Carbon Credits | Reigning Supreme for Environmental Protection

In January 2023, the Guardian wrote an article entitled - ‘Revealed: more than 90% of rainforest carbon offsets by biggest certifier are worthless, analysis shows’.

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The article was fervent in pointing out the failure of the carbon credit industry due to the abuse of the system and the growth in ‘phantom credits’.

What are carbon credits

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Carbon credits can either be emission allowances or carbon offsets. The article sighted above refers to carbon offsets.

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An emission allowance is a certificate issued by a government or regulator that permits the holder to emit one tonne of carbon dioxide (CO2) or other equivalent greenhouse gases (tC02e). Holders can trade these allowances on compliance carbon markets. Many countries and regions, like the EU, have regulations that enable emission allowances; hence, they are mandatory for all industries.

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A carbon offset is an instrument that represents the avoidance, reduction or removal of one tonne of carbon dioxide (CO2) or other equivalent greenhouse gases (tC02e). Unlike emission allowances, these offsets can be traded on voluntary or sovereign carbon markets and are not subject to regulation. Carbon offsets are voluntary and hence subject to the demand from buyers.

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Many internationally renowned companies typically buy carbon offsets – some of them have labelled their products “carbon neutral”. The idea is that this flow of this capital makes its way into noteworthy projects aimed at counteracting environmental destruction. However, the complexity in matching authentic action is where things become very convoluted.

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To overcome the greenwashing claims and keep the integrity of the overall carbon credit industry, all stakeholders must take steps to strengthen the current process of generating carbon offsets.

How are carbon credits generated

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The lifecycle of a carbon offset has many steps, but typically the measuring, reporting and verification or the ‘MRV’ process form the core of the development. The graphic below shows the key steps:  

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Source: An Introduction to carbon markets by Simon Puleston Jones

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Baseline | The project owner or developer has to set a baseline according to a standard they choose against which the project performance is measured.

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Collect data | Once the project owner or developer initiatives the project, they collect data on the greenhouse gas emissions that have been avoided, reduced or removed during the project.

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Report | Based on all the computed data, the project developer or owner compiles a report and sent to the verifier.

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Verify | Third-party verifiers verify the report according to the standards that are submitted. The standards agencies accredit these verifiers. They compete and present their findings to the certified standard.

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Certify | The standards agencies, like Verra or Gold, certify the results documented in the verified report if they align with their set standards.

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Issue | Post the certification, the standard will issue one carbon offset for each tCO2e equivalent avoided, reduced or removed during the calculated period.

Why carbon offsets fail

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As we can see in the above steps, Carbon offsets are susceptible to significant manipulation risks due to conflict of interests and the data in the first three steps, i.e. Baseline, collect data and report. In addition, there are further challenges:

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Data Collection and Reporting

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There are gaps for data manipulation, and project developers can use them for greenwashing. Data determination requires experts who can understand the project from the ground up. They would also require local knowledge, technical knowledge, and an understanding of the relevant data points for the specific project. Add to this the cost of collection of data as well as verification at the initial stages that require skilled expertise, and there are chances of under or over-reporting as well as addition or omission of data that may be critical or non-critical. These factors would eventually affect the report, which is verified and certified. Currently, the onus is on the project developer or the owner seeking the carbon offsets to collect data through a 3rd party. So, there are significant chances of data manipulation due to conflicts of interest.

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Lack of harmonisation

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The market is fragmented and offers little in the way of standardisation for either buyers or sellers. There is also a lack of uniform accounting and verification methodologies, and credits’ co–benefits–protection shortcomings result in good carbon offsetting projects tarred with the same brush as those failing.

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Incentives

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Carbon trading systems work by allowing carbon-reducing industries to accumulate credits which they can sell as carbon offsets to businesses which either voluntarily want to reduce emissions or whose regulator caps require emission reductions. The problem is that the polluting industries are slow to adapt to action themselves. It is also cheaper to pollute and buy credits than to change their production processes.

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Lack of accountability and enforcement

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With some governments promoting voluntary offsetting and carbon markets as a route for reducing carbon emissions and funding nature restoration, a different approach is being signalled. The preference for carbon and nature offsets indicates an offloading of governmental responsibility and a reluctance to face potentially difficult or unpopular choices, such as ending fossil fuel extraction, curtailing aviation, or ceasing the construction of high-carbon infrastructure.

A way forward

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To overcome the greenwashing claims and keep the integrity of the overall carbon credit industry, all stakeholders must take steps to strengthen the current process of generating carbon offsets. Some measures to ensure the accuracy of carbon offsets are:

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Baseline | Conduct a detailed baseline study to determine the baseline emissions levels accurately. This study should include an assessment of historical emissions data, trends in emissions, and other factors that could affect emissions. Also, using conservative estimates in baseline emissions levels to avoid overstatement of the emissions reductions generated by the carbon offset project. Periodic review and updation of the baseline to ensure accuracy by updating historical emissions data or adjusting the methodology.

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Collect data | Document data collection procedures to ensure transparency and enable verification. Train staff and stakeholders in data collection to ensure they follow the established methods and adequately use the measurement equipment. Independent third-party verification by external auditors, government agencies, or other independent organizations can help ensure the data collected is accurate and credible. This verification will avoid a conflict of interest and ensure the integrity of the data collected.

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Report | Use a recognized reporting framework from international bodies to ensure consistency and comparability of reporting and a standardized approach. The data used in this report should be credible and accurately reflect the emissions reductions generated by the project. This process should involve verifying data with third-party sources or conducting independent data audits. The reported data should be publicly available and provide access to the relevant documentation for feedback.

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Implementing a global standard in the market would be the first essential step, allowing auditors to work with one framework, meaning fewer chances of data manipulation and ensuring the quality of carbon offsets produced.

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But verifying that the data is relevant and holds actual post-carbon offset issuance isn’t easy, especially in carbon offset projects. This accountability issue forms the crux of the current matter and needs action to keep the integrity of the carbon offset intact.

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Conclusion

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While carbon offsets have several drawbacks, they are also one of the most effective instruments to quantify pollution and environmental damage and attribute a financial value to them. Adopting the measures to address data collection, reporting, and accountability will help the industry become credible and grow significantly.

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The alternative to carbon credits, i.e. ESG, has many models and frameworks to identify and account for environmental risks. But there is no uniform methodology to put a value to the environmental damage. While ESG is qualitative, Carbon credits are quantitative.

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Carbon offsets and, in general, the carbon credits industry face headwinds with the greenwashing claims. Still, they represent the best way to account for environmental damage and compensation i.e. where the polluter pays for the damage.

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As the legendary Bob Marley sang:

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“Who are you to judge the life I live?

I know I’m not perfect

-and I don’t live to be-

but before you start pointing fingers…

make sure your hands are clean!”

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Authors:

Nicole Anderson, Managing Partner Redsand Ventures

Sandeep Dama, Partner Redsand Ventures

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Redsand Ventures is committed to breaking barriers between funders and industry to fuel further innovation at scale. We do this through our unique experience in asset funding and industry specialism in energy, data infrastructure and fintech sectors.

This article was originally posted on the Tax and Sustainability website.

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