Carbon Markets: The New Currency of Energy

How is the price of carbon affecting the price of energy?

What are Carbon Markets?

Just like a market where goods are sold and bought, a carbon market creates a trading system in which carbon credits are sold and bought. Companies or individuals trade into this market to purchase carbon credits from entities that reduce GHG emissions. By doing so, they compensate for their GHG emissions.

1 Carbon Credit = 1 tonne of CO2 of the equivalent amount of GHG reduced, sequestered or avoided

A credit becomes an offset when used and is no longer tradable ( United Nations Development Programme, 2022).

Carbon credits are becoming crucial for the energy sector today.

1. Carbon credits incentivize energy producers to avoid carbon footprint
2. Carbon credits create a financial advantage for renewables, which produce nearly zero emissions
3. Carbon credits meet regulatory requirements with a carbon pricing mechanism such as the EU Emissions Trading System (ETS). ETS allows energy companies to consider the cost of carbon credit when planning their operations.

The ETS sets a cap on GHG emissions for companies. The cap lets companies release a certain amount of emissions (allowance). If the allowance exceeds their limit, they need to buy more, if they emit less, they can sell the extra (Senken, 2024).

Win-win for the buyers and sellers!

Impact on Traditional Fuels

For a deeper analysis, the En-ROADS Climate Simulator helps us in many ways to critically justify our arguments.

The Impact When Carbon Price is Lower

When the carbon price is near zero, Coal (in brown) tends to increase the most in the “Global Sources of Primary Energy” graph and so does the global average temperature.

The Impact When Carbon Price is Higher

When the carbon price is increased, notice that Coal (in brown) reduces the most in the “Global Sources of Primary Energy” graph. It is the most carbon-intensive source of energy, which makes it the most sensitive to a carbon price.

Just like taxing coal, a significant carbon price increases energy costs, which reduces energy demand.

Big Message

Pricing carbon is a high-leverage strategy, as it both reduces the carbon intensity of the energy supply and reduces the overall energy demand.

Equity Considerations

1. As carbon taxes reach effective levels, companies may try to pass costs to customers, where the poor are most at risk of being impacted.
2. Workers employed in fossil fuel industries risk losing their jobs if companies shrink workforces in response to higher costs of production, so job transition plans should be in place and protections for workers ensured (Climateinteractive.org, 2024).

Policies can be developed that limit this impact.

Carbon pricing is making renewables more competitive.

Future of Carbon Markets

The world needs carbon markets!

A considerable number of international financial institutions are creating carbon trading desks to dive into new possibilities while they are also creating trading systems to strengthen the carbon market. Likewise, petroleum companies and indeed, traders of different commodities are also working tireless efforts to develop their skills in carbon trading (Deloitte Insights, n.d.).

In 2023, carbon pricing revenues reached a record $104 Bn - World bank

Surprisingly, the image below reveals the organizations that have offset emissions in 2024.

Companies can purchase carbon units by investing in projects that restore or conserve natural ecosystems, effectively offsetting emissions. There are more than 170 types of carbon credits highlighting their potential in various sectors.

The central importance of nature-based solutions is only going to grow, as global climate rules move ahead. The demand for carbon units to confer that offset is ballooning, usually via "project-based" sources like reforestation. It is also a tangible and recognizable way for individuals, organizations or governments to contribute towards international commitments on carbon mitigation (Editor, 2024).

What Does This Mean For You?

The three most potent Asian economies have dedicated to carbon-neutral objectives. China has a regional ETS in place and is poised to become carbon neutral by 2060 (it also happens to be the world's largest CO2 emitter).

The country with the third-largest economy in the region, Japan, is aiming for zero GHG emissions and has committed to being carbon neutral by 2050, as has South Korea, which already operates a national ETS.

South Korea's Green New Deal includes renewables funding, replacing coal capacity with natural gas, halting investments in new coal-fired power plants, and potentially introducing a carbon tax (Global, 2024).

So there you have it. The plain truth is that natural climate solutions are necessary to avoid climate catastrophe, and carbon markets provide a means for financing them. Just as it is always needed (and necessary) to critique ideas and methods, we similarly need more robust climate solutions implemented throughout the economy, not less.

We cannot afford to let perfect be the enemy of good at a time when we need as much good as possible.

Conclusion

To summarize, one vital reason why carbon markets ought to be promoted is that they facilitate the transition to a low-carbon economy. By imposing a cost on emissions, they encourage firms to cut down on their emissions, increase renewables, and fund other necessary interventions. Carbon trading will be a determining factor in the energy paradigm.

The power of carbon trading in fostering reasonable and clean investment will far extend its’ traditional limits.

References

United Nations Development Programme (2022). What are carbon markets and why are they important? [online] UNDP Climate Promise. Available at: https://climatepromise.undp.org/news-and-stories/what-are-carbon-markets-and-why-are-they-important.

Senken. (2024). European Emissions Trading System (EU ETS). [online] Available at: https://www.senken.io/glossary/eu-ets.

Climateinteractive.org. (2024). En-ROADS Climate Scenario. [online] Available at: https://en-roads.climateinteractive.org/scenario.html?v=24.10.0&p39=63 [Accessed 13 Oct. 2024].

Deloitte Insights. (n.d.). The world needs carbon markets. Here’s how to make them work better. [online] Available at: https://www2.deloitte.com/us/en/insights/industry/financial-services/future-of-carbon-market.html.

Editor (2024). Bullish growth projections in the carbon market. [online] Green.earth. Available at: https://www.green.earth/blog/bullish-growth-projections-in-the-carbon-market-1.

Global, Y. (2024). Why companies should pay attention to climate change proposals. [online] Ey.com. Available at: https://www.ey.com/en_gl/insights/tax/why-companies-should-pay-attention-to-climate-change-proposals [Accessed 13 Oct. 2024].