Supply and Demand Evolution in the Voluntary Carbon Credit Market

Supply and Demand Evolution in the Voluntary Carbon Credit Market

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Part of a forest is flattened near two small homes
Giridhar Sankar
October 15, 2020
Carbon offsets are increasingly becoming a strategy to reduce environmental impacts, but providers of credits will need to ensure quality, appropriate funding, and cooperation with local institutions.

Carbon offsets are increasingly becoming a strategy to reduce environmental impacts, with the market for new offsets being the largest it has ever been in 2019. The original credits were traded on the Clean Development Mechanism established via the Kyoto Protocol in 1997, but after a few years the carbon markets experienced a crash in carbon prices due to the unrealiability of certain carbon credit projects.

Today, recent gains have been driven by an increase in voluntary demand for these credits, as many private companies wish to participate in the offset market. Shareholder and public pressure has pushed these companies in recent years to drive this, and projects with societal benefits along with emissions reductions are seen as more attractive to voluntary buyers. Forestry carbon is the largest category of these credits, representing the most issuances of new credits per year over the past decade.

Within the forestry sub-category, Latin America and Southeast Asia have been the biggest recipients of carbon emissions reduction projects. In Latin America, many of these projects are related to Amazon conservation, and the rate of deforestation of the Amazon has been slowed by more than half from its peak in the early 2000’s due to REDD+ conservation projects as well as other carbon credit contributions. However, many forestry credit projects in Brazil and other bordering nations have not delivered the amount of credits promised at project outset. The reasons for this include insufficient funding, lack of cooperation of local authorities, and disruption of conservation by local communities. Future issuers of forestry credits will need to price their credits appropriately, and work in jurisdictions where they feel that forests can be protected to the extent promised in the credit sold. Otherwise, these credits will not fill their purpose, and the agreed emissions reduction won’t materialize.

CORSIA, or the UN’s effort to mandate carbon offsetting by airlines for their emissions growth, makes it even more important to get carbon offset projects correct. CORSIA requires airlines to offset gains in their emissions after 2020, and when using the pre-COVID airline traffic increase predictions, this could result in ~4-20x multiples of demand for credits from the carbon market size today. Once implemented, CORSIA has the potential to be the biggest non-voluntary driver of carbon credit growth.

Thus, providers of credits will need to ensure quality, appropriate funding, and cooperation with local institutions to meet the growing demand for these key instruments in the fight against climate change and focus on corporate social responsibility.