Voluntary carbon markets (VCMs) expanded rapidly after the Paris Agreement (COP15), and they seemed like a good idea because by setting maximum CO2 emission targets—ultimately aiming for net-zero—they compelled companies to first decarbonize and then offset their remaining emissions. This was where voluntary carbon markets came into play. Initially, VCMs were seen as a promising mechanism to help companies meet their carbon reduction targets. By creating a system in which companies could offset their emissions through investments in carbon capture and reduction projects, VCMs were considered a crucial tool in the global transition to net-zero emissions. However, the rapid expansion of these markets has been marred by significant challenges, particularly related to credibility, fraud, and volatility, which have undermined their effectiveness.
The Challenges Facing Voluntary Carbon Markets
After the Paris Agreement, large consultancies predicted exponential growth for voluntary carbon markets, projecting hundreds of billions in annual transactions. However, as the markets expanded, serious problems began to emerge.
One of the most pressing concerns is the credibility of the carbon credits being traded. For instance, issues have surfaced regarding the sale of credits for carbon sequestration projects that did not exist, as well as projects that harmed local communities or exacerbated environmental damage, such as reforestation efforts that increased the risk of wildfires.
High-profile cases such as those involving major carbon credit certifying providers like Verra and South Pole have drawn attention to the lack of transparency and oversight in the markets. Verra, the world’s largest carbon credit certifier, faced scrutiny in 2023 when its CEO resigned amidst growing criticism of its certification processes, which allegedly allowed the sale of inflated credits with little impact on actual emissions reduction. Similarly, South Pole, another key player in the market, has been criticized for selling questionable credits, which were said to be exaggerated and ineffective in offsetting emissions.
These credibility issues have contributed to volatile prices in the market. The average price of voluntary carbon credits has fluctuated wildly, with reports suggesting that prices were in a range from a few dollars to as high as €90 per ton of CO2, a sharp instability that often characterizes the market. This has caused confusion and skepticism among buyers, undermining trust and participation in voluntary carbon markets.
Additionally, instances of fraud have led to further disillusionment with VCMs. In one recent case, the CFTC (Commodity Futures Trading Commission) issued a warning about fraudulent carbon offset schemes, highlighting the need for better regulation and monitoring to prevent exploitation of both buyers and the environment.
The Market Contraction
These challenges, combined with a lack of regulatory clarity and inconsistent standards, have led to a contraction in the voluntary carbon market. In 2023, the volume of carbon credits traded dropped significantly, particularly in sectors like REDD+ (Reducing Emissions from Deforestation and Forest Degradation) and renewable energy credits, with the market’s total value falling to USD723 million —a sharp 61% decline from 2022 and significantly down from its peak of nearly USD 2 billion in 2021. This decline underscores the urgent need for reform and the development of more reliable and credible carbon credit systems.
New Opportunities for Carbon Market Development
Despite the setbacks, there are promising developments. A major breakthrough came during COP29, where the United States and the European Union agreed to cooperate on the regulation and development of carbon markets, particularly through the mechanisms outlined in Article 6 of the Paris Agreement. This article facilitates international carbon credit trading and provides a framework for countries to collaborate on reducing emissions. The agreement marks a positive step forward, as it offers the potential for increased transparency, standardization, and scalability in voluntary carbon markets.
To overcome the challenges facing voluntary carbon markets, it is essential to align domestic markets with international standards and regulatory frameworks, such as Article 6 of the Paris Agreement. These frameworks provide the necessary foundation to enhance market credibility, attract investment, and ensure that domestic markets contribute effectively to global decarbonization goals.
Fixing the Voluntary Carbon Markets: Key Recommendations
During the Financial Times webinar “Building Domestic Voluntary Carbon Markets” held on December 4, 2024, experts gathered to discuss the key strategies for improving the effectiveness of voluntary carbon markets (VCMs). The webinar, presented in partnership with DAI, featured speakers such as Thomas Kansy, Partner at McKinsey & Company, an expert on carbon markets; Aurelia Micko, Senior Advisor on Climate Finance and Carbon Markets at USAID, with extensive experience in climate change, clean energy, and biodiversity portfolios; Christy Owen, Senior Lead Specialist at DAI, specializing in climate finance, private sector engagement, and climate adaptation; and Paul Muthaura, CEO of the Africa Carbon Markets Initiative (ACMI), a key figure in the African carbon market landscape. The event focused on addressing the challenges and opportunities of aligning domestic markets with international standards and best practices, particularly to enhance market integrity and transparency.
The speakers outlined several key recommendations to strengthen the voluntary carbon market:
- Strengthen Market Oversight and Regulation: One of the most urgent steps to fixing VCMs is the establishment of stronger regulatory frameworks. Governments and international bodies must work together to ensure that carbon credits are properly verified, with transparent monitoring and reporting processes.
- Ensure Market Integrity and Transparency: Addressing issues of fraud and greenwashing is critical for rebuilding trust in carbon markets. Independent verification and certification bodies should be empowered, and industry standards for measurement, reporting, and verification (MRV) should be aligned with international best practices. Incorporating technologies like blockchain can improve the traceability and transparency of transactions.
- Promote Stakeholder Engagement and Equity: It’s crucial that local communities benefit equitably from carbon market revenues. This requires ensuring that carbon projects prioritize community welfare and include fair benefit-sharing mechanisms. As Paul Muthaura of ACMI emphasized, ensuring that communities are involved in decision-making and directly benefit from carbon projects is essential for market legitimacy and long-term sustainability. ACMI’s initiatives focus on aligning market activities with sustainable development goals, helping to ensure that local communities are compensated fairly and have opportunities for capacity-building. This approach protects vulnerable populations and supports the equitable distribution of carbon market revenues, which can help strengthen the legitimacy of these markets and build trust among stakeholders.
- Leverage International Cooperation: As seen with the recent cooperation between the US and EU at COP29, international collaboration can provide critical support for developing and scaling carbon markets. Countries can benefit from aligning their domestic markets with international carbon trading frameworks under Article 6, which provides a path for integrating national markets into the global carbon economy.
- Enhance Pricing Stability: Volatility in carbon credit prices undermines market confidence. Developing a more stable pricing mechanism, possibly through long-term contracts or pricing bands, could help smooth out fluctuations and provide more certainty for market participants.
While the voluntary carbon market faces significant challenges, there is a growing recognition of the need for reform and collaboration. The positive momentum created by international agreements, such as the US-EU cooperation at COP29, combined with the insights shared by industry leaders, offers hope for the future. By prioritizing transparency, regulation, and equity, we can address the credibility issues that have plagued the market and unlock the true potential of voluntary carbon markets as a tool for global climate action.
