Brazil: Betting Big on Carbon

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The stakes are high but progress has been slow for developing what could be one of the world’s largest carbon credit markets. 

“Some surveys claim that Brazil may account for 15% of the global market for carbon credit,” says Luiza Aguiar, an ESG researcher at XP Investimentos, a Brazilian bank. “Brazil may assume a relevant role in this market.”

Brazilian lawmakers have been debating a bill to regulate the carbon market and create a mandatory emissions trading system. This is a milestone for investors looking for regulation. But hopes that it would be approved before the United Nations Framework Conference on Climate Change in Dubai in December 2023 were frustrated. While swiftly passed by the Senate in October 2023, it has since languished in the lower house. A vote is not expected now until 2024.

Once approved, however, this will make carbon credits an asset class in Brazil. Market operators will receive emissions quotas, each equivalent to one metric ton of carbon dioxide equivalent (tCO²e). Companies with emissions higher than the 25,000 tCO²e threshold must prove they hold these emissions quotas and verified emission reduction certificates in line with their emissions. 

In many cases, this process will involve buying credits on the carbon market. 

“In the voluntary market you mainly find REDD+ projects to avoid deforestation, whereas in Asia, for instance, most projects are geared towards renewable energy,” Aguiar says.

A REGULATORY BOOST

Candido Bracher is optimistic about the potential for trading carbon credits in Brazil. A former CEO of Itaú Unibanco, Brazil’s largest bank, Bracher views the pending legislation as “a first step to create awareness and to stimulate solutions for emissions reductions.”

The second step would be “compensation and moving towards controlling and cutting emissions,” he says.

Bracher adds that the creation of the carbon credit market would also increase the use of nature-based solutions in Brazil, or actions that protect and restore natural ecosystems like coastal habitats, forests and mangroves, helping to increase carbon storage to offset and reduce emissions. These projects create nature-based credits. 

“The potential for capturing nature-based solutions is enormous,” he says. 

Broadly speaking, the carbon market legislation would help Brazil meet its climate targets of reducing emissions by 50% below 2005 levels by 2030 and reaching climate neutrality by 2050. But the legislation itself has some loopholes. The bill, for example, was modified to exempt the agribusiness sector from the future regulation following complaints by the powerful Agricultural Parliamentary Front in Congress. The agribusiness sector, which is vital to the Brazilian economy, accounts for around a quarter of carbon emissions, but its lobby group says the current measurements are unreliable. 

If and when approved, the regulations will not be implemented immediately. According to the bill, the mandatory emissions trading system may not be fully operational before 2027.

A REGIONAL CHALLENGE

Elsewhere in Latin America, the examples of good carbon credit regulations are few and far between. Only Mexico has a cap-and-trade emissions trading system in parallel with carbon taxation, a system used in Europe. Costa Rica launched a voluntary market and signed a letter of intent with the World Bank-administered Forest Carbon Partnership Facility in 2023 to negotiate an emission reductions payment agreement worth up to $63 million.

In Brazil, there have been some encouraging signs in the voluntary market. In September, Petrobras purchased 175,000 credits on the voluntary market to be compensated in the Amazon forest. The state-run oil company is estimated to have paid $5.71 per credit, while credits on the regulated market in other countries may reach $50, including land acquisition, observers say.

Petrobras says the credits will be used to make up for one year of carbon emissions to produce its premium Podium fuel. 

“It suits the purpose. You buy compensation, so your product is becoming more expensive and less attractive. These are positive market mechanisms,” says Bracher. “It raises the awareness of who it is emitting.”

Petrobras says it aims to spend at least $120 million in carbon offsets through 2027. As the largest company in Brazil, this may pave the way for others to follow. 

“Brazil may use the strength of Petrobras to move the market,” says Artur Ferreira, a partner in Global Forest Bond, a Brazilian green financing company.

As a large oil producer, Petrobras also is one of the country’s largest polluters in Brazil at nearly 62 million tons CO²e in 2022, according to B3, the Brazilian stock exchange. It is trailed by two steelmakers – Companhia Siderúrgica Nacional and Gerdau – and the petrochemical producer Braskem, each with a bit more than 10 million tons of CO²e. When considering the ratio between emissions and gross sales, the power generation companies Eneva and Engie Brasil Energia top the list, followed by SLC Agrícola, a leading agribusiness.  

A CARBON EXCHANGE?

Despite the efforts to pass the carbon market bill, this regulation may not be the panacea for trading carbon credits. 

“Carbon credits have become a financial tool in the hands of traders. There are already one or two stock exchanges that are trying to set up operations in Brazil,” says Jean-Pierre Cantaux, CEO of Canopée, a French company that develops reforestation projects in the Amazon and finances parts of its activities with carbon credits.

Beyond B3, another project called B4 is being set up to focus on carbon credits. 

“They intend to use blockchain technology to trade digital assets backed by carbon credits issued by companies,” says XP’s Aguiar. This may lead to the creation of a secondary market, which would attract financial investors, she adds.

There have been serious hiccups, though. 

The credibility of the carbon credit market has been dented when flaws in the certification process have been unveiled by the media. 

Verra, a Washington, DC-based certifier of voluntary carbon offsets, has a dominant position in the Brazilian market, but its certification methods have not yet been adapted for rainforests. 

“Here, the same land may be registered under the names of 15 different owners,” Cantaux says. “Our company was looking for a property of Boca do Acre [in the Amazon] but we found out it was actually owned by drug traffickers.” 

The Guardian, a UK newspaper, recently exposed the flaws in Verra’s certification, saying that rainforest carbon credit schemes are misleading and ineffective. More recently, the flagship French daily Le Monde also denounced an alleged fraud involving several multinational companies and a fake conservation project known as Patel Para in the Amazon region. 

“There may have been some exaggerations,” says Global Forest Bond’s Ferreira. “But Verra has to reinvent itself and improve governance and transparency.”

That likely will be the new push in the carbon credits market. 

Sustainable Fitch, a sister company of Fitch Ratings, says that “the selection of carbon credits will become an increasingly meticulous process to assess the best tradeoff between carbon credits’ cost and their quality to mitigate greenwashing risks.”

The road toward a reliable carbon credit market may still be a long one. LF

• Sustainability-linked bonds: On the up
• Brazil: Betting Big on Carbon
• Market Talk: Bonds
• Market Talk: Equity
• Market Talk: M&A
• Market Talk: Loans
• Sovereign Bonds: Eyeing Opportunity
• Corporate Liability Management: A Question of Maturity
• Mexico Investment: One Way Bet?
• Parting Shot – Sergio Abreu: Fixing a Fractured Region
• LatAm Banking: Taking Shape

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