Why is it so difficult to put a price on carbon?

men the last decade, the phrase “putting a price on carbon” has gained traction around the world. And carbon pricing has been hailed by scientists, economists, and business leaders as one of the most cost-effective tools for decarbonizing economies. But the exact price, usually expressed in value terms (for example, dollars or other local currency) per metric ton of carbon dioxide equivalent, varies by jurisdiction, prevailing policies, and pricing instrument. In other words, this is not a one-size-fits-all price situation.

Governments choose their preferred instrument based on their unique needs, but each pricing instrument has its advantages. The two most common examples of direct carbon prices are carbon taxes and emissions trading systems (ETSs), which cap the amount of greenhouse gas emissions allowed per jurisdiction and allow market forces to determine the price. In these cases, the polluter pays proportionally for the emissions produced, and these tools are used to encourage the reduction of emissions.

The third main instrument is an accreditation mechanism, which awards “credits” to eligible projects that demonstrate real and permanent greenhouse gas reductions. These credits can be purchased to offset emissions. Unlike a carbon tax or ETS, carbon credits require an external source of demand to set the value. But carbon crediting has an advantage in situations where barriers (for example, legal hurdles or political resistance) prevent a carbon tax or ETS from being implemented.

By incorporating the costs of climate change into economic decision-making, carbon pricing can help support changes in production, consumption and investment patterns, says Joseph Pryor, a senior climate change specialist at the World Bank. This strategy reinforces low-carbon growth, making it more expensive to pollute and more rewarding to reduce pollution, which is critical to reaching the goal of net-zero emissions by 2050 in order to achieve the Paris Agreement goal of limit global warming to “good”. below” 2 degrees Celsius above pre-industrial levels.

paying the price

As of October 2022, there are 68 direct carbon pricing initiatives in place in 46 national jurisdictions around the world. The World Bank dashboard highlights jurisdictions with current or pending carbon taxes or HTA initiatives, including Argentina, China and the European Union. The US currently does not have a national carbon tax, despite being one of the world’s largest emitters of CO2. But several states, including California, Oregon and Massachusetts, have launched their own carbon pricing schemes in the last decade.

There is also the indirect price of carbon, which means that changes in the price of carbon come from sources that are not directly proportional to emissions. The two most common examples would be fuel taxes and the removal of fossil fuel subsidies, which lower the cost of producing coal, oil or gas, or reduce fuel prices for the end user. Removing fossil fuel subsidies would reduce global greenhouse gas emissions by 6.4% to 8.2% by 2050, according to the International Institute for Sustainable Development. On its own, this is not enough to achieve the goals of the Paris Agreement, but fuel subsidy reform represents another tool in the climate action arsenal.

All that said, putting a price on carbon is tricky. Arguments against carbon pricing include the potential negative impact on carbon-intensive industries and how it frames climate change as a market failure rather than a fundamental system problem. Other critics call for a regressive carbon tax because rising prices in high-income countries hurt the poorest people in those countries relatively more than the richest. (Recent research suggests it’s not that simple.)

Where does the credit expire?

Unlike a carbon tax or ETS, credit mechanisms do not adopt a “polluter pays” principle. A carbon credit is a tradable unit, typically representing one metric ton of carbon dioxide equivalent. Instead of assigning a cost to emissions, carbon crediting rewards emission reductions or removals. The price of the credit varies according to the characteristics of the project from which the credit comes. What type of project is it? Renewable energy? Nature based? Where is it located? In what year was the project launched?

According to Mark Carney, UN Special Envoy on Climate Action and Finance, carbon credits play a complementary role to direct and indirect carbon pricing in reaching net zero. The offsets can potentially generate more than $100 billion a year, he says, flowing into developing economies for reforestation, renewable energy and other low-carbon projects. Most of the carbon credits generated in this way are traded on voluntary carbon markets, as opposed to compliance markets, where the government has more input through carbon taxes and emissions trading schemes.

At this time, the market for carbon credits is large and diverse, driven by the needs of buyers. Critics of voluntary market carbon credits point to the fact that the market is unregulated and opaque. A number of initiatives have emerged to promote integrity in these markets, including the Integrity Council for the Voluntary Carbon Market, the Voluntary Carbon Market Initiative, and the Carbon Credit Quality Initiative. Integrity is important because project developers’ registration documents can be five years old, by which time forests can be burned or cut down. In addition, most carbon registries are currently based on local manual measurements, which can lead to errors, so carbon buyers may not know the most accurate and up-to-date status of a project, says Tom Duncan, CEO of Earthbanc, the first in the world continuously. audited carbon and finance platform.

Duncan’s Stockholm-based startup, founded in 2019 and backed by the European Space Agency, aims to solve the inaccuracy problem by leveraging machine learning and satellite remote sensing. AI-powered technology allows Earthbanc to audit projects (mainly land restoration), and the company gives each project a rating, publishing that data each year. Projects that pass Earthbanc’s audit, achieving better results than their claims, get an A rating. About 20% of Earthbanc audits have an F rating, Duncan says, adding that carbon buyers won’t be shown these flawed projects. Carbon buyers rely on these audits to avoid credits with climate claims that may be inaccurate, not credible or out of date.

“They want to know: Are the trees still there?” says Duncan. “Have the trees been cut or burned? Is the land flooded? Our satellite imagery with remote sensing and machine learning auditing tells us exactly how much carbon is in the landscape, and we can compare it to carbon credit claims.”

This year, Earthbanc partnered with the United Nations Convention to Combat Desertification to launch carbon forward purchase agreements to finance carbon credits, traded as sustainable land bonds. Earthbanc works with carbon project developers, NGOs, and farmers to pre-sell a portion of their projects to help finance them up front. This would not only pay farmers to plant and protect trees, Duncan says, but also support affected communities through future carbon revenue streams.

“This is part of climate justice,” says Duncan. “As carbon prices rise, the people most vulnerable to climate change deserve that compensation that allows them to adapt to a changing climate and ensure they are food and water secure.”

Purchasing power

Historically, most information about sustainable projects was kept hidden in a document, inaccessible except through an intermediary. But with Web3, a new iteration of the internet that incorporates concepts like decentralized applications and blockchain technology, entrepreneurs like Duncan are looking to bring green projects out of their outdated silos and into the digital light.

This is the mission of the core team behind the Klima DAO (decentralized autonomous organization), which created the KLIMA token in 2021 to drive climate action by driving demand for carbon credits. Built on top of the Polygon network by a pseudonymous team, Klima DAO cannot exactly control prices because carbon is in flexible supply. Each KLIMA token is backed by at least 1 metric ton of carbon.

The idea is that by removing brokers, anyone can now have purchasing power and direct access to project developers through the liquidity, transparency, and reduced fragmentation of blockchain technology. Boosting demand in this way can, in theory, drive up prices for carbon credits, and higher prices may incentivize corporations to find other ways to mitigate emissions rather than offset them.

“When you spend time in the carbon market, you realize it’s not dominated by one green guy, it’s a business,” says the Klima DAO co-founder, who goes by 0xymoron. “There is a lot of money to be made from the carbon market, but it has been relatively inefficient in achieving its goals of closing the emissions gap.”

Most in the industry would agree that carbon credits should not be used as a “get out of jail free card,” says 0xymoron, highlighting a well-established order of operations that should dictate decarbonization strategies: Don’t 1. avoid the emissions; two, reduce emissions; and three, offset unavoidable emissions. “Similar to the idea of ​​’reduce, reuse, recycle’ to reduce the impact of waste,” says 0xymoron.

This article is part of a series on key issues in the climate crisis for time.com and CO2.com, a division of TIME that helps businesses reduce their impact on the planet. For more information visit co2.com

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