In modern times market agents such as consumers and firms only respond to incentives. Clearly articulated by Karl Polyani, we live in a time whereby social institutions are embedded in the market. As such, economists are trying to combat social and environmental issues by following market principles. The most significant innovation is the emission trade system introducing a carbon market implemented to combat climate change. It is often seen as an essential tool in the fight for zero carbon emission but is that the case.
In economics, there’s a concept known as externalities; in our case, carbon emission, which happens because carbon is priced below what society deems to be optimal. This occurs because companies are not obliged to consider the impacts of its emission on society. The introduction of carbon markets put prices on these externalities -pricing carbon emission.
This is mainly done using a cap-and-trade model whereby the regulator sets the maximum emission, known as the cap and then auctions allowances to companies. The carbon market has been on a sharp rise; as reported by a The Economist, “By the end of 2021, more than 21% of the world’s emissions were covered by some form of carbon pricing, up from 15% in 2020… Investors are getting interested too: trading on these markets grew by 164% last year, to €760b”.
“The by-product of such a system is that companies trying to reduce carbon by forest preservation can monetise their activities, or firms can plant trees to gain credit. The champions of carbon markets label it as a way of “harnessing the power of market prices and market signals.”
One of the main ways corporations gain emission credit is by planting trees or preserving forests in developing countries. However, what doesn’t seem to be realised is that trees don’t just make the carbon disappear; once the tree dies, the accumulated carbon is released back into the atmosphere as such; it only buys time. Another critique is that the amount of carbon firms is predicted to have absorbed through their activities is often overestimated. In a study conducted by Thales West, a scientist stated that Amazon's schemas are constantly overestimating its emission reduction. In addition, an investigation by Greenpeace concludes that estimates that are used to issue carbon credit are based on a flawed system.
Furthermore, Greenpeace attacks the carbon trade as it's used as a ‘get out of jail free card for companies who want to greenwash emissions”. This is not to mention the amount of cheating whereby forests are destroyed as credit is generated; you can find out more here “why carbon credit for forest preservation may be worse than nothing”. To put the final nail in the coffin, a study by Stockholm environmental institute stated that 73% of credits issued are not likely to have led to any additional reduction in emission.
As seen, the current state of the carbon market is not looking very positive. If implemented correctly, the carbon market could play a very modest role in incentivising preservation programs and emission reduction. However, this will require a functional regulatory system that doesn’t seem to exist. Furthermore, many countries rely on such programmes to meet emission goals, which is a big mistake as, in its current form, it will unlikely help. As stated by Stockholm environmental institute, “global CO₂ emissions would have been 600 million tons lower.” If they just used basic cut pollution schemes. It seems clear that we will not be able to meet climate targets by relying on carbon markets.