How are Carbon Credits supposed to solve Climate Change?

Updated on: September 26, 2022

The Basic Idea of carbon credits explained

This is an introductory article that describes how climate change originates at the core of human progress. This very fact, as well as the complexity of our world, makes the idea of carbon credits insufficient for the real world. But that doesn't mean that the idea of carbon credits is wrong. We need to overcome many other implementation challenges for carbon credits to serve their intended purpose of solving climate change.

For starters, here are some related and (somewhat) interchangeable terms.

  • Carbon Credits
  • Carbon Trading Markets
  • Carbon Emissions Trading
  • Carbon Commodities
  • Carbon Offsets

Greenhouse Gases and Global Warming

The scientific community agrees that global warming is happening due to the excessive man-made emissions of greenhouse gases (GHGs). A GHG is any gaseous substance that traps the heat from the sun in the Earth's atmosphere, which we call the greenhouse effect. If the volume of a GHG in our air goes up, it absorbs more heat, and causes the temperature to increase. Interestingly, water vapor is also a GHG and responsible for 50% of the greenhouse effect. However, rainfall and other forms of precipitation restore the evaporated water regularly. And of course we need fresh water constantly, so we don't want to reduce water vapor in the air and mess up the ecological cycles.

Carbon-based GHGs, on the other hand, are a different matter altogether. These include carbon dioxide (CO2), methane (CH4), Chlorofluorocarbons (CCl2F2) and Hydrofluorocarbons (CHF3). But there are even deadlier GHGs like Nitrous Oxide (NO), Sulphur Hexafluoride (SF6) and Nitrogen Trifluoride (NF3). The same quantity of these other GHGs can cause a 100 to 10,000 times more global warming, compared to CO2. Now, unlike the regular water cycle of evaporation and rainfall, nature lacks the processes to cycle these GHGs at the scale we humans are emitting them. So, their lifetime in the atmosphere is more than 100 years on average. Any GHGs we emit into the air today will thus stay around for at least 100 years, unless we do something about it. Global warming is a man-made problem, and it requires man-made solutions.

Global Warming to Climate Change

While Global Warming conveys the central effect of the warming of our weather globally, it has many other effects. Warmer climate means snow and ice melt faster. Melting of glaciers and permafrost causes loss of major freshwater sources and a rise in the sea levels. Low-lying coastal areas and entire island nations are getting submerged due to rising sea levels. Globally, coastal areas are densely populated. The rising seas and oceans displace a large number of inhabitants causing a "climate refugee" crisis.

More heat in the atmosphere means more energy for driving the weather phenomena like rainfall, hurricanes and thunderstorms. Our climate becomes more volatile, and extreme weather events occur. As hurricanes and flood hit one part of the world, while simultaneously, drought and famine hits another. Excess water in one place, and extreme water crisis in another. This disturbance in the natural balance brings extreme temperatures in different parts of the world. While summers are getting hotter, with heat waves and wildfires, extreme rains and cold waves are also happening.

So, while the trapped energy in our atmosphere is going up, it is driving our weather to be more wild and unpredictable. Hence, "Climate Change" is the term now preferred instead of the earlier popular "Global Warming" to convey the occurence of various extreme weather events and its consequences on other areas of life, rather than just the "warming". Climate Change is a catch-all term to convey that our long-term climate is changing and getting out of control. And it has worldwide consequences to all parts of nature, society, and business. If we don't reduce the levels of GHGs present in our air drastically, we will only face more extreme climate and its adverse consequences on every walk of our personal and social lives.

Human Progress and Climate Change

Everyone knows about climate change. If we know how bad this problem is, and that we are responsible for it, what are we doing about it? Why don't we simply stop emitting GHGs? Simply put, life requires energy. If the readily available energy is less, there is less life, it cannot thrive. If more energy is readily available, there is growth in life. Human beings discovered the power of steam and invented steam engines. We discovered fossil fuels like coal, natural gas and crude oil. We invented mechanical machines and built large factories.

Better than steam power, we learned about electromagnetism and then started using steam turbines to generate electricity. Electric power is the most convenient form of energy, and now almost every machine big or small is designed to be powered by it. Industrialization, scientific progress, urbanization, globalization. All of modern human growth is powered by fossil fuels. And they emit GHGs as a by product, which lead to Climate Change. In short, the progress we made in the last two centuries comes at the cost of Climate Change.

Twin Solutions for Climate Change

How can we suddenly stop using fossil fuels and emitting GHGs? We simply can't! But we should try our best to transition as fast as possible to sources of energy that emit less or no GHGs, or "Clean Energy". Even better, we need to develop facilities on a large scale to absorb the existing GHGs from the atmosphere and store them away underground, or "GHG Removal". Thus, no longer emitting any GHGs / "Clean Energy" and removing the existing GHGs from our air / "GHG Removal" are the two primary effective solutions to Climate Change.

Somehow, we need to focus resources, attention, and brainpower on these twin solutions of Clean Energy and GHG Removal and defeat Climate Change. How can we do that? Well, we have governments and corporations. Governments must make rules that promote Clean Energy and GHG Removal, and enforce corporations to operate within those parameters. And within those creative constraints, corporations will do their best to allocate capital efficiently and build the required processes. Governments' enforcement of these "Solving Climate Change" rules can occur in many ways. And thus, we will solve climate change. Easy! Right?

Governance is not easy. Monitoring corporations and measuring their emissions is not easy. Self-interest trumps common good in all spheres of life. Governments show lack of focus and oversight. Corruption and lobbying leads to government actions being directed by corporations. Corporations work for maximizing their profits and defeating their competition. And finally, even if we have strong, responsible governance and corporations committed to solving Climate Change, Planet Earth is not a computer with a convenient log of all processes that we can inspect. In short, Climate Change itself, and the obstacles involved in solving it, are a set of complex and wicked problems. It is very messy!

Wanted: An Incentive Architecture for Solving Climate Change

As we have seen above, the existence and progress of the modern human society is tightly coupled with the use of fossil fuels and therefore the emission of GHGs, which are driving Climate Change. On the geological or evolutionary timescales, humans were quite irrelevant and harmless until the advent of the Industrial Revolution. Humans have scaled very quickly in its last 5-10 generations. Just look at the human population chart below. So, fossil fuels have been a blessing for us in the short-term, with deadly consequences in the long-term. Collapse is imminent unless we something radical, and our actions don't display the level of urgency this problem needs.


Human behavior is optimized to look for short-term survival. As we evolved, we did not need to worry or think about life 50 or 100 years later. Although we have the ideas of legacy and fame, where our worth and identity remains and grows after us, it does not dictate everyday decisions. So, sheer will power or feeling of urgency isn't going to change our collective behavior overnight. We need to bring the understanding of game theory and behavioral economics to create actionable solutions. Our short-term incentives for survival and profit-seeking need to be smartly coupled with actions that lead to solving climate change. Let's ideate what such an incentive architecture will look like, which will nudge us together to do exactly what is needed to reduce GHG emissions, remove GHG from air, and fulfill all our energy need from clean, eco-friendly methods.

Carbon Credits: Gamifying Climate Change Solutions

Model Thinking is the use of simple models and rules to help us analyse, simulate and plan more realistic problem-solving tasks. All models are wrong, but some are useful. That's a useful reminder, because people can easily start mistaking a model world for the real world and cause unintended catastrophes. Models or simulations are way more simpler than the real world, and hence serve for reference purposes and a starting point. We can develop real solutions iteratively by starting with basic models, and then improving and fixing the shortcomings with every generation of the system. Of course, we need to "fail fast, fail often", and use rapid prototyping so that we validate our simpler systems, detect the bugs and inefficiencies, fix them and make improvements.

How to invest in carbon credits?

With that in mind, let us start with a simulation world: here, Planet Earth is indeed like a computer where we are logging all events for easy monitoring and analysis. As discussed earlier, we are facing Climate Change due to GHGs that fossil fuels emit. How would we begin to gamify this system so that we are able to turn this situation around and save our planet and all life on it? First things first: We will classify events into good for climate and bad for climate. We will reward the entities responsible for the good events and punish those responsible for the bad ones. That's the "carrots and sticks" approach to bringing discipline in the system, and we have added the qualities of good and bad to the game.


How Carbon Credits Can Drive Innovation and Common Good

Iterating further, we will need to measure and quantify the degree of help or damage caused by any event. For this, we need to know how much quantity of GHGs were emitted into the air (bad) or removed (good) from the air. Now, CO2 is the most common GHG. So we can use 1 tonne of CO2 as the basic unit of measurement. Let's call it 1 carbon credit. However, CO2 isn't the only GHG, nor the most damaging one. We don't want to ignore or forget other GHGs. So, we need the 1 carbon credit unit to stand for the climate change damage that 1 tonne of CO2 can do. Methane CH4 is able to do 25 times as much damage, so 1 tonne of CH4 will be 25 carbon credits. And so on for other GHGs.

Using Carbon Credits as the currency for Solving Climate Change, the entities that emit GHGs need to buy equivalent carbon credits. Thus, they lose their money or profits, get punished for causing bad events, and receive feedback from the system that they need to avoid such actions. Similarly, the entities that help to remove GHGs receive carbon credits as a reward. They can exchange these carbon credits for real money and add it to their revenue. Such helpful entities receive the feedback from the system that they should keep doing these actions. This is basically how carbon credits can provide useful feedback to the participants. They serve as incentives for good behavior, and disincentives for bad behavior.

Carbon Credits Enter the Real World, and Fail

But transferring this system from the model world to the real one is like jumping from the 1st generation to the 100th. Our real world is very complex. It is very hard to measure who is emitting how much GHGs. Production of goods is dependent on complex and global supply chains. Lifecycle Analysis (LCA) of the carbon footprint of any one product is hard. It involves a lot of transportation and processing of raw materials by different entities. There are so many loopholes in the defining and measurement of GHG emissions and attribution of whose responsibility they are. Every improvement and innovation made in this "Solving Climate Change" support system also needs to recognized. Same thing for every violation, fraud or harm being done in this support system.

What are carbon credits etf?

An exchange-traded fund (ETF) is a pooled investment that tracks the performance of underlying assets. A carbon-credit ETF traded on the New York Stock Exchange holds a portfolio of energy, agricultural and forestry projects designed to combat climate change.

Does that mean that we need Carbon Credits to serve a much wider purpose? Does our planet need Carbon Credits to become a universal currency that we can use throughout that you earn by helping solve climate change, and that you spend by causing climate change? We have defined 1 carbon credit as equivalent to the global warming/climate change caused by 1 tonne of CO2. But such a definition is applicable for industries and transportation where GHG emissions actually occur. It is not suitable for applying to events happening in the support system. On the other hand, in the absence or lacking in the support system, entities will game the system and misuse loopholes to score points or avoid penalties with falsified data or rigged processes.


Carbon Credits are a good starting point in designing an incentive architecture that drives us to solve climate change. But they are not the perfect currency for solving climate change, both because of human shortcomings, and the complexity of our real world. We need to do a lot of innovation in the support system that can measure and enforce those carbon credits. Such development of the climate change support system requires its own incentive architecture. In the next article in this series, we will look at how the innovative technology of blockchain and Web3 can make major contributions in simplifying the complex problems of carbon credits and climate change.

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