12 April 2023
What market developments could catalyse VCM demand in 2023?
Head of Policy
The Core Carbon Principles are one of a number of market initiatives that could catalyse market demand, but these are likely to take time to impact the market.
2023 will be an important year to provide clarity on how companies should use and claim carbon credits as part of net-zero strategies.
Increasing clarification on the use of Article 6 may be an important catalyst for the market later this year.
Demand for carbon credits was forecast to increase in 2022. A wave of corporate net zero commitments was expected to increase demand for retirements and the growth trend of recent years was expected to continue.
That didn’t happen. Retirements reduced by 4% between 2021 and 2022. This was driven by a range of factors, including concerns about environmental and reputational risk and confusion around appropriate claims for credits.
These sources of uncertainty are holding back the market but there could be significant latent demand for carbon credits.
How long will the uncertainty last and what could catalyse demand in the coming months?
This article looks at the key events our clients should look out for in 2023.
Minimum standards for quality carbon credits: The Core Carbon Principles
The Integrity Council for the Voluntary Carbon Market’s Core Carbon Principles (CCPs) announced at the end of March may help set a fundamental baseline for credit quality. The CCPs should help to set a consistent standard across existing crediting bodies and help raise the bar overall. They will also provide a much-needed boost for transparency in the market.
Adding a CCP label to credits aims to signpost where projects are meeting a higher carbon efficacy standard, improving buyer confidence and reducing confusion in the market. For the many corporates who have been considering participating in the market, this provides much-needed reassurance and simplicity to engage.
In May, the second part of the CCP criteria for credit types and methodologies will be published, setting out the full list of criteria that standards must meet in the future. By the end of Q3, several methodologies are expected to be formally issued with CCP-eligible status. Some methodologies may need to be updated to meet the CCP standard so it may take time for the CCPs to be broadly adopted.
Guidance on how to claim carbon credits: VCMI Code of Conduct
The Voluntary Carbon Markets Integrity Initiative (VCMI) is developing a Claims Code of Practice guidance to help businesses, investors, governments, and the public sector to increase their confidence in using carbon credits and associated claims. This guidance is expected to help assess the lack of clarity, transparency and consistency of carbon-neutral claims derived from the use of carbon credits.
The Code of Practice will outline a practical guide for how companies can ensure their claims are accurate, backed up with data, and not overstating environmental benefits. The guidance will be particularly important in moderating the use of terms such as carbon offsetting and carbon neutrality - which are currently poorly defined - and will more clearly distinguish between these activities and where companies are contributing to mitigation activity elsewhere.
The VCMI is engaging closely with the work of the Integrity Council, which should help to ensure consistency between the two initiatives.
The guidance is now under public consultation and is expected to be published by June 2023.
Guidance on how corporates should use credits as part of their net zero strategies: the SBTi
The Science-Based Targets initiative (SBTi) through its Corporate Net Zero Standard encourages companies to go beyond their value chain mitigation (BVCM) and invest outside their science-based targets to help mitigate climate change elsewhere.
Specifically, the Code of Practice will aim to clarify how credits can be used for ‘beyond value chain mitigation’, an area where there is a strong need for practical solutions.
The SBTi also expects companies to annually report on the nature and scale of their BVCM involvement, including how much was spent and what the funds were used for.
The guidance, which is announced to be published in late 2023, is expected to unlock the confidence of companies when taking immediate action towards a global 1.5ºC aligned economy.
Agreement on the new international carbon market: Article 6
At the Glasgow International Climate Summit in 2021, governments agreed on a new carbon market for governments. Article 6.2, the first stage of this market, allows countries to trade bilaterally subject to a few ground rules to make sure the credits are robust. Article 6.4 will establish a United Nations-regulated marketplace which will specify standards for credit generation in the coming years.
The challenge is that Article 6.4 will take time to complete. Agreeing on new methodologies and a process to issue and trade credit is complex, and made challenging by the wide range of participants and views in UN negotiations.
An agreement at COP28 later this year could help to clarify the way forward. The summit could produce an agreement on the types of methodologies eligible for generating credits, potentially unlocking a wave of investment in credit generation. In the run-up to COP28, a range of countries are expected to announce their approach to Article 6. Specifying what is expected to be eligible for A6 corresponding adjustment is also likely to stimulate specific regional demand.
The prospect of a UN stamp of approval could reduce concern from buyers who want to purchase credits that are most likely to be eligible for Article 6 in the future.
A new methodology for forestry credits: Verra’s REDD methodology
Carbon credits generated from reduced emissions from deforestation and degradation (REDD) account for more than 19% of historical issuance in the market, and 20% of outstanding issuance to date. Questions about the carbon efficacy of these credits have been a major topic that has shaped wider market opinion about the sector.
Changes to a key REDD methodology could mark a notable shift in the perception of carbon credit quality. Verra, the world’s largest accreditor, will be updating its existing VCS Avoiding Unplanned Deforestation and Degradation (AUDD) project methodology to a more consolidated approach. This is expected to include a number of changes that could impact perceptions of REDD projects:
Revising methods for projecting deforestation rates and incorporating statistical requirements for historical deforestation trends.
Standardising the duration of historical reference periods as per the VCS Methodology Requirements.
Revising methods for producing conservatively estimated baselines and emission reductions. This will consider the accuracy, bias, and uncertainty of activity data and emission factors estimates.
Furthermore, innovations in allocated activity data using a single deforestation dataset for setting baselines, as well as crowdsourced data for deforestation risk, could bolster assessments and provide additional validity to project claims.
The new methodology could address important efficacy concerns and bring much-needed reassurance to corporates investing in this part of the market. Buyers who diverted attention away from REDD could be reassured by reevaluations of existing projects and new sources of demand could be unlocked.
The new methodology will be released in Q3 2023 and in the interim, Verra will issue clarifications and minor updates to the current VCS AUDD approaches.
The increasing volume of corporate net-zero claims - and the ongoing challenges to rapidly decarbonising some of our largest sectors - suggests there is significant latent demand for high-efficacy carbon credits.
A range of market developments, from the CCPs to Article 6, could help to unlock this demand. Other developments, such as the growth of VCM regulation and the expansion of the international aviation carbon market (Corsia), are also likely to shape the market in the future, and we intend to explore these areas in future editions of Carbon Markets & Policy Insights.
If you would like to discuss these developments with our research team, get in touch.