Amid pledges to phase out coal use and reduce methane emissions, world leaders at the recent UN Climate Change Conference (COP26) in Glasgow also agreed to reform global carbon markets and improve carbon trading rules, considered key tools in the transition to decarbonisation.
Carbon trading is a system whereby a government sets a limit on the amount of carbon that can be emitted and then divides this amount into units. These units are allocated to different groups, industries and businesses, and can then be traded like any commodity.
Proponents say that carbon trading will ultimately increase investment in environmentally friendly solutions, as the carbon price makes fossil fuel projects less competitive and, at the same time, incentivises low-carbon energy sources such as wind and solar.
In fact, the International Emissions Trading Association says carbon trading has the potential to halve the cost of implementing national emissions targets, saving an estimated $250 billion annually by 2030. It also says it could facilitate the removal of around 5 billion tonnes of carbon dioxide per year at no additional cost.
While several countries already have their own national emissions trading schemes, and have previously engaged in cross-border emissions trading, COP26 participants agreed on a transparent and uniform set of rules for international emissions trading.
This means that countries struggling to reduce emissions can partially meet their climate targets by buying offset credits from other countries that have succeeded in reducing their own emissions.
The agreement also allows for the creation of a separate carbon offset market governed by the UN where both states and private entities can trade emissions credits through low-carbon projects.
For example, one party could pay another to build a solar plant instead of a coal-fired power plant. The latter, and more broadly the world, would benefit from cleaner energy, while the former would generate carbon credits for the project.
By signing the agreement, world leaders finally implemented article 6 of the 2015 Paris Agreement, which had been delayed for six years due to a series of disagreements between countries.
The agreement also tightened rules on double counting of credits, preventing carbon credits from being counted by both the country selling them and the country buying them.
While its impact is global, the implementation of Article 6 is expected to have different implications for developed and emerging markets.
Most developed nations are likely to be buyers of carbon credits, while most emerging markets are likely to be exporters of carbon credits. In light of this, rules clarifying international trade are expected to provide emerging markets with significant opportunities.
For example, Brazil's environment ministry claimed that the agreement was a "Brazilian victory", and that the country would become a major exporter of carbon credits. Given that Brazil is home to much of the Amazon and has significant potential to build renewable energy projects, the implementation of Article 6 is aimed at boosting investment in projects designed to significantly reduce emissions.
In addition, the agreement will provide assistance to emerging markets through an adaptation fund. Approximately 5% of all proceeds from offset transactions will go into the fund, which will help low-income nations in their efforts to combat the effects of climate change.
While domestic carbon taxes and emissions trading schemes are predominantly concentrated among richer countries, some emerging markets are making progress on this front.
Mexico, Colombia, Chile and South Africa are among those that have implemented or are planning to implement an emissions trading scheme or carbon tax.
Another country that could soon join this list is Indonesia.
In mid-November, international media reported that the Indonesian government had approved new rules related to carbon trading.
As in other carbon trading systems, the Indonesian model would include a so-called cap-and-trade system, whereby a limit is set on the overall level of pollution, and emission allowances can then be traded between companies.
The country will reportedly introduce a carbon tax in April next year, and the full-fledged carbon market will be operational by 2025.
Indonesia projects that, without international assistance, it will be able to reduce emissions by 29 per cent by 2030; however, this figure rises to 41 per cent with external finance and technology.
Although seen by many as a key tool on the road to decarbonisation, emissions trading is not universally celebrated.
Critics argue that the system could simply lead to greenwashing and that it could incentivise industrialised countries to offset, rather than reduce, their carbon emissions by buying carbon credits from other countries.
In fact, some environmental groups say the system could lead to carbon credits being transferred from one side of the world to the other without significant benefit to the environment.
Indeed, Tina Stege, climate envoy for the Marshall Islands, warned that much work is still needed to harness the benefits of the COP26 agreements.
"On Article 6, we must remain vigilant against greenwashing, protect environmental integrity and protect human rights and the rights of indigenous peoples," she wrote on Twitter.
"But a plan is only as good as its implementation. All parties must now go home and get to work to deliver on their Glasgow and Paris commitments."