Introduction to Carbon Credits
In recent years, the urgency to tackle global climate change has intensified, with international consensus increasingly focused on reducing greenhouse gas (GHG) emissions. According to MSCI (2024), over 6,200 carbon projects were registered across the 12 major international registries by the end of 2024, issuing 305 million tonnes of carbon dioxide equivalent (CO₂e) in carbon credits within 2024 alone. Since the signing of the Paris Agreement in 2016, cumulative issuance has exceeded 2.1 billion tonnes.
Carbon credits represent verified emission reductions or removals of greenhouse gases, with each credit equivalent to one tonne of carbon dioxide avoided or removed from the atmosphere. They provide market-based incentives for companies to proactively reduce emissions or fund emission reduction projects elsewhere. Surplus credits can be traded on voluntary or compliance markets, offering economic rewards for sustainable practices (World Bank, 2023).
The carbon credit mechanism was inspired by the successful sulphur dioxide emissions cap-and-trade schemes from the 1990s (Ellerman et al., 2000). Recently, international commitments to this mechanism have accelerated: COP26 in Glasgow (November 2021) established a global carbon offset market framework (UNFCCC, 2021), and COP29 in November 2024 in Baku officially adopted Article 6.4 of the Paris Agreement. This established a UN-supervised international carbon market, creating unified standards to enhance integrity and stimulate market growth (UNFCCC, 2024).
Carbon Removal vs. Carbon Avoidance
To understand the carbon credit market clearly, it’s essential first to distinguish two types of carbon assets: carbon allowances and carbon credits. Carbon allowances exist exclusively in compliance markets—for example, China’s Carbon Emission Allowances (CEAs), regional xxEAs, or the European Union Allowances (EUAs)—and are allocated by regulators to entities covered under mandatory emissions trading schemes, either freely or via auctions. In China, free allocation currently dominates.
In contrast, carbon credits are generated primarily through voluntary projects that either directly reduce emissions or remove greenhouse gases (GHGs) from the atmosphere. These projects fall into two main categories:
- Carbon Removal refers to projects actively extracting CO₂ from the atmosphere. This category includes both nature-based solutions—such as afforestation, reforestation, mangrove restoration, and soil carbon sequestration—and technology-based solutions, such as bioenergy with carbon capture and storage (BECCS) or direct air capture with carbon storage (DACCS).
- Carbon Avoidance involves preventing emissions that would otherwise occur. These credits originate from the difference in emissions between a defined baseline scenario and the implemented project scenario. Carbon avoidance projects include natural conservation (e.g., avoided deforestation under REDD+) and technology-driven initiatives such as renewable energy adoption, energy efficiency improvements, and methane capture.
Clarifying Key Terms: Carbon Sink vs Emission Reduction
Within voluntary carbon markets, two primary forms of credits are recognised:
- Carbon sink credits typically relate to natural or technological methods actively removing carbon from the atmosphere. While commonly associated with natural carbon sequestration like forestry, grasslands, and oceans, according to the IPCC, carbon sinks broadly include any process, activity, or mechanism that removes greenhouse gases from the atmosphere, covering both natural and technological approaches.
- Emission reduction credits refer to the measurable reduction in GHG emissions achieved through technological innovation or alternative methods. These credits represent relative emission reductions compared to a baseline scenario, primarily generated by carbon avoidance projects. However, the term “emission reductions” can also describe emission cuts outside carbon markets without tradable characteristics.
Risk & Permanence of Carbon Credits
Carbon Removal Example: Climeworks’ Direct Air Capture (DAC)
- Location: Iceland
- Method: Climeworks uses DAC technology to capture atmospheric CO₂ and stores it underground permanently through mineralisation processes in partnership with Carbfix.
- Impact: Each facility can permanently remove thousands of tonnes of CO₂ annually, offering highly reliable and measurable carbon credits with minimal reversal risks.
Carbon Avoidance Example: REDD+ Conservation Project in Brazil
- Location: Jari Pará, Brazil
- Method: The project focuses on preventing deforestation (REDD+), protecting large areas of rainforest, and thereby avoiding significant potential CO₂ emissions.
- Impact: Successfully prevented deforestation across thousands of hectares, generating carbon credits through emissions avoided. However, these credits carry a higher risk of reversal compared to engineered solutions due to natural risks such as fires or deforestation pressures.
In conclusion, understanding the distinction between different types of carbon credits is crucial for stakeholders navigating the complex carbon market landscape. While both carbon removal and avoidance projects contribute to climate change mitigation, they differ significantly in terms of methodology, permanence, and risk profiles. As the global carbon market continues to evolve, these distinctions will play an increasingly important role in shaping investment decisions and regulatory frameworks.
