How to Scale Carbon Markets

As the urgency to combat climate change intensifies, voluntary carbon markets (VCMs) have emerged as a crucial tool for organizations and individuals to offset their carbon emissions. VCMs span 98 countries and have amassed a global net worth of $1.9 billion as of 2022. However, despite their potential to drive positive environmental impact, VCMs encounter several structural challenges that hinder their effectiveness.

From issues of transparency to concerns regarding inefficiency and fragmentation, navigating the complexities of VCMs poses significant hurdles. The latest study by Nasdaq and the ValueExchange, released this week, consisted of an international survey of 130+ decision-makers in the VCM space.

In the study, titled “Scaling Today’s Carbon Markets: A New Market Blueprint for 2024,” participants said standardizing credits, increasing investor education, and reducing manual diligence would help combat some of the problems VCMs have faced thus far.

Roland Chai, Executive Vice President and Head of European Market Services at Nasdaq said, “global carbon markets are at a critical juncture. Truly scalable, trusted carbon markets can have a profound and lasting impact; the question is how we get there.”

Viewpoints from project owners, commercial banks, market operators, brokers and investors revealed a range of opinions while also helping frame the industry action plan needed to address current struggles.

Lack of Price Transparency

VCMs today lack clarity when it comes to pricing, which has left about a third of all respondents doubtful of present carbon credit rates. The survey found that commercial banks in particular have very low confidence in pricing, which leads to them not financing because they cannot accurately calculate risk.

“If you can’t price a carbon credit then you can’t manage it,” said Barnaby Nelson, CEO and founder of the ValueExchange. “The net result? High costs, slower transactions, and limited liquidity in a market that needs to be running more efficiently, faster, and with ever-greater liquidity.”

The report found that 36% of financial investors including fund and pension investors will be entering the market in the next two years, as well as more than half of corporates and about a third of project financiers and commercial bankers. For VCMs to function properly in the future, they must first tackle buyers’ diminished confidence in carbon credits pricing today.

Inefficient Processes

The inefficiency of VCMs poses another significant challenge, stemming from the diverse array of project methodologies and lack of credit standardization. Companies grapple with the difficulty of assessing the relative merits of different carbon removal projects and face burdensome due diligence processes when purchasing credits.

“At the root of the voluntary carbon markets' current challenges is a lack of standards across the trade cycle,” Nelson said. “Project owners face highly bespoke listing and due diligence requirements for each registry—creating a high cost of entry for project owners and limiting the supply of smaller projects into the market.”

One in four survey respondents experience market inefficiencies, with 37% of project owners rating markets as highly inefficient. A major reason behind this is that 94% of respondents still relied on phone and email to manage critical activities. New credit listings can take months to be onboarded, adding debt and an active barrier to accessing capital when it’s needed.

Complicated Structures

With numerous registries worldwide operating under varying processes, rules, and standards, companies face challenges in navigating the complexities of cross-border transactions and determining which standards to adhere to.

This fragmented landscape not only complicates transactions but also exacerbates regulatory compliance issues. Diverse regulatory frameworks across jurisdictions make it difficult for market participants to steer legal requirements effectively.

Furthermore, the disharmony among registries leads to inconsistencies in data reporting and verification protocols. This hampers transparency and trust within the market, hindering investor confidence and impeding the flow of capital into carbon projects.

The average voluntary carbon market participant faces between six to eight different registries, with commercial banks and financial investors dealing with the highest levels of fragmentation.

Action Plan for How Global Carbon Markets Can Achieve Scale

To address this range of issues, market participants say stakeholders must prioritize the establishment of transparent and standardized pricing mechanisms within VCMs. At a minimum, participants wanted to see more trade execution handled via exchanges and marketplaces rather than the bilateral agreements that serve as the predominant channel today.

Investor education regarding VCMs also needs to expand for both businesses and individuals to be able to smoothly participate in the process. Crucial in that education, say half of the participants, will be ensuring investors see measuring carbon neutrality as a tangible objective.

Developing a unified taxonomy for carbon credits and simplifying due diligence processes can streamline transactions within VCMs, facilitating greater market participation and reducing additional costs for businesses, say those surveyed. Having a consistent framework is important for evaluating offset projects to establish a clear standard.

“With standardized inputs, project owners can secure funding faster and more cheaply—encouraging greater supply,” Nelson said. “With transparent credit definitions (backed by agreed product standards), those trading in voluntary credits can transact with greater levels of confidence and automation—encouraging greater demand and greater market turnover.”

As efforts to address these challenges progress, VCMs have the opportunity to emerge as a powerful instrument for advancing positive climate action.

Read the full report and find out how strategic decision-makers are integrating carbon markets into their strategy.