entities trade credits to offset their carbon footprints as part of their CSR, Branding and marketing initiatives.

So while the history is fascinating, the cause is a noble one; one may ask – what is so special about this? Well, it is all about the money eventually. The global carbon credit market is set to become a multi-billion dollar market. The traded value in 2020 was USD 473 Million, and almost USD 800 Million in 2021.

While we hope that product engineering services offset the damage, with Blockchain-based carbon credit tokens now coming into the picture so that people like you and me can also invest and make money in these carbon credit markets, only time will tell as to how much money is made in these markets and how much of this benefit is felt in our environment, i.e. the Plan A, Planet Earth.

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