And prone to melting down, Ms. Morris warns. Just as the inability of homeowners to make good on their subprime mortgages ended up pulling the rug out from under the credit market, carbon offsets that are based on shaky greenhouse-gas mitigation projects could cause the carbon market to tank, with implications for the broader economy.
As a Friends of the Earth report titled "Subprime Carbon" notes, a lot things can go wrong with a carbon offset project. In addition to the usual risks faced by any project, independent verifiers could determine that a project isn't cutting the amount of carbon it claimed to cut. This is particularly worrisome because the system would allow sellers to promise to deliver carbon credits before the emissions reductions have been verified. The report warns:
A carbon bubble can also set the stage for the kinds of financial innovation (e.g. complex securitized products) that can unwittingly spread sub-prime carbon through the broader marketplace. When the bubble bursts, the collapse in carbon prices can have destabilizing consequences for compliance buyers (companies) and for the larger financial system.
Despite these risks (or perhaps because of them), a carbon derivatives market has the potential to generate huge profits. The US Commodity Futures Trading Commission estimates that the cap-and-trade market could grow to $2 trillion in five years.