Blockchain Use Case: Tokenizing Carbon Credits

Carbon credits suffer from a lack of transparency, and numerous global markets for carbon and greenhouse gas offsets are not integrated, leading to leakage in tracking and accounting for carbon. Using blockchain technology to tokenise carbon credits and other environmental incentive schemes enables for greater end-to-end visibility and tracking, as well as increased coordination and trading across jurisdictions to reduce the displacement of emissions from one jurisdiction to another by simply relocating where emissions take place. Tokenisation of carbon credits also enables environmental incentives to become tradeable financial assets, and allows people anywhere in the world to earn tradeable assets in exchange for participation in the reduction of greenhouse gas and carbon emissions. (University of Oxford, 2018)

Characteristics relevant for blockchain

Various elements of the system may suggest the use of blockchain: automation of recurring transactions representing a unit of value that should be immutable as well as agreed upon and available to relevant parties. In this context it is helpful to distinguish between tracking the carbon emissions and tracking the carbon credit trades.

• ​Carbon credits are created and subsequently traded by passing the following standardized steps that all projects need to go through: forecast carbon savings, submit project, get approval from host country, validate project, register process, monitor project’s emissions, verify monitoring, certify monitoring, issue credits and trade credits.
• Once carbon credits are issued they can be traded in perpetuity or until the carbon credit system is not accepted anymore by the participating countries or replaced by another carbon emission reduction incentive system.
• The main stakeholders are the project owners (both carbon credit issuers and those that seek to offset their carbon emissions), validators of the project (delegated entities of the United Nations Framework Convention on Climate Change or UNFCCC), Kyoto Protocol participants (mainly governments with a goal of national carbon emission reduction) and carbon credit trading brokers.
• Only the UNFCCC or approved entities validate the project, including calculation of forecasted emissions (comparing base line data with forecasts) and verification of actual data monitored. The spot price of carbon credits is determined in an open market that is being facilitated by six exchanges only.
• The value of a carbon credit can be measured as the number of tonnes carbon dioxide emission avoided, which can be monetized and traded accordingly based on the prevailing spot price as determined by the carbon credit trading exchanges.
• Once a carbon credit is issued the related (trading) transactions should be recorded and not changed (e.g. to audit if carbon emitters hit their emission goals and to tax carbon credit trading gains). For each transaction at least the new owner, time traded and trading price should be recorded and linked to the previous transaction.

Design of Solution

Protocol layer

To increase transparency and accountability actual emissions of companies should be seen on the blockchain publicly as well as the related trading of carbon credits – there is no direct need to use a private blockchain.

The blockchain needs to be able to handle many thousands or even millions of transactions per second as the carbon credit market is large and carbon credits are traded extensively. This would allow the monitoring of actual emissions and tracking trades of carbon credits to be displayed on the blockchain in real time.

The development of the blockchain should not be completely decentralized as rules for credit issuance and trading are dictated by or derived from the Kyoto’s protocol. The public community may propose changes (such as a bug solution) or additions (such as new user applications) to the source code, but approval of these should be governed by the UNFCCC as the regulator of the Kyoto protocol execution.

Connection with other blockchains and related protocols might enhance the utility of the carbon credit token, but the possibility of this depends on how the global blockchain ecosystem evolves. In the initial phase credits can be exchanged for carbon emissions or fiat. In future phases credits might be exchanged for other tokens or assets once it is possible to securitize tokens (to be compliant with securities regulation) and connect to other blockchain based exchanges that can swap various types of tokens and assets or integrate carbon credit tokens in their own blockchain ecosystem.

Network layer

Nodes can be run by the public, but only UNFCCC approved nodes and trading exchanges should have writing rights on the blockchain. The nodes run by the UNFCCC certifying entities append the data about carbon credits to the blockchain as this is a responsibility of UNFCCC and data submitted by carbon emitters to UNFCCC are non-public. The nodes run by the trading exchanges write trading transactions to the blockchain as they manage the infrastructure for trading credits. Other nodes can verify transactions, but not append new ones.

To allow the tokenization of carbon credits the writers on the blockchain (carbon credit certifiers and credit trading exchanges) should make the necessary changes to their current systems to integrate with the blockchain. The credit certifiers need to ensure that their systems once approved automatically write newly issued or terminated credits to the blockchain in real time. For the trading exchanges instead of recording transactions in their own system, they will have to write new transactions directly and in real time on the blockchain.

Application layer

Applications need to be designed with the end-user in mind: the governments that need to reach their greenhouse gas emission reduction targets and carbon emitters that want to sell or purchase carbon emission rights.

These stakeholders have viewing rights only and should have the option to retrieve data from the blockchain automatically (e.g. using an API) or to log in a customized portal. A dashboard functionality could help the stakeholders in managing their emission targets.

For the carbon emitters it is important that they can see the number of carbon credits awarded and have the possibility to trade credits. They update their data to the credit certifier and not to the blockchain directly, so they only need viewing rights for their certified credits on the blockchain.

Governmental bodies should be able to aggregate and filter data based on jurisdiction using the blockchain and without retrieving that information from UNFCCC necessarily anymore. Governments need to be able to track their progress to reaching greenhouse gas emission reduction targets and to compare with progress of other governments. In addition to that, they need to be able to control carbon emitters and steer their progress towards reaching emission reduction targets.

In addition to the aforementioned end-users, it should be possible for developers and entrepreneurs to build other applications on top of the blockchain, such as applications that retrieve information from the blockchain for carbon credit research and development of ‘carbon-friendly’ energy projects.

References:
University of Oxford - Said Business School (2018). Oxford Blockchain Strategy Programme. [online] Available at: https://www.sbs.ox.ac.uk/programmes/execed/oxford-blockchain-strategy-programme [Accessed 14 Mar. 2018]