How carbon credits work

The meeting began at noon as planned. Vincent Tremayne opened with extremely brief introductory remarks before turning the floor over to the vice president in charge of marketing, who, Vincent said, would fill everyone in on the details.

The middle aged marketing VP stepped up to the lectern and presented a short summary of his credentials regarding carbon credit marketing. Not wishing to waste time, he quickly came to the point. “Alright people, let’s be clear,” he began. “What we’re looking to do is something new and on the cutting edge of environmentally friendly entrepreneurship. If this venture is successful, Tremayne Fuels will be in a position to increase profits while empowering people to save the planet.”

Everyone listened to the vice president intently, with the exception of Daphne, who was leafing through a portfolio of bumper sticker designs she had brought with her.

“Let’s begin,” the VP stated. “Imagine four people sitting around a table about to share an apple pie. Of these four people, two are really skinny, one is normal sized, and one is a big fat guy. Now let’s say we cut that apple pie into eight slices—two for each person at the table. Well, the two skinny guys are not really hungry, so they decide to split half a slice between them. The normal sized guy eats one slice, and doesn’t give it a second thought. But the fat guy… well, the fat guy is really hungry! So what does that big fat guy do? He eats his two slices! But he’s still not full. He’s eyeing the half slice left over from the two skinny guys, and he eats that too. Somebody do the math for me. How many slices are left?”

Someone at the conference table called out “four.”

“That’s correct,” the VP replied. “Now, what happens next? The big fat guy feels terrible. He feels guilty because he thinks he ate too much, so he starts to cry. The other three fellows ask him why he’s so upset and the fat guy says he feels bad about eating so much. So, how can the other three guys help out their fat friend?” The VP let the question hang for a moment before answering it himself. “The three friends can sell the fat guy consumption credit leveraged against the remaining slices of pie!”

“Wait a second,” someone called out after a stunned pause. “How can the fat guy buy his way out of overeating if he really ate all that pie?”

“Well, it’s a matter of psychology,” the VP replied. “I’ll try to explain. In our scenario, after everyone has eaten, there are still four uneaten slices of pie remaining. The two skinny guys have become partners in three slices of pie and the normal guy is left holding one slice. Now imagine all four fellows agree on the value of each individual slice of pie. In order to ease his guilt for overeating, the fat guy offers to pay the normal sized guy not to eat his one remaining slice. Now, the fat guy doesn’t eat it either, mind you, he just pays the normal guy for not eating it. Now he’s feeling a little bit better because that one uneaten slice makes up for some of the pie the fat guy has already consumed. He still feels a little guilty, though, so he pays the skinny guys not to eat their three remaining slices. Now, the fat guy is overjoyed! Why?” the VP asked rhetorically. “Because he believes he just wiped out all of his pie consumption by paying the other three guys for their non-consumption. In fact, now he believes he’s one-and-a-half slices to the good and can apply this credit to his past acts of overeating. Don’t you see? The fat guy convinces himself that by paying the other guys, it’s as if he himself hasn’t eaten any pie at all!”

“But he did!” someone cried out. “He actually ate two and a half slices of pie!”

“True,” the marketing VP conceded. “But as I said, it’s a matter of psychology. Because the fat guy paid the other three guys not to eat their slices, he believes he is no longer responsible for overeating. The fat guy feels better about himself.” The VP looked around the room at the astonished faces of his colleagues. “Folks, we’re basically going to sell credit for uneaten pie to loads of guilt ridden fat people.”

“But we’re not trying to sell pie credit!” another person called out. “You said something about selling carbon credits. As strange as it is, I understand the concept of warehousing extra pie to sell consumption credits against. But how in the world do you plan to do that with carbon?”

The executive held up his hand and laughed. “Here’s where it gets really interesting,” he said. “We all know that most energy is generated by burning carbon-based fuels such as coal, oil and natural gas. What we’re looking to do is sell credit against non-consumed carbon. The key word everyone needs to remember is non-consumed. The precise meaning of this will become apparent as we go along.”

The marketing vice president took a sip of water and cleared his throat. Everyone in the conference room regarded him in rapt silence, with the exception of Daphne, who yawned loudly as she looked through the latest issue of Vogue.

“So, how do we go from pie slices to carbon credits?” the VP asked rhetorically. “Follow me closely. We need to replace the ‘pie’ with an actual geographic area that consumes lots of energy. For our purposes, let’s use the state of Connecticut as our model. I have chosen the Nutmeg State for a number of reasons.” The marketing VP started a slide show that displayed pertinent charts and graphs on a projection screen. “According to government statistics,” he continued, “the total land area of the state of Connecticut is 4844.8 square miles with a population of roughly 3,500,000 people. It’s the third smallest state in the union behind Delaware and Rhode Island ; however, it’s the fourth most densely populated state in the country. According to the latest Department of Energy data, on average, the annual consumption of energy in the state of Connecticut is just under two hundred and sixty million British Thermal Units per person. Now, the latest published data—and this came out before the recent spike in prices, mind you—the latest data from the DoE states that the average cost of energy in Connecticut is roughly five thousand dollars per person per year. I’m using rough estimates right now just to illustrate the point, but we’ll need precise figures when we start selling carbon credits…”

“Hold on!” someone at the conference table called out. “You’re losing me! I can’t make heads or tails of all these statistics. What does all this mean?”

“OK, here’s what it means,” the marketing VP said. “Over all, the people of Connecticut pay eighteen billion dollars a year for energy. This energy is measured in increments called British Thermal Units, or BTUs. When you do the math, it’s clear that individuals in Connecticut pay roughly fifteen dollars for every one million BTUs they consume. If we say that

one million BTUs is equal to one carbon credit, that means we can sell a single carbon credit for fifteen bucks!”

Most of the people sitting around the conference table punched numbers into calculators or worked out long-hand equations on legal pads. Daphne sat busily at work sketching a winged unicorn.

One of the assistant vice presidents in charge of accounting raised his hand. “The numbers you quote seem to work,” he said. “However, there’s something I don’t understand. The guilty fat guy in your earlier analogy bought pie credits supposedly backed by uneaten pie slices. If we plan to sell carbon credits, don’t we need to back it with unused carbon?”

Non-consumed carbon,” the VP corrected. “You must use the proper terminology. We need to back our carbon credits with non-consumed carbon.”

“Well, even so, I’m still confused,” the accountant conceded. “Where do we get the non-consumed carbon?”

The marketing VP chuckled smugly. “This is the best part,” he said with a big grin. “Most of the land that makes up the United States is actually owned by the federal government and is administered by a federal agency called the Bureau of Land Management. Some of this land is set aside by the government as wildlife refuges and recreation areas, but the BLM also leases vast tracts of land to individuals and corporations for commercial use. All kinds of commercial ventures—from cattle grazing, to gold mining, to oil drilling—are conducted on leased federal land.”

“Are you suggesting that we drill for oil on federal land?” someone asked testily.

“I’m suggesting nothing of the sort!” the marketing executive replied. “What I am suggesting is that we lease federal land—and I mean huge parcels of it! And this point is essential,” he said, holding up a finger. “The land we lease must be absolute worthless. Barren! Bone-dry! We need to lease the most unproductive land we can get our hands on!”

The executives passed wide-eyed glances at one another, wondering if the vice president in charge of marketing had gone insane. “And just how much of this land are you proposing we lease?” the assistant VP in charge of accounting angrily asked.

“Exactly 4844.8 square miles of it,” the marketing VP said without hesitation. “The BLM leases land by the acre. That means we need to lease exactly 3,100,672.0226 acres of barren wasteland.”

The assistant accounting VP sat in thought for a moment, scowling. Then, all at once, his countenance changed and he began to laugh. Soon, the whole room rang with peals of laughter as the executives realized the brilliance of this scheme. Curious as to the sudden change of mood, Daphne looked up from her doodling and impatiently sighed.

“Now I see what you’re driving at!” the assistant accounting VP exuberantly exclaimed. “You’re proposing we lease barren federal land exactly the same size as Connecticut !”

“Precisely!” the marketing VP confirmed.

“And then we sell carbon credits equal to Connecticut ’s actual energy usage, which are backed by the non-consumption of energy on our leased land!” the assistant VP cried joyously. “This is brilliant!”

“That’s it in a nutshell, folks,” the VP summarized. “We lease parcels of the most worthless desert land we can get our hands on, which, taken together, equals the size of Connecticut. Whereas the state of Connecticut consumes energy—our lease holdings will non-consume it. And that’s to the tune of eighteen billion dollars a year. That’s eighteen billion dollars worth of carbon credits based on the non-consumption of energy!”

“Exactly how many marketable carbon credits does that yield us?” someone asked.

The accountant bent to his calculator. “One point two billion individual carbon credits,” he announced.

“And we can market them any way we like,” the marketing VP added. “We can sell them one at a time for fifteen bucks, or we can sell them in parcels. We can offer discounts to bulk buyers. Hell, we can run holiday sales! We can even print up fancy carbon credit certificates that people can give away as gifts!”

The assistant VP in charge of accounting shook his head and laughed sardonically. “I can’t believe this,” he said. “Does everyone here realize what this scheme amounts to? Basically, were looking to sell eighteen billion dollars worth of… of nothing!”

“That’s per annum,” the marketing VP said dryly.

“Can’t we be charged with fraud?” someone asked.

“What fraud?” the vice president replied indignantly. “We’re going to lease all that barren federal land on the up and up! We’re not cheating anyone. All we’re offering is peace of mind. If purchasing our carbon credits helps to ease someone’s troubled conscience, then we’re doing something noble!”

“Aren’t carbon credits regulated by the SEC?” someone else asked.

“Nope,” the VP replied. “This is good, old fashioned free-market capitalism. Caveat emptor !”

The executives around the conference table broke into murmuring conversations as ideas slid back and forth in a spontaneous brainstorming session.

After a few minutes, Vincent resumed his place at the lectern and called the meeting back to order. “Thank you very much!” he said to the vice president in charge of marketing. “That was a fantastic presentation. OK people,” he said, addressing the group as a whole. “You see the direction where we’re headed. I know I can count on every one of you to do your part. I don’t need to remind you that this has the potential to bump us up into the big leagues. Right now, our next step is to pull together some big financial backers. Over the next few days I shall be meeting with high net-worth venture capitalists and hopefully get them to underwrite our leases. Meanwhile, I want you all to get to work developing your part of the business plan. This meeting is adjourned!”

As the executives filed out, Vincent caught sight of a late arrival. The man had silently slipped in just after his opening remarks and sat unobtrusively in a chair against the back wall. After the meeting, the visitor sauntered over to the lunch buffet and helped himself to some brie and grapes. Vincent practically leapt across the room towards him. “Terrance! You look wonderful,” he said obsequiously. “I’m so glad you could make it.”

“So am I, you sexy thing!” Terrance said playfully as he took Vincent’s hand. He leaned in close and said in a hushed, grave tone, “I like what I hear.”

Before Vincent could respond, he felt a jarring shove on his shoulder. “Hey!” Daphne barked angrily. “I didn’t get to present my portfolio! What’s the idea of adjourning without letting me show my bumper stickers?”

“Daphne, you gorgeous creature!” Terrance remarked. “Pay Vincent no mind. His ambition gets the better of him. Besides, dear, these philistines have no appreciation for art.”

“But I worked hard on this,” she said, fighting back crocodile tears.

“I know, dear,” he said as he locked his arm in hers and led her towards the buffet. “That’s why I want to see your work. We’ll look at it Saturday. Bring your portfolio and your silly husband to my place around three. I have some fabulous people I want you to meet!”


Category: Credit

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