Skip to main content.
Enviropaedia Sponsors and Supporters

Carbon Trading

Author: Robyn Ferrar - Living

( Article Type: Explanation )

Carbon Trading (also known as Emissions Trading or ‘Cap and Trade’) is a market-based mechanism designed to reduce greenhouse gas (GHG) emissions in commerce and industry by creating an economic incentive. Emissions Trading was first defined as a flexible mechanism for the mitigation of global warming in Article 17 of the 1997 Kyoto Protocol. A national limit is set on GHG emissions, which decreases year-on-year based on agreed targets.
Governments issue or auction carbon credits to companies in participating industries based on projected levels of emissions. Companies that emit less than their quota can sell and potentially profit from their remaining credits, while those that emit more than their quota are required to buy credits to make up the deficit. As credits gets scarcer, so the price of carbon goes up as regulated by free market forces. The idea is to allow companies to decide for themselves whether it is more economical to reduce emissions in actual terms, develop cleaner production technologies, or simply buy credits.

The largest Carbon Trading programme is the European Union Emissions Trading Scheme (EU ETS), which has been in force since 2005. Since its inception, other flexible mechanisms have been introduced as a way of earning credits. The Clean Development Mechanism (CDM) allows companies in developed nations to earn credits by investing in emissions-reduction projects in developing nations.
If these companies can satisfy the CDM Executive Board that emissions can be directly and measurably reduced by the project in question they can earn one credit for every ton of Carbon equivalent reduced. This increases incentives for using the most cost effective means of reducing emissions. However, Emissions Trading - the brainchild of Enron (energy trading) and Goldman Sachs - has drawn a huge amount of criticism from economists and environmentalists alike, raising fears of the risk of collapse or failure in the future. As a self-perpetuating system, it cannot simply be withdrawn or replaced without adverse consequences to those with investment in a carbon currency.

The Measuring, Reporting and Verification (MRV) processes, and enforcement thereof - especially for the more complex CDM projects - may not be robust enough to accurately measure or limit emissions on a national level. T
here are also moral concerns that the incentive created to reduce emissions similarly creates incentive to abuse the system, either for profit or to hide emissions. The many ways of cheating the system include over-stating historical or projected emissions to gain more credits, or over-stating savings to be had from ‘green technologies’ or CDM projects. Add to this the poor performance of carbon as a tradable commodity thus far, and the mechanism is gaining a reputation as ineffective and fraught with corruption.

Despite the risks, the United States is in the process of rolling out a Cap and Trade programme similar to that of the EU ETS. South Africa currently has no formal Cap and Trade mechanism in place, although participation is possible and has occurred on a voluntary basis. The SA government is currently considering the scheme in conjunction with a Carbon Tax as a way of reaching voluntary reduction targets.