The Two Different Types of Carbon Markets

As climate change accelerates, carbon markets play a critical role in helping businesses and governments reduce emissions and meet targets set by the Paris Agreement. These markets function by pricing greenhouse gas emissions, creating economic incentives for companies to lower their carbon footprints.

There are two types of carbon markets: a compliance market, where businesses must adhere to government regulations, and a voluntary market, where companies offset emissions proactively. This blog explores how global systems—like the EU ETS, China’s ETS, and California’s Cap-and-Trade Program—work, and how businesses can leverage carbon markets to stay compliant and achieve sustainability goals.

What Are Carbon Markets?

Carbon markets were conceptualised in the 90s when the Kyoto Protocol (1997) first catalysed carbon trading on a global scale. It involves businesses purchasing permits which deliver the right to emit quantities of CO₂ (as a means of monetising emissions in line with the Polluter Pays Principle (PPP)).

In recent years, carbon markets have grown rapidly in popularity as regulations tighten across nations, net-zero goals become the norm for large corporations, technological advancements drive carbon innovation, and consumer pressure accelerates at speed.

While carbon offsetting involves investing in projects that store or remove carbon to neutralise their emissions, carbon markets function more like a digital trading hub for emission rights and carbon credits. When a business has a surplus of carbon allowances, it may auction them to the highest bidder—like a company needing to offset excess emissions.

How Carbon Markets Work

Carbon markets are digital trading platforms operating similarly to stock exchanges, used by any company with a carbon footprint.

The two main types are voluntary markets (involving the buy and sell of carbon credits on independently regulated, privately-owned platforms) and compliance markets (involving cap-and-trade systems; governmentally regulated and owned).

In voluntary markets, credits involve purchasing the equivalent amount of emissions to offset the company’s footprint. This usually covers unavoidable emissions, like sporadic Scope 3 emissions such as business travel, supply chain logistics, or outsourced manufacturing.

In compliance markets, allowances are allocated based on government-set caps, sometimes auctioned to companies based on their industry or historical emissions. The companies can either stay under this limit or exceed it but then must purchase allowances to compensate.

If a company buys excess allowances, such as because of unexpected operational cuts or efficiency upgrades, they can sell it by trading on regulated exchanges or at auctions to other companies needing allowances.

Compulsory Carbon Markets

Mandatory carbon markets have existed since 2005 following the launch of the EU ETS, which the UK participated in until leaving the EU in 2021, hence launching the UK ETS.

They exist as a means to legally enforce emission reductions, so that without compliance companies are breaking the law by emitting too much. Before 2005, companies could emit under looser national regulations, without any market-driven penalties.

Now, exceeding limits garners significant penalties such as fines or additional allowance purchases, with severe cases facing operational restrictions.

Voluntary Carbon Markets

Voluntary carbon markets, instead, allow businesses, organisations, or individuals to buy (and sell, when in excess) carbon credits to offset their emissions.

All businesses let off emissions—such as energy use, logistics and transport, supply chain and manufacturing, or waste and landfill. Through carbon accounting, they gain a full picture of how many emissions are being let off through all business activities and expenditures.

After reducing where possible, businesses will likely have unavoidable emissions—maybe their industrial processes, agricultural food production, or essential travel.

They then approach voluntary carbon markets to purchase the credits that offset the amount of emissions, to take them to net zero or meet sustainability targets.

There are a range of markets and a range of projects, as well as different standards to ensure credit legitimacy.

Voluntary Carbon Market Schemes

UK Woodland Carbon Code

Established in 2011, the UK Woodland Carbon Code is aimed at forestry businesses, UK landowners, plus any businesses needing to offset carbon.

They work by certifying woodland creation projects which will be absorbing CO₂ over time, usually involving afforestation or reforestation. Credits are validated to ISO standards and governmentally backed.

When a credit is purchased, woodlands must be secured for a minimum of 20 years and a maximum of 100 years—meaning some projects secure carbon for a century.

UK Peatland Code

Established in 2015, the UK Peatland Code is aimed at UK landowners, conservation groups, and any business seeking carbon offsets.

They work by certifying peatland restoration projects which will be absorbing CO₂ over time, with restoring degraded peatlands and rewetting. Many peatlands in the UK have been drained for development and agriculture, or peat has been extracted for garden compost and fuel. However, they are massive carbon stores and provide essential climate resilience.

These credits are also validated to ISO standards, and supported by the IUCN UK Peatland Programme.

Verified Carbon Standard (VCS)

Launched in 2005 by Verra, a non-profit based in Washington, D.C., USA. VCS is for governments, NGOs and businesses globally to purchase well-validated carbon offsets.

Their range of projects include forestry, renewables, soil and blue carbon, industrial emission reduction, as well as community-based projects.

They are stringently verified by third-party auditors, ensuring high-quality offsets, with credits ranging from $5 – $200 depending on project quality and credibility. (The more expensive credits may also add PR value by supporting endangered species or repairing critical habitats, for instance, making it a better investment for ESG).

Gold Standard

Gold Standard is a premium carbon offset certification established in 2003 by WWF, alongside SouthSouthNorth and Helio International.

It operates globally but is based in Geneva, Switzerland, used by NGOs, governments and any businesses seeking high-quality credits with simultaneous strong ESG impact.

While more expensive, the premium credits are highly regarded, with project types involving energy efficiency, renewables, clean cookstoves, water access, waste management and more.

Climate Action Reserve (CAR)

Climate Action Reserve (CAR) was established in 2001 called the California Climate Action Registry (then rebranded to CAR in 2008). Based in LA, the reserve mostly serves North American businesses, governments, and organisations.

Credits are high-quality and stringently compliant, ensuring emissions are both genuine and permanent. This includes forestry, agricultural methane capture, industrial gas destruction, carbon capture, and more.

Their credits are widely accepted within compliance markets, as rigorously validated.

American Carbon Registry (ACR)

The American Carbon Registry was the first ever private carbon registry in the world; launched in 1996 in Virginia, USA. They laid the foundation for today’s carbon credit systems, still a major player in the market.

The ACR works by developing rigid protocols to ensure emissions are certified in many ways such as scientifically.

All projects must follow their methodology, adopting a range of approaches such as agriculture, industrial gas destruction, methane reduction and carbon capture.

Plan Vivo

Plan Vivo was founded not long after in 1997, Edinburgh, Scotland. Focusing on community-led carbon projects worldwide, they are a key standard for nature-based solutions, ensuring both carbon sequestration and social benefits.

Plan Vivo operates by certifying projects that follow strict sustainability principles, supporting forestry, agroforestry, soil carbon, and ecosystem restoration. They often work with rural communities and smallholder farmers to achieve long-term environmental and social impacts.

Compulsory Carbon Market Schemes

United Kingdom Emissions Trading Scheme (UK ETS)

Recognised by global institutions like the World Bank, Emission Trading Systems set caps on the total amount of emissions a company can emit within an annual period.

This follows a cap-and-trade mechanism, which works by first setting a total cap on the emissions for specific sectors—such as 1 million tonnes of CO₂ within a year.

ETS ensures emissions are capped and reduced over time while allowing companies flexibility to trade allowances, encouraging both environmental progress and cost-effective compliance.

European Union Emissions Trading System (EU ETS)

Launched in 2005, the EU ETS is the world’s very first multinational carbon market, also operating as the largest, with coverage across 30 countries.

Their cap-and-trade system revolves around lowering industry, aviation, and power plant emissions.

A major driver of EU decarbonisation efforts, the UK was a key participant in the EU ETS. Leaving it with the EU in 2021 allowed greater policy control and the ability to tailor carbon pricing to national climate goals with the UK ETS.

Regional Greenhouse Gas Initiative (RGGI)

Launched in 2009, RGGI is the first mandatory cap-and-trade program in the United States, covering 11 Northeast and Mid-Atlantic states.

It mainly focuses on power plant-related emissions as one of the most significant drivers of global warming. By requiring them to buy allowances, their revenue is directly invested into long-term efficiency or renewable energy programs.

They have shown emission decreases of 44% in over 10 US states.

California Cap-and-Trade Program

Launched in 2013, the California Cap-and-Trade Program is deemed the United States’ most ambitious state-level carbon market program.

This is because of its immense scope, covering nearly 80% of state emissions, from industry and electricity to fuel and transportation, its high revenue for climate action—exceeding $20 billion—and its international linkage with Quebec’s similar program, enhancing cross-border climate resilience and market efficiency.

China National ETS

The China National ETS launched in 2021, instantly becoming the largest carbon market in the world by covering over 4 billion tonnes of CO₂ annually—more than double the EU ETS at launch.

Currently, it regulates power sector emissions, with plans to expand. Companies receive free allowances but must cut emissions or trade permits.

Unlike Western markets, the Chinese government directly adjusts supply and prices, blending market forces with state control to drive decarbonisation.

In the 4 years since its launch, it has achieved compliance rates of up to 99.88%—demonstrating strong and effective enforcement.

As carbon markets continue to evolve, businesses must navigate them strategically to meet sustainability goals and regulatory demands. To take the next step in carbon management, explore how Gaia’s carbon accounting software can help you track, reduce, and offset emissions effectively—learn more here.