Carbon Credits are Coming to Crypto

Paul Glavin
Mar 10, 2020 · 6 min read

AirCarbon is issuing crypto tokens backed by carbon credits, bringing a $300 billion market to the Ethereum platform, giving investors global access to tokens that fight global warming, and advancing an important class of financial asset.

Back in 2012, it looked like the experiment to create a global carbon market might fail. Carbon credits had been in a downward price spiral since the recession and their survival was in jeopardy. Since then, carbon markets have more than recovered, reaching a $296 billion market value in 2018 and continuing their growth since.

For the uninitiated, carbon credits are certificates that represent 1 ton of carbon dioxide that has been conserved, captured, or is otherwise not in our atmosphere because of the recipient’s activity. Most are sold to companies required to buy them under regulated cap-and-trade systems. However, there is a growing voluntary market for carbon credits bought by companies and individuals concerned about global warming. This market has captured the cryptocurrency community’s interest, eager to find real world value that can be tokenized. CarbonX and Veridium are two crypto companies working on tokenizing carbon credits, but it looks as though AirCarbon will win the race to issue the first tokens.

AirCarbon is tokenizing carbon credits under CORSIA, an international agreement to restrict the airline industry’s future carbon emissions to 2020 levels using carbon credits. The first phase of this agreement will go live in 2021, however AirCarbon’s first tokens go live on the Ethereum platform this month (March 2020)— triggered by a private deal between C-Quest Capital and a Swiss commodities bank for an undisclosed amount of carbon credits. From that transaction forward, there will be readily tradable carbon tokens on AirCarbon’s exchange.

William Pazos, Co-founder and COO of AirCarbon, says that the tokens will be backed by carbon credits that will satisfy requirements for CORSIA, and that AirCarbon already has commitments from market participants totaling $30 million in investment. Pazos expects that the total value of carbon emissions that will fall under CORSIA will surpass $5 billion. At this value, the total market size would be greater than Tether — the digital stablecoin backed (theoretically) by US dollars that is currently the world’s largest tokenized asset by valuation.

CORSIA is overseen by the International Civil Aviation Organization (ICAO). As we speak, ICAO is in council to decide which carbon credits will be eligible under the agreement. 192 countries have agreed to CORSIA, representing the vast majority of all airline emissions, so the guidelines that come out of the council will have an enormous impact on CORSIA’s ability to affect climate change.

Why is crypto good for carbon credits?

The market for carbon credits is still young, and divided between the many different government regulations and verification standards that feed it. The organizations that verify CO2-reducing activities have struggled to measure CO2 impact and prove “additionality” — that the reduction in carbon dioxide wasn’t going to happen anyway without a carbon credit.

Because of these challenges, carbon credit markets are highly fragmented, inefficient, and expensive compared to other financial markets. All this friction hurts liquidity, but are challenges that cryptocurrency technology is uniquely well-suited to address:

  • Cryptocurrency platforms are globally accessible and allow trading between all kinds of digital assets, improving liquidity and making it easy for buyers to compare the competing standards for CO2 credit verification.
  • Cryptocurrency’s architecture allows for much lower brokerage fees. AirCarbon will charge a flat $6 per 1,000 tons of CO2, and once sold they can be traded across the Ethereum platform — currently for under 25 cents a transaction. CO2 broker fees today are often near 10%.
  • Today’s carbon markets require trust in several intermediaries. Cryptocurrency trading is permissionless, eliminating a layer of trust.

Why are carbon credits good for crypto?

Cryptocurrency technology has struggled so far to capture diverse and substantial forms of real world value. Most of the value in cryptocurrency today comes from pure stores of value (like Bitcoin), collateralized assets (like most stablecoins), and speculation. The recent wave of Security Token Offerings has brought more diversity to crypto’s value and has a huge potential market size, but will be slow because of the regulatory environment they live in. Carbon credits can help with all of this:

  • With a $300 billion market size and both CORSIA and China’s ETS program launching in the next year, CO2 markets have substantial and growing value. If all the world’s carbon credits were tokenized tomorrow, they’d represent over half of the value of all cryptocurrencies.
  • Carbon credits are typically categorized as commodities, which live in a lighter regulatory environment than securities.
  • Carbon markets today have greater functional pain points than other financial markets. It is a rare financial market with a pressing need for the benefits of cryptocurrency technology.

Changing the buyer’s mindset in the voluntary carbon credit market

Carbon credits are often pitched as “carbon offsets,” promising buyers a way to “offset” their CO2 emissions by acting as a receipt showing that they funded 1 ton of CO2 being removed from the atmosphere.

There are 2 fundamental problems with this thinking:

  1. When a carbon credit is issued, the activity that earned that credit has already happened.
  2. The price of a carbon credit is not the same as the cost of the activity that earned it.

Buying a carbon credit does not create the environmental benefit of the underlying activity — the CO2 savings have already been earned, regardless of whether the credit is bought. The credit’s price is also not meant to act strictly as compensation for the activity since it is determined by the open market. If buying a carbon credit neither creates nor compensates the underlying activity, then it’s inaccurate to think of a carbon credit as an offset. What buying a carbon credit does instead is incentivize future CO2-reducing activity. This adds a layer of abstraction, but makes it a special type of financial asset far more powerful.

The underlying value of a voluntary carbon credit comes from the value of a healthy atmosphere, which is a public good. Public goods usually depend on donations and taxes for funding, because unlike private enterprises, they aren’t well-suited to store value. As a result almost all of our public goods — including education, scientific research, and the environment — are severely underfunded. Carbon credits, however, are a way of converting a healthy atmosphere into a store of value by having both a limited supply and by incentivizing CO2-reducing activities. They allow us to invest in our environment in a way that grants private ownership of that investment and can be sold at a later time.

The key benefit you create when you buy a carbon credit is upward price pressure. Your purchase has a market effect of +1 demand and -1 supply, and the resulting price increase makes it more attractive for someone else to find a way to earn that same type of credit in the future. In the meantime you’re free to sell your credit whenever you’d like.

Carbon credits are likely the first successful global-scale attempt at storing the value of a public good. This capability allows far more funding to be made available for our environment, and even better, is a model that can be replicated for all of our public goods.

Building a better carbon credit

With this mindset however, today’s carbon credits don’t look like very well-constructed stores of value. They generally expire after a few years, and the methods for controlling supply are primitive and unpredictable. If gold had these same traits, it’d be way less valuable.

A better carbon credit would be one that piggy-backed on decades of progress that’s been made in carbon credit additionality and verification rigor, but with an architecture that more closely resembled gold. Most importantly it needs a perpetual timeframe and a supply issuance protocol that optimizes ROI in the long term for both the CO2-reducers earning tokens and investors holding tokens.

Of course, this carbon credit should be issued with cryptocurrency as well.

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