Carbon Credits and Offsets
By Bruce Barbour - February 2023 - Version 3.1
Also see the earlier page on this subject which covers some of the same areas.
What is a carbon credit?Australia has instigated a formal carbon credit system. Under the scheme participants can undertake projects that (sometimes in theory) result in less carbon dioxide being released into the atmosphere (pollution reduction) or in carbon dioxide being removed from the atmosphere (sequestration). A tonne of carbon dioxide release avoided or carbon dioxide captured and sequestered results in the generation of one carbon credit which under the Australian scheme is called an Australian Carbon Credit Unit (ACCU). There are other carbon credit schemes and units in Australia and in other countries.
These ACCUs can then be traded in a marketplace. This allows companies that are producing carbon dioxide as a by-product of their operations to purchase these ACCUs to offset their carbon production. If they buy enough ACCUs they can claim their total operations do not have any carbon dioxide emissions. Governments can also purchase ACCUs to help reach their agreed targets.
This benefits the company buying the ACCUs as they may avoid paying penalties for exceeding a Government imposed threshold for carbon release from their operation. It may also benefit them in terms of publicity – they may claim in their public advertisements that their operation is clean and green and they are at “Net Zero”. This is despite in actuality still emitting carbon dioxide from their production sites.
The company that generates the ACCUs also benefits as it provides them with a source of money to reduce their carbon pollution or to undertake sequestration projects.
For the record carbon offsets are similar to carbon credits in that they usually represent a nominal one tonne of carbon dioxide reduced or sequestered. However carbon offsets do not have Government approval though they may be approved by an independent third party organisation. They are used in the voluntary carbon markets. For example an airline might purchase them so they can claim their flights are net zero. Or a company may do the same to claim net zero for their operations. They are generally lower quality and cheaper than carbon credits. I will use the term carbon credit on this web page for both credits and offsets for simplicity sake.
Classes of Carbon CreditsWhat is not fully acknowledged under the scheme is that there are two distinct classes of carbon credits. There are also a number of different sources for those credits. These different classes are shown in Table 1.
Table 1 - Classes of Carbon Credits
Under the Australian Carbon Credit scheme carbon credits generated from both classes of carbon credit are treated the same. That is a tonne of carbon release avoided from a pollution reduction project and a tonne of carbon sequestered under a sequestration project both generate one Australian Carbon Credit Unit (ACCU). The main area where the difference impacts is when calculating Australia's total carbon emissions - which I will explain later.
Pollution Reduction CreditsCarbon credits generated from pollution reduction projects are more problematic than sequestration carbon credits.
A pollution reduction carbon credit is generated by eliminating (or reducing) carbon dioxide emissions. This can include methane reduction from landfill gas capture, which is accounted for under the scheme by calculating the methane’s potential for atmospheric heating compared to carbon dioxide.
The logic behind pollution reduction carbon credits is that it allows a company that has carbon pollution that is either difficult, expensive or currently impossible (due to a lack of appropriate replacement technology) to fund another organisation through the carbon markets to decrease the other organisation’s easier to reduce carbon pollution and to then claim that pollution reduction as their own. Pollution reduction carbon credits is a means of getting one industry to fund another industry's carbon reduction.
Pollution reduction credits are problematic on a number of fronts.
As an example take land clearance avoidance. A farmer may say that he or she was going to clear an area of their farm that they have approval for. The clearing of the land would have resulted in the removal of trees and other shrubs which would then be burnt or otherwise allowed to rot. This would release carbon dioxide from the plants into the atmosphere. However the farmer may undertake that he/she will not clear the land and therefore avoid the release of carbon dioxide from the rotting of the dead plants. If approved this avoided carbon dioxide release can be used to generate carbon credits. The carbon credits are then sold and the farmer receives money.
The problem with this is with intent and additionality. Was the farmer really going to clear the land or had the farmer decided not to proceed anyway? In the latter case the farmer is receiving money for nothing. The carbon credits generated are not additional to what would have happened. There would be very little hope of proving this. How can a person’s real intent be determined if they say otherwise? The carbon credits are false. However these carbon credits can be sold to others to allow them to continue to pollute and possibly avoid a fine.
The recent review of Australia's ACCU system recognised the problem and recommended the removal of land clearance avoidance from the system. Hopefully this will also apply to international land clearance carbon credits in other voluntary or regulatory systems.
The potential for double counting is also an issue. Take a local landfill gas capture project as an example. The landfill captures the methane from the landfill and claims, say, 100 ACCUs for this carbon pollution reduction. These ACCUs are sold through the marketplace to, say, a coal fired electricity generator to offset some of their emissions. The coal fired generator is going to claim lower emissions by 100 ACCUs, even though they are still putting 100 tonnes of carbon dioxide into the atmosphere. However what is the landfill operator going to do. Their landfill is not emitting any carbon dioxide. Therefore they may also claim no emissions.
Here is a link to a fact sheet the Government put out in 2005 partially addressing the issue of double counting. It only addresses double counting when the carbon credit exchange is between two local companies in a "cap and trade" arrangement. It doesn't address the added complexity of international carbon credits or tackles the differences with sequestration carbon credits. Nor does it address how ACCUs or other carbon credits are used if Government purchases them in an attempt to decrease the country's overall emissions.
Double counting is not desirable in cap and trade situations but is much more significant if it occurs in the calculation of Australia's national carbon account. Hopefully the national accounting system is set up to ensure that double counting does not occur. See commentary below.
The issue of additionality also arises with landfill gas capture projects. Because the captured landfill gas contains a large proportion of methane it can be used as a fuel for electricity generation. This electricity generation creates income for the project. This may mean that the project would have gone ahead even without the generation of carbon credits and the income derived from that. In which case the project would not result in additional carbon capture and the project sponsor would be getting money for nothing if they claim the carbon credits.
Carbon pollution reduction credits may be used as a way of funding pollution reduction projects that does not involve government subsidy. They could also be used as part of a cap and trade system. It is still not the best way for carbon pollution reduction to be achieved.
Ideally the producer of the carbon pollution should be incentivised to reduce their pollution by a direct government imposed "carbon price" or some other mechanism. An organisation’s reward for reducing their carbon pollution would be that they do not have to pay the carbon price. The only reason pollution reduction credits exists at all is because Australia doesn't have a price on carbon. I acknowledge the problematic history of carbon pricing in Australia. However this does not mean that carbon pricing is not a good idea.
The same level of funding of pollution reduction projects could be achieved if the government taxed the polluting company about the same amount for its excess carbon pollution as it would have spent on carbon credits and then used that money to subsidise the pollution reduction project in the other company. This method does not have the fiction that the taxed company has reduced their carbon pollution and the issues related to potential double counting.
It is even more problematic if the purchase of carbon credits occurs across international boundaries.
Sequestration Carbon CreditsA sequestration carbon credit is generated by taking a tonne of existing carbon dioxide out of the atmosphere and storing it biologically or geologically. This is very different to a pollution reduction carbon credit which, as noted, is generated by a company decreasing their future carbon pollution.
Carbon sequestration can occur by storing carbon in:
The problem with sequestration in living biomass is whether that living biomass remains alive in the long term. For example a reforestation project might be undertaken on fringe marginal land. The trees may survive initially but in the future there may be a couple of years of drought and the trees die off. Or a bushfire burns the trees and kills them. This is very problematic. Whether carbon credits are issued for a proposed living biomass (reforestation) project needs to be very carefully considered. Marginal lands are not suitable. It should only be considered for infill lands. E.g. - where land has in the past been clear-felled and used for pasture, and the surrounding or nearby land is still fully forested. It should include the consideration of rainfall records (with the possibility of rainfall decreasing into the future due to climate change), and soil types etc., and the other needs for the trees planted. Even then it should be discounted to allow for the very real risk of bushfire.
There have also been claims of rorting the system by unscrupulous people claiming regeneration carbon credits on blocks of land that are already fully forested.
The other sequestration methods are better in that they are much more likely to be long term storage solutions.
The company generating carbon credits from sequestration is taking carbon out of the atmosphere and sequestering it. For each carbon credit generated they have put one tonne of carbon into long term storage. The company has negative one tonne of carbon emissions. They can then sell that negative one tonne as a carbon credit (an ACCU). A company that has a tonne of carbon pollution to offset can buy that ACCU. Effectively under this arrangement the combined carbon output of the carbon credit producer and purchaser is net zero, unlike pollution reduction carbon credits which still leaves carbon going into the atmosphere.
With sequestration credits the risk of double counting and additionality would be less (except perhaps for some living biomass projects as mentioned earlier) because the projects that generate the sequestration carbon credits are specifically set up for the purpose of removing carbon from the atmosphere.
The Different Costs of Producing Carbon CreditsAnother issue with an ACCU being ACCU regardless of source is that it favours the cheapest form of carbon reduction. That is a deliberate design feature of the system. However in many cases the cheapest is not the best. For example pollution reduction credits and also living biomass sequestration are probably the cheapest means of generating ACCUs so may attract the most investor interest. But, as described above, they also have the most potential for rorting and the most potential for not achieving long term carbon reductions.
Carbon capture and geological storage is an excellent means of sequestering carbon for the long term but it is also one of the more expensive methods. This means there may not be much investor interest in developing this type of project if they have to compete directly with the other cheaper but inferior carbon credit projects.
Australia and the World are going to need many forms of atmospheric carbon reduction if it is to firstly achieve Net Zero and then go for negative emissions. There has to be a way of funding, developing and recognising the possible superiority of the more expensive means of atmospheric carbon reduction.
International Carbon CreditsInternational carbon credits are not included in the ACCU scheme at present. However international carbon credits are used in voluntary carbon offset schemes in Australia.
International carbon credits are more problematic than locally produced carbon credits - mainly relating to control and assurance that the carbon credit is actually providing the pollution reduction or carbon removal stated long term and also full agreement between the countries on what each country can claim in terms of carbon pollution reduction in their national carbon accounts to avoid double counting.
Land clearance avoidance and living biomass (reforestation) is particularly problematic. If a country such as Australia - not known as a particularly corrupt country (though rorting of other Government schemes has been problematic in the past) has significant problems with the integrity of its land clearance and living biomass carbon credits according to some critics, then the problem is going to be an order of magnitude (at least!) higher in some other countries where corruption is embedded into their political and regulatory systems. The resolution of this is problematic in the extreme. So much so that I would question whether these types of international carbon credits should be allowed into the Australian market and indeed the World market, at least from countries known for corruption.
Also the the magnitude of the potential number of carbon credits that could be claimed is also problematic. Say a section of the Amazon rain forest is supposedly saved from logging. Great. But can we have confidence the saving is real? For a project like this huge numbers of carbon credits could be generated. And they could be cheap, therefore suppressing the price for other sourced, perhaps higher quality, carbon credits. The rain forests have to be saved but I doubt whether carbon credits will achieve this. There are better ways than to leave it up to the markets.
With international pollution reduction carbon credits the Australian company is paying an overseas company - and therefore an overseas country - to reduce their pollution. Provided the reduction is real - and that is the big issue - the climate change impact is the same as the reduction being in Australia. However, problems arise when there is an attempt to transfer these carbon savings on paper to the country that purchased them to reduce the purchasing company's - and Australia's - emissions - on paper.
As an example take a landfill gas capture project overseas. Say all methane is captured and 4000 carbon credits generated (to pick a figure out of the air). The foreign company sells them to the Australian company and the company then claims a reduction in its emissions by that 4000 carbon credits - 4000 tonnes CO2. However it is still pumping out the 4000 tonnes of CO2 - in Australia. Australia may also want to claim this emission reduction in its national carbon accounts. But the problem is - what does the foreign country and company do? They may also want to claim a 4000 tonne reduction. After all their landfill is now not emitting any methane. If both countries claim the reduction they would together be claiming zero tonnes of carbon pollution being emitted. However there is still 4000 tonnes of CO2 being emitted - in Australia.
This 4000 tonnes of pollution has to be owned by one of the countries. Otherwise if neither have ownership, it results in double counting of the carbon dioxide reduction. Australia's claim for zero is based on them (or an Australian company) having paid for the pollution reduction. The foreign country's claim is based on the country now emitting zero carbon from the landfill.
There is still no consistent agreement among countries regarding this. However various IPCC COPs and other international conferences have proposed that the foreign company and therefore foreign country where the landfill is to claim ownership of the 4000 tonnes of carbon pollution*. But are they really going to do it? After all the landfill is not actually emitting any CO2. In fact the foreign company have locked in this fictional 4000 tonnes of local CO2 emissions into their company and country's national carbon accounts. There is no way they can get rid of it - unless they buy back the carbon credits. This is a problem for the overseas country. A company on their land has made a "product" - 4000 carbon credits - that it sells overseas, in the example's case to an Australian company. Presumably the foreign company have made a profit from this. But, if the foreign country still has to count the 4000 tonnes of carbon emissions into their national carbon accounts, the foreign country itself has not benefited in terms of their carbon reduction obligations. The company in their country gets a benefit - as indeed does the Australian company - but the foreign country still has to bear the obligation - if they indeed do count the 4000 tonnes in their national carbon accounts.
* For confirmation that this is indeed the way the international market is meant to work for carbon credits - they don't differentiate the two classes either - please refer to this linked report from the Climate Change Authority, paragraph 2.16 and the associated Image 4. Also consider that this could be for thousands of individual trades over many decades. Difficult to track for Third World countries who gain nothing from it. There is no incentive for them to do it. And how are they penalised if they don't? I can see the foreign country disowning the carbon, especially if the company producing credits on their soil is owned by a company from a third country. They could say "its the company's carbon - nothing to do with us".
As another way of looking at it, what if an Australian company sold pollution reduction carbon credits to an overseas country. Would the Australian Government be satisfied with having to include the amount of carbon represented by those sold carbon credits added to Australia's national carbon accounts. Especially when the Australian Government has received nothing from the sale of the carbon credits.
Overseas pollution reduction carbon credits are too hard to enforce to ensure double counting does not occur - at least for each country's national carbon accounting. And there is an unfairness about it if they do have to count them. It is another case of the West paying money to transfer its problem to the Third World.
Overseas pollution reduction credits purchased by Australian companies or an Australian government body (Federal, State or Local) should not be included in Australia's national carbon accounts. If they are still being produced and sold to an Australian company it should be acknowledged that the carbon reduction still belongs to the country where the carbon emissions reduction occurred, to reduce their national carbon emissions. The local (Australian) company that purchases them may be able to include the credits in their cap and trade arrangement (if the law of the land allows it) or in their green credentials and "net zero" commercial publicity (for voluntary reductions). This will mean that there is still a flow of money to overseas pollution reduction projects - which is worthwhile. Consider it part of the West's contribution to less developed countries to fight climate change - and as stated it doesn't matter where the carbon reduction actually occurs in terms of its benefits to climate change mitigation.
The country of origin of sequestration carbon credits is less important provided they are certified and from a trustworthy source and there is agreement on which country will claim the carbon reduction in their national carbon account. Again international living biomass projects could be problematic - and perhaps should not be allowed in our national carbon accounts. It could be decided to treat all foreign sequestration credits like the pollution reduction credits and not include them in the Australian national accounts. Let the country they originated in benefit from them.
Australia’s Carbon AccountingThe Federal Labor Government intends to use up to 20% carbon credits to meet their 43% 2030 emission reduction target. This is less than the previous Liberal/Nationals plan but still substantial. Consequently how carbon credits are used in the calculation of Australia's total annual carbon dioxide emissions is important.
I am unclear about how Australia’s total carbon dioxide output is actually calculated. The National Greenhouse Accounts website, where you would think all this should be laid out in detail, is strangely silent on how they include carbon credits into their calculation. I have since been advised that it is the Department of Climate Change, Energy, the Environment and Water that is responsible for how carbon credits are used in calculating Australia's total carbon dioxide output. I still can't find a web-page or other document on their site that clearly show how carbon credits are used in the Australia's carbon accounting calculation. I speculate that part of the reason for this is that there is still no international agreement on the use of international carbon credits in Australia's (or any other country's) national carbon accounts.
Here is how I believe the "Carbon Accounting Calculation" should be done.
There is no place for local pollution reduction carbon credits in this calculation. The calculation of Australia's total carbon dioxide emissions (the first dot point) would already include the decrease in carbon pollution reduced under the pollution reduction carbon credit scheme for Australian produced pollution reduction credits. To subtract locally produced pollution reduction carbon credits in the overall Carbon Accounting Calculation would be to double count their impact.
Purchased international pollution reduction credits could be subtracted as a fourth dot point in the Calculation but should not be included for all the reasons stated in the Section on International Carbon Credits.
This is a "bottom up" calculation method. Any local carbon reduction generated from a cap and trade systems being utilised in the country would also already be included in the first dot point of the calculation.
Perhaps the calculation is done differently to this (a "top down" approach), in a manner that would allow pollution reduction credits to be subtracted from total emissions without double counting. I don't see how - or why. It would make the calculation much more complicated with more possibility of error and double counting.
Australia’s system does not on the surface differentiate between pollution reduction and sequestration credits. An carbon credit is a carbon credit regardless of its source. However when Australia carries out the Carbon Accounting Calculation the people doing the calculation must be aware that they can only use sequestration credits or risk double counting. However this information should be able to be easily determined in the ACCU register and also from reports of overseas purchases.
The practical result of this is that the number of carbon credits used in the Carbon Accounting Calculation (second dot point) must not exceed the total number sequestration credits generated under the ACCU system in the year plus the number of certified international sequestration credits purchased by Government and Australian based companies (the calculation third dot point) in the year.
If there are insufficient sequestration credits being produced in Australia the Government should be offering better incentives to organisations to produce more sequestration carbon credits and for organisations to purchase sequestration credits in preference to pollution reduction credits.
Genuine pollution reduction carbon credits, if they remain as part of the ACCU and other carbon credit schemes, can be used in cap and trade arrangements or to artificially reduce a company's emissions on paper. It is a means of mandating pollution reduction. It is also a means of funding pollution reduction, if not the best means.
Ban on Stockpiling of Carbon CreditsCompanies should not be allowed to stockpile carbon credits. Once they purchase them they should have to surrender them to government to claim the carbon credit within say two years. Otherwise they could accumulate large numbers of credits and only surrender them when Government regulation tightens emission caps. This type of hoarding and late surrender could allow the company to maintain its polluting ways - business as usual - for a much longer period. To the detriment of the environment.
The same applies to Government. Government could stockpile a large number of sequestration carbon credits and only surrender them in the year that a target should be met - and the subsequent years - so that they can claim to have met the target - while in the years immediately preceding the target date year their emissions could be much higher. One way of tackling this is to have frequent target dates. Instead of just a 2030 target have a 2025 and 2028 target as well. Another way is to have a national carbon budget, based on a linear emissions reduction, that can't be exceeded by the target date.
* * * * *
SummaryWhat have I learnt while trying to get my head around this subject?
* * * * * * *A report on the Review of Australia's Carbon Offsets Integrity has recently been released. My comments are linked to here.
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