Question 1

What Are the 2 Types of Carbon Markets?

Accepted Answer

There are two kinds of carbon marketplace: the compliance market (also called the regulatory market) and the voluntary carbon market. A compliance market is one where market participants are required by legislation to keep their emissions within a certain mandated allowance. They purchase carbon credits to remain within this allowance. The compliance market almost exclusively applies to industries linked to high emissions, such as aviation. By placing a limit on the quantity of carbon emissions they can be responsible for, an airline is incentivised to do what they can to prevent carbon emissions in the first place. They then make up for unavoidable emissions through the purchase of carbon offsets. The voluntary market, on the other hand, is where buyers choose to purchase and sell carbon offsets through their own volition in order to compensate for emissions.  The voluntary market is open to all organisations and individuals. They choose to set their own net zero strategies based on self-reported carbon inventories, as a means of demonstrating their commitment to fighting climate change.

Question 2

How Does The Voluntary Market Spur Change in the Compliance Market?

Accepted Answer

The innovation associated with the voluntary market, as well its ability to drive up standards throughout both kinds of carbon market, are the most common arguments used to underline the voluntary market’s importance. Firstly, many organisations are currently not mandated to remain within a certain carbon allowance because the compliance market is currently restricted to high-emissions industries such as fossil fuel and heavy industry.  Secondly, there are certain types of emissions that an organisation does not currently have to report on. These unreported emissions are generally Scope 3 emissions — i.e., all of the emissions indirectly related to an organisation’s activities, such as those produced along supply chains. This is opposed to Scope 1 and 2 emissions, which are those emitted directly by an organisation through their business practices and those emitted as a result of the activities which support these business practices, such as heating an office space.  This is a good example of the voluntary market creating innovations that are used within the compliance market. The terms originated from the Greenhouse Gas Protocol in 2001, a nongovernmental body, and arose out of the need to highlight the different levels of emissions that organisations are responsible for. This makes carbon accounting much easier, which in turn drives transparency and creates a greater incentive to reduce emissions. So while compliance markets don’t currently mandate reporting on Scope 3 emissions, no voluntary scheme will be able to gain meaningful accreditation without doing so.

Question 3

Are Voluntary Carbon Markets Regulated — and by Whom?

Accepted Answer

The voluntary carbon market is, by definition, not regulated. However, precisely for this reason, there are multiple frameworks and auditing bodies that have emerged for assessing the quality of an offset. These frameworks in turn have an influence on compliance regulation.  The SBTi (Science Based Targets initiative) is the global green standard when it comes to measuring an organisation’s progress towards net zero and beyond. It helps businesses set clear, actionable, and effective carbon reduction strategies. Another civil society initiative, the Voluntary Carbon Markets Integrity Initiative (VCMI), develops guidance and aims to improve accessibility for purchasing high integrity offsets in consultation with organisations, businesses, NGOs, and indigenous groups. While these initiatives establish how offsets should fit into a decarbonisation strategy, there is also a need to define the principles which offsets must adhere to. This results in greater clarity around what constitutes a worthwhile offset and helps to push the market towards higher standards.  The Taskforce on Scaling Voluntary Carbon Markets (TSVCM), fronted by former Bank of England Governor Mark Carney, defines five core carbon principles: ‘additionality, permanence, exclusive claim, overestimation and the provision of additional co-benefits in line with the UN’s Sustainable Development Goals.’

Question 4

Do the Voluntary Carbon and the Compliance Markets Overlap?

Accepted Answer

The two markets play different roles as we have seen, but that is not to say they do not interact. For example, ‘pre-compliance buyers’ may speculatively purchase carbon offsets in the voluntary market in anticipation of what carbon allowance they will be allowed, on the basis that the voluntary market offers cheaper offsets than the compliance market. An airline may predict a change in regulation that will require it to offset more emissions than previously and so may purchase a ‘compliance grade’ voluntary offset in anticipation of this.  Offsets bought in one market can be traded on the other. For that reason especially, the need for the establishment of rigorous guidelines and cross-market criteria is essential.  This was a major bone of contention at COP26, the latest international climate summit, where a proposed solution was only ironed out in the very final hours. Since the Kyoto Protocol was set out in 1992, where initial proposals for capping nations’ emissions and carbon reporting were set, there has been an international market for trading carbon.  This led to the establishment of nationally determined contributions (NDCs), a maximum allowance for emissions set by all signatories to the Paris Agreement. Such restrictions are essential in the race to net zero. However, because they are set by countries themselves and because these agreements are nonbinding, legally speaking, there is a vital need to establish a high quality carbon market that incentivises genuine attempts at carbon reduction.

Question 5

What Is the Best Carbon Market?

Accepted Answer

There is a general belief that we need both kinds of markets due to the greater flexibility and dynamism of the voluntary market, which in turn can create innovation and improved standards in the compliance market. This is based on the notion that when left to their own devices, organisations will find the most efficient way to meet market demand. Of course, it’s not totally clear that innovation is dependent on deregulated markets. Instead, innovation could come through state investment and incentivisation through legally binding caps on all emissions, for example.  Certainly, as things stand, voluntary markets are an absolutely essential tool for organisations and individuals outside compliance markets to offset emissions and to encourage proactivity in organisations going above and beyond to offset their own emissions and more.

Question 6

What Is the Future for Voluntary Carbon Markets?

Accepted Answer

As in any section of the economy, as the market grows, the need for tighter regulation will increase. Some reports suggest the voluntary carbon market will scale up by as much as 100 times by 2050, making it a $100 billion market.  One aspect of regulation that will have to be introduced to ensure the effectiveness of the market is an international carbon price on the removal of a tonne of carbon dioxide (and other greenhouse gases). When the price of an offset is set purely by market demand, an offset may be sold at a price far cheaper than what the emitting organisation can earn by producing the corresponding amount of carbon.

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