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Can Nature based offsets be traded? | Nature and Article 6 carbon markets at COP27

  • Étude de marché 4 novembre 2022 4 novembre 2022
  • Global

  • Risques liés aux changements climatiques

Given that COP26 left numerous issues in relation to carbon markets still to be clarified, there remains a big question mark as to how nature-based offsets will be treated and function under Article 6. In this article, we explore how nature-based offsets on these carbon markets will operate in practice.

International climate negotiations COP26, the first COP hosted by the UK, was much anticipated and was billed as a potential game-changer. Indeed, it did make progress on numerous issues, including  Article 6 of the Paris Agreement, which allows parties to cooperate using voluntary market-based and nonmarket-based approaches, in order to implement their nationally determined contributions (NDCs).

Article 6.2 allows this to be done by enabling two or more countries to trade GHG emission reductions, known as ‘internationally transferred mitigation outcomes’ (ITMOs). Article 6.4 establishes a central carbon crediting mechanism that will enable credits, known as ‘Article 6, paragraph 4, emission reductions’ (A6.4ERs), to be generated and traded. Together, these mechanisms are called carbon markets.

Given that COP26 left numerous issues in relation to carbon markets still to be clarified, there remains a big question mark as to how nature-based offsets will be treated and function under Article 6. In this article, we explore how nature-based offsets on these carbon markets will operate in practice.

Carbon credit or carbon offset?

Firstly, it will be helpful to set out the difference between a carbon credit and a carbon offset. Carbon credits refer to a certificate which gives its holder permission to emit one metric tonne of carbon dioxide equivalent (CO2e). Similarly, carbon offsets also represent one metric tonne of CO2e. However, in contrast, a carbon offset represents the reduction or removal of CO2e from the atmosphere achieved by a particular project. These projects must qualify for a carbon offset certificate by meeting various criteria, such as permanence and additionality. Once purchased, a carbon offset certificate can be used by the buyer to demonstrate that its emissions generated in one place have been compensated for or “offset” by an emission reduction or carbon removal elsewhere.

What was agreed at COP26?

At COP26 in November 2021, progress was made on numerous issues:

  • Double counting
    • This occurs where the reduction achieved by a mitigation outcome is counted by more than one country, threatening the integrity of carbon trading. Therefore, COP26 agreed to apply corresponding adjustments to all ITMOs and A6.4ERs so that a reduction is only counted once
  • Kyoto Protocol transition
    • The Kyoto Protocol's Clean Development Mechanism (CDM) will enter a transition period.CDM projects can transition to the Article 6.4 mechanism, subject to the project meeting the new rules. In addition, CDM credits (known as CERs) from projects registered in or after 2013 can be used towards countries’ first NDCs.
  • Share of proceeds
    • The UNFCCC secretariat will take a ‘share of proceeds’ from the A6.4ERs. This money will be donated to the UNFCCC Adaptation Fund, to assist climate-vulnerable countries in their own adaptations. The ‘share of proceeds’ is therefore sometimes referred to as ‘adaptation levy’.
  • Overall mitigation in global emissions
    • The UNFCCC secretariat will cancel at least 2% of issued A6.4ERs, recognising the fact that offsetting emissions does not lead to overall mitigation, therefore reducing the overall amounts of offsets over time.
  • Additionality
    • An activity under Art. 6.4 must achieve ‘additional’ mitigation of GHG emissions, meaning that the activity would not have occurred in the absence of the mechanism’s incentives.

Access to Article 6 carbon market

The infrastructure required for Article 6 to function effectively is extensive. At a national level, particularly for developing countries, the ability to implement Article 6 rules is likely to be important in accessing the international carbon markets. In addition, the capacity of lower and middle-income countries to access the carbon markets will require support, focussing on assessing the potential carbon market opportunities of these countries, as well as building their capacity for measurement, accounting, and verification.

Given that many lower and middle-income countries have a wealth of preserved nature, it is important for them to understand how Article 6 carbon markets will apply to nature-based carbon offsets. Article 6.2 and Article 6.4 do not expressly exclude forest-related activities or nature-based solutions from the scope of ITMOs and A6.4ERs. Activities such as avoiding deforestation, afforestation, and reforestation could therefore theoretically be placed on both carbon markets. However, it remains for COP27 to decide whether avoidance activities in any sector, including forestry, can qualify as ITMOs or A6.4ERs, given the issues relating to additionality that these activities raise.

Access to adaptation funding                     

While adaptation funding remains voluntary under an Article 6.2 carbon market, a mandatory 5% adaptation levy on the centralised market transactions will be directed to the Adaptation Fund from each transaction. In addition, the Adaptation Fund has received commitments of US$356 million at COP26.

Accredited National Implementing Entities (NIEs) have been able to directly access this financing and manage all aspects of climate adaptation and resilience projects. Lower and middle-income countries have been able to nominate an entity for accreditation as a NIE under the Adaptation Fund to get direct access to the adaptation finance.

The Adaptation Fund also provides a Readiness Programme for Climate Finance which is designed to help NIEs get accredited, and thus receive and manage climate financing. Centre de Suivi Ecologique in Senegal is an example of an accredited NIE. All materials relevant to the accreditation process together with an application can be found here. Information and materials relevant to project funding can be found here.

Carbon market case studies

Some Parties have already been implementing mechanisms to prepare for carbon trading on the Article 6 markets.

Switzerland’s carbon trading agreements

Switzerland has reportedly signed carbon trading agreements with Peru, Ghana, Senegal, Georgia, Vanuatu, and Dominica. The agreements enact aspects of the carbon markets by providing a framework for verifiable carbon offsets that the Swiss government will utilise, as part of its method to attempt to meet its NDCs.

Under the agreements, Switzerland would only recognise projects that have ‘additional’ benefits, i.e. benefits that would not otherwise have occurred in the selling country. However, under its carbon trading agreement with Peru, mitigation outcomes can include projects for the prevention of ‘negative environmental and social impacts, including on air quality and biodiversity’. This may include reforestation and afforestation projects, which are unlikely to be considered ‘additional’.

Switzerland has published an open call for Parties interested in entering into bilateral carbon trading agreements on its Federal Office for the Environment website, which can be contacted via email at swissflex@bafu.admin.ch. The types of projects that have already been funded by the Swiss government include installation of cooking stoves in Ghana and development of a clean and resilient power system in Dominica. Specific projects are verified via The Foundation for Climate Protection and Carbon Offset (KliK), which is also responsible for funding. KliK’s website lists all the projects funded so far.

Japan’s Joint Crediting Mechanisms (JCM)

Japan’s JCM is another example of how the carbon markets can be implemented; the JCM is reported to comprise 65 projects valued at over US$500 million in 17 lower and middle income countries. The aim of the JCM is to implement Article 6 carbon trading between Japan and partner countries in order to contribute to Japan’s achievement of its NDCs. 

Under the JCM, Japan has entered into bilateral agreements with several countries including Ethiopia, Kenya, the Maldives, and the Philippines. Most of these projects focus on solar, hydro energy, and battery storage. However, a project proposal with Cambodia in 2019 focused on reducing deforestation and forest degradation through forest conservation; again, it is unclear whether this would be considered ‘additional’ under Article 6 carbon markets. It is hoped that COP27 negotiations in November 2022 address this point.

In 2021, the JCM published a call for input on its proposed methodology for reducing emissions from deforestation and forest degradation through controlling shifting cultivation in Laos, suggesting the JCM is open to nature-based and forest-focused offsetting projects.

World Bank’s Transformative Carbon Asset Facility (TCAF) and Carbon Partnership Facility (CPF)

TCAF is a trust fund established by the World Bank, which supports countries in implementing market-based carbon pricing. It works with both the private sector and the governments of developing countries to assist them in preparing for carbon markets under Article 6.  It focuses on a wide range of sectors, including agriculture, energy efficiency and renewable energy. TCAF can be contacted via tcaf@worldbank.org

CPF is a partnership between sellers and buyers on carbon markets established by the World Bank. It brings together buyers from industrial countries and sellers from developing countries, as well as their respective governments, with the aim of supporting low-carbon development. Programs supported by the CPF include solid waste management, renewable energy and recycling. CPF can be contacted via cpfsecretariat@worldbank.org.

Outlook for COP27

In conclusion, COP27 has a lot of work to do on clarifying the operation of the Article 6 carbon markets: for example, the process for implementing the transition of activities from the CDM to Article 6.4 still needs refining. However, it is important to also focus on whether avoidance activities in any sector, for example avoiding deforestation, can qualify as ITMOs or A6.4ERs. Until this is clarified, the role of nature-based carbon offsets on the Article 6 carbon markets remains unclear.

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