Voluntary Carbon Offsets: Overview and Assessment
Released: 2009-05-07T00:00:00

Introduction

In the United States, and elsewhere, a growing number of organizations and individuals who are not subject to mandatory emission caps are buying or selling carbon offsets. These exchanges are voluntary because there is no requirement for these parties to curtail their greenhouse gas (GHG) emissions. The motivation for exchanges can vary. Some businesses or organizations may be seeking to enhance their public image. For example, buyers may be interested in offsetting some or all of their GHG emissions from various activities, reducing their "carbon footprint," or becoming "carbon neutral." Buyers might also be preparing for future mandatory federal GHG emission reductions, getting into the market while prices are relatively low with the expectation that today's carbon offsets will be usable to achieve future federal emission ceilings or caps. Sellers are interested in receiving income for various activities, which, without the voluntary market, would likely not occur.

The concept of purchasing carbon offsets has spurred both interest and debate in recent years. This report provides an overview of carbon offsets and examines some of the issues that are generating debate (and controversy). Although there is some overlap of issues between voluntary carbon offsets and the offsets used to comply with mandatory reduction regimes, this report focuses on the voluntary offsets market. Unless otherwise stated, the carbon offsets in this report refer to those exchanged in the voluntary market.

What are Carbon Offsets?

A carbon offset is a measurable avoidance, reduction, or sequestration of carbon dioxide (CO 2 ) or other greenhouse gas (GHG) emissions. Offsets generally fall within the following four categories (discussed in greater detail later in the report): biological sequestration, renewable energy, energy efficiency, and reduction of non-CO 2 emissions.

Carbon offsets are sometimes described as project-based because they typically involve specific projects or activities that reduce, avoid, or sequester emissions. Because offset projects can involve different GHGs, they are quantified and described with a standard form of measure: either metric tons of carbon-equivalents (mtC-e) or metric tons of CO 2 -equivalents (mtCO 2 -e).

To be considered a credible offset, the emissions reduced, avoided, or sequestered need to be additional to business-as-usual: that is, what would have happened anyway. In the context of a mandatory GHG emission reduction regime, an offset can come only from sources not covered by the reduction program (i.e., outside the emissions cap). Emission reductions from regulated sources would be required under the cap, and thus would not be additional . By comparison, a reduction activity may be additional if it occurs from a source in a nation that does not limit the source's GHG emissions. As more nations (or U.S. states) establish mandatory caps or similar standards on emission sources, the universe of potential carbon offsets will shrink.

Carbon Offset Integrity Issues

A primary concern regarding voluntary carbon offsets is their integrity. It is generally agreed that a credible offset should equate to an emission reduction from a direct emission source, such as a smokestack or exhaust pipe. Several criteria determine the integrity or quality of an offset project.

Additionality

This is generally considered to be the most significant factor that determines the integrity of the carbon offset. Additionality refers to whether the offset project (e.g., wind farm) would have gone forward on its own merits (or own financial benefits) without the support of the offset market. In other words, would the project have happened anyway? If the project would have occurred without the financial support of the offset buyer, the emission reductions generated from the project would not be additional.

The additionality criterion is at the crux of an offset's integrity, but additionality can be difficult to assess in practice. The standards used to analyze a project's additionality vary, and some groups may downplay the importance of this attribute. An offset seller who employs a more stringent additionality analysis will likely offer "higher quality" offsets.

Measurement Challenges

It is generally much simpler to measure and quantify an emission reduction from a direct source than from an offset project. Two issues concerning measurement are further discussed below.

Baseline Determination

To determine the amount of emissions avoided by an offset project, project managers must establish an emissions baseline: an estimate of the "business-as-usual" scenario or the emissions that would have occurred without the project. If project managers inaccurately estimate the baseline, the offsets sold may not match the actual reductions achieved. For example, an overestimated baseline (projecting more emissions than would have been emitted in the project's absence) would generate an artificially high amount of offsets. Baseline measurement may present technical challenges. In addition, project developers would have a financial incentive to err on the high side of the baseline determination, because the higher the projected baseline, the more offsets generated.

Double Counting

A carbon offset is meaningful if it is only counted once. To be credible, when an offset is sold, it should be retired and not sold again or counted in other contexts. However, opportunities for double-counting exist. For example, a U.S. buyer may purchase offsets generated through the development of a wind farm in a country, state, or locality that has established GHG emissions targets. The U.S. buyer will count the offsets, which may have been purchased to counter an increase in personal air travel. In addition, the nation (state or locality), in which the wind farm is located, may see an emissions reduction due to the wind farm. This decrease will be reflected in the nation's GHG emissions inventory. Thus, the offset project (wind farm) may replace other reduction activities that the nation might have taken to meet its target. A tracking system needed to avoid such double-counting does not exist.

Some may argue that double-counting is less of a problem if the offset project occurs in a U.S. state (county or city) with only a voluntary target (as opposed to a nation subject the Kyoto Protocol). However, the impact would be the same if the state is eventually part of a federal emissions reduction program, and the state is allowed to take credit for the earlier reductions associated with the offset project. By taking credit for an earlier reduction, the state will need to make fewer reductions to be in compliance with the new mandatory program.

Permanence

When carbon offsets are generated from a project, there should be confidence that the emission offsets are permanent—that the emissions are not merely postponed. This characteristic is most pertinent to biological sequestration projects, specifically forestry activities. For example, buyers need some assurance that the land set aside for forests will not be used for a conflicting purpose (e.g., logging or urban development) in the future. Although natural events (fires or pests) are hard to control, human activity can be constrained through legal documents such as land easements. In addition, an offset could come with a guarantee that it would be replaced if the initial reduction is temporary.

Carbon Offset Types and Potential Integrity Concerns

In the voluntary market, carbon offsets can be generated from multiple economic sectors. This report discusses carbon offsets grouped into the four categories identified above. Each category contains a list of possible carbon offset examples. Specific integrity issues may be associated with particular offset categories. These issues are discussed below. The potential problems highlighted below should not necessarily rule out entire carbon offset categories. If offset project developers can address these potential obstacles, the offsets may be credible. However, it may be difficult for offset buyers to know if these problems were addressed (as discussed later in the report).

Biological Sequestration

Trees, plants, and soils sequester carbon, thereby reducing its amount in the earth's atmosphere. Biological sequestration projects generally involve activities that either increase sequestration or preserve an area's existing sequestration ability that is under threat (e.g., from logging or development). This offset category includes sequestration that results from activities related to agriculture and forests, and is sometimes referred to as land use, land use change and forestry (LULUCF) projects. Examples of these projects include:

Planting trees on previously non-forested land (i.e., afforestation) Planting trees on formerly forested land (i.e., reforestation) Limiting deforestation by purchasing forested property and preserving the forests with legal mechanisms (e.g., land easements) Setting aside croplands from production to avoid emissions released during crop production Promoting practices that reduce soil disruption (e.g., conservation tillage)

Compared to the other offset categories, biological sequestration projects offer the most potential in terms of volume (particularly forestry projects). However, this category is arguably the most controversial, because of several integrity issues that are typically associated (or perceived to be associated) with biological sequestration projects.

Some agricultural sequestration offsets may raise concerns of additionality: that is, the sequestration activity would have happened regardless of the payments received from offset buyers. For example, farmers may be able to generate offsets by conducting no-till operations on their land, but for the offsets to be credible, the impetus to adopt this practice should be driven by the financial gain from the offset market. If the no-till practice was part of normal operations before the offset market, then the offset would fail the additionality test. There is anecdotal evidence indicating that some farmers have been using the no-till technique for years, but still received compensation for the offsets. If this is the case, this would be a fairly straightforward example of a non-additional offset. Should this bar other farmers, who have not been practicing conservation measures (e.g., no-till farming), from receiving offsets for initiating such measures? Arguably the measures provide some benefit on their own (e.g., less fuel use), because some farmers have been using the techniques for years. However, the offset incentive may be a primary driver at some farms. This example demonstrates the difficulties associated with proving that a project is additional.

Biological sequestration offset projects may present challenges in terms of measurement. This issue is especially relevant to forestry-related offsets. The carbon cycle in trees and soils is complex: variations across tree species, ages, and geographic locations increase the measurement challenge. In addition, other variables complicate the measurement of reductions from forestry projects. For example, a recent study in the Proceedings of the National Academy of Sciences stated:

We find that global-scale deforestation has a net cooling influence on Earth's climate, because the warming carbon-cycle effects of deforestation are overwhelmed by the net cooling associated with changes in albedo and evapotranspiration. Latitude-specific deforestation experiments indicate that afforestation projects in the tropics would be clearly beneficial in mitigating global-scale warming, but would be counterproductive if implemented at high latitudes and would offer only marginal benefits in temperate regions.

As mentioned earlier, biological sequestration projects often raise questions of permanence: that is, whether the activity that generates offsets will continue. Although many observers expected biological sequestration offsets to dominate the international market, this has not been observed in practice. Concern of permanence has been one of the issues that has hindered the development of biological sequestration offsets in developing nations.

Renewable Energy Projects

Renewable energy sources generate less GHG emissions (wind and solar energy produce zero emissions) than fossil fuels, particularly coal. Therefore, use of renewable energy sources would avoid emissions that would have been generated by fossil fuel combustion. These avoided emissions could be sold as carbon offsets. Historically, renewable energy sources—wind, solar, biomass—have been more expensive (per unit of energy delivered) than fossil fuels in most applications. Sales of renewable energy offsets may provide the financial support to make a renewable energy more economically competitive with fossil fuels. Potential renewable energy offset projects may include:

Constructing wind farms to generate electricity Installing solar panels Retrofitting boilers to accommodate biomass fuels

Some renewable energy offsets may raise concerns of additionality. Several offset sellers offer renewable energy certificates or credits (RECs) as carbon offsets. One REC represents the creation of 1 megawatt-hour of electricity from a renewable energy source. RECs generally convey the environmental attributes of renewable energy projects, and RECs may be sold to promote further use of renewable energy. However, a REC does not necessarily equate with a carbon offset. A credible offset must be additional to the status quo; RECs are not subject to the same standard. Although some offset sellers closely scrutinize the RECs they offer for sale as offsets, there is no system or standard in place to ensure that RECs are additional.

Several factors, other than CO 2 emission reductions, may drive the development of a renewable energy project. Although renewable energy has historically been more expensive, higher fossil fuel prices and tax incentives have made renewable energy more competitive in recent years. Moreover, many states have enacted or are developing Renewable Portfolio Standards (RPS). An RPS requires that a certain amount or percentage of electricity is generated from renewable energy resources. Twenty-eight states have implemented or are developing some type of RPS. Although some sellers will not issue RECs that were counted towards an RPS, it is uncertain whether all sellers follow this protocol. These factors complicate the determination of additionality regarding renewable energy offsets projects, particularly offsets based only on RECs.

Energy Efficiency

An improvement in a system's energy efficiency will require less energy to generate the same output. Advances in energy efficiency generally require a financial investment. These capital investments may pay off in the long run, but may be unprofitable in the short-term, particularly for small businesses or in developing nations. Examples of possible energy efficiency offset projects include:

Upgrading to more efficient appliances or machines Supporting construction of more energy efficient buildings Replacing incandescent light bulbs with fluorescent bulbs

Energy efficiency improvements are sometimes described as a "no regrets" policy, because the improvements would likely provide net benefits (e.g., cost savings) regardless of their impact on other concerns (climate change or energy independence). Thus, the issue of additionality may be a particular concern for energy efficiency offsets. For example, in some cases, it may be difficult to discern if the improvements would have been made regardless of the offset market.

Offset ownership is another potential challenge regarding some energy efficiency offsets. Energy efficiency improvements may occur at a different location than the actual reduction in emissions. For example, a business that runs its operations with purchased electricity will use less electricity if energy efficiency improvements are made, but the actual emission reductions will be seen at a power plant. This may create a double-counting situation. Although the federal government has not set a mandatory GHG emission reduction, several states and local governments have enacted limits. If the state counts the emission reductions at the electricity plant towards its goal, while the business sells the offsets, the reductions will be counted twice.

Reduction of Non-CO2 Emissions from Specific Sources

There are multiple GHG emissions sources, whose emissions are not generally controlled through law or regulation. These sources—primarily, agricultural, industrial, and waste management facilities—emit non-CO 2 GHGs as by-products during normal operations. In many cases, the individual sources emit relatively small volumes of gases, but there are a large number of individual sources worldwide. In addition, these non-CO 2 gases emitted have greater global warming potentials (GWP) than carbon dioxide. Offset projects in this category could provide funding for emission control technology to capture these GHG emissions. Examples of emission capture opportunities include:

Methane (CH 4 ) emissions from landfills, livestock operations, or coal mines (GWP = 25) Nitrous oxide (N 2 O) emissions from agricultural operations or specific industrial processes (GWP = 298) Hydrofluorocarbon (HFC) emissions from specific industrial processes, such as HFC-23 emissions from production of HCFC-22 (GWP of = 14,800) Sulfur Hexafluoride (SF 6 ) from specific industrial activities, such as manufacturing of semiconductors (GWP = 22,800)

This offset category is relatively broad, as it can involve many different industrial activities. As such, there are offset types in this category that are generally considered high quality, and others that have generated some controversy. For example, methane capture (and destruction through flaring) from landfills or coal mines has a reputation as a high quality offset. These projects are relatively easy to measure and verify, and in many cases would not have occurred if not for the offset market.

The Size of the Voluntary Carbon Offset Market

The precise size or value of the voluntary offset market is unknown, because there is currently no registry or tracking system that follows exchanges in the voluntary market. However, several organizations—the World Bank, Point Carbon, Ecosystem Marketplace —have provided estimates for recent years. Table 1 includes data from the last group.

The estimates indicate that the size of the market has increased rapidly every year since 2004. The World Bank report cites forecasts of increasing growth in coming years. One projection (described as "optimistic" by the World Bank) indicates that the volume of transactions in the international voluntary market will be 400 MtCO 2 -e by 2010. To put this figure in context, U.S. GHG emissions were approximately 7,125 MtCO 2 -e in 2007.

The primary components of the voluntary market are retail offsets and offsets generated through the Chicago Climate Exchange. These markets, in addition to voluntary reporting and registry programs, are discussed below.

Over-the-Counter (Retail) Offsets

In general, the voluntary offset market refers to retail or "over-the-counter" offsets that may be purchased by anyone. Purchasing a retail offset is as simple as online shopping. More than 200 organizations—private and nonprofit entities—develop, provide, or sell retail offsets to businesses and individuals in the voluntary market. The quality of the retail offsets in the voluntary market varies considerably, largely because there are no commonly accepted standards. Some sellers offer offsets that comply with standards generally regarded as quite stringent, such as the CDM or the Gold Standard. Other sellers offer offsets that meet the seller's self-established guidelines, which may not be publicly available. These self-established protocols can vary considerably, raising questions of integrity.

Chicago Climate Exchange

The Chicago Climate Exchange (CCX) was established in 2003 as a trading system for buyers and sellers of offset projects to reduce GHG emissions. Buyers (i.e., GHG emitters) make voluntary but legally binding commitments to meet GHG emission reduction targets; those who emit more than their targets comply by purchasing CCX Carbon Financial Instrument (CFI) contracts, which can be generated by qualifying carbon offset projects (from sellers). CCX has guidelines and rules for determining eligible projects and their resulting carbon offsets. However, recent studies have been critical of the quality of the offsets generated by the CCX.

Assessment of Carbon Offset Sellers

Numerous companies and organizations sell carbon offsets to individuals or groups in the international, voluntary carbon market. The quality of the offsets may vary considerably, largely because there are no commonly accepted standards. Some offset sellers offer offsets that comply with standards that are generally regarded as the most stringent: for example, the Clean Development Mechanism or the Gold Standard. These standards generally have a robust test for additionality, as well as more substantial monitoring and verification procedures. As such, offsets meeting these standards incur higher transaction costs, adding to the cost per ton of carbon.

Some offset sellers offer offsets that meet the seller's self-established guidelines. These self-established protocols can vary considerably, raising questions of integrity. Are the protocols addressing additionality concerns? Are the offsets accounted in such a way as to avoid double-counting? Are the offset projects verified by independent third parties? Assessing the standards can be challenging for a consumer. Moreover, some company's standards are not made public, but may be considered proprietary information.

Two studies examined approximately 30 companies and/or groups that sell carbon offsets on the voluntary market. The following list highlights findings from the analyses:

The prices for carbon offsets range between $5 and $25 per ton of carbon. Offset prices show a correlation with offset quality. Overhead costs can vary substantially by seller. However, this factor may not be a good indicator of offset quality. The tax status of a seller (profit firm vs. nonprofit group) was not a good indicator of offset quality.

Arguably, the most significant finding of the two studies is the general correlation between offset price and offset quality. This correlation is more striking, considering the range of offset prices ($5 to $25 per ton of carbon reduced).

Conclusions

Carbon offset purchases are intended to generate emission reductions that would not have occurred otherwise. In terms of global climate change mitigation, an emission reduction, avoidance, or sequestration is beneficial regardless of where or how it occurs. For example, a ton of carbon reduced at a power plant will have the same atmospheric effect as a ton of carbon reduced, avoided, or sequestered through an offset project.

The core issue for carbon offset projects is: do they actually offset emissions generated elsewhere? If the credibility of the voluntary offsets is uncertain, claims of carbon neutrality may lack merit. Evidence suggests that not all offset projects are of equal quality, because they are developed through a range of standards. Although some standards are considered stringent, others are less so. In some cases, the standards used are not even made available to the purchaser. Due to the lack of common standards, some observers have referred to the current voluntary market as the "wild west." This does not suggest that all carbon offsets are low quality, but that the consumer is forced to adopt a buyer-beware mentality when purchasing carbon offsets. This places the responsibility on consumers to judge the quality of carbon offsets.

The voluntary carbon offset market raises several issues that Congress may consider. The viability—both actual and perceived—of the offset market may influence future policy decisions regarding climate change. For instance, some people are concerned that the range in the quality of voluntary market offsets may damage the overall credibility of carbon offsets. If this occurs, it may affect policy decisions concerning whether or not to include offsets as an option in a mandatory reduction program. This is an important policy question for Congress. Although some oppose the use of offsets based on supplementarity concerns (see discussion above), other argue that credible offsets would expand the compliance alternatives and likely lower the costs of a GHG emissions reduction program.

The voluntary program may inform the climate change policy debate in another manner. If Congress were to enact a federal GHG emissions control program that included the use of offsets, all of the integrity concerns—for example, additionality, permanence, accounting—would need to be addressed in some fashion. The experiences gained in the voluntary market may help policymakers develop standards or a process by which the integrity of offset projects could be assessed.