According to Investopedia ‘A carbon credit is a permit that allows the holder to emit one ton of carbon dioxide’.
In broad terms ‘Carbon credit’ is an exchange mechanism devised to offset CO2 and other Greenhouse gas emissions (GHG’s). Carbon credit is, therefore, a mitigation mechanism. This covers individuals, organizations, small and large businesses, governments or any other entity to mitigate global warming causing greenhouse gases.
The idea behind carbon credit is to enable individuals or businesses compensate for the emissions they make by reducing or offsetting CO2 and other GHG emissions somewhere else.
While carbon dioxide is the most abundantly released gas from the industries responsible for global warming and climate change, other green house gases such as methane, nitrous oxide and sulphur oxide and many other gases used mainly for refrigeration purposes are more potent warming agent than CO2. These are expressed in terms of carbon dioxide equivalent.
What is Carbon Credit and How Carbon Credit Mechanism Works?
One carbon credit equals to one metric ton of carbon di oxide equivalent. Buying 1 carbon credit provides the customer permission to emit one metric ton of CO2 equivalent.
Voluntary Carbon Credits
Individuals and businesses can buy carbon credits voluntarily. The sum paid in exchange of getting carbon credits are in turn used in funding carbon offsetting mitigation projects such as forestation and funding renewable energy projects etc. The idea is to ultimately remove equal quantity of CO2 from the atmosphere. The process, therefore, lowers the carbon footprint of the buyer.
Mandatory Carbon Credits
There is another variation of this process for large companies, governments etc. In this case it is made mandatory by laws for companies to purchase carbon credits in order to emit GHG’s. This is often called as compliance mechanism. The Cap and Trade principal is applied in this case. A limit is set for the maximum GHG’s that a company can emit. If the buyer company succeeds in keeping its emission level within the given limit, it is allowed to sell the rest of its credits to some other companies.
The compulsion to buy carbon credits for emissions increases the total cost of any process. It helps in pushing for considering of ‘emissions’ that result from the process central criteria for doing businesses. This, in-turn, induces the companies to go for less carbon intensive technologies and pathways.
Carbon credit mechanism has been established under the Kyoto Protocol (1997).
Under the Kyoto protocol there are three carbon credits based mechanisms for industrialized and developed countries (Annex 1 countries) to reduce the GHG emissions. These are Joint Implementation, Clean Development mechanism and Emission trading.
Under the Kyoto protocol each developed countries have been assigned certain maximum units of emissions that the country is allowed to emit. It is known as assigned amount unit.
To meet the target set by Kyoto protocol, Under Joint Implementation a developed country, sets up a project to reduce the GHG emissions in other developed country. Under the Clean Development Mechanism it can sponsor a project that significantly reduces the GHG emissions in the developing countries. In response to this, the country gets emission reduction units (ERU).
If a developed country succeeds in reducing its GHG emissions below the allowed limit, it can trade the rest of the units to other highly developed countries that failed to achieve its target under the third mechanism of Emission Trading.