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Although voluntary carbon markets are still in their infancy, they provide an important tool for organizations around the world to offset their carbon emissions and combat the negative effects of climate change.
The potential for these markets is huge: they’re expected to reach $3 billion in value by the end of the year, and Barclays predicts they could explode to a massive $250 billion in value by 2030. But it’s not all plain sailing so far, as the projects themselves could pose significant risks, threatening to set off a series of fiascos that could thwart participation in these markets. Insurance has the ability to step in and help solve this trend.
Today, we are faced with two opposing forces: on the one hand, the growing recognition that voluntary carbon markets, although imperfect, have promise as an important tool in the fight against dangerous climate change; and on the other, the risks inherent in carbon projects.
The convergence of these forces creates the fertile ground for insurance companies to step in. Organizations need a safe way to invest in carbon credits, and the insurance industry’s financial collateral and understanding of these risks is the perfect formula to provide that mechanism, helping to drive the carbon transition towards a more stable future.
Carbon Credits: From Risk to Opportunity
Buying carbon credits is an efficient way to support environmental projects, like planting new forests or developing more sustainable energy sources, and contribute to the fight against climate change. But these carbon credits are a holistic investment tied to scientific research taking place in a physical location.
This means that a project can be disrupted by natural disasters, political risks, fraud, or even bankruptcy. These risks can ultimately lead to a shortage of credit, leaving investors with losses and nothing to gain. While certain risks can be transferred through contracts, external risk factors that are beyond the control of either party are a major problem for the other party. These risks can delay or even prevent a deal altogether.
In a high-profile case that rocked the carbon world, the Rimbalaya Biodiversity Conservation Project first stalled in 2022 when Indonesia banned the export of carbon credits due to a dispute over the project operator’s tax payments. The project then faced licensing issues, bringing regulatory risks into the spotlight.
The risks present in these projects are not new to an insurance industry accustomed to dealing with such issues. Yet, despite this knowledge and the urgent need for risk avoidance mechanisms, the insurance industry is only just beginning to incorporate these risks into carbon products, resulting in the vast majority of the $3 billion in trading activity this year going uninsured.
A strong foundation: what’s needed for voluntary carbon markets to succeed
Historically, insurance has played a key role in facilitating activities where significant risks exist – in other words, without insurance, business activity often would not take place.
If we want to turn the tide on climate change, we must use all the tools at our disposal. The U.S. government’s recent support for voluntary carbon projects shows that they are an important avenue for injecting significant private capital into this fight, and they are worth focusing our efforts on supporting and improving.
The key for voluntary carbon markets is to conduct proper scientific research, identify high-quality projects that deliver climate value, and provide the support these projects need to succeed. Robust market infrastructure and better metrics are just two ways to mitigate risk and establish high standards. It doesn’t mean we give projects a stamp of approval. But insurance can be an important proxy for the quality market participants look for when planning which credits to buy. That’s a very big and important responsibility.
New frontiers: Seizing the carbon opportunity
It’s inspiring to see the number of organisations considering carbon credits as a way to offset their emissions, but over time, as the climate disaster worsens and governments are pressured to act, businesses of all sizes may be required by law to enter the carbon credit market to reduce unavoidable emissions.
George Beattie, Head of Innovation, CFC
For these organizations, proper risk management begins with understanding the risks associated with carbon credits. We believe that the carbon insurance market has the potential to one day surpass cyber, if insurance is presented as an effective option for risk mitigation. Cyber ​​is another significant systemic risk facing the world, and the insurance industry must explore how it can contribute to solving it.
CFC is a specialist emerging risks and cyber insurance provider. If you want to learn more about carbon opportunities, we encourage you to read our new carbon report. It contains key statistics that reveal the current status and demand for insurance products.
