In May, Verra, the Washington-based non-profit body that sets voluntary carbon credit standards, put restrictions on the tokenization of carbon credits. Today Verra launched a consultation that runs until October 2, with proposals on how blockchain tokenization could work. Its goal is to address fraud, double spending of carbon credits, and a lack of know-your-client (KYC) processes in the crypto sector.
The Toucan Protocol was launched in late 2021, and by May this year, it had tokenized 21 million tonnes of carbon, estimated to represent 2.25% of total credits. Several other blockchain initiatives are based on Toucan tokens. When Toucan became aware of the planned consultation, but before the details were announced, it was receptive.
“We welcome the opportunity to contribute to a productive dialogue that leads to a clear strategy on how we can work with Verra to make this a reality,” reads a Toucan blog post. “We encourage openness and speed in this process in order to ensure that all market actors can engage in and benefit from ongoing innovation in the space.” Verra banned the manner in which Toucan tokenized credits in May.
Verra plans to perform due diligence
One of the bravest and most valuable proposals is a plan to perform due diligence on token issuance platforms. Crypto attracts a lot of grifters and outright fraudsters. And the appeal of green tokens to end users makes it particularly fertile ground for those with mal-intent. But due diligence is not a trivial task. Ledger Insights is often hesitant to write about some interesting carbon token projects over concerns they might be scams. An even bigger issue is if an unsavory platform makes it through the Verra process, could Verra have legal liability?
Additionally, given the composability of blockchain, some platforms rely on tokens issued by others, especially those issued by Toucan. Will these secondary platforms also be reviewed?
Verra said it would analyze the legal foundation and the platform’s business model as part of the due diligence. It mentioned concerns about what happens in the event of an insolvency of a token issuer or holder.
Another key issue relates to KYC. Verra wants to perform KYC on all token issuance platforms, and it wants the platforms to perform KYC on entities that receive newly issued tokens or use them.
Control, transparency over tokenized carbon credits
One of the biggest issues for Verra is that tokenization has reduced its degree of control over the carbon credits that appear on the Verra registry. For example, prior to the existence of tokenization, the status of ‘retired’ for a carbon credit meant it had been consumed.
However, when some blockchain firms such as Toucan tokenized Verra credits, they marked them as retired at the point of tokenization. For blockchain firms, that does not mean that the credit has been used, simply tokenized. The intention is the status of the tokenized credit – whether it has been consumed – is logged on the blockchain.
Verra doesn’t like marking tokens as retired for that reason and banned the practice in May. By using the ‘retired’ designation without any mal-intent, crypto companies render the status of the credits on the Verra registry less useful. Hence, Verra proposes that tokenized credits should be ‘immobilized’ on the Verra registry.
It also wants to be updated on transaction information relating to the tokens, including any fractionalization. It’s concerned about the potential for double issuance or double use of tokens. While blockchains are designed to prevent double spending there is a risk that someone could issue a token for the same credit on multiple blockchains and other potentially fraudulent actions. Verra is seeking input on how to prevent fraud more broadly.
While numerous crypto startups are targeting carbon credits, often aiming at consumers, some target more established markets, such as AirCarbon Exchange, which received funding from Deutsche Boerse. AirCarbon Exchange’s carbon credit certificates are tokenized on the public Polygon blockchain network.
There are also multiple institutional initiatives, including Carbonplace, that involves the National Bank of Australia, Natwest, BNP Paribas, Standard Chartered and others. In Singapore, Standard Chartered, DBS Bank, the Singapore Exchange and Temasek are involved in Climate Impact X.