Emissions Markets: The Good, The Bad, The Ugly

The press, the markets and politicians get all mixed up.

A global warming debate yesterday at New York University between Senator John Kerry, a Democrat, and former congressman Newt Gingrich, a Republican, may have disappointed spectators hoping for a brawl. Gingrich unexpectedly agreed with his opponent that climate change is an “urgent” problem that demands action, and the debate morphed into a squabble about what to do next. Kerry stressed the need for strict national and international emissions standards, which Gingrich dismissed as needless bureaucracy; he called, instead, for tax breaks to foster private-sector innovations and solutions.

At the moment, Newt has actuality on his side. Free-market economists going back to Adam Smith have lauded capitalism because it doesn’t wait for anybody, especially politicians and lawyers, to figure out how a market works most efficiently. An “invisible hand” pushes self-interested consumers to make decisions that benefit society as a whole. It’s like magic, but actually this libertarian construct characterizes much of how emerging emissions trading markets operate. These markets are either “compliant,” meaning that businesses must meet certain emissions reductions under the Kyoto Protocol, for example, or “voluntary,” meaning that individuals and businesses pay for emissions-reducing technology without any obligation to do so. It’s not exactly the laissez-faire world that Smith envisioned, but the now-lucrative trade in greenhouse gas credits and offsets has evolved largely without government standards and protocols. But is Newt right? Is this best?

The business press has done a decent job in recent months to at least begin to answer this question, and it has uncovered problems nearly everywhere that emissions are traded—mostly the result of a lack of government oversight and regulation. But it’s too early for reporters to cap their pens, because growth in the various trading schemes shows no signs of slowing—and there is still much we don’t know. What’s more, as many recent articles have stressed, individuals, households, and businesses are not waiting for national governments or the United Nations to iron out all the details of emerging markets. Especially not when there is “big money at stake,” as the Wall Street Journal columnist Alan Murray put it. The Clean Development Mechanism (CDM), the emissions market created by the Kyoto Protocol, and the Emissions Trading Scheme (ETS), the market created by the European Union, don’t do a great job of monitoring the use of the emissions credits they allot, but there are still $28 billion worth of credits in circulation worldwide. In the United States, the Bush administration has been slow to regulate emissions, but nevertheless consumers voluntarily spend $100 million a year, according to one BusinessWeek estimate, to “offset” their share of greenhouse gases from travel, home electricity, and other day-to-day activities.

So to some extent, the free market is working. There is evidence that cap-and-trade credits (compliance markets) and voluntary offsets are producing environmentally and economically positive results. But there is also plenty of evidence that it doesn’t always work.

An article titled, “Is the global carbon market working?” in the January issue the journal Nature, touched off a widespread evaluation of whether or not credits and offsets actually do anything to reduce total global emissions. The CDM was designed to encourage developing countries to invest in pollution-cutting technology. The emissions reductions (compared to a baseline) that come from that technology can then be converted to credits that are sold in the developed world (where, theoretically, it is more expensive to reduce emissions) to cover the cost of the new technology and more. But Kyoto does not specify what activities may be undertaken to earn credit.

As a case in point, Michael Wara, who authored the Nature article, reveals that the largest volume of credits, almost 30 percent of the market, come from capturing and destroying HFC-23, one of six greenhouse gases listed under the Kyoto Protocol. The problem, according to Wara, is that HFC-23 is cheaper and easier to trap than carbon dioxide or methane, and polluters use that advantage to earn a disproportionate amount of money in CDM credits. For example, Wara writes, polluters have sold €4.7 billion in credits for collecting HFC-23, but if the buyers of those credits had invested directly in trapping HFC-23 in the developing world, they could have accomplished the same reductions with only €100 million. Therefore, Wara argued, the Kyoto agreement needs different protocols to regulate each greenhouse gas individually—carbon credits for carbon capture, methane credits for methane capture, and so on. He concludes that the global market is not enough to stem the impact of global warming. The open market, Wara wrote, will not push countries like the China and India to make serious investments in low-emissions economies; rather, more stringent regulation will be needed.

A few weeks later, Newsweek’s Emily Flynn picked up the CDM thread, highlighting a company in India called Gujarat Fluorochemical that made €27 million in three months during 2006, “thanks to carbon credits. That boost in profits will no doubt help fund its new plant for making Teflon and caustic soda, both pollutants.” Without really elaborating, or substantiating her allegations, which would have been appreciated, Flynn goes on to tackle the ETS market. Briefly, she reminds readers of the May 2006 discovery of a surplus of carbon credits in the European system, which triggered a market collapse. In November, the European Environment Agency announced that only the UK and Sweden were on track to meet their Kyoto targets.

But the compliance markets are not the only dysfunctional emissions-trading schemes around. The press has also sunk its teeth into the burgeoning demand for voluntary offsets in the U.S.

The knee-jerk criticism of “checkbook environmentalism,” as many pundits are calling the voluntary market, is that offsets do not force people to change their behavior. In February, former Vice President Al Gore caught flak when the Associated Press revealed that the star of “An Inconvenient Truth” uses ten times more electricity than the local average to power his home in Nashville. Yet, thanks to offsets, Gore claims to be “carbon neutral,” a catchphrase that was Oxford University Press’s 2006 Word of the Year. But the real problem, business reporters are finding, lies not with those who buy carbon offsets, but with those who sell them.

In the last few years, dozens of new operations have responded to the guilty cries from individuals, households, and small businesses. Some of the offsets they sell are as easy to purchase as soap. “Attention Shoppers: Carbon Offsets in Aisle 6,” read a headline in a March special section of the New York Times titled “The Business of Green.” Whole Foods, Dell, Travelocity, Hertz, Ikea, and many others now offer customers the opportunity to spend a few extra dollars to reduce the environmental impact of their shopping. The money is generally funneled to offset providers who plant trees, build wind turbines, trap industrial emissions, or engage in any number of activities designed to cancel out the deleterious effects of greenhouse gases. Outside of normal shopping hours, offsets can be purchased directly from a slew of new online providers that can, ostensibly, nix a ton of carbon for $5 to $25. There are even brokers for those who want to buy a lot of offsets at once.

But a number of articles have identified a high incidence of low-quality offsets on the market, which result from a variety of practices that range from negligent to duplicitous.

In 2004, the rock band Coldplay paid Future Forests, an offset provider since renamed CarbonNeutral, to plant 10,000 mango trees in India to reduce the carbon footprint from producing the band’s most recent album. In April 2006, The Sunday Telegraph discovered that most of the saplings that were planted had “withered in the arid soil” because there was not enough money for continued upkeep. That was one of the first goofs in the system; it gets worse.

In January, a nonprofit called Clean Air-Cool Earth released “A Consumer’s Guide to Carbon Offsets,” that categorizes the most reliable offset providers and provides a list of considerations for would-be buyers. Do offsets result from specific projects? Does the offset reduce emissions beyond what “business as usual” would accomplish (a concept known as additionality)? Would the project have happened without the offset money? Is the offset certified by a third party standard? Is the offset being sold to multiple buyers? These questions are important, but often go unasked by those looking to reduce their environmental footprint.

In March, BusinessWeek took a look at the “feel-good hype” behind offsets. The magazine scrutinized the portfolio of TerraPass, the company that, ostensibly, made this year’s Academy Awards presenters carbon neutral. But solid investigative reporting revealed that TerraPass has given a lot of its money to a methane-trapping project at a landfill in Arkansas that was in the works before the offset money came along. When approached by BusinessWeek, five of the six companies that sell offsets to TerraPass readily admitted that the well-intentioned funding was “just icing on the cake” for projects that would have happened anyway. The magazine also uncovered a dairy farmer in Washington who had received offset money to generate electricity from the methane in his cows’ manure. But by the time the funding reached him, and every middleman had taken a cut, the farmer collected only $2 for every $9 offset.

A week after these revelations, GreenBiz.com published a lengthy and probing criticism of both the compliance and voluntary emissions markets. Theoretically, wrote John Russell, the two markets should complement each other because the voluntary market funnels cash into smaller businesses that are overlooked by the CDM and ETS. But neither system works. The compliance scheme is “flooding the market with cheap carbon credits,” Russell wrote, and “a lack of standardized methodologies afflicts all aspects of the offset market.” To make matters worse, in the unregulated jungle of emissions trading, there are a host of scammers taking advantage of poor oversight.

The February issue of Forbes declared, “When hucksters talk green, they mean your wallet.” Author Daniel Fisher criticizes the swelling ranks of purportedly eco-friendly penny stock operators that are “capitalizing on the popular mania for sustainable energy.” Most of these companies, despite high market caps, show no sales, little equity, and even less environmental resolve. Many of the projects boast revolutionary, emissions-reducing technologies that border on the fantastical. Even Earth Biofuels, the company whose poster boy is the lovable country-singer-turned-environmental-advocate Willie Nelson, belongs to a holding company that has tangled with the Securities and Exchange Commission.

It sounds pretty bad. If we can’t count on Willie Nelson to shoot straight, what can we count on? The compliance and voluntary emissions markets are a mess, to be sure. But does that mean that Newt Gingrich was wrong, and that the open market will not solve Earth’s global warming problems? Well, no. The lucrative growth of “green” markets has, at the very least, sent a clear signal to politicians and lawyers that legislation, regulation, and standards on needed if low-emissions economies are to succeed. Perhaps policy makers need to put a few of John Kerry’s suggestions into the mix, and tighten national and international market protocols. As with all good debates, the solution lies somewhere in the middle, and the press and the public must not lose sight of the fact that emissions-trading schemes are incredibly novel frameworks. It is up to government to refine the system based on what it has learned from the markets; and it is up the press to a close watch as they on those markets as they continue to grow.

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Curtis Brainard writes on science and environment reporting. Follow him on Twitter @cbrainard.