Japan may be a window into the future of carbon markets
The increasing role of government is also an important trend. As the VCM attempts to re-formulate a model of self-regulation through initiatives such as the Core Carbon Principles, governments are beginning to shape rules in the market.
And then there is Article 6, the new carbon market for governments, where the state has become a buyer as well as a regulator, and potentially a major source of future demand.
Japan is at the forefront of each of these trends.
As BeZero Carbon prepares to open an office in Tokyo, we take a look at four developments in this pivotal market and ask whether Japan represents a future model for the rest of the world.
Here are some key takeaways from the article
Carbon markets are a central pillar of Japan’s strategy to meet its 2030 climate target.
Japan is at the forefront of key trends in the VCM, including the development of a domestic voluntary carbon market and the integration of carbon credits within wider climate policy.
The Japanese government is developing over 200 carbon credit projects to meet its commitments under the Paris Agreement.
- The emergence of a domestic Voluntary Carbon Market
- The integration of carbon credits within wider climate policy
- Moving from self-regulation to government participation
- Government as a buyer of carbon credits
- Concluding note
The emergence of a domestic Voluntary Carbon Market
Almost all of the estimated US$2 billion worth of carbon credits traded in the VCM in 2022 was part of a globalised market. Credits produced locally could find buyers globally; a credit generated from a project in Uganda is eligible for sale and retirement to a company in the US.
The Paris Agreement is beginning to change this. Governments are increasingly recognising the important role the VCM can play in incentivising decarbonisation activities, thus helping them to meet their commitments as part of the international climate agreement.
Japan - which has a stretching decarbonisation target of 46% by 2030 - is among the governments seeking to leverage the VCM. But in this case, the market must use J-credits, which represent emissions reduced by projects within the country. This way it can help to ensure that carbon credits purchased by Japanese companies are being used to reduce domestic emissions, helping to meet the country’s climate target.
Domestic voluntary markets are unable to match globalised markets in product range or market liquidity. And from a climate perspective, a globalised market is much better able to leverage the significant efficiencies arising from vastly different project costs globally. Nevertheless, the development of domestic markets is already emerging in other countries, such as Australia, and could become an option for some states that may struggle to meet their national climate targets.
The integration of carbon credits within wider climate policy
The challenge of climate change can be boiled down to one simple fact: only one in four carbon emissions globally has a price attached to it, the rest are emitted without charge.
This is where the Voluntary Carbon Market comes in. In the absence of formal pricing, it is a tool that leverages investor and consumer preferences as well as other stakeholder pressures to monetise the carbon liabilities of companies.
As climate ambition ratchets up, governments are rapidly scaling their climate policies to curb emissions. Increasingly, carbon credits are seen as a tool to accelerate climate action and are being integrated within broader climate policies.
Japan is at the forefront of this trend. In recognition of the efficiency of using a market-based approach to reduce the cost of decarbonisation, J-credits are eligible for their domestic compliance market.
As the market for carbon credits matures, its ability to efficiently generate robust carbon credits means that more governments are likely to follow this approach.
Moving from self-regulation to government participation
One of the defining features of the VCM is that it has been developed largely outside of government activity. The market has been cultivated in large part by pioneering non-governmental organisations and progressive businesses as a way to go beyond government action on climate change.
As a result, the sector has established its own rules and standards for how the market operates, including through the use of independent accreditors, standards bodies, and more recently, ratings agencies.
Governments are now turning their attention to the VCM. Some are seeking to support the growth of the market by funding carbon credit projects and supporting the development of new standards.
Other countries are beginning to regulate the market through new taxes or controlling carbon credit exports.
Japan is among the countries carefully developing its approach. It has established a voluntary market as part of the GX League, the ‘green transformation’ designed to promote corporate cooperation to reduce climate emissions. As part of this, it has developed specific methodologies to facilitate projects in key sectors of the economy it is trying to decarbonise, such as agriculture.
The country’s approach to the VCM is strategic, facilitating its growth as a private-sector tool to decarbonise, but aligning it where possible to the government’s strategy. It is a potential model for how government support can help to develop rather than undermine carbon credits as a decarbonisation tool.
Government as a buyer of carbon credits
The VCM is, by and large, driven by voluntary demand from private companies. This is beginning to change.
In 2015, the Paris Agreement committed countries to national climate targets, recognising carbon emissions as a sovereign liability. To encourage greater ambition and help countries meet their targets, governments are allowed to cooperate to meet their targets through Article 6, the government carbon market.
Japan is the global leader on this front. The Japanese government has already committed to purchasing 100 Mt carbon credits annually by 2030, and has put in place trading agreements with more than 25 countries covering 200 projects (and counting) to deliver this.
Other countries, such as Australia, Singapore and Switzerland are rapidly rolling out their own agreements to purchase Article 6 credits, and as the rulebook for the market is developing this is expected to scale steadily.
The expectation is that in time Article 6 credits, much like J-credits will be eligible as compliance within other climate policies, helping to mobilise private capital to deliver the scale of carbon reductions needed to meet the country’s climate ambition. Here, once more, Japan is expected to be leading this innovative policy approach.
As governments across the world scramble to engage with the VCM, there may be valuable lessons they can learn from Japan’s approach. And for other observers of the market, the Japanese approach may present a model for how the market develops in the coming years.
Our new presence in Tokyo will give BeZero Carbon an up-close view of these trends as they emerge, helping us to better understand the development of the wider market.
If you would like to discuss our analysis or make suggestions for our research pipeline, get in touch.