	Ensuring the Credibility of Carbon Offsets Poses Challenges in the U.S. Voluntary Market

Our August 2008 report identified four primary challenges with the U.S.  voluntary market. First, the concept of a carbon offset is complicated  because offsets can involve different activities, definitions, greenhouse  gases, and timeframes for measurement. A carbon offset project is  generally considered “additional” if it decreases emissions of greenhouse  gases below the quantity that would have been emitted in a projected  business-as-usual scenario. The  lack of standardization in the U.S. market may also make it difficult for  consumers to determine whether offsets are fully fungible— interchangeable and of comparable quality—a characteristic of an efficient  commodity market. Third, there are economic and environmental tradeoffs associated with  using offsets in a regulatory program to limit greenhouse gas emissions. In  many cases, regulated entities may find it economically advantageous to  buy offsets instead of reducing emissions themselves. Other studies  show similar results. In the short term,  lower prices make compliance with a policy to reduce emissions less  expensive. Fourth, allowing the use of offsets could compromise the environmental  certainty of a regulatory program to limit emissions of greenhouse gases if  the offsets do not meet requirements that underpin their integrity. The CDM’s Environmental and Economic Effects Provide Important Lessons About the Role of Carbon Offsets in Mandatory Programs to Limit Emissions

Our November 2008 report discussed the environmental and economic  effects of the CDM and identified lessons learned about the role of carbon  offsets in mandatory programs to limit emissions. First, with respect to  environmental effects, the overall effect of the CDM on international  emissions is uncertain, largely because it is nearly impossible to determine  the level of emissions that would have occurred in the absence of each  offset project. This resource- and time-intensive process, however, has involved  challenges. While the CDM project review process may provide greater  assurance of credible projects, available evidence suggests that some  credits have been issued for emission reduction projects that were not  additional. Second, carbon offset programs involve important tradeoffs and the use of  such programs may be, at best, a temporary solution to addressing climate  change. There is general consensus among climate change experts that both  industrialized and developing countries must be engaged in emission  reduction efforts to meet international emission reduction goals. Third, the CDM’s approval process may not be a cost-effective model for  achieving emission reductions. GAO’s Reviews of Carbon Offset Markets Have Identified Matters for Congressional Consideration in Developing Climate Change Legislation

Our reports on two different markets for carbon offsets—the U.S.  voluntary market and the CDM under the Kyoto protocol—have identified  matters for the Congress to consider as it deliberates legislation to limit  greenhouse gas emissions. While carbon offsets have the potential to  lower compliance costs for entities that could be affected by regulatory  limits on emissions, their use for compliance in a mandatory emissions  reduction scheme could undermine the program’s integrity if the offsets  lack credibility. The experience with both markets demonstrates the  importance of ensuring the credibility of offsets, but this remains a  challenge for both markets because of the inherent uncertainty associated  with estimating emissions reductions relative to projected business-as- usual baselines. Using offsets in a mandatory emissions reduction program  would involve fundamental trade-offs between offset credibility and  compliance costs. As we have reported, to the extent that the Congress chooses to develop a  program that limits greenhouse gas emissions while allowing the use of  carbon offsets for compliance, it may wish to establish (1) clear rules  about the types of offset projects that regulated entities can use for  compliance, as well as standardized quality assurance mechanisms for  these allowable project types; (2) procedures to account and compensate  for the inherent uncertainty associated with offset projects, such as  discounting or overall limits on the use of offsets for compliance; (3) a  standardized registry for tracking the creation and ownership of offsets;  and (4) procedures for amending the offset rules, quality assurance  mechanisms, and registry, as necessary, based on experience and the  availability of new information over time. Specifically, Congress may  wish to consider that (1) the existing program may not be the most direct  or cost-effective means of achieving reductions in emissions, (2) the use of  carbon offsets in a cap-and-trade system can undermine the system’s  integrity, given that it is not possible to ensure that every credit represents  a real, measurable, and long-term reduction in emissions; and (3) while  proposed reforms may significantly improve the CDM’s effectiveness,  carbon offsets involve fundamental tradeoffs and may not be a reliable  long-term approach to climate change mitigation.
Why GAO Did This Study

Carbon offsets--reductions of greenhouse gas emissions from an activity in one place to compensate for emissions elsewhere--can reduce the cost of regulatory programs to limit emissions because the cost of creating an offset may be less than the cost of requiring entities to make the reductions themselves. To be credible, however, an offset must be additional--it must reduce emissions below the quantity emitted in a business-as-usual scenario--among other criteria. In the U.S., there are no federal requirements to limit emissions and offsets may be purchased in a voluntary market. Outside the U.S., offsets may be purchased on compliance markets to meet requirements to reduce emissions. The Congress is considering adopting a market-based cap-and-trade program to limit greenhouse gas emissions. Such a program would create a price on emissions based on the supply and demand for allowances to emit. Under such a program, regulated entities could potentially substitute offsets for on-site emissions reductions, thereby lowering their compliance costs. Today's testimony summarizes GAO's prior work examining (1) the challenges in ensuring the quality of carbon offsets in the voluntary market, (2) the effects of and lessons learned from the Clean Development Mechanism (CDM), an international offset program, and (3) matters that the Congress may wish to consider when developing regulatory programs to limit emissions.

What GAO Found

In an August 2008 report, GAO identified four primary challenges related to the United States voluntary carbon offset market. First, the concept of a carbon offset is complicated because offsets can involve different activities, definitions, greenhouse gases, and timeframes for measurement. Second, ensuring the credibility of offsets is challenging because there are many ways to determine whether a project is additional to a business-as-usual baseline, and inherent uncertainty exists in measuring emissions reductions relative to such a baseline. Related to this, the use of multiple quality assurance mechanisms with varying requirements may raise questions about whether offsets are fully fungible--interchangeable and of comparable quality. Third, including offsets in regulatory programs to limit greenhouse gas emissions could result in environmental and economic tradeoffs. For example offsets could lower the cost of complying with an emissions reduction policy, but this may delay on-site reductions by regulated entities. Fourth, offsets could compromise the environmental certainty of a regulatory program if offsets used for compliance lack credibility. In a November 2008 report, GAO examined the environmental and economic effects of the CDM--an international program allowing certain industrialized nations to pay for offset projects in developing countries--and identified lessons learned about the role of carbon offsets in programs to limit emissions. While the CDM has provided cost containment in a mandatory emissions reduction program, its effects on emissions are uncertain, largely because it is nearly impossible to determine the level of emissions that would have occurred in the absence of each project. Although a rigorous review process seeks to ensure the credibility of projects, available evidence from those with experience in the program suggests that some offset projects were not additional. In addition, the project approval process is lengthy and resource intensive, which significantly limits the scale and cost-effectiveness of emissions reductions. The findings from these two reports illustrate how challenges in the voluntary offset market and the use of offsets for compliance--even in a rigorous, standardized process like the CDM--may compromise the environmental integrity of mandatory programs to limit emissions and should be carefully evaluated. As a result of these challenges, GAO suggested that, as it considers legislation that allows the use of offsets for compliance, the Congress may wish to consider, among other things, directing the establishment of clear rules about the types of projects that regulated entities can use as offsets, as well as procedures to account and compensate for the inherent uncertainty associated with offset projects. Further, GAO suggested that the Congress consider key lessons from the CDM, including the possibility that, (1) due to the tradeoffs involving cost savings and the credibility of offsets, their use in mandatory programs may be, at best, a temporary solution to achieving emissions reductions, and (2) the program's approval process may not be a cost-effective model for achieving emission reductions.