Will tokenization bring about sounder carbon credit markets?

Benefits of carbon credit tokenization

Regenerative finance (ReFi) initiatives have been growing in prevalence in recent years. ReFi seeks to leverage blockchain technologies within the financial sector to direct capital towards solving environmental and societal challenges such as mitigating climate change, preserving biodiversity and rectifying economic disparities. Most notably, ReFi has been increasingly driving growth in carbon markets through privately led tokenization of voluntary carbon credits (VCCs).

VCCs are earned by reducing or avoiding CO2 or other greenhouse gases through such means as deforestation avoidance, afforestation/reforestation or renewable energy projects. VCCs can then be sold to third parties. Conversely, companies can opt to purchase VCCs to offset their irreducible greenhouse gas footprint. Once VCCs have been used to offset emissions, they are typically retired to prevent reuse but they need not be used immediately. They therefore can be tokenized and circulated like other cryptoassets. VCCs could be tokenized in small denominations of, say, less than one tonne to make them affordable to more companies and even individuals. Tokenization should also improve transparency by allowing information such as project details and transaction histories to be recorded on the blockchain.

Innovators such as Toucan, a company dedicated to decarbonization, and Klima DAO, a decentralized autonomous organization ( DAO), have been experimenting with creative tokenization approaches that dramatically change VCCs’ marketability. Toucan and KlimaDAO issue fungible tokens that, instead of being tied to a single project, are backed by VCC pools encompassing a diverse assortment of projects. This approach delinks tokens from projects’ idiosyncrasies, thereby sparing prospective purchasers from having to screen individual projects, reducing the risk of dependence on any single project and, in turn, enhancing the tokens’ liquidity. Another advantage of VCC pools is they obviate the need for advisors or brokers to help select VCCs, sparing project developers from having to pay such intermediaries’ fees. Use of VCC pools consequently should increase projects’ cost-efficiency.