Ananya Ahajoy & Sri Madhura Srinivasa
Introduction
India’s Long-Term Low Emission Development Strategy (‘LT-LEDS’), submitted at COP27, outlines ambitious goals for achieving net-zero carbon emissions by 2070. Executing plans such as these will require trillions of dollars in investment. A comprehensive climate finance strategy that engages both public and private sector capital is critical to achieving this transition. Among the various mechanisms available, Carbon Credits (‘CC’) present a unique opportunity to incentivize emission reductions while generating financial value.
Every CC is a marketable permit, which entities can obtain from the government or a regulator. These permits allow owners to emit a restricted amount of greenhouse gases including carbon dioxide, and are used in terms of trading emissions. CC trading is divided into two markets: (i) compliance markets, governed by regulatory standards, and (ii) voluntary markets, which operate independently of regulations. Both enable trading of credits linked to reducing atmospheric carbon but differ in approach. Regulatory markets, managed by authorities, issue credits permitting emissions within set limits, with excess credits tradable. Voluntary markets, on the other hand, allow innovative projects, including CDM and VER—based credit, and sometimes integrate with compliance schemes. CC systems have been emerging as strong methodologies to combat climate change issues and to transition to a low-carbon economy, through the mobilization of capital and incentivizing emission reduction efforts.
The Carbon Credit Trading Scheme (‘CCTS’), set up in 2023, establishes the Unified Indian Carbon Market (‘ICM’), paving way to avoid greenhouse gas emissions. Non-obligated entities are allowed to participate in the tradable CCs through the CCTS. It came up through the amended Energy Conservation Act, 2022, which allows the government to establish a domestic carbon market. In 2024, the country adopted more regulations and guidelines for the system to cover a planned compliance carbon market. The current system only covers carbon dioxide and perfluorocarbons. The law also provides Carbon Credit Certificates (‘CCCs’) to entities that reduce emissions. This scheme is invariably hampered by insufficient legal infrastructure and fragmented regulatory oversight to holistically support it, as well as inadequate alignment with global carbon standards. This article focuses on the current CC market in India and the specific laws surrounding the same. It analyses CCTS and provides certain solutions that the government could take in terms of regulations that stretch beyond the bare establishment of a carbon market in India.
The Current Framework
As the global carbon market grows, India has now become the world’s second-largest supplier of carbon offsets. For a country like India, the need to create a comprehensive policy framework is a necessity, as it must maintain both international standards concerning climate change, and ensure sustainable development in India.
India took significant strides toward developing a domestic carbon market when the Bureau of Energy Efficiency (‘BEE’) introduced a draft blueprint outlining a phased approach to implementing a national Cap & Trade system, beginning with the establishment of a voluntary market. The BEE’s draft blueprint outlines a three-phase plan for a Cap & Trade system. Phase 1 focuses on growing voluntary demand for CCs from various sectors, including consumers, power companies, and airlines. Phase 2 boosts the CC supply by developing emission reduction projects. Finally, Phase 3 transitions to a mandatory Cap & Trade system, capping emissions for specific sectors modelled after the EU’s Emissions Trading System (‘EU ETS’). Several critical details were to be clarified, including the timeline for implementation, the definition of registered entities, the mechanisms for generating and certifying credits, and the agencies responsible for oversight.
The CCTS is essentially split into the compliance market and the voluntary market, which allows non-obligated entities to also register eligible projects for issuance of a tradable CCC. The larger governmental focus has been on the former market. The following section analyses the shortcomings of this system.
Analysis
India faces some real challenges in expanding CC tokenization and climate finance. The main issues are a limited number of investable green projects, no global policy framework, and the absence of a global marketplace for climate finance. A key part of India’s climate finance plan is investing in research and development (R&D) for climate-focused technologies. The carbon market, like many needed technologies, is underdeveloped. To overcome these challenges, India needs a mix of both national and international efforts.
Assessing the Adequacy of the CCTS
The following points aim to highlight that fragmented governance and inconsistent enforcement could lead to severe regulatory arbitrage, which refers to buyers and traders preferring the lack of laws in India to circumvent other jurisdictional requirements. Like all traditional carbon markets, the CCTS also aims to securitize CCs around basic market demands and allows traders to gain exposure to CCs as an asset class. However, the scheme seems to be an extension of the PAT (‘Performance, Achieve and Trade’) scheme, which in itself contains a multitude of regulatory questions and issues. Ideally, the CCTS should be expanded to cover emissions outside of the energy and industry sector, as a scheme furthering the old PAT scheme, whilst improving the same.
Secondly, CCs should be defined as an asset class in India, by the Reserve Bank of India and by the Securities Exchange Board of India. Defining CCs as derivatives that can be traded on exchanges and OTC markets would ideally set a strong legislative foundation for carbon derivatives. Not only would this allow for investor confidence to be formed in an upcoming domestic market because it creates more legitimacy for CCs, but also because it enhances general liquidity in the market while creating scope for hedging, or in other terms, the scope to limit investment risks. Allowing for the law of economics supply and demand principles to regulate the market through the invisible hand post this regulatory development would also be in tandem with the overall goals of the government with the Cap & Trade Policy.
There is a need for a dedicated autonomous organization, potentially established by SEBI or RBI, equipped to address emerging markets like these. A piecemeal approach will slow things down, but a comprehensive strategy will help India access the capital it needs to drive innovation and transition to a greener future. Well-defined and studied targets with proper clarity and transparency must be set up. These targets should expand to more sectors than just what the CCTS deals with. In this regard, classes of targets can be set up.
The scheme must also set up a mechanism to deal with defaults, and must provide for some form of sanctions. Currently, there are no penal provisions regulating the matter at all. Without a single body regulating these markets, the penalties might have to take an uncertain and lengthy route, as the carbon markets are regulated by both the Environment (Protection) Act, 1986. Under the EPA, it would be highly beneficial to bring in a linkage between Chapter III, which deals with the prevention, control and abatement of environmental pollution and the CCTS. This would allow for legislative backing to say that companies emitting greenhouse gasses, would need to function with CCs. In this regard, regular and systematized monitoring must be done to ensure proper compliance with the scheme, but this must be added as a part of the CCTS itself. Finally, the CCTS scheme currently provides little clarity about how different carbon markets could interact with each other. With working proposals such as the ‘green credits scheme’ and the ‘voluntary offset-based carbon market’ at hand, regulatory clarity must be seen through.
Meeting International standards
India’s participation in the international carbon arena must be deeply discussed, and effectively regulated. Not only would this ensure a great amount of liquidity in the market, but this would also help with the regulation of prices through price discovery, and more. An implication of not regulating the targets properly could be that the decarbonization agenda cannot be met as most participants would effectively achieve their targets easily, and this would lead to a greater supply of CCs in the market. But with excessively high targets, there would be a hike in the prices of CCs, creating a severely uncompetitive environment, which would need constant government intervention.
Moreover, such systems facilitate the proper custody of CCs, spot exchanges, auctions, and the provision of renewable energy certificates and funds whilst paving the way for real-time settlement of exchange and OTC transactions, which is not an enabled part of the system as of now.
Furthermore, it is also important to look into biofuel and feedstock contracts, including Sustainable Aviation Fuel (‘SAF’) and Global Used Cooking Oil (‘UCO’). After achieving a certain basic threshold in carbon trade, it is important to create laws to allow for a blend of equity, debt, bonds, and other instruments, such as philanthropic capital with the domestic carbon market in India, and internationally to meet standards that can help in maintaining a sustainable economy whilst upholding climate change standards. Partnering up with multilateral institutions can also aid in the same, on an international level. For India, it is important to start slowly, and all of this primarily begins with setting up an organization or a wing under the RBI or SEBI to primarily regulate and deal with carbon markets.
Finally, India must meet the United Nations Framework on Climate Change Standards and those of VERRA VCS and Gold Standard, which it currently does not, to meet the international standards. While the latter are third parties issuing standards for the voluntary carbon market, meeting these standards nationally would also aid in ensuring that the internationally maintained compliance system is complied with in India too. Following such mechanisms would mean that there is a more thorough environmental and social checkthrough assessing costs, project types (renewable energy, waste management, usage of land, et al.) and business sustainability.
Conclusion
The Indian Carbon Market aims to become a full-fledged carbon market in the next decade, which means that speedy development is a necessity. Decarbonization technologies are a need, and a policy framework surrounding the same should be implemented. Having a strong mechanism in place would ideally prevent regulatory arbitrage. Recognizing that India has a largely informal economy is key in this matter, but over time, more focus should be laid on finance-related, climate-focused innovation, as well as research and development in this regard. The future of carbon trading also lies in its expansion to the commodity derivative trading exchanges. The final goal must be to bring traditional commodities trading infrastructure to carbon markets, which would aid in working towards net-zero transmission.
The authors are fourth-year students at Symbiosis Law School, Pune.
NUALS Law Journal 