Nearly a decade has passed since the signing of the Paris Agreement, yet the rules governing international carbon credit trading outlined in Article 6.4 of the document are still very much under development. The United Nations (UN) body tasked with crafting these rules has been diligently working throughout the summer months. However, their task is far from complete.
What is being decided by this so-called Supervisory Board in Bonn are by no means mere administrative details for hairsplitters – they hold profound significance for the future of the carbon markets. Advanced present-day buyers of carbon credits are advised to follow these developments closely.
This article delves into the key issues surrounding Article 6.4 while providing insights and recommendations from CEEZER for stakeholders navigating the evolving landscape of carbon markets.
The profound impacts of Article 6 of the Paris Agreement on VCM
Article 6 of the Paris Agreement offers parties a way to invest in actions outside their borders and raise global ambition to limit temperature rise to 1.5C. It establishes three approaches to voluntarily cooperate in achieving their emission reduction targets and adaptation aims set out in their national climate action plans under the Paris Agreement, called Nationally Determined Contributions (NDCs). One recent report by IETA shows that Article 6 has the potential to double emissions savings.
Let’s zoom in on Article 6.4. This centralized crediting mechanism is seen as a replacement for the UN's Clean Development Mechanism (CDM), which allowed emission reduction projects in developing countries to generate carbon credits under the Kyoto Protocol. This mechanism is overseen by the Supervisory Body, which is responsible for establishing guidance and procedures, approving methodologies, registering projects, issuing credits, and more.
Under the Paris Agreement, all parties have climate targets (i.e., NDCs). This means that host countries need to know that they can still meet their climate targets when an Article 6.4 project is implemented on their soil. Double counting of the same emission reductions or removals can be avoided through the double-entry bookkeeping for emissions accounting (so-called “corresponding adjustments”).
How does Article 6.4 impact what carbon credits companies can purchase?
Credits issued under the newly established crediting mechanism are known as “A6.4ERs”. As shown in the figure above, these units can be traded and retired by countries, but also other entities such as companies active in the VCM.
Upon the operationalization of Article 6.4, corporates can choose from two distinct types of credits:
- Supervisory Body-accredited with corresponding adjustment (A6.4ERs): The host country will have to authorize these A6.4ERs and account for these by applying corresponding adjustments. In this case, the carbon credit is not counted towards the host countries’ NDC. The company purchasing the credit can claim the credit as its own and make a compensation claim.
- Supervisory Body-accredited without corresponding adjustment (mitigation contribution A6.4ERs): These “mitigation contributions” are non-authorized and do not require a corresponding adjustment. They may be used for various purposes, “inter alia, for results-based climate finance, domestic mitigation pricing schemes, or domestic price-based measures, to contribute to the reduction of emission levels in the host party”. To avoid double-claiming, this type of credit should not be used to make a compensation claim by a company. Instead, private companies can purchase these credits to contribute to the host country’s climate targets.
This will by no means imply the end of carbon credits issued by traditional projects (e.g. from Gold Standard or Verra). However, a big question remains on how the advent of Article 6.2 and Article 6.4 will affect the status of those credits in the future. Views on this differ widely. How CEEZER views the implications of carbon credit purchases today is elaborated on later.
Next steps – What decisions are yet to be made by the Supervisory Board?
Crucial details on what can be issued under the Article 6.4 mechanism – such as what methodologies and activities can be included – are still to be decided. As of writing, the 12-member Supervisory Body has met six times. Two more meetings are planned for this year, one in September and another in November.
As summarized by Carbon Gap’s Article 6.4 policy tracker, two separate workstreams are ironing out the details of the mechanism. Both will be up for voting during the pivotal COP28 in Dubai later this year:
- Methodologies and removals, the rules for transitioning the CDM into the Article 6.4 mechanism, the accreditation standard, and the project activity cycle (based on recommendations by the Article 6.4 Supervisory Body)
- Inclusion of emission avoidance and conservation enhancement activities in the scope of Article 6.4 mechanism, authorization of credits, and connection between registries (based on recommendations by the Subsidiary Body for Scientific and Technological Advice).
A hot topic of debate in these workstreams is what type of mitigation activities (i.e., avoidance, reduction, or removal) will be eligible to generate credits under Article 6.4. Currently, there is no official definition of removals, reductions, or avoidance as part of Article 6. Given the lack of alignment on what the terms mean, there has been no outright inclusion or exclusion of certain project types.
The COP27 decision mandated the Supervisory Body to “elaborate and further develop” their work on removals over 2023, building on stakeholder input. Although this went largely unnoticed by the carbon removal communities initially, a controversial UN information notes downplaying the feasibility of removal technologies spurred action from the industry. During the last public consultation between June 5-19, the Supervisory Body received a staggering 133 submissions from a wide range of market participants calling for a more realistic view of carbon removal.
CEEZER’s position: Permanence is king but we need effective solutions that work today too
The effects of the Article 6.4 mechanism are long-term, with one chance to get the foundational rules right. Strong guidance on both emission reductions and removals is needed to ensure that the various integrity issues under existing carbon-crediting programs are not repeated but addressed effectively.
The choices being made by the Supervisory Board, along with the methods they are giving the nod to, are bound to reverberate on voluntary and compliance carbon markets globally. Other carbon markets are closely observing these developments, emphasizing the need to establish comprehensive standards. For the first time, novel carbon removal methods will be tackled under the Paris Agreement, and the recommendations will set a precedent that will likely be copied by many market participants.
To make this happen, CEEZER believes the following must commence:
- Distinguishing emission reductions from removals: At present, there exists a lack of consistent differentiation between removals and credits associated with avoided emissions, especially in the most widely used standards of the VCM. The definition of removals under Article 6.4 should be clear to avoid confusion with emission reduction or avoidance activities. However, it is important to avoid prioritizing removals over emission reduction activities through Article 6.4. Rather, activities that produce high-quality credits should be prioritized regardless of whether they reduce or remove GHG emissions from the atmosphere.
- Inclusion of durable carbon removals: Carbon removals are expected to play an increasingly crucial role in meeting the climate targets set by the Paris Agreement. For this reason, the Supervisory Body should not delay the inclusion of these activities in international carbon markets. Leaving promising approaches such as enhanced rock weathering, direct air capture, or biochar out of the scope would be a missed opportunity to establish robust methodologies on a global level. The definition of removals will need to reflect the durability benefits of such engineered solutions, which are expected to be scaled up rapidly in the 2030s and 2040s.
- Leveraging nature-based removals: Nature-based solutions can be scaled up in the short-term, and provide ample additional environmental and social benefits. This makes solutions such as afforestation or soil carbon sequestration a must-have in corporate carbon credit portfolios this decade. However, these pathways come with significant tradeoffs in terms of permanence and additionality risks. Making these risks transparent is essential to prevent low-quality offerings from dragging prices down and blocking the entry of high-quality interventions with more assured climate impact. Methodologies by the Supervisory Body must be robust to encourage high-quality projects within Article 6.4 activities. The definition of removals will need to reflect the near-term risks (but scalability) of nature-based removals.
- Crystal-clear carbon accounting framework: Any ambiguity should be avoided for companies engaging with this mechanism, which demands a consistent accounting framework. Resolving confusion regarding double counting is direly needed to avoid stranding corporate and private assets currently under development. Further guidance and clarity are needed for how corresponding adjustments apply to VCM activities.
Getting practical: Understanding the implications of Article 6.4 on carbon credit purchases today
While Article 6 might not yet be a prime concern for many corporates presently, buyers must understand its potential impact. Although there is no definitive answer to how Article 6 will impact the market yet, we believe the following elements should be taken into consideration:
- Understand the risks of host country actions
Companies are advised to be aware of regulations or guidance introduced by national governments. This could be a host country appropriating credits generated in its jurisdiction, or a country regulating public claims about the use of carbon credits made in its territory.
Ultimately, the decision on whether to apply Article 6 rules, including corresponding adjustments, to the VCM rests with the host country. Currently, most countries have not taken a definitive stance on the necessity of corresponding adjustments for VCM credits. Yet, the ongoing ambiguity prompted some countries to take a cautious approach. For instance, Indonesia temporarily suspended issuing VCM credits from 2021 to 2022 as it worked on finalizing its legislation in 2023. Comparable moves have been made by India and Zimbabwe.
Views from market participants on this differ too. For instance, IETA argues that corresponding adjustments are not required when credits are bought on a voluntary basis and the emission reductions contribute to the host country’s NDC. It believes that double claiming by countries and companies is not in itself problematic.
Nevertheless, companies that purchase post-2020 vintage carbon credits today must be wary of whether the activities of these projects are included in the host country’s NDC when making a claim. Uncertainty remains in today’s VCM as national carbon policies and ambitions are revised continuously, and the upcoming COP28 could see changes in policy that impact the issuance of carbon credits.
Every carbon credit project featured on the CEEZER platform already incorporates data indicating whether the host country engages through a market mechanism or cooperation that includes adjusting its accounting for carbon trading. In addition, assessing whether the project activity is covered in the host country’s NDC should always serve as an initial step in assessing the risks associated with the respective carbon credit.
- VCM remains the main game in town for the next years
For the immediate future, the VCM stands as the predominant avenue for deploying private capital toward avoidance, reduction, or removal activities. Despite progress in shaping standards and procedures for the Article 6.4 mechanism, its full implementation will take a few years. A recent IETA survey shows most market participants expect it to be fully operational between 2026 and 2028.
Once the Article 6.4 mechanism is operationalized though, a large influx of private capital for funding mitigation measures by both corporate entities and financial institutions could become more probable. However, the interaction between capital influx and the current VCM is yet to be clarified. There are ample ways for existing and Article 6.4 projects to co-exist, as well as opportunities for Article 6.4 projects to use existing VCM infrastructure and methodologies.
- Do not wait to take responsibility for ongoing emissions – Act now
In the face of uncertainty around Article 6, companies must take action quickly. Acknowledging ongoing emissions on the path to net zero – i.e., assuming responsibility for the harm being done – is paramount. Given the urgency of the climate crisis, taking immediate action by purchasing high-quality carbon credits to address unavoidable emissions is essential.
The supply, demand, and prices of credits suitable for beyond value chain mitigation or neutralization of residual emissions hinge on the Supervisory Board's choices. While ongoing uncertainty is likely detrimental to project developers, uncertainty about future market dynamics may also present an opportunity for corporates. For instance, securing future credit streams through long-term offtake agreements could be an effective way of being ahead of the game.