Why a blueprint is key to transforming carbon markets

1. Establish carbon as a true asset class

Carbon credits have the potential to evolve from voluntary offsets to recognised financial assets that can be integrated into balance sheets, compliance frameworks and trading systems – this calls for targeted action from all market actors. Defining carbon as a commodity helps enable carbon markets to align with established infrastructure such as trading exchanges, derivatives markets and custodianship models. Additionally, market makers (such as financial institutions) can avoid significant capital charges for holding these assets on their balance sheet. By issuing fit-for-purpose guidance to formally recognise carbon credits as assets, standards setters can help ensure that carbon’s economic value is fully recognised on balance sheets. 

2. Create meaningful, scalable demand

Today’s carbon market demand is limited, largely driven by entities voluntarily offsetting their current and/or anticipated future emissions. Market interest is often constrained by inconsistent standards for claims and concerns about the quality of carbon units and standards for development of the underlying projects, amidst fears that carbon impact has not been achieved. As the UK Government recently stated: “Confidence in the integrity of these markets is key to unlocking their full potential, but high integrity practice has not always occurred. Clarity and consensus on what constitutes a high quality credit, and how credit use should be reflected in corporate claims, are critical first steps towards unlocking the stability of demand that is necessary for scaling high integrity markets.”³

To overcome these challenges and give entities a clear reason to buy into carbon markets, governments should play an active role in:

• Leading on international collaboration for clarity on corporate claims standards, especially for interim use of credits to address hard-to-abate emissions.
• Strengthening buyer confidence through harmonised methodologies and streamlined registries. For example, the Integrity Council for Voluntary Carbon Markets (ICVCM) seeks to rationalise the number of methodologies in the market,⁴ whilst the British Standards Institute (BSI) has issued principles for carbon markets to improve transparency and carbon impact.⁵
• Embedding carbon into compliance systems such as emissions trading schemes (ETS), carbon taxes and border adjustment mechanisms.

Critically, governments are urged to integrate voluntary carbon units into ETS frameworks in a consistent, scalable way, by aligning credit standards, project types and infrastructure. Doing so should not only expand demand, but also incentivise private sector investment in climate solutions.

3. Build a functional financial market for carbon

Carbon is well suited to evolve from a mostly spot and offtake driven market, into a wider financial market characterised by intermediation, price discovery and liquidity. As tradeable assets, carbon units are, in theory, largely fungible, representing the removal or reduction of a tonne of carbon dioxide (or equivalent) from the atmosphere. To reach the required scale potentially $1 trillion annually by some estimates, ⁶ carbon needs to be tradable like any other commodity. However, VCMs have struggled with low liquidity, in part due to lack of standardisation, hindering participants from trading at scale. Financial market participants, including financial market infrastructure (FMIs), should, therefore, focus on developing: 

• Liquidity mechanisms such as exchanges, price benchmarks and standardised contracts.
• Diverse financial products, including futures, swaps and structured securities.
• Robust financial intermediation from banks, brokers, insurers and custodians.

A maturing carbon market should also allow for price discovery and hedging, enabling corporates to manage delivery and reputational risks whilst driving efficient capital allocation. The role of insurance, in particular, supports market confidence by de-risking carbon transactions, reducing exposure to project-level risks (such as project underperformance, reversal of carbon sequestration and delivery failure), unlocking financing by making buyers more willing to invest.

4. Address legal uncertainty to unlock investment

Legal ambiguity around carbon ownership, title transfer and enforceability is a key barrier to institutional investment. Carbon units (today treated as “credits”) are often defined differently in different jurisdictions, creating uncertainty for issuers, investors and buyers. To address these concerns, government legal departments could codify carbon rights within legal frameworks, preferably by treating carbon as a form of mineral or intangible property. This approach has already been adopted in some jurisdictions, such as Australia and various states across the US.

Additional action for government leaders to consider include:

• Standardised contracts for spot and future transactions. English and Welsh law provide a strong basis for the legal framework to govern the transfer of carbon as an asset, and the market should seek to use this existing legislation to underpin contracts.
• Clear governance on subsurface storage rights, critical for technologies like carbon capture and storage (CCS).
• Registry infrastructure capable of supporting legal title verification, security-taking, and cross-border transfers. The UK Digital Assets Bill defines legal rights to intangible digital assets, which are treated as a new definition of property;⁷ the government should extend the Bill to cover carbon units.

To create legal certainty for investors and buyers alike, governments could issue letters of authorisation for international carbon transfers and to legislate ownership frameworks that mirror commodity norms.

5.  Apply regulatory frameworks to carbon markets

Carbon markets have developed in a fragmented, largely unregulated fashion, leading to inconsistent standards, information gaps and opportunities for fraud and a lack of control over validity or quality. Appropriate regulatory measures have the potential to help enhance market integrity and investor protection in carbon trading, whilst supporting the growth of high-quality carbon markets worldwide. Financial regulators and governments should adopt a phased, principles-based regulatory framework modelled on the UK’s digital asset regime, including:

• Clarifying the legal classification of carbon credits, drawing from approaches taken for UK’s crypto assets, and extending oversight to trading platforms, intermediaries and pooled products. 
• Tailored conduct standards, anti-fraud measures and disclosure rules to address risks like greenwashing and data opacity. Existing regulations – such as the Market Abuse Regulation in the UK – could be applied and extended to carbon credits. This includes prohibiting deceptive practices, insider trading and price manipulation.
• Regulatory sandboxes can foster innovation, to help enable safe trials of blockchain registries and tokenised credits. Financial regulators such as the UK Financial Conduct Authority (FCA) should support these pilot programmes. 

Integrating VCMs into financial oversight is crucial to enhancing integrity, transparency and investor confidence.

6. Provide reliable data to power carbon markets  

A functioning market is founded on the availability of good data, yet data inconsistency remains a major source of distrust in VCMs. Variability across methodologies, registries and verification providers creates confusion and undermines fungibility. On the reporting side, buyers face confusion due to the proliferation of standards, each with its own position on the use of credits, further complicating efforts to assess quality and impact – especially when it comes to estimating and measuring a project’s carbon emission removals and reductions. To counter these structural flaws, international standard setters, governments and market infrastructure should work together to develop:

• A single standardised methodology per project type, endorsed by global bodies like the International Organization for Standardization (ISO) and the Integrity Council for the Voluntary Carbon Market (ICVCM). This would help to ensure consistent and comparable data across the world, improving the market's integrity.
• Digitisation of registries, with improved traceability, auditability and transparency. 
• Mandated data disclosure across verification, project performance and corporate reporting. A standardised reporting framework can help to ensure that carbon credit transactions are auditable in the future and improve transparency and communication with stakeholders. 

Collaboration between buyers, verifiers and regulators could help further develop and establish open-source data models and digital monitoring, reporting and verification (MRV) infrastructure to drive real-time risk assessment and accurate emissions accounting.

A market-driven mandate for climate finance

If successful, VCMs have the potential to support the global transition to net zero, helping to mobilise trillions in capital, driving innovation and creating tangible environmental outcomes.

To fulfil their potential, carbon markets require a fundamental reset from ad hoc, voluntary activity to institutional-grade financial systems with legal certainty, accounting rigour, credible data, and demand clarity.

Governments, standard setters, auditors, financial institutions and market participants all have distinct roles to play in building this ecosystem.

The UK has the opportunity to play a leading role in the transformation of carbon markets. By engaging with initiatives such as the City of London’s Transition Finance Council (TFC), the UK can become an international hub for transition finance. The country’s existing infrastructure is well-positioned to scale net zero ambitions, supported by government, regulators and other stakeholders, who should stay informed and compliant with legal frameworks and regulations that facilitate sustainable practices. 

The UK Government can maintain policy momentum by integrating the UK ETS with carbon removals, which is set to be operational by 2029. This combination of robust policy alignment and demand creation should create a solid platform for carbon markets leadership, to maintain compliance, and take advantage of the anticipated demand for carbon credits and sustainable practices.

Other opportunities to expand carbon markets include transition finance for projects that support both climate goals and low carbon business growth, such as renewable energy, sustainable infrastructure and nature-positive initiatives aligning with long term net-zero objectives. Finally, cross-industry collaboration with businesses, government bodies and non-governmental organisations (NGOs) helps to share best practices and develop innovative solutions for achieving net zero. 

The value of carbon reduction and removal is clear: the sooner we act, the greater the climate benefit. The pathway, outlined in this report, is both practical and urgent. Implementation will require continued effort and collaboration. The challenge now is to deliver.

Thanks to Matthew Ringelheim, EY-Parthenon Partner, Strategy and Transactions, Ernst & Young LLP, for his contribution to this article.