Carbon credits are a type of greenhouse gas (GHG) reduction that allows companies to trade their emissions with other companies. The credit system is designed to help reduce global warming and is based on the supply and demand principle, meaning that the value of carbon credits changes over time as companies purchase and sell them.
The carbon market is a regulated, international market that aims to reduce the amount of carbon credit exchange in the atmosphere by creating incentives for companies to make energy efficiency and carbon reduction investments. These investments can include renewable energy, reforestation projects, waste management, and other activities that reduce the amount of CO2 in the atmosphere.
When a company makes an investment in reducing its GHG emissions, it earns “carbon credits” which are units of measurement of one metric tonne of CO2 that can be traded with other companies who are trying to reduce their own emissions. The price of these carbon credits can vary widely depending on the country they are sold in, the project that earned them and the current economic conditions.
The market for trade carbon credits is regulated in Europe and the United States. It is divided into two groups: industrialized countries that operate in a trading market and developing nations that buy credits from industrialized countries to help them meet their emissions reduction targets set by the Kyoto Protocol.
To buy credits, companies must follow a set of rules that are established by standard-setters like the World Bank. These include establishing baselines for the emission levels that the project is expected to reduce and implementing methods to track progress. These processes, called MRV, can be complex and require considerable resources to carry out successfully.
A key factor in determining the quality of a project is its additionality and permanence. These criteria are a measure of the amount of carbon dioxide that the project will remove from the air over a long period of time. A high degree of additionality indicates that the reductions will be permanent and not just temporary.
These factors are also important in evaluating the risk of leakage from a project’s underlying emissions. The amount of additionality is a key indicator of how good the project’s carbon removal will be and how much value it has for the buyer of the carbon credits.
Generally, direct-removal carbon credits are traded at a premium to avoidance credits because they require greater investment and have higher demand than other types of projects. This is because they are able to remove a significant amount of CO2 from the air, making them a better investment.
Whenever a carbon-reduction or removal project is completed, it must be verified by standard-setters to ensure that the amount of reductions actually occurred and were not exaggerated. If the data is not accurate or reliable, the quality of the project and the value of the carbon credits will be diminished.
