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Demystifying Carbon Credits

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To battle climate change, Americans are using a multilayered approach. Combat comes in the form of planting a tree in your backyard to overhauling the way industries operate. Among the latter category, carbon credits have gotten a lot of attention because of the companies involved and questions about their effectiveness in reducing greenhouse gas emissions through government edicts.

A carbon credit is basically a permit that allows the holding company to emit a certain amount of carbon dioxide or other greenhouse gases. Companies typically buy credits when they find they can’t operate feasibly without going above emissions standards set by agreements such as 1997’s Kyoto Protocol, which established emission reduction targets for the nations that adopted the treaty.

When a company has no choice but to exceed emissions targets, it can purchase credits from other companies with comparably lower emissions. Think of it as a marketplace where companies with low emissions requirements can benefit financially by selling credits to companies with higher emissions requirements.

A number of high-profile companies are taking part, ranging from Google and Amazon to BP, Shell, Lyft, JetBlue and British Airways. Carbon credits are designed to give companies incentives to reduce their greenhouse gases and lessen the impact of global warming.

When a company buys a carbon credit, it has the right to emit either one ton of carbon dioxide or an equivalent of another greenhouse gas. The credit basically serves as an offset for companies that produce these gases – which is why credits are also referred to as carbon offsets. 

Carbon credits are part of larger cap-and-trade programs that set caps on allowable emissions and then distribute or auction off emission allowances that add up to the cap. These types of programs offer a couple of incentives for meeting emissions requirements. First, companies that exceed the cap face potential fines. Meanwhile, companies that come in well below the cap can earn money by saving and reselling part of their emissions allowances. 

The Corporate Finance Institute helps lay out the two types of carbon credits:

  • Voluntary emissions reduction (VER):  This is a carbon offset that is exchanged in the over-the-counter or voluntary market for credits.
  • Certified emissions reduction (CER): This type of credit is created through a regulatory framework as a means of offsetting a specific project’s emissions. They’re typically issued to member states for projects that reduce greenhouse gases through Clean Development Mechanisms (CDMs) that set a baseline for future emission targets.

One key to implementing these programs successfully is setting the right targets. As noted by HowStuffWorks, if a cap is set too high, then you end up with excess emissions that hurt the environment. But if the cap is too low, you run into a situation where heavy demand for carbon credits drives up their price, making it difficult for some companies to buy them.

Not everybody agrees on the effectiveness of carbon credits. Some critics claim they are either too restrictive or not restrictive enough, while others suggest that they prevent some companies from taking tougher measures to reduce pollution.

But defenders of carbon credits say these types of programs provide needed incentives for companies to reduce their carbon footprints. They’re an especially good option for companies that have exhausted other means of reducing emissions, such as adopting leaner manufacturing processes, cutting down on office HVAC use or using cleaner fuels in company vehicles. Supporters also say carbon credits provide a practical, much-needed economic solution to a complex and often emotional issue.

One thing’s for certain: carbon credit programs have caught the attention of some pretty big hitters in the corporate world. Earlier this year JetBlue announced plans to offset its 15 -17 billion pounds of greenhouse gas emissions by buying carbon credits and using cleaner-burning fuel for planes that land at San Francisco International Airport.

That followed a similar announcement by airline group easyJet, which said that it will offset carbon emissions from the fuel used on all its domestic and international flights by increasing its use of carbon credit schemes and other emissions-reduction measures. The UK-based, low-cost airline said it would purchase offsets for 7.5m tons of carbon dioxide to cover a year’s worth of flights.

Corporations aren’t the only organizations using offsets to reduce their carbon footprints. The same can be said of investment funds and university pension funds. It’s all part of an effort on the part of corporations and other organizations to reach certain carbon milestones. Amazon CEO Jeff Bezos has pledged to have his company become carbon neutral by 2040, while Microsoft plans to be carbon negative by 2030. Starbucks aims to be “resource positive” by 2030, meaning it will store more carbon than it emits, eliminate waste and provide more clean, freshwater than it uses.


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