A carbon credit is a certificate or permit which represents the right to emit one tonne of carbon dioxide (CO2). Carbon credit schemes place a cost on carbon emissions by creating credits or allowances valued against one tonne emissions.
Carbon credit systems look to reduce emissions by having countries or installations within the scheme honour their emission targets and offer incentives for being below these targets, the credits become the ‘currency’ of the system. Credits or allowances can be granted by countries as a market based mechanism to reduce carbon emissions. If targets are exceeded surplus credits can be sold to those that have not met their emission target goals. Carbon credits can be traded in the international market.
An international carbon credit system was ratified in conjunction with the Kyoto protocol and its market mechanisms clarified at the subsequent conference in Marrakesh. The Kyoto Protocol divides countries between industrialised and developing economies. Annex I countries, classified as Industrialised Nations, operate in an emissions trading market which gives each country their own emissions standards to meet. Annex II countries, classified as Developing Nations, operate a separate Clean Development Mechanism (CDM) that issues carbon credits called Certified Emissions Reductions (CER). Projects are eligible for carbon credits under the Clean Development Mechanism only if the emissions reductions are additional (emissions of greenhouse gases that are reduced below what would have occurred anyway).
CERs are issued to support sustainable development projects in developing countries and are tradeable. Compliance markets are legally bound by the goals of the Kyoto Protocol and legally recognised in order to ensure market integrity.
Outside these compliance markets, carbon credits can be traded in the ‘voluntary carbon market’ by any citizen or company looking to offset their greenhouse gas emissions. These voluntary efforts are designed to offset emissions and reduce the carbon footprint of a company or individual.
The voluntary market is open to less scrutiny and transparency than the compliance market and many projects rejected by the Clean Development Mechanism on the grounds of insufficient additionality can find their way into the voluntary carbon market.