How Does Carbon Trading Work?

Carbon trading is a method of reducing greenhouse gases using a market-based approach.

The goal is to use the efficiency of the marketplace to reduce pollution by the six greenhouse gases that are believed to cause global warming, thus it is also known by the term emissions trading. It exists in a piecemeal condition in the world today with the European Union the leader in its implementation. It exists in several U.S. states for some of the gases, some on a voluntary basis, but there is no comprehensive carbon trading in the U.S. More than 30 countries worldwide have or are planning a carbon trading market.

Here’s how it works. A government sets the total amount of air pollution it will allow and then allocates permits to those who emit such gases. It is essentially the right to pollute up to the limit established by the permit. What if you implement pollution reducing measures and don’t need all your permits? You can sell them to someone who does need them. It benefits the company that sells because they are rewarded financially for reducing pollution. It also allows the company that bought the permits to stay in business but at a financial cost for their pollution.

Carbon trading is also known as Cap and Trade because the the pollution is capped, and the permits are allowed to be traded.