To fight climate change, clean up carbon markets

THE hurricanes that have devastated the southeastern US are nature’s latest destructive reminder of the scale of the climate change challenge. Milton, which caused massive flooding and left millions without power, hit Florida shortly after I was in an overcrowded and gridlocked New York with thousands of other delegates for Climate Week NYC.

In meeting after meeting there, I heard the same warning — that we are about 25 years behind the schedule needed to hit the target of net-zero global emissions by 2050. This failure is causing irreversible changes to our planet — for example, ocean currents no longer warming Northern Europe or huge ice sheets melting and raising global sea levels.

We urgently need to accelerate the pace of action to get anywhere close to reaching net zero. Governments and corporations need to radically increase investment in greening the global economy. McKinsey and others estimate that means investing around US$4 trillion (RM17.42 trillion) per year but so far, we have only reached a level of half of that. So, we are missing US$2 trillion every year.

To catalyse investment on this scale, we need three things. First, access to technological solutions; we have about half of what we need, with more being developed.

Second, finance from the public and private sectors to put these technologies in operation; strained public finances can only be expected to contribute the minority of that.

Third, incentives to give private finance providers the risk-adjusted returns they expect; investors need to be paid for eliminating “externalities,” the indirect costs associated with the emissions of CO2 and other greenhouse gases generated by one party on another, uninvolved party.

Those costs are commonly called the “carbon price,” discovered by transactions between those who invest to eliminate CO2 emissions and those who create them. These transactions generally involve permits or credits that are bought and sold directly from one party to another or through a trading market. Rapidly scaling the amount of these transactions in a reliable way is essential to get to net zero.

Currently, there are two types of market: A compliance market and a voluntary one. Compliance markets cover industries, such as power generation, that are required by law to eliminate or reduce their CO2 emissions. Voluntary markets do not involve any direct government or regulatory oversight and are used by businesses, institutions and individuals who have committed to reach net zero by a certain date.

In the compliance markets, such as in the European Union and some regions of the US, governments issue a limited number of permits. Buying these enables the purchaser to emit CO2 above the level permitted by law. Those that emit less can sell their permits for cash.

In the voluntary markets, carbon credits are sold to offset CO2 emissions by investing in projects any where in the world that either avoid emissions that would otherwise occur or simply remove them. Removal schemes include nature-based projects such as planting new forests that absorb CO2, or technologically based schemes that remove emissions by, for example, chemical conversion into valuable products. Reduction or avoidance schemes include maintaining established forests that might otherwise be cut down, or substitution of hydrocarbon-based power generation with renewables.

With thousands of corporations committed to reaching net zero by 2050, Morgan Stanley predicts that the voluntary market for carbon credits will grow 50-fold, from around US$2 billion to nearly US$100 billion by 2030. So, the ground is fertile, but market growth has been patchy at best.

This is because the existing market lacks appropriate purpose and integrity. As to purpose, some corporations are “greenwashing” — pretending to go green while not actually doing so. They continue to emit huge amounts of CO2 while appearing environmentally responsible by purchasing carbon permits but avoiding real actions that could make their businesses greener.

As to integrity, the market is flooded with low-grade credits that promise the earth but may not contribute anything to the reduction of emissions. Many are

generated by projects that are not closely supervised to measure and report the CO2 emissions they are avoiding. A lack of robust regulation undermines the integrity of implementation.

When the integrity of the market is restored, it will still be the case that different credits will have different prices. Compliance markets will price credits based on the quality of applied regulation. Voluntary markets will price credits based on the quality of verification and measurement of effectiveness.

According to the Intergovernmental Panel on Climate Change (IPCC), six gigatonnes of CO2 must be removed by 2050 to limit global warming to below 2°C. This is in addition to reducing emissions, which the IPCC says must be halved by 2030. This level of scaling in carbon removal and carbon reduction or avoidance needs to start now. And widespread confidence in the integrity of the voluntary market is essential to get this done.

We will need to flush the system of low-grade credits. In May, US President Joe Biden’s administration set out seven principles for responsible participation in voluntary carbon markets. And organisations such as the Integrity Council for the Voluntary Carbon Market have established a way to verify high-quality carbon credits, so at least we can now identify the good from the bad.

Governments or corporations (perhaps driven by tax incentives) could also consider deliberately purchasing low-grade credits to remove them from the system. Admittedly, this would come at a short-term cost, but the market is not going to self-correct at the pace we need it to.

We must bring to market high-quality credits linked to real environmental improvements. Buyers must be certain that a credit truly represents one metric ton of CO2 or its equivalent reduced or removed from the atmosphere.

Carbon credits have great potential to encourage emerging markets and developing economies to use clean energy to power their economic growth. Many of these countries have a comparative advantage when it comes to natural capital. Being paid to preserve and enhance these precious natural resources can be a source of finance to transform their own energy systems — an enormous source for development of a green economy.

There is no time to lose. Last year, the concentration level of CO2 in the atmosphere was 420 parts per million, an increase of some 15% from the 1997 level. Global temperatures are still rising; the 10 most recent years are the warmest on record. Apart from technological advancements, the biggest breakthrough we could secure to avoid the ravages of climate change is an urgent escalation in the integrity, scale and speed of carbon-market innovation. Without that, net zero is an impossible dream. — Bloomberg