EMISSIONS TRADING MARKET ANALYSIS

The emissions trading market size was estimated to be valued at US$ 317.6 Mn in 2023 and is expected to reach US$ 1,034.5 Mn by 2030, exhibiting a compound annual growth rate (CAGR) of 18.4% from 2023 to 2030.

Emissions trading markets allow countries and organizations to trade pollution allowances and credits. There are two main types of products traded in these markets: allowances and offsets. Allowances represent the right to emit a certain amount of greenhouse gases that is usually measured in tons of carbon dioxide equivalent. Countries or companies that emit less than their allotted allowances can sell the excess allowances to others that are in need of them. Offsets, on the other hand, represent emissions reductions from specific projects, such as forestry activities that sequester carbon from the atmosphere.

The main advantages of emissions trading is that it helps to reduce pollution at lowest possible cost for businesses and societies. By allowing market forces to determine the price on carbon emissions, trading helps to ensure that reductions occur in industries and the countries where it is cheapest, should act first. This flexibility also encourages technological innovation in clean technologies. However, some argue that trading offsets may not represent real or additional emissions reductions, if it is not properly regulated and verified. There are also concerns about distributing allowances fairly and using the revenues collected to help vulnerable countries adapt to climate impacts. Overall though, emissions trading provide an economic solution to limit climate change when implemented properly with robust monitoring rules.

Emissions Trading Market Regional Insights

• North America has established itself as the dominant region in the emissions trading market. The region is home to well-established carbon markets such as the Regional Greenhouse Gas Initiative (RGGI) and California Cap-and-Trade Program which have matured over the years. Stringent environmental regulations that are aimed at reducing greenhouse gas emissions have propelled growth. The industries complying with emissions caps such as power, oil and gas form a huge portion of regional gross domestic product (GDP). This large industrial presence coupled with decades of experience in emissions control, makes North America an important player.
• With abundant allowance supply and competitive pricing, North American markets have also attracted significant international participation through linking programs. Corporates comprehend value in diversifying their compliance portfolio across jurisdictions. The region exported offsets and allowances due to surplus in 2022. With talks of federal climate policy gaining momentum of late, experts predict that the emissions trading landscape in North America will continue to evolve in complexity.
• Asia Pacific has emerged as the fastest-growing region for emissions trading. Rapid economic growth and industrialization have drastically increased energy needs of populous nations like China and India. Both countries introduced national emissions trading schemes to curb pollution and meet commitments under the Paris Agreement. China already operates the world's largest carbon market, accounting for over half of all allowances globally. The Chinese National Emissions Trading Scheme launched in 2022 commenced trading with much fanfare. Other smaller Asian markets are also being set up, as the region makes the paradigm shift towards a low-carbon future.
• With ambitious renewable targets and plans to price carbon across more industrial sectors, the Asia Pacific region is set for substantial growth. The large coverage of these emerging schemes will drive demand for offsets and allowances. Multinationals that are already operating in the region, recognize the business opportunities and are participating proactively in the evolving policy discussions. Continued economic expansion, supportive government policies, and an increased focus on ESG (Environmental, Social, and Governance) are expected to cement Asia Pacific's position as the leader in emissions trading growth prospects.

Figure 1. Emissions Trading Market Share (%), By Region, 2023

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Analyst Viewpoint: The emissions trading market is expected to grow steadily over the next decade as regulations on carbon emissions tighten around the world. The key driver for growth will be the expansion of cap-and-trade programs to more regions and sectors of industry. The European Union Emissions Trading Scheme dominates the global emissions trading market due to its large size and long history. However, newer programs in China, California, and potentially the U.S. at the federal level may surpass the EU ETS in the near future as their carbon markets develop further. Restraints on the market include political opposition to carbon pricing mechanisms in some jurisdictions as well as concerns about market volatility and speculation.

On the opportunity side, growing carbon pricing around the world will create demand for new trading infrastructure including registries, exchanges, and advisory services to help companies comply with regulations cost-effectively. Regional linkage of trading systems like that between California and Quebec offers opportunities for greater liquidity and lower prices. Expanding the use of offsets into sectors like agriculture and forestry could significantly boost offset credit demand. China's national emissions trading scheme presents major opportunities as it will cover multiple sectors and potentially generate more volume than any existing carbon market upon full implementation.

Emissions Trading Market Drivers:

• Environmental concerns and climate change mitigation: The primary driver behind emissions trading is the global concern about climate change and its adverse impacts. Governments and international bodies recognize the need to reduce greenhouse gas emissions to limit global warming and its consequences. Emissions trading provide a market-based approach to incentivize emission reductions and promote the transition to cleaner and more sustainable practices. According to the International Renewable Energy Agency (IRENA), the total renewable energy generation capacity globally reached 2,537 GW by the end of 2020, a 10% increase from the previous year. Increasing environmental concerns have led to the adoption of sustainable manufacturing practices. According to a survey by the United Nations Industrial Development Organization (UNIDO), 68% of companies worldwide have implemented at least one green initiative in their manufacturing processes.
• Regulatory compliance and international commitments: Many countries have set emission reduction targets and commitments under international agreements like the Paris Agreement. Emissions trading enable countries and industries to meet their regulatory obligations more cost-effectively by trading emission allowances and credits, thus providing flexibility in achieving emission reduction goals. For instance, the European Union's Green Deal aims to make Europe the first climate-neutral continent by 2050. This has led to increased investments in renewable energy, energy efficiency, and other low-carbon technologies.
• Economic efficiency and cost-effectiveness: Emissions trading allows companies to find the most cost-effective ways to reduce emissions. It creates a market for emission allowances, where those able to reduce emissions at lower costs can sell their surplus allowances to those facing higher costs, encouraging emission reductions where they are most economically viable.
• Stimulating clean technologies and innovation: Emissions trading incentivizes businesses to invest in cleaner technologies and practices. Companies that reduce emissions below their allocated allowances can sell the excess allowances, thereby creating financial incentives to invest in low-carbon technologies and innovative solutions to decrease emissions.

Emissions Trading Market Opportunities:

• Expansion of emissions trading schemes: As more countries and regions commit to reduce greenhouse gas emissions, there are opportunities to expand existing emissions trading schemes and implement new ones. Governments can explore the potential of emissions trading in different sectors, such as transportation, industry, and agriculture, to achieve broader emission reduction targets. According to the report provided by the World Bank's State and Trends of Carbon Pricing till 2020, there were 61 carbon pricing initiatives implemented or scheduled for implementation worldwide. These initiatives cover 12 gigatons of carbon dioxide equivalent (GtCO2e), or about 22% of global greenhouse gas emissions
• Linking emissions trading systems: Linking emissions trading systems between different countries or regions offers opportunities to create a larger and more liquid market for emission allowances and credits. This linkage can enhance cost-effectiveness, encourage international cooperation, and increase the overall impact of emission reduction efforts.
• Inclusion of new greenhouse gases: Current emissions trading systems primarily focus on carbon dioxide (CO2) emissions. Opportunities exist to expand these systems to include other greenhouse gases like methane (CH4), nitrous oxide (N2O), and hydrofluorocarbons (HFCs). Integrating a broader range of greenhouse gases into emissions trading can address a more comprehensive set of climate change challenges. The inclusion of new Green House Gases in emissions trading schemes can create new markets for emissions reductions. For instance, the California Cap-and-Trade Program, one of the largest emissions trading schemes in the world, includes multiple GHGs, including CO2, CH4, and N2O. According to the California Air Resources Board, the program covered approximately 360 businesses representing roughly 85% of California's GHG emissions in 2020.
• Market-based solutions for net-zero goals: Countries and companies that are aiming for net-zero emissions have opportunities to use emissions trading as a market-based solution to offset residual emissions. Investing in carbon offset projects and nature-based solutions can help achieve net-zero goals more efficiently. 

Emissions Trading Market Trends:

• Linking of regional carbon markets: Linking of regional carbon markets are having a significant impact on the emissions trading market. By connecting established cap-and-trade systems, it allows emission allowances to be traded across different geographic regions. This opens up larger markets with higher liquidity, thus enabling more opportunities for trading. For instance, when the carbon markets of California and Quebec were linked in 2013, it created a new market covering over 500 Mn people. This linkage boosted trading volumes as the number of available allowances and participants increased substantially. In 2022, discussions are underway about linking the European Union (EU) Emissions Trading System with markets in the U.K., Switzerland and potentially others taking a leap ahead. A larger transnational market will likely to lead more stable carbon prices over time as supply and demand are balanced across a wider area. The expansion of regional carbon market linkages poses both opportunities and challenges for market participants. On the one hand, it gives companies and traders access to a much bigger pool of offset credits and allowances to draw from. For firms operating in multiple areas, they can seek out lower carbon prices in other linked regions. However, it also increases complexities and compliance risks. Emissions or allowances that are traded between jurisdictions may be subject to the rules of both markets. If one region changes its overall emission cap or regulations, it could disrupt the balance across the entire linked market network. Data inconsistencies between uncoupled trading registries also need to be resolved. Overall, market connectivity on a broader scale should increase market liquidity and decrease price volatility but greater oversight will be important as these carbon markets evolve. For example, according to the International Carbon Action Partnership (ICAP), a total of 5.4 billion tons of carbon dioxide equivalent (CO2e) emissions were priced at an average price of US$58/tCO2e in 2021 across the carbon pricing initiatives they monitor. This represented an increase from 2.8 billion tons priced at US$24/tCO2e in 2016, demonstrating the growth of carbon pricing worldwide.
• Integration of carbon markets: The emissions trading market is witnessing a significant influence from the growing integration with complementary climate policies across many jurisdictions. Countries and regions that have emissions trading systems are increasingly linking their carbon markets together and adopting additional climate policies that indirectly impact the supply and demand fundamentals in trading. The European Union Emissions Trading System (EU ETS), the largest carbon market, has witnessed more linkage through inclusion of additional sectors like aviation. It is also coordinating pricing and supply between member states through the adoption of more ambitious near-term emissions reduction targets under the EU's Fit for 55 packages. These new 2030 goals under Fit for 55, which include proposals to reduce EU greenhouse gas emissions by 55% from 1990 levels, are expected to lead to lower free allocations of emissions permits to industries. This would potentially decrease the surplus of allowances, thus supporting higher permit prices going forward, according to the EU Commission. Similar integration is occurring in China as well. Seven regional pilot carbon markets established since 2013 are in the process of being consolidated into a unified national carbon market by 2025 based on guidance under China's 14th Five-Year Plan. There are also plans to expand the scope of this national emissions trading system to include more sectors like aviation, cement, and liquefied petroleum gas. At the same time, China continues to strengthen other policies like operational emission standards and renewable portfolio standards that motivate reductions covered entities which can monetize under the carbon market. According to the International Carbon Action Partnership (ICAP), these measures taken together by China mean the demand for allowance units in the national ETS which is expected to substantially rise in the near future.
• Speculation driving price volatility: Speculation has been playing a significant role in driving price volatility in the emissions trading market. With the introduction of stricter climate regulations and commitments made at Conference of the Parties conferences to reduce carbon emissions, long-term demand for carbon allowances and offsets is expected to grow steadily. However, in the short-term, price movement has largely been dictated by speculative activity as traders attempt to profit from price fluctuations. When market sentiment is positive about the policy support for low carbon transition, speculators tend to push prices upwards in anticipation of higher future demand. This was witnessed in the EU ETS in 2021 when the adoption of a stricter 2030 emissions target by the European Commission led to a spike in allowance prices. However, events like the uncertainty caused by the war in Ukraine have raised concerns about economic growth and energy security, thus causing speculators to sell off their holdings and drive prices down temporarily. In May 2022, the price of EU allowances fell by over 30% from its January high. The entry of financial market players into the carbon market has increased trading volumes substantially but also introduced more short-term volatility that is driven by risk appetite rather than fundamental supply-demand. According to an International Energy Agency report, the share of allowances held by compliance entities in the EU ETS, fell from 85% in 2008 to 58% in 2020, as financial market players acquired a larger position. While higher liquidity is beneficial, unpredictable swings in prices due to speculators jumping in and out of the market make it difficult for corporate emitters to hedge their compliance costs over the long run. It also raises concerns about the market accurately signaling the relative cost of higher carbon versus lower carbon investments. To reduce undue influence of speculation, regulators are exploring options like restricting market access for non-compliance players and imposing position limits on the number of allowances financial entities can hold at a time. For example, in 2021, the China national carbon market piloted a plan to temporarily restrict trading, if the price moved over 10% in a single day. However, a balance, needs to be maintained, since complete removal of financial players may compromise liquidity, that is needed in carbon asset class. Overall, as penetration of carbon pricing increases globally, stabilizing price signals will become more important for the emissions trading market to efficiently support decarbonization.

Emissions Trading Market Restraints:

• Lack of commitment by large emitters: Lack of commitment by large emitters is a major roadblock for the growth of emissions trading markets. The emissions trading system is based on the principle of cap and trade, where targets are set to limit overall emissions from sources like power plants, factories, and heavy industries. However, if large corporate entities and industrial sectors do not stringently follow the prescribed emission reduction targets, it hampers the effectiveness of the whole system. When big emitters do not tightly control their greenhouse gas emissions and buy excessive emission permits instead of investing in cleaner technologies, it sets a wrong precedence. Other market players also tend to relax their own efforts knowing that top players are not fully compliant. This defeats the basic purpose of emissions trading which is to encourage entities to lower their carbon footprint through means like energy efficiency and adopting renewable energy. Without full coordination between policymakers and active commitment from large-scale polluters, emissions caps become unrealistic and trading volumes remain suboptimal. For example, greenhouse gas emissions from global heavy industry increased by over 2% in 2021 as compared to the 2020, according to the International Energy Agency. The steel and cement sectors together account for over 20% of direct CO2 emissions worldwide but are still in the early stages of adopting low-carbon equipment and processes. Unless major industrial hubs and corporate groups make large-scale investments and switch to cleaner production methods, emissions from this sector will keep rising despite the presence of carbon markets. This ultimately restricts the potential growth of emissions trading schemes as overall supply and demand remain unbalanced with inadequate efforts on the ground to cut emissions.
• Counterbalance: The major industrial hubs and the corporates need to make investments in cleaner and environmentally friendly emissions method to reduce the emissions from industrial sectors.
• Prevalence of free allocation of emissions allowances: The free allocation of emissions allowances has played a significant role in restraining the growth potential of emissions trading markets. When allowances are freely distributed to heavy polluting industries, it fails to incentivize them towards investing in cleaner production methods and transitioning to greener operations. Without having to pay directly for their emissions, these industries do not face adequate cost pressure that could drive more environmentally friendly business decisions. This is amply evident from the experience of the EU Emissions Trading System, one of the largest and oldest carbon markets. In the earlier phases of the EU ETS (2005-2012), the majority of allowances were freely given out based on historical emissions. This resulted in carbon price instability and a generally low price signal. In 2018, according to a report by the European Environment Agency, the average price during the first phase was just €0.30/tCO2e. With such a negligible cost of polluting, there was hardly any motivation for industries to curb emissions. Even subsequent phases witnessed significant free allocation which continued weakening the carbon price signal. Free allocation also leads to windfall profits for industries which are able to either pass on the carbon costs to consumers or gain competitiveness without actually reducing their carbon footprint. According to the International Carbon Action Partnership’s status report of the EU ETS, in 2021, around 45% of the total allowances were given out without any emissions reduction requirements in the third phase (2013-2020). This flood of free permits distorted the supply-demand balance and exerted downward pressure on carbon prices, failing to make low-carbon options sufficiently financially attractive.
• Carbon leakage risk: Carbon leakage risk is a major concern that is restraining the growth of emissions trading markets. Carbon leakage occurs when stringent climate policies that increase costs for high-emitting industries in one country cause businesses to relocate production to other countries with less stringent climate regulations. This weakens the environmental effect of the original country's climate policy and does not reduce overall global greenhouse gas emissions. The risk of carbon leakage gives industries an incentive to oppose tougher emissions regulations and the expansion of emissions trading schemes. Industries perception of international competitiveness will be jeopardized by having to pay more for the carbon emissions at home; this will lead to lobbying of the governments against strengthening climate policies. They may argue that more stringent rules could damage economic growth and cost jobs, if production moves abroad in response to higher compliance costs. This risk of carbon leakage makes governments and regulators more cautious about increasing the scope and ambition of emissions trading systems out of fear of negative economic impacts. The carbon leakage problem also impacts the potential for linking emissions trading schemes between different countries. Countries will be reluctant to form linkages if there are large differences in the carbon price between the systems. Industries in the country with the higher carbon price fear production may shift to the other country. This reluctance limits the potential for emissions trading systems to be connected on a wider international level through linking, which could significantly boost the scale and growth of emissions markets.

Recent Developments

• In August, 2023 chevron multinational energy corporation predominantly specializing in oil and gas. completes acquisition with PDC energy international natural gas and oil company. Chevron stands as a global leader in the integrated energy sector. The core belief of the Chevron centers on the vital role of accessible, dependable, and increasingly sustainable energy, in driving human advancement. The activities encompass the extraction of crude oil and natural gas, the production of transportation fuels, lubricants, petrochemicals, and additives, as well as the ongoing innovation of technologies that not only improve the operations but also contribute to the overall advancement of the energy industry.
• In 2023, ExxonMobil which is a multinational oil and gas corporation announces acquisition with Denbury, an established company engaged in hydrocarbon exploration and extraction, finalized a definitive agreement for the acquisition of Denbury (NYSE: DEN), a seasoned player in the field of carbon capture, utilization, and storage (CCS) solutions, as well as enhanced oil recovery. 

Figure 2. Emissions Trading Market Share (%), By End Use, 2023

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Top Companies in Emissions Trading Market

• BP Plc.
• Royal Dutch Shell Plc.
• Total SE
• Chevron Corporation
• ExxonMobil Corporation
• Engie SA
• RWE AG
• ON SE
• Vattenfall AB
• Gazprom
• Mitsubishi UFJ Financial Group (MUFG)
• JPMorgan Chase & Co
• Citigroup Inc.
• Barclays PLC
• Goldman Sachs Group, Inc.

Definition: Emissions trading which is also known as cap-and-trade is a market-based approach to control greenhouse gas emissions. Under this system, a cap or limit is set on the total allowable emissions, and emission allowances or permits are allocated to companies or industries. Companies that emit below their allocated limit can sell their surplus allowances to those exceeding their cap.