Imagine this: You're the CEO of a multinational corporation, and you've just pledged to achieve net-zero emissions by 2050. You've invested millions of dollars in carbon credits to offset your unavoidable emissions and support climate-friendly projects around the world. You're feeling proud and confident about your climate leadership.

But then, you wake up one morning and find out that the carbon credits you bought are worthless. The project you supported has been exposed as a fraud, the verification standards have been questioned, and the market price has plummeted. You're left with a huge hole in your budget and a tarnished reputation.

Sounds like a nightmare, right? Well, this is not a hypothetical scenario. This is what happened to some of the buyers of voluntary carbon credits in 2023 when the voluntary carbon market (VCM) faced a major credibility crisis. The VCM is a market where companies and individuals can buy and sell carbon credits that are not mandated by any regulation, but rather driven by voluntary demand.

The VCM is not the only type of carbon market. There are also compliance markets, where governments or regional authorities set a cap on the total emissions allowed and issue tradable permits or allowances to emitters. These markets are regulated and mandatory, and aim to create a price signal that incentivizes emission reductions.

Both types of carbon markets faced challenges in 2023. The VCM suffered from a lack of transparency and standardization, leading to accusations of greenwashing and fraud. The compliance markets, on the other hand, faced the risk of oversupply and price volatility, as new allowances entered the market and power emissions declined due to the pandemic and the energy transition.

So, what does 2024 hold for the carbon markets? Will they recover from the turbulence and grow stronger, or will they continue to face uncertainty and instability? Here are some possible scenarios for the year ahead:

Recovery and growth

The VCM could bounce back from the crisis, thanks to the efforts of various stakeholders to improve the quality and credibility of the market. One of the key initiatives is the "end-to-end integrity framework", a collaborative effort by heavyweights like the Voluntary Carbon Markets Initiative (VCMI) and the International Carbon Reduction and Offset Alliance (ICROA). This framework aims to provide clearer guidance on corporate decarbonization and the role of high-quality carbon credits. It also seeks to harmonize the standards and methodologies used to measure and verify the impact of carbon projects. This could boost the confidence and demand of buyers, and weed out the bad actors from the market. The VCM could also benefit from the innovation and technology in carbon capture and storage (CCS) and other carbon removal methods, which could increase the supply and diversity of carbon credits. The compliance markets could also see continued growth, as more countries and regions join the carbon pricing scheme and tighten their emission caps. The EU Emissions Trading System (ETS), the world's largest compliance market, could maintain its price momentum, as it implements the ambitious reforms under the European Green Deal. The compliance markets could also create synergies and cooperation with the VCM, by allowing the use of certain voluntary credits for compliance purposes, or by linking their systems to create a larger and more liquid market.

Continued turbulence

The carbon markets could face further uncertainty and instability, due to the geopolitical and regulatory factors that could affect the supply and demand of carbon credits. The war in Ukraine and other geopolitical tensions could disrupt the energy markets and the trade of carbon credits, creating price shocks and volatility. The regulatory uncertainty and fragmentation across regions could also hamper the growth and integration of the carbon markets, as different jurisdictions adopt different rules and standards for carbon pricing. The VCM could face more scrutiny and criticism, as buyers demand more proof and assurance of the impact and additionality of carbon credits. The compliance markets could face the challenge of balancing the ambition and feasibility of their emission targets, as they deal with the potential oversupply and price fluctuations of their allowances. The carbon markets could also face public backlash and legal challenges, as some groups oppose the idea of carbon pricing or question its effectiveness and fairness.

Unforeseen events

The carbon markets could witness significant changes, due to the potential for disruptive technologies or policy changes to alter the market landscape. For example, breakthroughs in direct air capture or enhanced weathering could dramatically increase the supply and affordability of carbon removal credits, potentially transforming the VCM. On the other hand, radical policy changes, such as banning fossil fuels or imposing carbon border taxes, could drastically reduce the demand and price of carbon credits, potentially undermining the carbon markets.

VCM demand, supply and investment in 2024

Demand

The demand for carbon credits, which represent a reduction or avoidance of greenhouse gas emissions, could rise into the billions of tons of carbon dioxide equivalent within the next decade. The main drivers of demand are the voluntary and compliance-based carbon markets, which allow entities to buy and sell carbon credits to meet their environmental goals or regulatory obligations. The voluntary market is driven by the increasing number of companies that have pledged to achieve net-zero emissions by 2050 or earlier, as well as by the growing consumer and stakeholder awareness and pressure. The compliance market is driven by the existing or emerging carbon pricing schemes, such as the European Union Emissions Trading System (EU ETS), the Regional Greenhouse Gas Initiative (RGGI) in the US, and the national carbon market in China, which cover a large share of global emissions and create incentives for emission reductions.

Supply

The supply of carbon credits could increase nearly 60-fold depending on how carbon removal and nature-based solutions scale. The main sources of supply are the carbon projects, which are actions that protect, restore, or enhance natural ecosystems, such as forests, wetlands, and grasslands, or deploy technologies that capture and store carbon, such as bioenergy with carbon capture and storage (BECCS) or direct air capture (DAC). The supply of carbon credits depends on the availability and quality of carbon accounting principles, project design, and impact verification, which are currently diverse and inconsistent across different carbon standards and registries. To address this issue, some of the major carbon standards and registries, such as Verra and Gold Standard, agreed to align on common carbon accounting principles at COP28, and to collaborate with other independent governance bodies, such as the Science Based Targets initiative, the Voluntary Carbon Markets Integrity Initiative, and CDP, to produce a cohesive carbon project quality standard.

Investment

The investment landscape in 2024 in the voluntary carbon market (VCM) is expected to be dynamic and diverse, as more investors seek to align their portfolios with net-zero goals and support high-impact climate action. The demand for carbon credits, which represent a reduction or avoidance of greenhouse gas emissions, could rise into the billions of tons of CO2e by 2030, creating a market opportunity and incentive for carbon removal projects, both engineered and nature-based. However, to unlock the potential of these projects, they need to overcome the barriers of lack of clear and consistent standards and metrics, and lack of incentives and regulations. However, investment opportunities in the VCM are not limited to carbon credits but also extend to the underlying assets and technologies that enable carbon removals. According to a survey of energy sector executives, investors, and legal counsel, the most attractive growth and investment opportunities are biofuels and biomass (waste-to-energy), efficiency, carbon capture, energy storage and carbon removals. Moreover, MSCI, a leading provider of environmental, social, and governance (ESG) data and analytics, predicted that improvements in metrics and measurement of nature-based solutions impacts will attract billions of dollars in nature investments across biodiversity, carbon, and water in 2024.

The VCM is expected to attract strong investment for both clean energy and low-carbon technologies, as well as for nature-based solutions and carbon removal. However, to ensure that the investment is effective and impactful, it needs to be guided by high-quality standards, transparent disclosure, and robust verification.

Conclusion

The VCM in 2024 is poised for a year of dramatic transformation. Increased scrutiny, a focus on quality and removals, and a shift in the investment landscape are just some of the key trends to watch. While challenges remain, the growing demand for credible climate action positions the VCM as a vital tool in the fight against climate change.

The trends and initiatives discussed above could help carbon markets overcome their challenges and seize their opportunities, but they also require strong commitment, collaboration, and transparency from all stakeholders. Carbon markets are not a silver bullet, but they can be a powerful tool to mobilize resources, incentivize actions, and accelerate the transition to a low-carbon economy.

Future Thought Leaders is a democratic space presenting the thoughts and opinions of rising Sustainability & Energy writers, their opinions do not necessarily represent those of illuminem.