Carbon pricing. Ever heard of it? It’s a strategy put in place that captures the costs of greenhouse gas (GHG) emissions that the public pays for, such as healthcare and property damage from extreme weather, and ties the costs back to the carbon emitter through a price on carbon. The term “carbon pricing” refers to emission-reduction initiatives that place an actual price on GHG emissions. The price is defined as a value per ton of carbon dioxide equivalent.

By placing a price on carbon, it becomes more expensive for companies to emit carbon. In turn, the emitters have a choice of whether to stop emitting pollution, reduce emissions, or continue polluting and pay for the consequence so that there’s a minimal financial burden on the public. Carbon pricing not only helps to reduce GHGs, but it also redirects investments toward low-carbon solutions.

Carbon pricing is nothing new. It’s a common practice that’s been in existence for decades to incentivize the development of cleaner energy and – at a broader level – address the root causes of climate change.

The origins

The concept was born out of a carbon tax framework over a hundred years ago by the late British economist Arthur C. Pigou. As an outdoor enthusiast, Pigou was concerned about the air pollution in London caused by coal-burning factories and homes. He recognized that people burning the fuel weren’t going to pay for it but innocent bystanders would. So he came up with the idea of using a tax to shift the burden for the damage to those responsible for creating it. The term Pigouvian Tax was named after the economist and describes a tax assessed against people or companies for engaging in an activity that has negative impacts like environmental pollution or congestion.

Fast forward to today and you’ll find that roughly 40 countries and more than 20 cities, states, and provinces use some sort of carbon pricing mechanism. According to the World Bank, cap-and-invest, cap-and-trade, and carbon tax are several types of carbon pricing being used by governments in countries and US states.

How it works

One example, the Regional Greenhouse Gas Initiative (RGGI) is a cooperative effort established in 2005 among eastern US states to reduce emissions from the states’ power plants. Each participating state has a regional cap on emissions, which translates to a limit on the emissions from the state’s power plants. The regional cap lowers over time so that CO2 emissions gradually decrease. RGGI states purchase one RGGI carbon dioxide (CO2) allowance for every short ton of CO2 they emit. To put that in context, a short ton – which is commonly used in the US – is equal to 2,000 pounds. That’s over 907 kilograms. The states sell the allowances at quarterly auctions to power plants and use the proceeds to reinvest in their communities for things like clean energy programs or bill assistance for local businesses. Is the program successful? A quick fact check showed that some of the lifetime benefits of RGGI investments equate to 6.6 million short tons of CO2 emissions avoided.

The Carbon Pricing Leadership Coalition (CPLC) claims that carbon pricing can offer multifold benefits and is one of the strongest mechanisms for tackling climate change. It can help protect the environment while spurring technological innovation and influencing consumer behavior.

Not a one-size-fits-all

A crediting mechanism is another approach that has merit, according to the CPLC. When a government or business undertakes a project that results in emission reductions, it’s assigned credits that can be sold. Other organizations can buy the credits to offset their emissions. With this approach, a third-party verifier is needed to sign off on the emission reduction before it is credited.

For companies in the private and government sectors, an internal carbon pricing method can work as part of an overall sustainability strategy. With internal carbon pricing, the company assigns its own price to carbon use and the price gets factored into its future low-carbon investments. That raises the question of what to invest in.

The right investment looks different for every company. For advice, we turned to Nora Lovell Marchant, vice president of sustainability at American Express Global Business Travel.

“Renewable energy underlies everything for everyone and collectively gets the world much of the way to net zero, but getting all the way there depends on sector, geography, and market dynamics.”

Nora provides three examples to illustrate her point:

• Companies in the food industry will need to reimagine agricultural practices and invest in soil sequestration.
• Construction and real estate companies can decarbonize cement by modifying materials and chemical processes.
• Companies in the services sector are wise to decarbonize business travel by investing in sustainable aviation fuel and carbon removal.

Through carbon pricing, companies can create a funding mechanism to help finance the innovation and infrastructure that are necessary to kickstart sustainable change.

Effective business solution

When you consider that net-zero targets will require trillions of dollars in annual investment, it makes sense for businesses to start somewhere and start now. The transition to net zero requires participation from governments and companies worldwide. Both private and public sectors have a stake in reaching our net-zero goal.

Recently, we’ve been guiding our clients on an internal carbon pricing strategy that works best for their travel program. Some want it to be simple, while others design it with more complexity. We’ve been finding that carbon pricing doesn’t need to be complicated to be successful. Straightforward or elaborate. Either way works. Would you like to learn more about an internal carbon pricing strategy? Contact us to discuss how the strategy can benefit your company.