Carbon credits offer one way to try to mitigate the effects of climate change. Here's a look at how they work
What you will learn
A carbon credit gives the holder the leeway to emit greenhouse gasses equal to roughly one ton of carbon dioxide.
Businesses whose emissions exceed a cap can buy carbon credits to cover that excess amount.
Businesses and organizations create carbon credits through activities that reduce greenhouse gas emissions.
Cryptocurrencies and blockchain technology are often presented as critical technological advancements for many industries. Still, this doesn't mean these digital technologies are without faults. Cryptocurrencies require energy, especially those relying on proof-of-work consensus mechanisms. Luckily, carbon credits offer a realistic way for digital currencies to offset their energy requirements.
The development of carbon credits and similar mechanisms came in response to concerns about climate change. Their purpose is to reduce greenhouse gas emissions, or GHG emissions. Let's take a look at how they work and how effective they might be.
A carbon credit gives the holder the leeway to emit greenhouse gasses equal to roughly one ton of carbon dioxide. Carbon credits are divided into two categories; the voluntary carbon market and the compliance market.
Governmental organizations issue compliance market carbon credits as a means of capping emissions produced by businesses. Governments set caps on emissions produced by specific industries and provide applicable businesses with credits representing the prescribed emission limits. When companies exceed the cap, they must buy credits. However, if they produce fewer emissions than they're permitted, they can sell the extra credits on the carbon credit market. This system, known as the cap and trade market, creates financial incentives to limit carbon emissions.
Voluntary market carbon credits are made by projects that reduce greenhouse gas emissions. Examples of such projects are preserving rainforests and planting trees on barren land. Credits represent one ton of carbon dioxide removed from the atmosphere and can be purchased by businesses that produce emissions. By purchasing these carbon credits, the company helps fund emission reductions. Credits can be sold by intermediaries, traded on the open market, or sold directly by the project generating the credits.
The inception of the carbon credit system began with the Kyoto Protocol, an international treaty adopted in 1997. In this international agreement, more than 170 countries promised to work toward reducing the human impact on climate change. Ideally, this system creates measurable improvements in carbon dioxide emissions via economic penalties and rewards.
The United States signed the treaty in 1998, although the U.S. Senate had voted to abstain from ratifying it. In 2001, President George W. Bush wrote a letter stating that he opposed the treaty "because it exempts 80 percent of the world, including major population centers such as China and India, from compliance, and would cause serious harm to the U.S. economy. The Senate's vote, 95-0, shows that there is a clear consensus that the Kyoto Protocol is an unfair and ineffective means of addressing global climate change concerns."
Many countries, including the United States, accepted the Paris Agreement in 2015. Like the Kyoto Protocol, the Paris Agreement relies partially on carbon credits to limit emissions.
Numerous industries are cited as significant producers of greenhouse gasses and are required to use carbon credits. Cryptocurrency-related entities aren't currently required to use carbon offsets in the United States, but that could change. In March 2022, President Joe Biden published Executive Order 14067, partially aimed at reducing digital assets' negative climate impacts and carbon dioxide emissions.
Hedera is one public distributed ledger company that is not waiting for direction. The company is committed to reducing its carbon footprint through the quarterly purchase of carbon offsets.
Compliance market tokens issued by the European Carbon Credit Market traded around $60-$70 in late Q2 and Q3 of 2022. Still, these credits cost about $100 each in early Q2 of 2022. Credits issued by the California Carbon Credit Market traded around $26 in September 2022 but hit $32 in August 2022.
Like compliance credits, voluntary carbon markets are driven by supply and demand. These credits typically lack the governmental scrutiny associated with compliance credits. It's up to third parties to ensure the credits are related to verifiable emission reductions. In many cases, there is more demand for credits associated with trustworthy verification processes.
Since carbon credits were first introduced, there has been much debate about whether they truly help businesses reduce emissions. For carbon credits to work, the associated carbon projects must point to verifiable emission reductions. In some cases, the link is obvious and backed by reliable data. On the other hand, finding a link between certain carbon projects and their emission reductions can be tricky. Projects like the Greater Lebanon Refuse Authority that convert gas from decomposing garbage into renewable energy provide hard numbers. Alternatively, projects associated with green tourism may have less-obvious impacts.
Carbon trading critics, such as the controversial Greenpeace organization, have suggested buying carbon credits isn't a sustainable solution. In 2020, Greenpeace published a blog stating, "Forests are one of our best lines of defense against climate change and restoring them is crucial, but this can't be a substitute for reducing carbon emissions directly." Other pro-environment organizations, such as ClientEarth, have raised similar concerns. They wrote that "enhancing natural sinks will only get us so far, getting to net zero by 2050 is not possible without a hard and fast reduction in emissions."
These criticisms aren't without merit, especially regarding businesses built around burning fossil fuels. For the carbon credit mechanism to work, it likely needs to be combined with companies reducing their production of carbon dioxide, sulfur dioxide, and other greenhouse gasses. This is why Hedera is committed to carbon-negative operations through both carbon offsetting and low energy usage. A single Hedera transaction requires about 0.0001 kWh, making it an obvious step forward for cryptocurrency when compared to assets like Bitcoin, which use about 250-950 kWh per transaction.
Carbon credits and emissions trading offer an exciting way for companies to limit their impact on the environment. Still, it is likely not enough unless the companies commit to reducing their production of greenhouse gas. DLTs can be used in numerous ways to aid in the sustainable development of the carbon credit mechanism. This fact was acknowledged by the White House in Executive Order 14067, as Biden called on relevant agencies to create a report on "potential uses of blockchain that could support monitoring or mitigating technologies to climate impacts, such as exchanging of liabilities for greenhouse gas emissions, water, and other natural or environmental assets."
Hedera is a leader in carbon-negative distributed ledger technology and is committed to improving the carbon credit mechanism. For example, Hedera partnered with ServiceNow to manage carbon credit data and reduce problems associated with the carbon credit system.
A guide to Carbon Markets