Carbon Offsetting Under the Paris Agreement: A Turning Point?

A Swiss and a Thai organizations have just signed the first carbon offsetting international deal under the Paris Agreement. This milestone marks another attempt to make carbon markets help the world tackle climate change in the most efficient way. This article explores the intricate dynamics of carbon offsetting, dissecting both its promised benefits and the challenges it has faced so far.

In a world dominated by news of wars, a record year for global elections and much else, stories about “Internationally Transferable Mitigation Outcomes” (ITMOs) might induce more yawns than wows. Yet, the mouthful could hide a highly significant development for climate change mitigation. Why? Because it is the key to a new carbon trading scheme put in place under the Paris Agreement, and its first deal was announced last week.

ITMOs are carbon credits exchanged across borders under Article 6.2 of the Paris Agreement on climate change, which seeks to create a robust international market in carbon offsets. In the deal announced last week, Switzerland-based Kilk Foundation bought 1,916 ITMOs from Thailand’s Energy Absolute Public Co. Ltd..

Carbon credits

Carbon credits have been under fire for a number of reasons – especially questions about whether they make any difference or may even do more harm than good (more on criticism of them below).

The idea at the basis of carbon credits is that they should offer countries, companies and even individuals a straightforward way to compensate for their greenhouse gas (GHG) emissions by reducing emissions elsewhere or removing GHGs from the atmosphere.

Carbon credits are at the heart of both corporate "net zero" pledges and most countries reduction roadmaps under the Paris Agreement.

They are at the heart of corporate “net zero” pledges. Under the Paris Agreement, they are also key for many countries' efforts to reduce their emissions to the levels they have pledged to achieve in their Nationally Determined Contributions (NDCs).

The concept of carbon credits involves the issuance of tradable assets (the “credits” or “permits” themselves) meant to account for the avoidance or removal of one ton of carbon dioxide-equivalent (tCO2e) each.

In compliance carbon markets -- which are created by legislation and regulated -- the total number of credits (in their case also known as “allowances”) reflects the total GHG volume participants can emit. Participants struggling to decarbonize their activity can buy permits from others.

Some compliance markets also allow participants to purchase approved credits from external projects to meet their emission limits.

The opacity that pervades the voluntary carbon market has earned it the "wild west" moniker.

Voluntary markets, by contrast, are largely unregulated. They have four types of participants:

• developers, which create carbon offset projects;
• "standard" bodies, which both verify if projects meet criteria and run credit ‘registries’;
• brokers, which facilitate transactions between developers and buyers; and
• buyers looking to offset their emissions or to invest in the tradable credits.

Buyers must ‘retire’ credits purchased from the market after acquiring them if they want the corresponding offsets to count toward their emission reduction targets.

Carbon avoidance vs. carbon removal

Offsets via carbon credits can be divided in two categories:

• Avoidance (or reduction), which happens when buyers pay developers to cut their greenhouse gas emissions, in theory by the same amount as the emissions to be compensated for. This is the case of the credits the Kilk Foundation purchased from Energy Absolute Public Co. Ltd., which refer to the Bangkok E-Bus Program, whose goal is to convert buses in the Thai capital from internal combustion engines to electric vehicles.
• Removal, which involves absorbing GHGs from the atmosphere. According to analysis of data from the Berkeley Carbon Trading Project conducted by the climate-focused news outlet Carbon Brief, only 3% of offsets included in the four largest voluntary registries fall into the removal category.

Some types of avoidance schemes – such as those that support renewable energy projects -- do not involve storing carbon.

Those others can be classified as long- or short-lived storage projects, depending on whether they involve a lower or higher risk of reversal.

For instance, schemes that promote changes to agricultural practices that help retain carbon in the soil involve emission avoidance with short-lived storage. Meanwhile, the use of carbon capture and storage on industrial facilities or fossil-fuel power plants are offset initiatives with long-term storage.

The same logic applies to removal schemes. Reforestation projects, for example, are considered removal schemes with short-lived storage, since a fire or new deforestation activity would release the newly trapped carbon back into the atmosphere.

Meanwhile, initiatives such as direct air capture and storage (ie, sucking carbon from the atmosphere to place it under the sea or burying it underground) and bioenergy with carbon capture and storage (the production of energy by burning plants cultivated to that end and capturing the emissions from the process) would amount to removal with long-lived storage.

Offsets linked to different carbon dioxide removal (CDR) technologies are likely to constitute an increasingly central part of market in the coming years. There is scientific growing consensus that, while not yet available at scale, CDR solutions must play a key role to achieve the Paris agreement objective of maintaining the global temperature increase at no more than 1.5C. 

For example, the International Energy Agency calculates that technologies that remove carbon from the atmosphere need to capture around 1.2 GtCO2 by 2030 for the world to remain even in a low overshoot (ie, with warming going slightly above 1.5C by 2050, being subsequently reduced). Currently, some 0.3 GtCo2 removals are planned for 2030.

From Kyoto to Paris

The first large offsetting scheme was the UN-backed Clean Developed Mechanism (CDM). This system, established by the Kyoto Protocol, allows developed countries to meet their reduction targets by financing projects in developing economies.

Some compliance markets authorized participants to purchase CDM credits to meet their obligations. Indeed, around half of all CDM credits have been used in the EU emissions trading scheme (ETS) -- although they have no longer been eligible for it since 2020.

Poor demand from the EU ETS and a slump in both prices and the number of projects registered for the CDM mean the scheme has lost much of its relevance since 2012.

The Paris Agreement includes two market mechanisms to replace the Kyoto system:

• Article 6.2 allows participants to trade carbon credits (in this case, called ITMOs) with one another and use them to meet their Nationally Determined Contributions. This is the mechanism that was inaugurated by the deal between the Kilk Foundation and Energy Absolute Public Co. Ltd., through which Swiss emissions will reduce the 'carbon budget' left in Thailand’s NDC.
• Article 6.4 will create a global carbon market to be overseen by a UN Supervisory Body; while this body has already been established, the market is not yet operational.

In 2021, the World Resources Institute calculated that 83% of NDCs included the use of international carbon markets.  

Countries can save $250bn per year by 2030 in the pursuit of their Paris Agreement targets by using carbon markets, according to an industry organization.

The International Emissions Trading Association, an industry body, believes that countries can save some $250bn per year by 2030 in their NDC implementation thanks to cost reductions from using carbon trading mechanisms under Article 6of the Paris Agreement.

However, questions remain about the extent to which countries will be willing to sell carbon credits under this system.

This is because, while in the Kyoto Protocol only advanced economies were obliged to cut their emissions, under the Paris Agreement all signatories have NDCs. As a result, offering carbon allowances would amount to giving up on likely their easier path to meeting their own decarbonization commitments.

Criticism

Carbon offsets have often been criticized for different reasons.

A common criticism is that the rationale for their existence is fundamentally flawed, at least under many existing carbon markets. This rationale is that a mandated emission target or a voluntary commitment to lower emissions incentivizes organizations to take all possible steps to decarbonize, since that leads to lower purchase of credits and therefore reduced expenses.

However, this logic can be wrong in at least two, non-mutually exclusive circumstances:

• When companies use offsets to ‘greenwash’ their contribution to climate change while, in practice, largely maintaining a ‘business as usual’ approach to their emissions.
• When credits reflect an exaggerated assessment of emissions effectively avoided or carbon removed in the projects in question.

In the latter case, companies may inadvertently engage in greenwashing. For instance, the Berkeley Carbon Trading Project analyzed offsets generated by projects classified as Reducing Emissions from Deforestation and Forest Degradation (REDD+) initiatives. These are the most common in voluntary carbon markets but are not necessarily in line with UN rules covering the framework also called REDD+.

The study concluded that “estimates of emissions reductions were exaggerated across all quantification factors we reviewed when compared to the published literature and our independent quantitative assessment”.

Counterproductive?

An extremely serious concern refers to the extent to which offsets indeed help global decarbonization efforts -- or may even hinder these. Central to this criticism is the fact that the vast majority of projects seek to avoid emissions, rather than to remove GHGs already in the atmosphere.

Critics say badly designed carbon credits can actually increase global greenhouse gas emissions.

Many of these projects involve investment in renewable energy initiatives in developing countries. The idea behind this is that the buyer of the credit compensates for their emissions by paying someone else to build renewable energy facilities which will allow them to reduce their own dependence on fossil fuels.

However, whether this avoids emissions depends on the counterfactual that the renewable energy projects concerned would not have happened without the credit -- and that is not always true. When it is not, the offsets in question may in fact be said to contribute to higher emissions, since they allow emitters to pollute without leading to GHG cuts elsewhere.

This applies both in the case of compliance markets that accept such offsetting credits and in those of voluntary buyers, mostly companies, seeking to meet self-imposed carbon reduction targets.

A 2021 study led by Raphael Calel, then from Georgetown University and now at Berkeley, estimated that 52% of CDM carbon credits linked to the building of wind farms in India supported projects that would have gone ahead anyway.

Extrapolating this finding to the CDM as a whole, the researchers calculated that such lack of ‘additionality’ means that the UN-backed program led to a 6.1 GtCO2 increase in carbon emissions -- roughly equivalent to operating around 20 one-gigawatt coal plants for their entire fifty-year lifespan.

Industry players, nevertheless, resist the notion that carbon markets may do more harm than good. For instance, carbon-credit rating company Sylvera analyzed over one hundred companies and found that, over the 2013-21 period, emissions of companies that bought credits fell on average by 6.2% per annum, while those of businesses that did not rose by 3.4% per year on average.

Double counting

Critics of GHG offsetting schemes also highlight the risk of ‘double counting’. This occurs when two different organizations use the same offset to calculate their emission reductions.

For example, it can happen if a government pays for an offset overseas to meet its own target, but the country where the emission reduction occurred also counts that project as having decreased its emissions.

At the 2021 COP26, in Glasgow, participants approved new rules to prevent this from occurring under the Paris Agreement.

However, double counting may also take place in other situations, such as when a company pays for an offsetting project, leading to claims of emissions reductions by both the business and the country where the project was implemented. This does not breach the Paris Agreement (whose targets apply to governments, not companies), but it can mislead consumers.

Another situation in which double counting may arise is when different offsetting projects are conducted in the same area, with each claiming credit for large shares of the emission reduction recorded; this risk is particularly high when forest protection initiatives and clean cookstove projects (which avoid the need to burn wood to cook) take place in close proximity to each other.

Moreover, double counting can occur when a buyer retires an allowance, but such retirement is not recorded in the relevant carbon registry, opening an accounting loophole.

Indigenous rights

There have also been accusations that many carbon offset projects, especially those focusing on land use change and deforestation avoidance, endanger traditional lifestyles and, in some cases, even the food security of local populations.

For instance, a recent report by NGO Survival International asserted that a project in Northern Kenya meant to increase carbon storage in the soil by changing the way in which indigenous pastoralists graze their animals not only was ineffective, but also amounted to a destruction of local cultures and undermined the livelihoods of indigenous peoples. Moreover, according to the report, there is no convincing evidence that the affected groups gave their informed consent prior to the start of the project.