The Carbon Offset Industry Has Integrity Problems. Is It Time for Federal Regulation?
If you have booked a flight in the past several years, you might have had the option at check-out to pay a few dollars to compensate for your trip’s greenhouse gas emissions. Alongside this option, you may have even seen claims about the airline’s commitment to reach net-zero emissions by a given year. The idea is appealing: We can engage in carbon-emitting activities like flying, and as long as we pay to plant a few carbon-absorbing trees, we can de-plane guilt-free.
In theory, voluntary carbon markets enable both individuals and companies to cancel out their greenhouse gas emissions by purchasing carbon offsets that represent emissions reductions or removals generated by green projects, such as forestry or renewable energy programs. In reality, many if not most of these offsets do not achieve the emissions reductions or removals they are intended to represent.
Yet voluntary carbon markets remain largely unregulated despite these serious integrity issues. The U.S. Commodity Futures Trading Commission (CFTC) and the U.S. Securities and Exchange Commission (SEC) have recently taken small steps in the right direction. But as long as voluntary carbon markets continue to exist, the U.S. government should explore ways to more proactively regulate them.
Overestimation of Offsets
Recent news stories have highlighted serious integrity problems in voluntary carbon markets. For example, last year both the New Yorker and the Guardian published stories about deforestation-avoidance programs that claimed to save more trees than they actually protected. In other words, some of the associated carbon offsets did not represent real emissions removals and were therefore worthless. Bloomberg has also reported on (and John Oliver has even satirized) projects that “rescue” unthreatened forests.
Even well-meaning project developers and crediting programs (which ensure that projects meet certain quality standards and issue the offsets) often overestimate the number of carbon offsets associated with projects for myriad reasons, including but not limited to:
· Prediction error: The project may simply reduce or remove fewer emissions than anticipated. For example, a community may unexpectedly decline to embrace the energy-efficient cook stoves tied to an offset project.
· Baseline calculation error: Calculating the number of offsets a project will generate also requires estimating what would have occurred without the project — another potential source of error. Imagine that deforestation in the area of a deforestation-avoidance project would have proceeded more slowly than predicted, so that the baseline assumes higher net emissions than would have actually occurred.
· Lack of additionality: Carbon offsets might represent emissions reductions or removals that would have occurred anyway, even without the project. For instance, if a local regulation already required the restoration of a wetland or if a project developer planned to restore the wetland for reputational reasons, credits associated with the project would have no impact.
· Lack of permanence: An offset might represent emissions reductions or removals at risk of reversal, as when a wildfire scorches the protected forest or a hurricane destroys the methane-reducing waste management plant.
· Leakage: A project could reduce or remove emissions in one location but inadvertently encourage higher emissions elsewhere. Consider a deforestation-avoidance program that preserves forests in one place, but when the quantity of timber drops, its price rises, incentivizing other harvesters to cut more timber for higher profits.
Any of these problems can result in the issuance of carbon offsets that do not actually reduce or remove the promised amount of emissions. One group of researchers has estimated that, because of these integrity issues, “only 12% of the total volume of existing credits constitute real emissions reductions.” (Tree-based offsets are especially prone to these integrity issues, and they make up nearly 40% of all offsets on the market today.) In other words, the carbon credits you bought might not come anywhere close to counteracting the emissions from your flight, and the airline’s progress toward meeting its net-zero pledge could be a mirage.
Perverse Incentives?
A related but separate problem involves potentially perverse incentives in the sector. As one group of scholars recently explained, on the supply side, project developers’ profits increase as more carbon offsets are issued. In general, the project developer selects the crediting program and pays the crediting program based on the number of offsets issued, so both have an incentive to inflate the offsets. The validation and verification body that audits the project to ensure it meets the crediting program’s standards is typically hired by the project developer and accredited by the crediting program, so it stands to gain by catering to the project developer’s and crediting program’s preferences. This incentive structure may subtly push these entities to inflate offsets, potentially without even realizing it.
Ideally buyers would notice and discourage offset inflation by purchasing only high-quality offsets. But most offset buyers are corporations with incentives to purchase the cheapest offsets available to tick the “net-zero” or “carbon-neutral” box. And even corporate and individual buyers that do care about offset quality will generally lack the information and technical expertise required for a careful assessment. It is difficult to imagine an airline, let alone an airline customer, accurately evaluating whether offsets they wish to purchase are additional and permanent, for example.
In sum, voluntary carbon markets are rife with problems. Well-intentioned project developers and crediting programs can easily overestimate the number of carbon offsets associated with a given project. And in their current form, voluntary carbon markets may also incentivize offset inflation by project developers, crediting programs, validation and verification bodies, and corporate buyers.
The Potential Need for Regulation
Despite these integrity problems, voluntary carbon markets have been growing. From 2016 to 2020, the volume of offset issuances rose from 34.4 million to 181.1 million metric tons of carbon dioxide equivalent. (One offset generally represents one metric ton.) According to one estimate, the market could expand to between $5 billion and $50 billion by 2030. That estimate was made before offset prices fell in 2023, maybe partly driven by the negative attention described above. But voluntary carbon markets are unlikely to disappear anytime soon, especially if initiatives like the Integrity Council for Voluntary Carbon Markets renew interest in these markets.
Meanwhile, voluntary carbon markets remain almost entirely unregulated. The CFTC recently proposed guidance on offset-based derivatives that identifies key characteristics of high-integrity carbon offsets for exchanges that list these derivatives. As the Institute for Policy Integrity’s related comments pointed out, the proposed guidance marks a step in the right direction. But the guidance would apply only to the tiny offset-based derivatives market (just three ongoing derivative contracts as of November 2023) and it would not be legally binding.
In its recently finalized climate-related disclosures rule, the SEC required public companies to make certain disclosures about any carbon offsets that form a material component of their plans to achieve climate-related targets or goals. And public companies that must disclose their material Scope 1 and Scope 2 emissions must do so in gross terms, without subtracting emissions represented by any carbon offsets they have purchased. The SEC cited potentially increased government scrutiny of carbon offsets as one reason for requiring gross estimates. Indeed, as long as voluntary carbon markets exist and their integrity problems persist, federal regulators need to more proactively explore how best to address these issues.
At the same time, we all need to evaluate the role voluntary carbon markets can or should play in broader efforts to address climate change. Some carbon offsets may be necessary to provide financing for important projects or address emissions from hard-to-decarbonize sectors, like air travel. But many others may provide false comfort that progress is being made to reduce or remove emissions and offer an excuse to avoid the real work of directly lowering emissions.
