Carbon markets are increasingly popular as a market-based approach to reducing greenhouse gas emissions. They offer financial incentives to companies to decarbonize by placing a cost on carbon emissions while offering credits for overachieving reductions.
Active compliance markets
There are several carbon market types in action across North America. Some are broader markets, like regional cap-and-trade systems, which often cover a wide range of sectors and industries. While others are more focused on either industry or transportation.
- Cap-and-trade: The government sets legal limits on the volume of emissions legally allowed to be released. Companies then pay to emit and can buy or sell credits depending on their performance each year. The two largest are the Western Climate Initiative (WCI), which covers most sectors in California, Quebec and Washington, and the Regional Greenhouse Gas Initiative (RGGI), which covers power plant emissions across nine states.
- Low-carbon fuel standards (LCFS): Used in several states and provinces, these policies force fuel suppliers to increasingly sell low-carbon alternatives to lower the overall emissions intensity of transportation over time.
- Output-based performance standards (OBPS): To address industrial emissions, the Canadian federal government instituted annual carbon-intensity (CI) reductions for all industrial facilities above a certain threshold of yearly emissions. Companies that produce a product below the stated CI earn credits that can be sold or used, helping to pay for adopting low-carbon solutions. Provinces can elect to develop their own equivalent policies, many of which already have.
Unlike cap-and-trade, where all emissions are covered right off the bat, both LCFS and OBPS type policies increase the share of emissions covered over time. This means the largest compliance markets in North America, almost by an order of magnitude, are cap-and-trade.
Looking ahead
The design of cap-and-trade systems will naturally reduce emission coverage over time as the policy forces industry to decarbonize. By contrast, for both LCFS and OBPS, their designs are meant to ratchet up the pressure on industry by increasing the share of emissions covered. In Canada, the carbon tax price is also scheduled to increase, increasing the impact of higher coverage.
Aaron Foyer is Vice President, Research and Analytics at Orennia. Prior to Orennia, he leveraged his technical background in management consulting and finance roles. He has experience across the energy landscape including clean hydrogen, renewables, biofuels, oil and gas, petrochemicals and carbon capture.
