How Asean countries are preparing for carbon market growth

Countries in the Association of Southeast Asian Nations have ambitions to become hubs for trading carbon credits, with work already under way on establishing voluntary and compliance markets.

The countries of the Association of Southeast Asian Nations are rich in biodiversity, forests and renewable energy sources such as hydro, solar and geothermal – and investments in all of these areas could generate a significant number of so-called "internationally transferred mitigation outcomes", which would count towards meeting governments’ climate goals under the Paris Agreement.

This makes Asean countries well placed to benefit from the growth of carbon markets. In fact, several of them – especially Singapore, Indonesia, Malaysia and Thailand – are already taking steps to implement both voluntary and compliance markets locally.

However, policy plays a key role in building market efficiency, mostly in the emerging carbon markets. Due to the impact of current geopolitics on Article 6 of the Paris Agreement, and lack of agreement causing its subsequent delay, other policy measures are needed and should be implemented in alignment with the private sector.

In this context, the takeaways for the Asean voluntary carbon markets (VCMs) are as follows: setting up carbon tax frameworks, which would help signal the need for an adequate price of carbon; leveraging regulated market infrastructure exchanges (for example, SGX and LSEG) to scale up carbon finance markets; and setting up a global specific standard for financial accounting of certified carbon offset credits led by the International Accounting Standards Board.

Indonesia has over 56 per cent of all offset issuances within Asean countries, followed by Cambodia with 26 per cent of all issuances. But while there is a real opportunity for Asean to become a global trading hub for high-integrity carbon credits, important policy actions still need to be implemented at both the local and the international level. Due diligence methodologies for selecting high-quality carbon offsets, as well as integrity due diligence of the main players in this market, and standardised financial carbon accounting measures for carbon offsets, are needed. Further work is also required on the market efficiency and integrity of VCMs to ensure their transparency, price signal, and liquidity.

Economic value

The demand for voluntary carbon offsets in a restricted supply market like this results in an economic value, which can be traded and exchanged. Emissions sequestered and voluntarily offset with integrity can be considered as an evolving asset class that may be attractive for long-term investors due to its liquidity, correlation and prospective risk premium.

This market dynamic is generating ‘net zero decarbonisation funds’ raised by heavy industry emitters such as Indonesia’s leading steel conglomerate Gunung Steel Group (through Gunung Capital). At the same time, a new generation of ‘listed carbon credit funds’ in the biodiversity space, through the use of forestry-linked securities, provides opportunities for alternative investment strategies.

VCMs could effectively lower net greenhouse gas emissions while providing a source of revenue to finance the energy transition in Asean. With other authors, I describe the rationale for scaling up these VCMs in a green finance report produced with the support of the British High Commission in Singapore, ‘Voluntary Carbon Markets in Asean: Challenges and opportunities for scaling up’.

Institutional investors and regulated market exchanges play a key role in sustainable growth in south-east Asia – as seen by initiatives such as Climate Impact X (CIX) in Singapore, and Mubadala‘s recent investment in the AirCarbon Exchange in Abu Dhabi. Meanwhile, the London Stock Exchange’s latest offering to support publicly traded carbon funds is an innovative contribution.

Regulatory role

Regulators and policymakers must also support the process of setting up a proper financial accounting framework for carbon markets. While it is important to highlight the efforts of the IFRS Foundation to improve the sustainability standards focused on reporting, these have not yet encompassed financial accounting. As the accounting standards-setting board of the IFRS Foundation, the International Accounting Standard Board should resume the Emissions Trading Schemes Project.

The point is that the new investable assets of ‘certified carbon offset credits’ – as defined by the IFRS
– created in the evolving carbon markets, require a revision to improve the definition of financial
instruments under IAS 32 as financial assets calling for a specific standard for carbon offsets.

Thus, offsets should not be considered intangible assets or inventories but investable assets used within a bank’s offering for its corporate clients – as derivatives or other financial instruments for hedging purposes, for example.

The current lack of clarity about carbon markets’ financial accounting has implications for banks in their role as intermediaries in the global emissions trading system, under the Fundamental Review of the Trading Book as it carries higher capital charges. This would have an impact on banks and their ability and extent to which they can participate in carbon markets, but also on the projects through the hedging’s costs.

The IASB needs to act on this. From an accounting policy perspective, it is essential to agree on common standards and quality criteria for ‘certified carbon offset credits’, and to set up a specific standard in financial accounting for carbon finance markets.

This would help the development of high-quality VCMs not only in Asean countries, but in other markets around the world as well.

Raúl Rosales is senior executive fellow at the Centre for Climate Finance and Investment, Imperial College Business School in London, and a member of the management committee of the Singapore Green Finance Centre.