Investments in Environmental Markets and what lies ahead

The aim of this article is to critically examine the progress with Climate change action and introduce financial instruments in Carbon and Environmental Markets towards the goal of mitigating climate change.

Keywords: environmental markets, environment, ecology, climate, global warming, carbon credits, reporting verification, monitoring compliance voluntary registries, markets, investments, donations, net-zero, carbon-neutral, climate-tech, digital tokens, blockchain

Open Research Methodologies Used: This research has been developed through Observations, Online Surveys and Peer Discussions/Focus Groups.

Abstract

The world ushers into a new era with the collective intellectual growth and awareness towards a much more cooperative and collaborative approach, i.e. Environmental Markets. Coming from a history of primitive barbarian civilizations, we have recognised the need for synergy between people-planet-profit. The Covid Pandemic is a prime example of how humanity at large, organized itself to adapt to the pandemic and shift from ‘business as usual’ with increased digital interfacing in communications, transactions, and other forms of exchange of products, services and entertainment.

On the other hand, Climate change urgency has been growing at a rather slow pace with a growing realization of the drastic impacts of fossil fuel consumption and unregulated industrialisation. These issues are well known and rather inevitable, if we don’t make a swift transition to a low carbon economy. The effects of Climate change are gradually accelerating as we continue emitting greenhouse gas emissions as indicated through the IPCC report. While it’s of utmost significance, the matter is barely discussed enough in public and mass media & forums. 

What’s needed is the policing of Climate Action under each and every sector under the economy in order to speed up the recovery from historical emissions and building capacity to reduce and remove the future emissions. We dive further in the state of climate action through mechanisms such as carbon markets and what potentially could be. .

Governance and Market Mechanism

Global governance through the UNFCCC, and the convention has played a major role in limiting emissions through some frameworks for implementing action for Climate mitigation such as the Kyoto Protocol in 1992 that helped set a tone, followed up by the Paris Agreement in 2015 which called for some accountability. With the convention, ecological markets are finding penetration in local and glocal contexts. Such markets function under different mechanisms such as the Compliance and Voluntary markets. 

• The compliance markets are mandated under State regulations to cap and reduce emissions by the corporations with the largest footprint. Enabling incentives for those who stay below their annually reducing limit.
• Voluntary Markets on the other hand cater to financing of clean development initiatives, technologies and projects outside of the regulatory realm. 

Both of the above mechanisms merely mark a nascent stage for Environmental Markets. While the high income states and corporate interests push for such mechanisms to finance climate action, the transition of capitalism towards the people,planet and profit model, has also largely been generationally supported by behavioral and systems change, sought by the Millennials and the Gen-z.

Environmental Markets – A nascent stage for Green Revolution

Global Compliance Markets valued at 100B dollars and Voluntary Markets at 300M dollars as of Q4 2021. [1] 

Environmental markets in general have been driven by investments in Clean development Projects and initiatives on the supply side. Such projects focus on efficient utilisation of natural resources, working with regenerative technologies such as Agroforestry, permaculture, renewable energy, EV mobility, and more. 

Unfortunately, the demand side is only supported by the largest polluters which are largely industrialized, or high income nations and enterprises which aim and claim to neutralize their large ecological footprint by funding above projects, elsewhere around the globe.

Mechanisms for exchange of such commodities include Emission Trading Systems, Carbon Markets, Environmental registries, and Joint implementations. 

Such ecological markets are in a very nascent stage and largely missing mass participation in investments. [1] Like CDS in the 1990s, carbon markets are at an early stage of development. If the right standards are established and policies to scale ecological projects, they could move rapidly from corporate/state interests to public participation.

So, what are the observations?

With lack of transparency in the carbon accounting, a lot of times a tonne of carbon ends up becoming half a tonne or even zero in some cases. Studies show that a large majority of projects including Certified reductions supply have a low probability that emissions reductions are additional and not over estimated. [2]

Many afforestation projects have actually shifted deforestation occurences to the unregulated areas nearby, with double counting often posing a big question upon validity of such projects.

Projects such as a few in Cambodia have been registered and later found to have half the forest logged or otherwise destroyed.[3]

Since the Article 6, Paris Agreement 2015 [2], what distinguishes it from the Kyoto Protocol is that all countries have made mitigation pledges in the form of Nationally Determined Contributions (NDC). This helps host countries with ambitious and economy-wide mitigation pledges have incentives to limit international transfers of credits to activities with a high likelihood of delivering additional emission reductions. Transferred credits do not compromise the host’s ability to reach their own mitigation targets. Secondly, countries should only transfer emission reductions that are consistent with their NDC. This implies that a baseline scenario may be critically analyzed in relation to the host economy’s mitigation pledges while estimating emission reductions.

At this juncture, I ask myself whether the project(s) that get funded through such financial instruments, would have happened anyway, in that case the funding doesn’t really make a difference in regards to systems change. 

A classic example of failure of the CDM in India for example is how a large number of approved carbon offsets were allocated to projects that would have been built anyway, in turn substantially increasing the global carbon footprint. [4]

International standards such as VCS and GS aren’t so watertight or robust and need transformational reforms towards larger inclusivity.

The financing should rather flow directly to the developers of the project rather than being funneled through institutional or compliance mechanisms.

What does Carbon Neutrality really mean?

“Carbon Neutrality is a state of overall Net Zero Carbon Dioxide emissions.”

There’s plenty of interpretations of this term with various standards, certifications and accounting methods for estimation of ecological footprint and neutralizing it. Mostly we would find “Carbon Neutrality” of a system is defined as a state of “having a delicate system equilibrium between emitting carbon and absorbing carbon from the atmosphere in carbon sinks. Carbon Sequestration is removing carbon dioxide from the atmosphere and then storing it. In order to achieve net zero emissions, all worldwide greenhouse gas (GHG) emissions will have to be counterbalanced by large scale carbon sequestration.”

What is the distinction between Carbon neutrality and net zero?

Carbon neutrality generally refers to policy of avoiding increase in emissions and targeting reductions through offsets. Whereas Net-Zero implies the state of reduction of emissions internally and using offsets as a last resort to achieve the lowest emission levels.

An overview definition for fairness upon carbon neutrality should involve reduction of the historical emissions and the emissions to be in the atmosphere.

Why did the Paris agreement not scale?

It contains procedural (e.g. the criteria for entry into force) and operational articles (mitigation, adaptation and finance). It is a binding agreement, but many of its articles do not imply obligations or are there to facilitate international collaboration.

It’s safe to say the treaty’s legal nature has been accepted as binding—or at least not merely optional—by several nation-states and courts. Each Party shall communicate a nationally determined contribution every five years in accordance with decision 1/cp.21 and any relevant decisions of the Conference of the Parties serving as the meeting of the Parties to this Agreement and be informed by the outcomes of the global stocktake referred to in Article 14. [2]

With the Paris Agreement, countries established an enhanced transparency framework (ETF). Under the ETF, starting in 2024, countries will report transparently on actions taken and progress in climate change mitigation, adaptation measures and support provided or received. It also provides for international procedures for the review of the submitted reports. [5]

While there are 197 members to the UNFCCC, the existing state of markets has barriers to entry due to complex and costly standards of carbon accounting and certification including the Gold standard, Verra Carbon Registry, American Carbon Registry, Climate Action Reserve, Clean Development Mechanism, etc.

Behavioral and Systems Change

Nevertheless, global citizens are not directly obliged to change – unless strict laws are enforced or until the urgency of the situation is realized on a mass level, through regulations and incentives. [6] While climate change concerns the public the most, there are not enough policies or schemes to push systemic changes through. Yes, the fossil fuel industry is responsible for a large share of global emissions, but so is the public that burns the fuel in order to go about their daily lives. In such a scenario, there’s a large lack of financial instruments that may engage the masses to participate in climate action.

Registry Costs, bureaucratic processes, consulting fees, and lack of capital are only a few of the factors that cause barriers for small-medium scale projects entering into the realm of climate financing. 

The demand side is supported by the organizations who may rely on low pricing available on the heterogeneous Voluntary Carbon Offsets with varying co-benefits to meet their climate goals rather than aiming for internal reductions. Such Offsets often coming from low income economies may be subject to limited data availability and inadequate risk management.

A study showed that Land-use, specifically forestry based offsets, sell for significantly lower prices than offsets of other types when projects are located in non-industrialized nations, with average prices lower by 40% and 70% in middle income and low income nations, respectively. This reflects greater uncertainty about additionality[7] and permanence[8].  With respect to uncertainty, this  reflects how such nations often lack the institutions required to ensure the quality of forestry offsets, such as secure property rights, good governance, and monitoring infrastructure. Furthermore, lower prices in non-industrialized nations may be related to the lower opportunity costs of land in middle and low income nations for forests. [14]

'For India, in comparing wind power projects registered under the CDM with those without such support, Dechezleprêtre et al. (2014) find that, “all other things being equal, CDM wind farms tend to be larger, to benefit from higher feed-in-tariffs, and to be located in windier areas, three factors which increase profitability.” According to this analysis, there is “serious evidence of non-additionality of the CDM” ' [9]

India does not have a ban on incandescent bulbs, but does have awareness-raising programmes, energy service company initiatives, and consumer financing options. [9]

Slow progress ‘Towards Mass Adoption’

Klima Dao, Toucan, Moss and Regen Network, UPCO2, Seeds, and a few more like such are very initial players working towards mass participation and adoption of Climate investment instruments through the use of Digital currencies built on blockchain technology that are open and inclusive for anyone on the planet to engage. But perhaps due to large knowledge gaps and barriers to information, adoption seems to be with the .1% of the .1% engaging in investments in environmental credits which in reality require a much larger participation and access in the form of commodities being exchanged in the mainstream and rather open markets.

“Perhaps a small agroforestry project should and would be able to propose it’s impact initiative, have it verified by climate specialists (and institutional or state organizations who could be local verifiers) and have it crowdfunded directly from general masses who hold a shared accountability and interest along with large corps towards a sustainable survival on the planet.”

While the increment in the growth of climate markets is a positive sign when it comes to transitioning to Net-zero, the reality is the dynamics of such markets are still the large corporations and high income industrialized regions, who essentially keep polluting, while investing into ecological impact projects elsewhere.

 “It’s a predicament of good deeds on account of having “neutralized” the wrong deeds.”

The recent history of international financial markets contains many examples of asset classes that have moved from being an esoteric market oriented to a mainstream institutional portfolio. [1]

For example, let’s take the case of KlimaDAO Token: Time: 7:40pm Date; 24-03-2022 [10]

Below is Regen Network: Time: 7:40pm Date; 24-03-2022 [11]

Below is Toucan Protocol: Base Carbon Tonne: Time: 7:40pm Date; 24-03-2022 [12]

What portion of climate financing tools go towards real impact?

Such tools and mechanisms have taken significant development in terms of impact and spreading a narrative along with incentive. Billions of dollars have been appropriated to middle income economies, pushing towards clean development and increasing resilience, awareness and financial flows towards adaptation and mitigation. Or at least that’s what the claims have been. An interesting report by the Climate Change Finance Unit, under the Ministry of Finance, India shows a clear disparity between what the pledges have been and the actual disbursed amount so far. [13]

While the systems have worked on a majority of occasions, various factors have restricted the growth in amount and type of financing needed to push for real change. Reasons such as financing being driven towards projects rather than systemic change, more than 95 percent of international public climate finance is currently provided as development finance through established multilateral and bilateral DFIs.

Loans and grants being the major chunk of financial instruments, while policy-based and result based finance, equity, and subsidies have grown with much smaller degree.

The supplier side i.e. the climate projects get merely the cost price of their generated credits whereas once such assets enter speculation there is merely zero proceeds that go towards the original supplier.

Due to lack of transparency, visibility of 3rd party reported data, at times the projects may have questionable credentials when it comes to execution, implementation or even existence.

Free Markets for Ecological Impact Exchange – A potential Future?

The year 2021 saw a massive boom in decentralized finance with billions of dollars being transacted towards trade of alternative digital currencies and digital artworks as jpegs on marketplaces like OpenSea, Rarible and platforms such as Binance, Pancakeswap, and more. [16] 

The environmental segment in decentralized finance includes projects like IXO Protocol, Regen Network, UPCO2, Moss Token, and others that have built upon the pre-existing standards with corporate interests in Voluntary Carbon markets, companies such as Microsoft, Google, Apple, etc. [15]

It might perhaps be not too early at this point to imagine a peer to peer ESG marketplace where a company working in Industrial Efficiency or Forestry could have their impact project financed. Enabled through verification by experts and without having to be funneled through costly standards and registry costs. 

A small farm could pitch their organic farming proposal while promising fair produce to people who’d invest in their initiatives through token or smart contract mechanisms that define access, service or utility for the holders. This would define the new forms of collaboratives and cooperatives enabled by IT stack for a distributed open governance through such open markets. (Aggregating and providing some kind of resource to those who are actually contributing in the field)

Conclusions

In a nutshell, following the Paris Accord, Compliance and Voluntary carbon markets have enabled Financial flows towards development and scaling of green projects aimed to mitigate climate change, and enabling incentives for large project developers, but failing to enforce an internal change in organizations and the states who have a large footprint themselves. 

Newer forms of climate financing tools such as alternative economies using digital tokens, open up the opportunity for the global citizens to act and invest in a future that supports clean, equitable and sustainable development for all. 

As mass adoption grows towards green financing tools, and regulations kick in to regulate and penalize businesses with negative ecological impact, the next step becomes an individual awareness with a sense of urgency to push for climate action and finance through new forms of financial instruments.