Nature and Biodiversity

What are carbon credits and how can they help fight climate change?

Carbon credits can help protect the environment.

Carbon credits can help protect the environment. Image: REUTERS/Bruno Kelly

Teresa Hartmann
Lead, Climate and Nature, World Economic Forum Geneva
Douglas Broom
Senior Writer, Forum Agenda
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Future of the Environment

  • Carbon credits allow companies to compensate for their greenhouse gas emissions.
  • Now a new scheme proposes devoting the proceeds to help developing nations end their use of fossil fuels.
  • The plan is being promoted by President Biden’s climate envoy, John Kerry, at the COP27 climate summit.

To limit global warming to 1.5C, in line with the Paris Agreement, we need to cut current greenhouse-gas-emission levels in half by 2030 and reduce them to “net zero” by 2050.

But what about activities that can’t be made carbon-free? One answer is carbon credits.

By paying someone else to either reduce their emissions or capture their carbon, companies can compensate for their environmental footprint and even, in the most ambitious cases, use carbon credits to get to carbon-neutral status.

What are carbon credits and how do they work?

The underlying theory is simple. If one party can’t stop emitting CO2, it can ask another to emit less so that, even as the first carries on producing CO2, the total amount of carbon in the atmosphere is reduced.

There are three basic types of carbon credits:

  • Those from reduced emissions (typically energy efficiency measures)
  • Removed emissions (carbon capture and planting forests)
  • And avoided emissions (for example refraining from cutting down rainforests).
Carbon credits - A diagram of the carbon offset cycle, from project development to retirement.
The cycle, from project development to retirement. Image: Ecosystem Marketplace

Companies can meet their climate targets by purchasing credits for their current emissions although some, like Microsoft, have committed to going further and using credits to compensate for all their historic emissions – in Microsoft’s case, going back 45 years.

Other organizations have cut the bulk of their emissions and used credits to compensate for those they cannot avoid. Credits are generally traded in units of 1 tonne of CO2, and it’s estimated that credits worth 2 billion tonnes of CO2 will be needed to get to the 2030 target.


What are voluntary carbon markets?

A new framework for carbon credits

Until now, there has been no standardized way to trade carbon credits and no way to verify the offsetting activity behind them. Environmental groups say the process has been “fraught with scandals”, accusing some countries of having increased emissions just to get paid for cutting them.

Now, President Biden’s climate envoy, John Kerry, has come up with a framework which would link the cash directly to ending developing nations’ reliance on fossil fuels.

Kerry’s plan, which is being promoted at the COP27 climate summit in Sharm El Sheikh, Egypt, would involve national and regional governments being rewarded with carbon credits for reducing their emissions from power generation and replacing fossil fuels with renewable energy.

The plan, as reported by the Financial Times, includes independent verification of emissions cuts. The FT said the US team were seeking support for the scheme from major industrial polluters as well as persuading world leaders at COP27 of the viability of the scheme.

A graphic showing key milestones in the growth of voluntary carbon credits
Growth of voluntary carbon markets from 1990-2020. Image:

Building transparency

In 2021, an international task force led by UN Special Envoy for Climate Action and Finance, Mark Carney, and chaired by Bill Winters, CEO of Standard Chartered Bank, published a blueprint for creating large-scale transparent carbon credit trading markets based on independent verification. The World Economic Forum is observing the effort.

Have you read?

“This is truly a historic opportunity to contribute to getting the world to net-zero, and we encourage continued participation from across the economic value chain to ensure that the blueprint and future initiatives set out a pathway toward real growth of these markets,” they said.

To be eligible to be traded, the taskforce’s final report said carbon credits must be based on independently validated and monitored projects. Data should be held securely to avoid tampering using blockchain technology to create an unalterable record.

Carbon credits in action

Protected forest along the banks of the Katingan Mentaya River, Indonesia.
Protected forest along the banks of the Katingan Mentaya River, Indonesia. Image: Katingan Project

The Katingan Mentaya Project in Indonesia is one such scheme. In 2007, two environmental entrepreneurs began persuading local farmers to abstain from clearing virgin forest in return for selling carbon credits from their land.

Today, it’s the world’s largest forest-based avoided-emissions project. The project says it has prevented the release of more than 37 million tonnes of CO2 and saved 200,000 hectares of rare peat swamp forest, which is home to five critically endangered species including the Borneo orangutan.

Europe’s most energy-intensive industries, including airlines operating flights between EU member countries, can already use carbon credits to meet mandatory limits on their emissions under the EU Emissions Trading Scheme (EU ETS) which has been operating since 2005.

In Colombia, companies can pay their carbon taxes using carbon credits, and in May 2020, the US Treasury issued new rules requiring companies claiming carbon-capture tax credits to verify the amount of carbon captured by the schemes they invest in.

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