Markets

The most developed and well known carbon market arose through the EU Emissions Trading Scheme (EU ETS), one of the mechanisms established in response to the Kyoto Protocol to combat climate change.  Transactions through the EU ETS market were equivalent to 2,061 MtCO₂ equivalent or US$ 50,097 million in 2007.  The voluntary carbon market is much less developed, but activity in this market is growing rapidly with 65 MtCO₂ equivalent or US$ 330.8 million traded in 2007 (a 165% increase from 2006)¹.

Launched in 2005, the EU ETS is the world’s largest cap-and-trade scheme.  Emissions trading aims to ensure emissions reductions take place where the cost of the reduction is lowest.  Emissions are capped at a certain level which cannot be exceeded.  Participants are allocated allowances, each allowance representing a tonne of carbon dioxide equivalent (CO₂e).  Participants can then buy or sell allowances amongst each other – allowing flexibility to meet reduction targets.  The result is the establishment of a ‘carbon market’ and a price for carbon that reflects the most cost-effective ways of reducing emissions.  Carbon markets therefore seek to internalize the environmental costs of GHG emissions.

Companies participating in the EU ETS can also fulfil their obligations through investments outside of the EU, through the Kyoto Protocol’s flexible mechanisms, joint implementation (JI) or the clean development mechanism (CDM).  Under these mechanisms, eligible projects can generate ‘emission credits’ that can be used by the investing party towards their emissions reductions targets.  There are quite stringent monitoring, reporting and verification procedures associated with these markets and is often referred to as the regulated market.

The less known and less developed voluntary carbon market is not regulated.  The drivers for organisations and individuals to get involved in the voluntary markets are as varied as the participants themselves, but often include:

• preparing for likely future emissions regulation;
• responding to greater investor and customer scrutiny of environmental policies; and
• recognising reputational risk in ignoring climate change issues and carbon management.

There is strong growth in the carbon markets, both regulated and voluntary; however, there remain concerns with standards and certification within the voluntary market.  Another notable exception from the Protocol is the exclusion of deforestation occurring in developing countries from carbon markets such as the EU ETS.  With a relative contribution to global emissions estimated at 18-25%, many calls have been made for its inclusion into future carbon markets².

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