A carbon compliance market is an agreement between governments where enterprises and organizations trade different instruments related to greenhouse gas emissions, which are typically carbon credits. The compliance markets are regulated by national and international carbon legal frameworks and policy.
What Defined Market Movements at the Start of 2022?
The pace at which the carbon markets moved in 2022 was defined in 2021; while some decisions will move into 2023 as well. The year 2021 was defining for the carbon markets as both the voluntary and compliance markets made significant progress in trading volumes. However, the growth in the voluntary market was dwarfed by the more liquid compliance market.
Fit for 55, a program launched by the European Commission in July 2021, was one of the most significant initiatives in the market driving the outlook in the European markets. It came with measures such as increasing the linear reduction factor from 2.2% to 4.2% on the supply side, as well as maintaining the market stability reserve (MSR) purchases at 24% until 2030. It also started phasing out free allocations.
The 26th COP in November 2021 led to the Glasgow Climate Pact, where more than 150 countries submitted their plans to cut emissions to the United Nations. It also created various initiatives to cut emissions from coal, methane, deforestation, and transport. The carbon credits were also restructured and there was the creation of tradable emissions reductions called ITMOs (Internationally Transferred Mitigation outcomes). ITMOs are Units generated under the Paris Agreement Article 6.2, which refer to mitigation outcomes resulting from projects, programmes or actions implemented in one country and transferred to another country. These are used to demonstrate compliance with their mitigation commitments. These ITMOs are different from the carbon credits as CDM or verified emission reduction (VER) under the Clean Development Mechanism (CDM) or Joint Implementation (JI) under the Kyoto Protocol.
At the start of 2022, all major compliance markets had experienced huge capitalization led by the European Union. By the end of 2021, the IHS Markit Global Carbon Index had returned 108%. This index tracks the futures of all major carbon markets, including California, Europe, and the Regional Greenhouse Gas Initiative. European Union allowance futures markets led with a return of 138%, followed by California at 73% and RGG1 at 68%.
The global carbon pricing revenues for 2021 reached $84 billion, a 60% increase over the previous year. Carbon pricing instruments had also increased to 68 with the implementation of new ones from Uruguay, Oregon, Ontario, and New Brunswick.
How Did 2022 End For The Compliance Market?
The compliance carbon market has experienced increased growth in 2022, with prices edging closer to $110 during the course of the year. The Fit for 55 has pushed the European market higher than the rest of the markets. By the end of 2022, the carbon marketplaces had covered over 20 percent of all the carbon emissions around the globe.
According to the reviews of the COP27 held in Egypt towards the end of the year, there might be a tighter focus on the carbon markets, meaning that they will experience stricter controls which are likely to bring cash inflows as organizations try to keep up with the compliance requirements.
Cost inflation and recession risks have also had their effects during the course of 2022. By the end of the year, there were fewer carbon allowances as the industrial sector looked for ways to contain production costs and safeguard their supply chains against disruptions. However, the US market has been resilient, as the economy is doing much better than other geographical areas.
The year ended on a high note with robust trading on credits and allowances and hope for growth in prices in 2023.
What is Expected for 2023?
The events in 2021 and 2022 will affect the direction, capitalization, and performance of the compliance carbon markets in 2023. Here are some of the things that are expected for the year 2023.
Pledges will Increase Prices
The effects of Fit for 55 and carbon-neutral pledges for the EU, as well as pledges from countries such as the UK and South Korea, will likely boost carbon prices. It is expected the price will hit $100 a ton before the end of the year on the compliance sectors. According to the World Bank, this is the price required for the world to achieve the Paris Agreement on containing the world’s temperature within certain thresholds. Most of the carbon markets in the UK, EU, and New Zealand will have prices above this range, while China is likely to improve slightly to above $10 per ton of carbon dioxide.
More Scrutiny for Markets
In 2023, many jurisdictions will be looking toward developing transparency, scrutiny and frameworks to strengthen their carbon markets. Therefore, there is a likelihood that these will experience lower price volatility as well as increased liquidity, by allowing more capital to be injected into the sector.
Regulations in the Voluntary Sector
As the demand for greater accountability and transparency in offsetting carbon emissions increases, there may be growing pressure for the voluntary carbon market to become more regulated. While these markets have provided an opportunity for companies to offset their carbon footprint and demonstrate their commitment to sustainability, there are currently challenges in the sector such as the lack of standard measurement methods for emissions, concerns about the quality of carbon credits, and instances of double counting of credits which can lead to manipulation and fraud.
However, with more regulations in place, the voluntary carbon market may become more aligned with compliance markets. This could also result in a shift of capital from compliance-focused efforts to voluntary carbon offset projects, ensuring higher standard and more stringent practices in place to make them more credible.
This would be beneficial for companies and organizations in the long run as it would allow them to make more informed decisions about their carbon offsetting efforts, help them to meet their sustainability goals and it will also help the overall industry to grow in a more transparent and trustworthy way.
Lowering Clean Energy Prices
The EU’s gas supply risk, caused in part by the war in Ukraine and lower hydro- and nuclear power outputs in the US, is likely to drive up prices as more coal is burned, pushing emissions to all-time highs. Financial intermediaries are also getting attracted to carbon markets and are likely to support the prices against inflation.
Carbon Credits are the Way to Deal with Emissions
The exchange of carbon credits is the best way to reduce greenhouse gas emissions.
Credits are monetary incentives for major carbon emitters to reduce their footprint. Those unable to cut their emissions are forced to operate at a higher cost. In the end, this is a verifiable and measurable emission reduction method and the system should be strengthened to help achieve carbon goals within the set timelines.
Aither is a leading player in the carbon emission reduction initiatives helping companies and organizations navigate the carbon markets and offset their emissions. Our team of experts can provide tailored solutions that match your organization’s specific needs, whether it is carbon offset, carbon trading, or other climate solutions. Contact us to learn more about how we can assist your organization in achieving its carbon reduction goals and contributing to the global effort to fight climate change.