Understanding the Compliance vs Voluntary Carbon Market (VCM)

Key Takeaways

1. The carbon market effectively turns CO2 emissions into a tradable commodity by giving it a price.
2. Companies engaged in the VCM outperform their peers in accelerated climate action. 59% percent of VCM buyers reported lower gross emissions year-on-year related to reduced emissions and/or renewable energy consumption, compared to 33 percent of companies not participating in the carbon markets. — Ecosystem Marketplace Report
3. The voluntary carbon market was valued at US$2 billion in 2021 and industry experts expect it to grow at least five-fold to between US$10-60 billion by 2030. —Conservation.org

What are carbon markets?

Carbon markets are where buyers and sellers can buy and sell units of carbon. They have emerged as an essential tool for companies aiming to achieve net zero emissions, as companies can purchase credits from carbon projects. Carbon markets are broadly categorised into two segments: Compliance and Voluntary Carbon Markets (VCM).

What is the compliance carbon market?

In several countries, industries with high greenhouse gas (GHG) emissions (like power generation and manufacturing) must follow specific environmental regulations. Examples include the EU Emissions Trading System (EU ETS), the California Cap-and-Trade Program, and the Regional Greenhouse Gas Initiative (RGGI) in the US.

These regulations require such industries to obtain and retire a certain number of carbon credits. This process is designed to offset their emissions as part of the effort to meet national commitments under the UN Paris Agreements.

One example of a regulatory framework is cap-and-trade programs where regulated businesses or regions are issued a certain number of emission allowances by governments (or caps). Any emissions that exceed this cap must be paid for through the purchase of additional allowances.

What is the voluntary carbon market?

The concept of the VCM emerged in the early 2000s, growing out of the recognition that voluntary actions to reduce or offset emissions could supplement mandatory efforts under regulatory regimes like the Kyoto Protocol. Over the years, the market has evolved, with a significant increase in the variety of projects and participants.

In voluntary carbon markets, companies buy carbon credits to voluntarily offset greenhouse gas (GHG) emissions to achieve carbon neutrality or net-zero emissions goals through the credits. Currently, there are some countries such as Brazil allowing companies to use voluntary credits to meet their compliance obligations.

While the compliance market is highly regulated by a central party, the voluntary carbon market is largely unregulated, and controlled by several parties who run the essential market infrastructure needed. Managed by independent standards (like Verra’s VCS, Gold Standard) which ensure the credibility and quality of carbon credits. For example, credits are typically verified by third-party organisations to ensure they meet these standards.

Any entity can participate in the VCM, from individuals to traders, to companies, and even governments.

What is the Current Size and Projected Growth of the VCM?

The graph below shows the growing size of the carbon market which is projected to a maximum of $40b by 2030 — Reuters

Primary benefits of participating in the VCM

• Demonstrating Commitment: By taking part in the VCM companies can demonstrate their commitment to sustainability and climate action.
• Enhance Reputation: Engaging in voluntary carbon offsetting can enhance a company’s reputation and attract environmentally-conscious consumers and investors.
• Meet Net-Zero Targets: Participating in the VCM helps companies meet their own carbon reduction goals and align with global efforts to combat climate change.