Carbon Credit Exchanges Are Calculated

The growth of carbon markets has been fueled by regulatory efforts to combat climate change. Whether the focus is on curbing greenhouse gas emissions from oil and transportation industries or carbon-intensive power plants, businesses have been encouraged to look at ways to mitigate their environmental footprints, through investments in new technologies or buying up existing credits.

A carbon credit exchange is a unit that represents one metric ton of reduced, avoided, or destroyed greenhouse gases (GHGs) through certified projects. These projects can be as simple as a farmer planting more trees or as complicated as a coal-fired power plant being converted to natural gas. Credits can be used to offset emissions from an individual or company that is unable to eliminate its emissions entirely, and can also be claimed and retired when the reductions are complete.

For companies that want to buy and claim credits, there is a so-called voluntary market, where credits are traded among businesses. Governments have a separate, involuntary system called a cap-and-trade program where they set a limit on the amount of GHG emissions that a business can release. Companies must buy additional carbon credits if they exceed the cap. Then the company can sell those credits to another company that needs them, for a profit.

How Carbon Credit Exchanges Are Calculated

In the voluntary market, brokers and retail traders link supply with demand, just as in other commodities. The brokers, who are unique to carbon markets, buy the credits from a variety of sources, bundle them into portfolios ranging in size from hundreds to thousands of equivalent tons of CO2, and then sell them to the end buyers, usually for some commission. Often, the retailers will have their own investment funds and will also act as developers of carbon projects.

Besides the buyers and sellers, there are a few other players who help to shape the carbon market. Standards are organizations, typically NGOs, that set the guidelines that must be followed by a project to produce a given volume of carbon credits. For example, a reforestation project will follow strict rules to ensure that it absorbs enough CO2 from the atmosphere over time. Standards are a key part of ensuring that the projects producing carbon credits are credible and will be valid in the marketplace.

A final player is the verification agent, a third-party that audits a project to verify its claims and confirm that the GHG emissions it reduces are legitimate. The verification process can include an onsite visit, inspection of data and records, and a review of the project’s impact on the environment. Verification is important to avoid fraud and other controversies that could derail the market.

All of these players have an influence on the price of carbon credits. For instance, community-based projects – which are designed and run by local groups or NGOs – tend to have higher prices than industrial projects. This is because these types of projects provide extra social and environmental benefits, in line with the UN’s Sustainable Development Goals.