Offset markets need to know about carbon – and their customers

(Bloomberg) –

Last year, global carbon markets exceeded 750 billion euros ($850 billion) in transactions. Almost all of this has happened in so-called compliance markets, where laws require major greenhouse gas emitters to purchase permits or credits. Europe makes up the bulk of these markets, with 760 billion euros traded in 2021, while North America (including markets in the northeastern and western US, as well as Canada) totaled nearly 50 billion euros, and the UK market itself, after Brexit was half that amount.

Then there are voluntary markets, set up by independent entities, where companies and institutions buy credits for their own purposes. These totaled about 1 billion euros last year. Although relatively small in size, this quantity is likely to grow by orders of magnitude. Today’s voluntary market demand for carbon offsets is 127 million tons, a figure that could grow to at least 3.4 billion tons or as much as 6.8 billion tons by mid-century. Given that global emissions today are just over 51 billion tons per year, offsets could be an important part of significantly decarbonizing the global economy. But access to this multi-gigameter scale will be more than just supply and demand.

Today there are many compensation developers, thousands of projects around the world, various methods of checking saved CO₂ and multiple logs that record offset activity. In each of these areas, there is invention and competition – but there is also a high degree of uncertainty, which will limit expansion. As I wrote in January, solving this challenge will depend on new business models, new technologies and new markets, some of which may already be new, with blockchain, decentralized autonomous organizations and token emissions credits.

Basically, though, we can reduce it to two sets of problems: one around the carbon itself and one around the markets that buy and sell it.

Carbon issues include measuring and verifying emissions reductions, monitoring the sustainability and stability of reductions, and recording them in a traceable manner. These concerns are acute in carbon markets because the effectiveness of credit often depends on sensitive factors such as changes in land use and forestry practices – when not tied to legacy renewable energy assets that may not generate any real benefit at all. To craft a phrase, solving these problems is a “know your customer” question: knowing your carbon.

Market problems include enabling transactions, keeping records of them, providing credit and guarantees, creating securities and, for financial institutions in particular, a more established form of ‘know your customer’: know your customer. These issues are not just limited to carbon, but they are integral to markets in general.

Clearly, bridging both sets of issues will be essential for voluntary carbon markets to scale at scale. It won’t do you any good to have carbon credits that can’t be verified or monitored, credits that are verified but don’t have a permanent track record in the financial market, or transactions that don’t clearly identify customers in ways that regulators can see. Problems must be solved and their solutions linked together.

So I’m interested to see this week’s announcement from Carbonplace, a carbon credit settlement platform developed by seven financial institutions with nearly $8 trillion in total assets. Carbonplace transferred verified balances from the Carbon Project developer to Visa, which it had purchased, through Carbonplace’s customer-ready banking platform. It’s a glimpse of what the bridge between these worlds could look like.

According to Carbonplace executives, its platform uses the kind of blockchain being promoted by carbon market gurus web3, but does not require participants to keep their own records of carbon credits, as many do today. Carbonplace meets the needs of its customers (Visa) without forcing them to perform counterparty due diligence, thanks to the capabilities of the platform’s bank members.

This transaction incorporates both KYC principles to solve various problems. The carbon record defines its compensation; the blockchain records it; The settlement platform deals with them; The platform knows its customers. It’s the kind of business that we hope will join the emerging world of carbon markets with the well-established world of transaction banking, to the mutual benefit of both.

What will come next? More transactions, we hope, but perhaps also other familiar instruments of higher finance. German-Singapore carbon offset trading futures, anyone?

Nathaniel Pollard is Chief Content Officer at BloombergNEF.

© Bloomberg LP 2022

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