 Article 6 of the Paris Agreement Can Finance Innovative Low-Carbon Production for Countries with Domestic Carbon Pricing SystemsMilan Elkerbout
No 26-09, RFF Issue Briefs from Resources for the Future Abstract: Like any form of commercial exchange, international carbon markets depend on both a buyer and seller finding a transaction beneficial. While private parties are critical in setting up transactions, international carbon markets are primarily transactions between countries, as credits can affect the official greenhouse gas (GHG) inventories of countries that are used to track progress toward climate targets.While the literature on international carbon markets (Michaelova et al. 2019) often discusses what type of investments may be financed by activities in the host country (i.e., the seller country), the potential for international carbon markets to finance investment in buyer countries with domestic carbon pricing policies is less recognized.This article discusses an adaptation of the idea of using European Union Emissions Trading System’s free allocation for low-carbon innovation as described in Elkerbout (2022a) and Elkerbout (2022b), instead focused on the use of international carbon market units from Article 6 of the Paris Agreement. Other recent policy research (Dietz et al., 2026; Zachmann & Weisser, 2026) discuss related rationales for engaging in international carbon markets.A particularity of carbon markets under the Paris Agreement is that they are tools in service of a goal shared by both sides of the transaction—to ultimately reduce GHG emissions to net zero. Both sides of the transaction want (and need) to reduce emissions, albeit the buyer typically is committed to reducing emissions faster. However, both buyer and seller countries may be hesitant to engage in carbon-market transactions.For countries with stringent climate targets, the typical rationale to engage in international carbon markets is to access lower-cost abatement options, increasing the cost-effectiveness of a GHG-reduction target. Yet, while buyers may like the lower costs offered by international carbon markets, they may nevertheless worry that money invested abroad does not reduce emissions at home; it merely postpones when these costly reductions happen. Nor does money invested abroad bring the same local benefits, such as jobs or infrastructure. Seller countries may welcome the investment that carbon markets bring, but may also worry that selling their lowest cost abatement leaves them with higher costs for their remaining GHGs that they need to abate.Here, I propose an additional rationale for buyers and sellers to engage with international carbon markets: The procurement of carbon credits enables the financing of industrial policies that make the costlier reductions in hard-to-abate sectors (such as steel or chemicals production) more feasible in the longer term. For example, a country may be seeking ways to finance expensive green industrial policy (such as the Inflation Reduction Act’s tax credits) deemed necessary to finance the transformation of the industrial capital stock toward net zero.Jurisdictions with comparatively high domestic abatement costs could therefore exploit the difference between international and domestic abatement costs for fiscal reasons.A precondition is that carbon is scarcer in the buyer country—and therefore costlier—and that the carbon is priced explicitly through, for example, a carbon tax or cap-and-trade system. When the carbon price in the home jurisdiction exceeds price levels in the international carbon market, the difference in cost (the delta) could be used as a fiscal resource by retiring the international credit and creating a domestic unit—both representing the same ton of carbon dioxide equivalent—in its place.This approach assumes that governments choose to centrally procure international carbon credits, rather than allowing individual firms to buy credits.Governments can convert international carbon credits in this way for use in various carbon pricing policy designs:in an emissions trading system, via a domestic emissions allowancein a carbon taxation system, via a tax creditin a tradable performance standard or product standard model, via a domestic credit that counts toward GHG intensity in the reporting system Date: 2026-10-22 Downloads: (external link) Related works: Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text Persistent link: https://EconPapers.repec.org/RePEc:rff:ibrief:ib-26-09 Access Statistics for this paper More papers in RFF Issue Briefs from Resources for the Future Contact information at EDIRC. |
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