Select Committee on Environmental Audit Sixth Report


The compliance carbon market

5. In 1997 the United Nations Framework Convention on Climate Change (UNFCC) adopted the Kyoto Protocol which established legally binding targets for greenhouse gas reductions by those countries which ratified the Protocol (predominantly 'developed' countries with the notable exceptions of the USA and Australia): these countries are also known as Annex I countries. To enable compliance the Protocol established Flexible Mechanisms to allow these countries to meet their targets by trading carbon credits or emission reduction units. The compliance market is the product of these Flexible Mechanisms established by the Protocol. These mechanisms are: the Clean Development Mechanism (CDM); Joint Implementation (JI); and Emissions Trading. In addition to this, several nations and groups of nations have developed their own trading mechanisms to help them meet their targets; the biggest of these is the European Emissions Trading Scheme (EU ETS).[2]


6. The CDM is a mechanism that allows the Annex I parties to the Kyoto Protocol (such as the UK) to meet their emissions reduction targets by generating credits from emissions-reducing or saving projects in developing countries. This allows for the reduction to be made at a lower cost than may otherwise be possible domestically. The projects generate emissions credits called Certified Emissions Reductions (CERs) which can then be bought and traded. One CER is equal to one tonne of carbon dioxide equivalent gases.[3]

7. In order to be recognised in the CDM, projects have to demonstrate that they create savings which are additional to anything that might have happened anyway—a concept known as 'additionality'. Additionality is proved by using the CDM toolkit, which provides stringent criteria for a project to meet and provides a methodology for calculating baseline emissions which then give a business-as-usual (BAU) scenario against which the project is compared. The amount of credits that a project is entitled to is the difference between the project emissions and the baseline emissions.[4] The methodology enables project developers to show that the emission reductions would not have happened but for the project. There are currently approximately 60 different methodologies to cover a range of different project types.[5] An authorised third party called the Designated Operational Entity (DOE) is responsible for the verification and certification of the project. Verification involves on-site inspection and review. The certification procedure provides written assurance that the project has achieved the claimed emissions reductions.[6]

8. A CDM 'Gold Standard' has been developed by a group of NGOs led by WWF-UK. This is built on the foundations of CDM standards and methodologies, but also incorporates guidelines to demonstrate a project's sustainable development achievements. Projects are restricted to renewable energy and end-use energy efficiency projects and are also assessed via a scoring system on their environmental, social and economic impacts on sustainable development. Although this standard is not strictly for CDM projects, the use of CDM standards as a foundation (which are costly to meet) means that few projects outside of the compliance market are attracted to it.


9. Joint implementation allows developed, Annex I countries to meet their emission reduction targets through projects in other developed countries with legally binding targets under the Kyoto Protocol. These projects generate tradable credits which are called Emission Reduction Units (ERUs). As under the CDM, projects must demonstrate additionality and go through a similar verification and certification process. At the moment, the Government does not approve any JI projects in the UK, but it does allow companies to participate in JI projects abroad. JI credits can be used to meet UK Kyoto targets.[7]


10. The Kyoto emissions trading scheme is a cap-and-trade scheme. In a cap-and-trade system parties are given an emissions allowance based on an emissions reduction target. In order to create scarcity a limited number of allowances are issued equal to the 'global' target below the business as usual emissions level for a particular period. In the Kyoto scheme each allowance is called an Assigned Amount Unit (AAU) which is equivalent to one tonne of carbon dioxide. At the end of a period each party must hold the equivalent number of AAUs equal to the amount of greenhouse gas it emitted. This allows parties to decide whether to reduce their emissions internally, or whether to buy credits from other parties, who may have been able to make an emission reduction more cheaply. Similarly, parties which have reduced their emissions below their target will be able to trade any surplus allowances they make to other parties who cannot, or who do not want to meet their targets internally. The rationale behind emissions trading is cost-effectiveness; that in theory, parties will choose the most cost-effective way to either make or buy their emission reductions.

11. The EU Emissions Trading Scheme (EU ETS) began in January 2005 and is the largest emissions trading scheme covering 12,000 installations in 25 countries.[8] The trading units in this scheme are called EU Allowances (EUAs). Parties in this scheme can buy and sell EUAs, or they can purchase—within certain limits—CERs from the Clean Development Mechanism or ERUs under Joint Implementation. Our recent Report on the EU ETS highlighted the importance of the Scheme to reducing emission across Europe, and also noted the links between the Scheme, carbon markets and the CDM.[9]

The voluntary carbon market

12. The voluntary carbon market (VCM) has developed independently of government targets and policies and is a place where anybody, from businesses, to NGOs, to individuals can participate in the business of offsetting. Carbon credits are also created in the voluntary market, but unlike the compliance market where credits are tradeable under the Kyoto flexible mechanisms (that is to say, they are 'fungible'), credits in the voluntary market are generally non-fungible—they are not tradeable between schemes.

13. There is a legally-binding voluntary market where parties can set self-imposed, legally binding greenhouse gas emissions reductions targets: an example of this is the Chicago Climate Exchange. The focus of this report is the non-legally binding voluntary carbon offset market. In this market, people invest in emissions reductions for a variety of reasons from meeting their own self-imposed emissions reduction targets, to helping to address climate change, or to help reduce the impact of their carbon footprint. Some credits in this market are verified according to certain standards, others do not meet any identifiable verification standards.

14. Customers in the non-legally binding voluntary market are able to purchase both credits which originate from the compliance market and credits which originate from the voluntary market. When compliance market credits are used for voluntary offsetting they do not go towards assisting or meeting any legally-binding reduction targets. An important point which will be addressed below is that it is not always very clear to consumers exactly which type of credit they are buying. In the voluntary market there are no overarching or compulsory standards or methodologies for creating credits. There are however, a number of voluntary standards emerging in an attempt to bring greater robustness and harmonisation to the voluntary offset marketplace. Two of the biggest of these are the Voluntary Gold Standard (VGS) which was launched in May 2006 and the Voluntary Carbon Standard (VCS). Version 1 of the VCS has already been released and version 2 is currently under development. There are also standards which have been created for other types of offset projects; an example is 'Plan Vivo' which is created for projects in rural communities which promote sustainable livelihoods.


The Voluntary Gold Standard (VGS)

15. Launched by WWF-UK in May 2006, the Voluntary Gold Standard is a simplified version of the CDM Gold Standard. The methodology is only available for voluntary emissions reductions and creates Voluntary Emissions Reduction Units (VERs).[10] The VGS is only available for projects in developing countries and whilst it uses the basic methodologies of the CDM Gold Standard, its hope is that it will make them easier to apply to the smaller project types more generally found in the voluntary market.

The Voluntary Carbon Standard (VCS)

16. The Voluntary Carbon Standard has been developed by The Climate Group and the International Emissions Trading Association (IETA). Version 1 of the VCS was released for consultation on 2 March 2006. The comments from this consultation were incorporated into version 2 of the VCS which is still in its consultation stage. The VCS has created a unit called the Voluntary Carbon Unit (VCU). VCUs issued under version 1 will be grandfathered (allowed to continue to operate as per version 1); the final version of the VCS has yet to be finalised. The Voluntary Carbon Standard aims to ensure that all voluntary emission reductions projects that want to trade in VCUs are independently verified to meet specific criteria and that these will represent "real, quantifiable, additional and permanent project-based emission reductions".[11] The VCS will provide protocols and criteria to certification entities and project developers on the specifications for creating, verifying, and registering VCUs. The VCS has created a registry managed by the Bank of New York which is used to register, transfer and retire VCUs from the market.

Other developed standards

17. The Climate, Community and Biodiversity Standards (CBB) developed by the Climate, Community and Biodiversity Alliance, are for "land-based projects that can simultaneously deliver compelling climate, biodiversity and community benefits."[12] There are three levels of CBB validation: approved; silver; and gold. There are 23 possible standards to meet of which 15 are compulsory for "approved" validation with the remaining eight being optional. Depending on the number of optional standards met, the project may get either silver or gold validation. An independent third party evaluates whether the project merits approval, and if so, at what level. The standard uses the methodologies of the Intergovernmental Panel on Climate Change Good Practice Guidance (IPCC GPG) but can also used approved CDM methodologies for calculating carbon reductions/ savings.

18. Similarly the Plan Vivo System provides a standard for "managing the supply of verifiable emission reductions from rural communities in a way that promotes sustainable livelihoods."[13] The Plan Vivo System is managed by BioClimate Research and Development which is a not-for-profit organization and is responsible for development and maintenance of the Plan Vivo system. It contracts the Edinburgh Centre for Carbon Management (ECCM) to provide the systems maintenance resources needed for the development of Plan Vivo. ECCM provides a technical team to assist with the development of technical specifications for the project alongside the project developer and the host organisation. Projects are usually monitored using local experts and credits are registered on a database.

Proprietary standards

19. Voluntary offset retailers have developed their own standards which create credits which use the generic term of Verified Emission Reductions (VERs). They share their acronym with Voluntary Emission Reductions and the two are often using interchangeably which can cause confusion as in one, the emissions reduction or saving has been verified, whereas in the other, this is not necessarily the case. Here, the standards for these verified emissions reductions vary widely in many respects including how the project baselines are calculated, how additionality is tested and how verification is carried out. For some projects, this is not done at all, which reflects the cheaper cost of some of these credits in the voluntary market. It is up to the buyer of credits to determine what standards they want their credits to meet. Consequently these sorts of credits are neither comparable nor tradeable.

Proposed Government Code

20. In January 2007 the Department for Environment, Food and Rural Affairs (DEFRA), launched its consultation on establishing a voluntary code of best practice for the provision of carbon offsetting the UK customers. Its purpose in establishing the code is to "ensure consumer confidence in an emerging market and continued growth of that market through that confidence."[14] The code would not create a new tradable unit in the voluntary offset market but would be applicable only to compliance market credits being traded in the voluntary market, principally, CERs. The code would define standards for offset providers trading in these credits, who in return for meeting these standards would be awarded a quality mark. The code proposes standards for: ensuring accurate calculations of emissions to be offset; providing clear information for consumers about the mechanisms and projects supported; transparent pricing; and a timetable for cancelling or retiring credits.[15]

2   The Carbon Trust "The Carbon Trust three stage approach to developing a robust offsetting strategy" 17 November 2006 Back

3   Department for Environment, Food and Rural Affairs, Consultation on establishing a voluntary Code of Best Practice for the provision of carbon offsetting to UK customers, January 2007, p 50 Back

4   The Carbon Trust "The Carbon Trust three stage approach to developing a robust offsetting strategy" 17 November 2006 p.12 Back

5  Back

6   The Carbon Trust "The Carbon Trust three stage approach to developing a robust offsetting strategy" 17 November 2006 Back



8   The Carbon Trust "The Carbon Trust three stage approach to developing a robust offsetting strategy" 17 November 2006 p.8 Back

9   The EU Emissions Trading Scheme: Lessons for the future, Second Report of Session 2006-7, HC 70 Back

10 standard/index.cfm  Back

11  Back

12  Back

13  Back

14   Department for Environment, Food and Rural Affairs, Consultation on establishing a voluntary Code of Best Practice for the provision of carbon offsetting the UK customers, January 2007 p 2 Back

15   Department for Environment, Food and Rural Affairs, Consultation on establishing a voluntary Code of Best Practice for the provision of carbon offsetting the UK customers, January 2007 p 11 Back

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Prepared 23 July 2007