CHICAGO CLIMATE EXCHANGE (CCX): THE ORIGIN AND EVOLUTION OF VOLUNTARY EFFORTS TO ESTABLISH CARBON MARKETS

1. Introduction

Of all the questions one could ask about the Chicago Climate Exchange (CCX), which operated from 2003–2010 as a voluntary but legally binding cap-and-trade system, the world’s first and still only rules-based emissions reduction structure to cover all six greenhouse gases (GHGs), the key question is why did any enterprise volunteer to join it?

After all, CCX would require what was not yet required by any mandatory regulations in the United States or abroad.

Why did large industrial enterprises step up, without any directive to do so, to reduce their greenhouse gas emissions (GHGs) voluntarily, under the risk of penalty of civil action if they failed in their commitments? Why did commodities traders spend valuable time learning about the entirely new asset class known as “carbon” and the equally unprecedented tradeable commodity CCX invented, known as the “carbon financial instrument” (CFI), that no one in the world had yet ever bought or sold? Why did investors participate in the angel round and IPO of CCX?

In addition, why did CCX make such an indelible mark on history, when it had little to no official standing, garnering praise and support from political figures as dissimilar as Spencer Abraham, US Secretary of Energy under President George W. Bush, who opened CCX at its launch in 2003, to former Democratic President Barack Obama, who praised and supported CCX from its days on the drawing board?

2. The Academic Framework for CCX

Clear and unambiguous property rights facilitate the purchase and sale of evidence of ownership of commodities and stocks. Exchanges are institutions which have been created to facilitate those transactions. In order to minimize transaction costs a central market is created with uniform customs and practices where buyers and sellers of a well-defined commodity or stock meet. They don’t have to search for each other. Members of the exchange are either agents (brokers) or principals (Individuals acting on behalf of themselves).

Since public goods such as air and water are held in common there are no individual property rights and evidences of ownership. Therefore, there were no organized exchanges. Inefficiencies and oversight of use of public goods was addressed by public policies other than markets.

One policy to limit excess consumption was by regulation (command and control) and another was taxes and subsidies. In 1960 Ronald Coase, discussed further below, wrote a paper which demonstrated that if unambiguous property rights existed and there were no transaction costs then voluntary bilateral bargains (trades) could achieve the same social objective as taxes and subsidies.

In that same decade Dales and Tom Crocker proposed the idea of creating a property right that allowed an entity to emit a designated amount of a pollutant (Crocker 1966; Dales, 1968). They were called permits. The amount of permits was capped. This research provided a framework for the applications of Coase’s theory.

In 1965 Buchanan developed the theory that clubs could bridge the gap between public and private goods. Members would cost share to achieve the net gains to membership. This too provided an additional framework for CCX.

The intellectual stage was set for a voluntary organized exchange created by members to cap emissions and trade CO₂ emission rights so members could achieve reductions at the least possible cost to themselves and society. We are unaware of any prior institutions that combined voluntary goals with a cap-and-trade mechanism on a self-regulated exchange with independent verifiers. It stretched all theory and there was no empirical evidence of which the founders were aware.

Ultimately, in the end, how did CCX manage to create a framework and a business concern that enabled the United States to have more emissions capped and controlled in a rules-based system than any other nation on earth even though absolutely no mandatory emissions reduction regulations were in place in the United States?

We suggest that in good part the answers that explain the CCX model and its success can be found in an interweaving of the work of three influential economists: behavioral economist Jack L. Knetsch (in whose honor this issue of Singapore Economic Review has been published); James Buchanan, one of the founders of public choice theory; and law and economics scholar Ronald Coase.

One of Knetsch’s most influential contributions was the identification of the “endowment effect” wherein sellers seek higher prices when they are owners than when they are merely sellers (Knetsch, 1989). When we review the operations and architecture of CCX, we could postulate that CCX exhibited what we could call a “mini-endowment” effect within CCX, inherent to each member, especially as members who had surplus allowances to sell often preferred to hold onto them, in part in expectation of later higher prices, but also as a gesture of “pride in ownership” in a sense, since surplus allowances reflected success in emissions reduction, a meaningful contribution to planetary health.

Buchanan was awarded the Nobel Prize in 1986 for contributions to public finance, including “The Economic Theory of Clubs” (Buchanan, 1965). In that work Buchanan identifies a club as a cost-sharing arrangement to enable collective action in a group interested in making an investment that would yield the members benefits that were unattainable if they did not form a club. CCX exhibited clear aspects of Buchanan’s “club” in that CCX was a voluntary group, constituted around a public good where members joined because they perceived a net benefit to them that was neither delivered by government taxation and regulation, nor available to non-club members.

Coase, a Nobel Laureate in 1991, was the economist whose work most strongly influenced the CCX design. In “The Problem of Social Cost” (Coase, 1960), Coase articulated the role of transaction costs in reducing the potential for mutually beneficial bargaining to internalize external costs, such as pollution. In his critique of Pigouvian externalities and taxation, he characterized the Pigouvian model as a one-sided approach that did not appreciate the essential problem — multiple parties wanted to use a resource differently, and if that resource had ill-defined property rights, their uses could come into conflict.

CCX was, as well, a kind of “lighthouse” in the sense referenced in “The Lighthouse in Economics” (Coase, 1974). In that pivotal work, Coase challenged conventional thinking that market failure in the case of public goods, for example, lighthouses, and by extension air and water, would occur because, as Sandor (2012) observed in Good Derivatives “since people benefited from the existence of a public good and were not easily charged for it, it was unlikely that the private sector would want to provide such a service” (p. 239). Coase, however, showed that, in fact, lighthouses had, historically, been built and operated as commercial private entities, although many ultimately did become public entities. By analogy, the CCX voluntary cap-and-trade could play the role of a commercial lighthouse until mandatory policies on greenhouse gas emissions were established.

Combining these ideas, a club membership structure would create ownership in both the means and the desired outcomes of the CCX design, harnessing a synthetic ownership of the idea we might term a “mutual endowment effect” that enabled members to realize benefits. It would also reduce transaction costs and create a market platform for mutually beneficial bargaining and exchange.

In reviewing the interplay of the work of Knetsch, Coase and Buchanan, we suggest that the CCX model in practice drew on the theoretical constructs of all of them and through institutional experimentation, optimized the approaches into a workable whole suited to the reality of the time and the complex nature of the climate change problem.

Still, CCX was an unprecedented model, yet to be duplicated in its original form nor studied in detail for its relationship to academic economic theories.

The CCX narrative provides facts on the ground and, therefore, the purpose of this paper is to reflect on the CCX experience and tell the story of what happened. It is for others to draw any conclusions that may be pertinent to a unified theory of public goods.

We would also like to mention that in describing the CCX experience, we must unavoidably refer here and there to ourselves and we do so with the greatest humility. As both authors of this paper and participants in the story, we are acutely aware that many persons even beyond those we mention contributed to the success of the CCX enterprise.

We believe CCX served as a bridge between theory and practice, and the CCX narrative will inform economists and policymakers who seek practical illustrations of theories, especially as relevant to ongoing discussions of the comparative roles and advantages of the public versus the private sector in providing social benefits and meeting social objectives and, by extension, environmental benefits and objectives.

We also address two important questions often omitted in the debate between mandatory and voluntary approaches: one, what is the optimum way to organize the voluntary market and two, how if at all to integrate OTC, bi-lateral and rules-based organized exchanges.

These debates, of course, become irrelevant if the enterprise cannot be financed. The history of how CCX was financed, therefore, also informs the broader discussions.

3. The Background and Story of CCX

Critical to the story of CCX is the use and interpretation of the word, “voluntary.” CCX was an entirely voluntary undertaking, conceived on a voluntary basis by the founder, and comprised of members who joined voluntarily, but by joining CCX a member agreed to compliance rules and non-compliance penalties. Members could not design easy-to-meet customized targets and reduction plans, nor could they opt-out or fail to comply in a given year if it became too demanding to meet the stipulated objectives or, for buyers, if market prices for CCX CFIs, each representing 100 metric tons of CO₂e, were higher than projected.

CCX was not merely a voluntary market, but a voluntary cap-and-trade system, with the same architecture and, for all intents and purposes, the same operational rules as all mandatory public emissions trading systems to address climate change that have emerged since CCX, minus official governmental authority or recognition. Its rules-based collective nature is a core distinction between the voluntary system of CCX and what has become known as the “voluntary carbon market” (VCM) discussed later in this paper, which is composed of bi-lateral agreements and has no standardized emissions reduction targets or universal oversight.

We believe that the widespread success of CCX derived directly from the notion of mutual endowment effect and that, ultimately, the CCX community taking ownership, in a sense, of the ideas, principles and moral motivations that catalyzed and operated CCX. We believe that gradually the CCX became “their” exchange, and this collective drive and sense of ownership is indivisible from the achievements of CCX. Moreover, on reflection, it is obvious that the mutual endowment effect may have exerted influence at each step of the way and on each new listener who offered a form of help since CCX had to present itself to get started, and to grow de novo.

Certainly, a key ingredient to the collective pride users of CCX felt in “their” Exchange was the fact that it had never been tried before.

Members and participants were also swept up in the originality of the effort and the moral incentive inherent in being willing to take on the obligatory reduction commitments without regulatory force. There was also a professional learning benefit from being first, at least in the US, to demonstrate that a cap-and-trade system could be effective in reducing greenhouse gas emissions and their deleterious impacts on atmospheric and climate stability.

CCX members and participants, all wanting to make a positive change in the world, gradually numbered well over 400 including emitting members, traders, offset providers, staff, contractors and others. Over the course of its operational lifetime, CCX assembled a critical mass of early adopters, drove and catalyzed public policy and market development worldwide, and became a touchstone in the history of significantly addressing climate change through flexible market-based structures and transparent price signals.

How? We can say by using the tool of cap-and-trade to pull together seemingly disparate puzzle pieces — the power of financial invention, market theory, public purpose, moral drive, the unrelenting climate science and mounting recognition of the need to act.

Ultimately, the CCX “club effect” can be equally well understood as a “coalition of the willing.” Some years after CCX ended its Phase II in 2010, the notion of a “carbon club” was again brought forward in Climate Clubs: Overcoming Free-riding in International Climate Policy (Nordhaus, 2015) and The Carbon Club Revisited (Adams et al., 2022), the latter referencing a “carbon club” of nations that would accept and work together to develop a “border carbon adjustment” (BCA) among each other to both maintain free trade and also recognize the need for reducing carbon emissions globally.

The notion of a “club” of willing nations had indeed been the original premise of the policy forum convened in 1997 in Chicago, the Greenhouse Gas Emissions Trading Forum, hosted by Sandor and co-chaired by the United Nations Conference on Trade and Development (UNCTAD) and The Earth Council. The latter was established and chaired by Maurice Strong, the Canadian diplomat and business leader who served as Secretary-General of the 1992 United Nations Conference on Environment and Development (UNCED) held in Rio de Janeiro, known forevermore as the “Earth Summit.” This summit was transformational with respect to setting the world on its path to recognizing and addressing climate change. The role of the Earth Summit in the evolution of CCX and climate change mitigation in general is described later in this paper.

4. History of Cap and Trade in the United States

Cap-and-trade’s first widespread use in the United States was by the Environmental Protection Agency (EPA). It was the anti-pollution tool of choice to confront the heavy smog and acid rain that plagued the northeast states, causing unhealthy air pollution and forest and landscape deterioration. At the time, emissions of caustic sulphur combined with oxygen to form SO₂, entered clouds and traveled eastward from coal-fired power plants based in Midwestern states. The result was acid rain. The EPA had to develop a policy to require SO₂ reductions. These proposals were resisted by the utilities in question, claiming cleaner technologies were not yet available and compliance would be too costly.

Cap-and-trade was conceived, built on the EPA’s earlier “bubble” concept, which prescribed that a given company could meet its anti-pollution requirements not necessarily facility-by-facility, but as a whole across all concerned facilities, allowing one facility to emit more than another, assuming that all together, the facilities did not emit above the prescribed limit. A conceptual “bubble” was placed over all the facilities owned by the same emitter.

Cap-and-trade broadened this approach, imposing a “cap” on emissions over all emitters to be covered by the regulation, akin to the “bubble” imposed on a single company covered. In the case of acid rain legislation, the goal was to reduce all emissions from all emitters, and to add compliance flexibility that would enable costs of compliance to be spread among all entities required to comply. The basic thesis is simple: an overall cap or emission limit that applies collectively to all emitters is set by the regulatory authority as the maximum emissions allowed per year. Overall emissions must remain below the cap. To set baselines and starting points, “allowances” or rights to emit, are either issued free by the regulatory authority or auctioned for a fee, the proceeds of which can feed into the regulatory public budget. Allowances are serialized and then traded among emitters, who bargain among each other — emitters that are more successful at emissions reductions may sell their surplus allowances to emitters who may, on the other hand, be failing to reduce. But, critically, among them all, the cap is not exceeded. It may be that emitter A can reduce emissions at a cost of, for example, $20 per tonne, while emitter B faces a cost of $30 per tonne. It’s obviously cheaper for emitter B to buy surplus allowances from emitter A for any price lower than emitter B’s direct reduction cost.

According to the economic theory underlying permit market design, the initial issue of allowances corresponds to the existing annual emissions of a polluter, a baseline from which they must reduce emissions levels. To achieve a true environmental benefit, however, the cap must be established in relationship to known scientific limits, i.e., what are the reductions rates needed to actually improve the environmental situation. Additionally, over time, the permissible cap must be tightened, meaning that emitters must continually reduce emissions. However, as the cap is tightened, this supply-demand dynamic gradually encourages reductions, since gradually allowances are less available, and it becomes more costly to buy allowances than to actually make reductions. This constant striving for least-cost reductions also accelerates the demand for and development of improved technologies that reduce emissions, leading to cleaner production and less emissions.

Trading of emissions allowances takes place via brokers and traders and ideally, on public exchanges, like stocks, so that there is price transparency since it is the price signal that indicates the cost per ton of reduction, enabling an emitter to evaluate how to come into compliance with regulations most cost effectively. In a cap-and-trade, a transparent price signal is the critical catalytic ingredient.

For whatever reason, emitters face varying costs of compliance. Emitter A may have highly energy efficient facilities already that emit the least pollutants, while emitter B may be running less efficient more polluting equipment that, nevertheless, may still have useful life. Until that inefficient equipment can be justifiably retired, it may be more cost effective for emitter B to buy allowances. Transparent price signals are essential for this type of flexible decision-making, with the proviso that all emitters keep their collective emissions under the scientifically established cap, regardless of cost to them. Rising allowance prices indicate a rising cost of pollution until it is time to retire allowances and clear price signals. The market price signal represents the “what the market will bear” price, i.e., the minimum a buyer will pay for an allowance, what we today call a “price on carbon.”

In theory, when the cost of compliance, i.e., the going market price, climbs higher than the concomitant cost of emissions mitigation, emissions mitigation will occur because it is more financially attractive. And vice versa.

Sooner or later, laggards catch up and make direct reductions, as it becomes more costly to keep emitting than to install new cleaner equipment, upgrade facilities or otherwise eliminate pollution sources. Overall, the goal of cap-and-trade is neither to punish polluters nor let them off the hook, but rather to afford them a reasonable and rational amount of flexibility to meet the requirements of the law and, by extension, to reduce their slice of the emissions pie so as to meet their part of the broader societal objective.

Regarding SO₂, as a result of the cap-and-trade system, and the gradually increasing costs of buying allowances, new technologies that could “scrub” SO₂ from power plant emissions came onto the market more quickly because the tightening emissions cap created a demand for them among emitters. In addition, transportation costs declined and it became economic to import low sulfur coal from the Powder River Basin in Wyoming. Midwestern utilities and others substituted western coal for eastern Appalachian coal. Fuel substitution of natural gas for coal also reduced SO₂ emissions. Overall costs of reductions were less than projected by the power industry, and eventually the acid rain problem essentially disappeared, with notable corollary human health and other benefits as air became cleaner. The elimination of acid rain in the northeast US is now generally regarded as a major environmental success story. The cost of the program since inception has been estimated to be $65 billion and the benefits about $2 trillion (reduced health care costs from lung disease, reduced loss of lives, etc. see https://www.epa.gov/clean-air-act-overview/benefits-and-costs-clean-air-act-1990-2020-second-prospective-study).

The acid rain cap-and-trade was a central component of the US Clean Air Act in the United States in 1990, a keystone of environmental legislation that passed with bi-partisan support, and it originally required annual self-reporting by emitters on their emissions and reduction levels. At the time, Sandor was a director at the Chicago Board of Trade (CBOT) and understood that for commodities trading to be successful, buyers and sellers had to have confidence they each had the same information. He suggested to Billy O’Connor, the Chairman of the CBOT, that a Clean Air committee be formed to explore environmental markets. The committee was formed, with Sandor named Chairman. The committee believed that annual self-reporting was insufficiently frequent and reliable to support emissions trading, all the more since emitters themselves would have information long before it reached the public marketplace, affording unfair advantages to hedgers or others who might have early access to emissions data.

Sandor reached out to the former Governor of Illinois, James R. Thompson and member of the Clean Air committee, who secured an appointment with William C. Reilly, then the Administrator of the US EPA. Sandor described to Reilly the need for symmetrical and regular information on emissions to feed the market. Following these discussions and further study, the EPA required emitters in the acid rain compliance program to install continuous emissions monitor systems (CEMS) at all sources of emissions, on each smokestack in effect, measuring the emissions actually entering the atmosphere in real time. Figure 1 shows the concentration of sulfur dioxide (SO2) across the United States for the year 1990 and 2009. The figure indicates a significant decrease in SO2 concentrations over the 19-year period since the implementation of acid rain cap-and-trade in 1990, a central component of the US Clear Air Act and a keystone of environmental legislation that passed with bi-partisan support. The figures are adapted from Clean Air Status and Trends Network (CASTNET), US Environmental Protection Agency.

CEMS fed continuous data simultaneously to the EPA and the marketplace, which proved vital to the uptake and success of the acid rain cap-and trade. Moreover, a far-sighted engineer at the EPA ensured that the chemical agent used in the CEMS that was sensitive to SO₂ was also sensitive to carbon dioxide (CO₂). This meant that the CEMS monitoring SO₂ emissions could also track CO₂ emissions, an invaluable advantage for addressing climate change when the time came to try to reduce carbon dioxide emissions.

That the US had already installed CEMS on many sources of CO₂ meant it was more prepared than the rest of the world to monitor and manage CO₂ emissions when Sandor gave his talk in Rio in 1992 suggesting that the US cap-and-trade system for SO₂, even though conceived to reduce a single gas to address a national problem with national boundaries, was likely adaptable to the problem of managing carbon dioxide emissions, and probably other GHGs as well. Though admitting the complexities and challenges, Sandor told his Rio audience that in his experience, a cap-and-trade to address global climate change was likely entirely feasible.

5. The Conception of CCX

It is not extravagant to say that the first true birth impulse for what would eventually take shape at CCX flashed on the beaches of Rio de Janeiro, during the UNCED gathering. It was the first time all leaders of the world came together to discuss a single subject — how to balance the need for economic development to confront world poverty, with the need to protect environmental resources to confront their deterioration.

This landmark event pulled together conventional political leaders and unconventional political activists, with indigenous Amazonians wearing feathered plumes and capes walking alongside business leaders in button-down suits trying to cope with the humid summery weather of Brazil.

What would eventually become CCX began to spark the year before. In 1991, Sandor had received a call from the United Nations Commissions on Trade and Development (UNCTAD), which sought to play an active role in the Rio events. Frank Joshua, who was leading UNCTAD’s planning, invited Sandor to UNCTAD headquarters in Geneva to participate in a working group of UNCTAD staff, academics and environmental advocacy organizations. UNCTAD wanted to tap Sandor’s unique set of experiences as both innovator and practitioner in the acid rain cap-and-trade in the US, and subsequently invited Sandor to deliver a paper at Rio Summit on the possible relationship of that program to climate change mitigation.

By the time the Earth Summit actually opened, global excitement about its prospects was feverish. Maurice Strong, the Summit’s Secretary-General who had also chaired the 1972UN Conference on the Human Environment, kept momentum going before, during and after the Rio event pretty much single-handedly. One of its special strengths was an innovation that Maurice Strong personally pushed through. He had lobbied the UN to allow non-governmental organizations of widely diverse missions to apply for credentials to attend official UN governmental meetings, join official delegations of their home countries if invited, and generally integrate a non-governmental perspective into the negotiations of what everyone hoped would be internationally binding inter-governmental agreements to address environmental issues, especially climate change. Strong and supporters raised funding to establish the Rio Global Forum, a gigantic steamy caravanserai of tents where non-governmental organizations could host panels and generate discussions outside of the formal UN setting.

The Global Forum proved so dynamic and magnetic, many of the government delegates happily accepted invitations to cross the divide between official and non-official to speak at the Forum, take in non-governmental ideas, and transfuse them into the circulatory system of the ongoing formal inter-governmental UN negotiations. In retrospect, it is hard to overstate the impact of this innovation. The non-governmental presence at Rio, which included scientists, advocacy groups, non-profit environmental organizations — truly any organizational type outside of government — imbued the governmental negotiating process with urgency and a sense of broad public support and interest in the Earth Summit itself. Thanks to the informal Forum, and the force of the watchful eyes of civil society, the formal UN system understood it had to meet the world’s expectations for results.

It was in the Global Forum that Sandor delivered the pivotal paper commissioned by UNCTAD, “In Search of the Trees,” laying out principles for designing a cap-and-trade system to address climate change. In fact, the paper proved to be a tutorial for international policy makers and others, nearly all of whom had no experience in using market-based systems to address policy challenges, and how to establish new markets. The work drew extensively on the history of commodities markets, including the Osaka rice market, the Dutch early equity markets, and Chicago grain market, lacing this history into the operation of the US SO₂ program. In conclusion, Sandor (1992) said, “Air and water are simply no longer the ‘free goods’ that economists once assumed... It is self-evident that the allocation of these scarce but vitally important resources will be a major problem of the 21st century and beyond. Population growth and further industrialization of the planet assure this. These simple facts make it essential for research to continue as rapidly as possible so that we can implement market solutions to the highly critical environmental problems facing us.” (p. 329).

The paper also included detailed recommendations for what Sandor (1992) termed “market architecture,” reiterating the need for standardization: “Implicit in the creation of a CO₂ commodity must be a standardized method or formula... to monitor these emissions. This is a necessary condition for any signatory to the treaty [the Framework Convention on Climate Change then being negotiated] and critical to the success of CO₂ trading. A lack of knowledge of the existing supply plus an inability to monitor the future supply would make it virtually impossible to create any type of efficient market.”

The idea that had been gestating for so long — using cap-and-trade to address climate change — was now officially launched into the air, so to speak, but not to drift away. Sandor recalls leaving the hot, crowded tent and heading out to the beach at Rio filled with exuberance because, all things being equal, what had been proposed he now felt could actually be done. The steps were in his head. A decade later, Sandor would present his conjectures on financial innovation at the University of Minnesota. In fact, this journal published a paper in 2022 on a theory of the evolution of markets Sandor (2022).

In the meantime, the official government delegations had also achieved a bit of magic, agreeing unprecedented and expansive agreements and plans, notably the United Nations Framework Convention on Climate Change (UNFCCC); the United Nations Convention on Biological Diversity (UNCBD); the Rio Declaration on Environment and Development, and Agenda 21, among others.

Sandor returned to Chicago, continuing to work on environmental markets. He served on the EPA’s Acid Rain Advisory committee and personally worked on the design of the registry that would track the issuance, buying and selling of the allowances or “emissions permits” integral to the cap-and-trade system. It was not an academic exercise. His firm, Centre Financial Products (CFP) had entered into an agreement to finance a scrubber in exchange for SO₂ allowances and in turn sold those to another utility. Brian McLean, the leader of the Acid Rain Program for the US EPA, understood the urgency of having a credible registry up-and-running, and pulled out all of the stops. That CFP trade became the first recorded transaction in the EPA registry — a classic example of a public/private partnership. The experiences in both the design of the SO₂ program and implementation of its first trade proved invaluable in the battle to establish a cap-and-trade program for CO₂.

The journey had just begun. Educating the stakeholders and demonstrating proof of concept was next. Sandor made a few presentations in 1995 and 1996. They ranged from another UNCTAD presentation in Prague to a conference at Columbia University. The pace quickened in 1997 and would continue for the next 30 months with many more presentations. Sandor spoke in the United States, Canada, Europe and Asia, at meetings convened by the UN, the US Senate and the White House, as well as to city governments in London and New York. Universities, trade groups and mutual funds were also part of the educational scope.

Meanwhile in 1995 Maurice Strong and Sandor agreed to promote the formation of the Global Emissions Trading System (GETS) that would convene willing governments to a pilot emissions trading program, to show proof of concept and anticipating the need for an educational vehicle on the workings of GHG trading. GETS was proposed even before international negotiations agreed a mandatory framework for national emission reduction programs and perhaps a bit too early. Indeed, in 1997, the third Conference of the Parties (COP-3) to the UNFCCC took place in Kyoto, resulting in the Kyoto Protocol that called for emissions reductions among industrialized countries. Sandor and the CFP team attended.

They had worked with the government of Costa Rica and CFP was the first US entity to buy Certified Tradeable Offsets to finance rainforest protection. CFP was renamed Environmental Financial Products (EFP) and operated from a very small office in Chicago with Sandor as Chairman and CEO and only two other employees. Marilyn Grace, Sandor’s secretary, managed his diary and was a bridge to elected representatives and officials of non-governmental organizations. And Michael Walsh, PhD, a far-sighted economist who had worked with Sandor at the CBOT, was the only other professional on the team. Walsh increased the impact of the small company and structured the rainforest deals that also served to inform subsequent trades involving reforestation offsets conducted on behalf of the Confederation of the Native American Salish and Kootenai communities of Montana. Meeting with tribal chiefs and presentations to agricultural groups gave the EFP team further insight into how offsets could contribute to low-cost solutions to climate change mitigation.

Rafael Marques, a graduate student in economics from Brazil, joined EFP on a part-time basis, to eventually become a key full-time employee. EFP became a bustling and feisty hub of continuing study of environmental markets that had sparked Sandor’s energies at the Rio Summit and, so many years earlier, via the SO₂ program.

Meanwhile, even though data on increasing atmospheric concentrations of GHGs, by-products of the combustion of fossil fuels, continued coming in, and the formalization of national reduction obligations via the Kyoto Protocol had superseded the pending GETS pilot idea, the actual real-life practice of carbon pricing and emissions trading had not yet found a home in any nation.

The idea of building a global cap-and-trade system to do just that was poised for the intervention of fate.

Paula DiPerna, co-author of this paper, had in July 1999 assumed the position of President of the Joyce Foundation, a major US private philanthropic foundation based in Chicago that focused its grantmaking on the midwestern US states of the Great Lakes region. She had met Sandor in 1995 at a Rio follow-up meeting held in Glen Cove, New York convened by the then UN Secretary-General Boutros Boutros-Ghali to explore ways to generate funding to implement the ambitious plans and agreements generated at the Earth Summit, almost none of which had begun to be implemented in the three years that had passed. The gathering included leaders mostly from international development assistance institutions, and Sandor was the lone markets practitioner. There, DiPerna listened as Sandor repeated the ideas he had launched at Rio, proposing again that a cap-and-trade focused on climate change was likely feasible but “we’ll only know if we try it.”

No one at the 1995 meeting in Glen Cove responded to Sandor’s suggestion, but, in a paper on CCX, DiPerna (2018) wrote, “... I had kept his card and his Glen Cove comments in mind for four years. So, now settled in Chicago too, as soon as the 4th of July weekend ended, I tracked Sandor down and made the call. ‘I’d like to pick up on that idea you tossed out at Glen Cove in 1995,”’ I said to a startled Sandor. “What would it take to try it?”

Sandor and DiPerna met on July 14, 1999, at the University Club of Chicago and Sandor outlined how a cap-and-trade could be established on a regional basis as a pilot and then, depending on results, expanded nationwide and potentially globally. Most of the outline was verbal only, since no paper or paperwork was permitted at the University Club dining room.

But, the basics of the proposed exchange were fleshed out then and there.

And so was triggered the planning, design, launch and eventual successful operation of the CCX, the world’s first and still only cap-and-trade system that covered all six major greenhouses across all economic sectors — more or less built on what turned out to be an informed belief that “if we build it, they will come,” a phrase that had become popular through a film released in the US in 1989 called “Field of Dreams” about a passionate baseball fan who built a baseball field in the middle of his farm so as to attract all the historic greats of the game.

In fact, the creation of CCX was its own form of dream, drawing upon what had by then been nearly a decade of forethought, effort and convenings and hopes major enterprises would come together to at last establish environmental issues at the forefront of national and international consciousness and urgent to redress and resolve.

DiPerna and Sandor had, if by different routes, reached a similar conclusion about the latent appetite in the US for a consistent and predictable approach to addressing climate change. They were certain a vanguard existed, for the world was clearly waking up. Earlier in 1999, at the World Economic Forum (WEF) in Davos, Switzerland, Kofi Annan, successor to Boutros-Ghali as UN Secretary-General, urged the business community to move, calling upon business leaders to join the UN in a “global compact” to address social and environmental challenges, saying on environment, “You can also support a precautionary approach to environmental challenges. You can undertake initiatives to promote greater environmental responsibility... ” (Annan, 1999).

Sandor and DiPerna believed that a cadre of far-sighted business leaders had to exist who not only knew that climate change presented significant contingent liabilities for business, and that dealing with it would be inevitable, but also that the regulatory uncertainty that hung over the issue would sooner or later take a regulatory shape and it would be wise to get ready.

The plan hatched at the University Club was based on the hunch that a critical mass of business leaders could be eager to prepare themselves and their companies through some form of voluntary but standardized system. What became CCX was based on the belief that enough innovative thinkers with early adopter leanings could be found, and that they would welcome an opportunity to learn the nuts and bolts of emissions trading ahead of being required to by regulations, especially since cap-and-trade was still considered the most likely regulatory approach. The Kyoto Protocol stipulated binding emissions reduction requirement for 43 developed countries, the so-called Annex I countries, to be met through national systems that could use emissions trading as a method of meeting the national aims. The European Union had begun to design and pilot a cap-and-trade in Europe, the European Union Emissions Trading Scheme (EU ETS) and though the Kyoto Protocol was drawing a lot of criticism from naysayers, including many industrial voices in the US, it was not dead yet. The working assumption in 1999 was that the Kyoto Protocol would be ratified in the US and that, regardless, companies with international operations would understand the need to familiarize themselves with the nuts-and-bolts of cap-and-trade systems as they would be adopted elsewhere in the world.

Sandor and his colleagues submitted a proposal to the Joyce Foundation Board of Directors, and Sandor made a personal presentation to Board members on what was notably entirely new subject matter, emphasizing that the new endeavor could potentially add significant momentum to address climate change. At the time, then Illinois State Senator Barack Obama was a Joyce Foundation Board member, and he joined the Board’s unanimous approval of two grants of $1.1 million total to support a feasibility study and design phase of what Sandor proposed — a first “try” at emissions trading, based at first in the Midwest region in keeping with the Foundation’s focus on the Great Lakes region.

The proposal was also right in line with DiPerna’s recommendation to the Joyce Board that the Foundation consider a series of special “Millennium” grants to mark the year 2000 that would seed or extend projects that, by definition, would have intergenerational significance.

Climate change, of course, carried indisputable intergenerational meaning, recognized then but even more weighty today.

At the time of the CCX grants, the term “climate exchange” didn’t exist — Sandor and team coined it, branding the new exchange in their hometown too, Chicago being the historic dynamo of commodities trading and focal point of the great grain markets of the US.

In fact, the Midwest offered an ideal economic microcosm on which to base a pilot program from which apt conclusions could eventually be drawn. At the time, the annual GDP of the Great Lakes states was roughly $2 trillion, about the same size as the economy of France, and economic actors included large utilities, industrial companies and pharmaceutical companies, and a dynamic agricultural and forestry sector.

Sandor and his team threw themselves into framing out the eventual “market architecture” of CCX, adapting the cap-and-trade model to GHGs, determining a viable baseline year — after all, emitters involved had not necessarily been keeping track of their emissions for very long, if at all; and a reasonable emissions reduction schedule. The Team drew on their earlier work, including a paper they had presented in Bonn in 1999 at the 5th Conference of the Parties to the original Framework Convention, COP-5. (In fall 2024, the world will mark COP-29, heading into the 30th anniversary of the ratification of the Climate Change Convention. COP-30 is to be held in Belem, Brazil, to echo the Rio birthplace — meaning three decades will have passed since the governments of the world first committed to tackle the climate change problem.).

Critical for the EFP team designing CCX was establishing a rules-based structure, rather than a project-based approach, to create rules that were doable but also demanding enough to achieve a measurable environmental improvement and be credible to policy makers as a real step forward. The team also understood that critical to success would be minimizing transaction costs, especially in such a new type of venture where costs of trial-and-error would be inherent in any case.

Then came the task of establishing the “club”, that proverbial coalition of the willing, which meant persuading and convincing a sufficient number of utilities, industrial companies, traders and environmental organizations to weigh in on the design and planning process, with the hope that most of them would stay on to join the actual operational phase. Sandor and team tapped into their extensive networks, one lead to another, gradually building up interest, on top of almost non-stop travel to such well-known business gatherings as the WEF in Davos, and meetings of the World Business Council for Sustainable Development (WBCSD).

Sandor, understanding that such an entirely new enterprise would benefit from ongoing intellectual and academic input, reached out to leading figures in all related fields and created a luminary Board of Advisors.

Then, in 2000, as the elements of CCX were coming together, Sandor made an all-night journey from a WBCSD convening in Japan straight to The Hague, Netherlands where COP-6 was underway, in time to make a standing room only presentation on CCX where the audience included many of the same figures who had been in Rio in 1992.

With that presentation, CCX was understood globally to be real, original and on the move. The persuasion, education, networking, discussions and, it must be said, dogged devotion and passion of the EFP team and the many they had attracted, formalized the basic CCX framework into an official operating agreement known as the Chicago Accord. Its specified goals were to:

Countless additional meetings occurred, with significant ebb and flow. However, by 2003, CCX had gathered a notable group of entities that had undertaken the CCX commitments and contributed to its planning and ultimate proposition.

6. Financing CCX

Exchanges, unlike spontaneous combustion, do not just flare up. Their architecture is the product of collaboration among participants with widely varied skill sets, much like a film that brings together directors, actors, screenwriters, etc. The birth of CCX was informed by emitters, liquidity providers, economists, academics, technology providers, lawyers, accountants and even journalists, whose questions helped remind the design team how much public education would be needed to explain the brand-new ideas inherent in CCX to stakeholders outside the commodities exchange field.

But, as with great films, the most compelling concept would mean little without financing to implement the project and opening it to an audience.

Founders often finance their own innovations, and so it was with CCX. The proverbial “angel round” of funding from friends and family was necessary. But, as with other aspects of the CCX narrative, this angel round had an unusual twist that one could almost even call “heavenly”! Sandor’s nephew, David Sandor, who had an interest in CCX from the outset, was a great networker and thought he might find some investors in the health sector. Climate change, after all, purported series health effects ahead, such as changing patterns of tropical disease and likely more water-borne diseases as water quality suffered due to droughts and concentration of pollutants. David’s networking, though, led to an investor no ordinary observer could have foreseen: the Jesuit Community of Santa Clara County in California, then headed by Father Francis Smith. He was a committed environmentalist and so drawn to the CCX experiment, he persuaded his Board to invest $1.6 million, even proudly announcing the investment in a press release. That the Jesuits were a lead CCX investor became strategically and symbolically important. Other individuals, including prominent entrepreneurs, came forward.

To achieve its next stage of growth — after all, growth was integral to the relevance of CCX since an environmental exchange needs to ignite reductions from a significant swath of environmental pollution to have meaningful environmental impact — CCX needed another investment infusion, and hoped for a private placement of at least USD 15 million dollars. Once again, Sandor tapped into the invaluable network built in earlier years as the CCX concept had been in gestation.

On one outreach trip, Maurice Strong introduced Sandor to Israel Klabin, the Brazilian environmentalist and politician who also served as Mayor of Rio de Janeiro. The two spent time together on a bus trip to a park that Klabin had dedicated to Strong, and they discussed the ongoing effort to raise capital for CCX. Klabin, quiet and unpretentious, mentioned that as a young man he had become friendly with Sir Evelyn Rothschild, who then headed Rothschild and Sons, the UK branch of the iconic European banking enterprise. Klabin casually remarked that Sir Evelyn and his family were dedicated environmentalists who might be helpful in the future. That future arrived the next year, when Sandor flew to London, met with Sir Evelyn, and made the CCX case. Although the $15 million amount sought was trivial by traditional investment bank standards, Sir Evelyn understood the importance of a successful fund raising round as a societal objective and agreed to handle the capital effort. So began an extensive plan to build a book of potential investors and set up meetings.

Raising capital was as challenging as recruiting emitters to CCX — CCX was still in initial stages and its five-year hypothetical business plan was not overwhelmingly convincing.

The task was daunting, but Sandor and colleagues remained hopeful.

In the meantime, Sandor had kept a close friend and British colleague, Neil Eckert, apprised of the CCX plan. The two had worked together on insurance derivatives when Eckert had been a principal at Benfields, a broker led by Matthew Harding, an iconic personality and owner of a major soccer club. Later, Eckert had become CEO of Brit Insurance, and Sandor was a member of its founding Board. Eckert was keen on the CCX idea and, while Rothschild remained key to introducing investors, Eckert suggested CCX could engage a broker to take it public on the Alternative Investment Market (AIM), a division of the London Stock Exchange intended to help smaller companies and start-ups raise capital from investors who preferred to invest in publicly quoted equities.

The plan was brilliant and groundbreaking: a listed company, Chicago Climate PLC, would be created and CCX would be its sole investment. An independent money manager was chosen to oversee the financial operations and reporting of Chicago Climate PLC to shareholders. Collins Stewart, a midcap London stockbroking firm, was chosen to lead the fundraise of 15 million shares at 1£ per share. Sandor retained Gavin Kelly, an independent investment banker, to value the shares of CCX. The shareholders of CCX would then receive shares in Chicago Climate PLC.

This structure was a least cost solution to raise public capital for CCX, leaving oversight and shareholder relationships to be handled by the money manager.

Paul Hodges led the Collins Stewart team and arranged dozens of investor meetings. The prospectus was short, because CCX was a startup, with little operating experience but nevertheless drew a lead investor of one of the best performing funds of its era, and also a well-known contrarian. Commodity traders, institutional fund managers and others rounded out the investor list. The scope of its investors enabled Chicago Climate to raise another GBP 15 million to establish the European Climate Exchange (ECX), also at one pound per share, and ECX remained in 2024 the largest futures exchange operating in the EU ETS. Later, Chicago Climate PLC was restructured into an operating company and renamed Climate Exchange PLC (CLE) with Sandor as the Chairman and Neil Eckert as CEO.

A new market, especially in a public good such at environmental protection, requires impeccable governance, as well as guidance from established and respected figures in relevant fields willing to lend their opinions, voice and reputations to fortify the new venture. The founding CCX Board was assembled with this goal in mind. CCX was extremely fortunate and honored to have been served and supported by the following Directors:

Needless to add, just as CCX was itself a wholly new financial innovation, its funding structure too proved highly innovative, combining public pricing with private investment to enable CCX, and then ECX and later subsidiaries, to operate with financial stability to underpin the company’s environmental objectives.

On a related matter, financial actors not only invest in exchanges, but also play a critical role in daily market activity. They act as market makers as well as short and long term investors. The CCX was not different. As a result of many decades of inventing markets, there were members of both the CBOT and CME who participated in the new markets. The key challenge was to find a daily market maker. TradeLink, a local market making firm, was among the founding members. Keith Bronstein, a long-time professional and personal friend of Richard Sandor, led the effort. That initial liquidity is critical. There were several other Chicago proprietary firms that provided short-term liquidity. Hedge funds were critical too. They provided long-term liquidity and invested in CFIs. Space constraints do not allow us to expand on the story of liquidity providers and financial investors. That’s a whole different paper.

What remained after the successful fund raising was to build and operate the company. A daunting task.

Mayor Richard C. Daley rang the bell to mark the opening auction of CCX at the Field Museum of Chicago at a special ceremony on September 30, 2003. Continuous trading, as opposed to a single auction, began on December 12, 2003, launching CCX Phase I, with an impressive roster of Charter Members from many sectors of the US economy. These Charter Members agreed not only to follow the Terms of the Chicago Accord, but to also cover their own auditing expenses. After the Charter period, CCX instituted a schedule of enrollment fees and annual dues that included audit fees, but not transaction fees, as high as $60K per year for emitters with significant baselines. Mary Schapiro, the head of the National Association of Securities Dealers (NASD) a self-regulatory organization (SRO), had agreed to Sandor’s request to oversee CCX operations, although there was no requirement to do so by the exchange. He told her “We want to be independently regulated.” Since NASD was the SRO for Wall Street’s firms and the broad securities industry, their auditing monitoring and verification being applied to CCX members provided real teeth. Almost all of the large emitters were publicly traded companies. One utility CEO told Sandor that if they failed to comply, after a NASD audit, it could be very damaging to the price of their stock. “It would be a nightmare if I ended up as a front-page article of the Wall Street Journal.”

Trading in CFIs, the world’s first and still only “carbon currency” representing all six GHGs, CCX began as a spot market only, with CFI Futures introduced several years later with the approval of the Chicago Financial Futures Exchange (CCFE) as a Designated Contract Market (DCM) by the US Commodities Futures Trading Commission (CFTC). In fact CCFE was the first futures market in the voluntary carbon arena, as well as in the mandatory regional arena, i.e., the Regional Greenhouse Gas Initiative (RGGI), that was emerging in the northeast states of the US. CCFE was the DCM to launch a RGGI futures instrument, prevailing in a hotly contested contest of timing with the Chicago Mercantile Exchange (CME) — a kind of “little engine that could.”

CFIs hit $7.50 in May 2008, their highest price in the spot market, and $13 in the futures market.

The CCX structure offered a participation pathway for all economic sectors and types of enterprises, and a method for managing the broad spectrum of emissions types.

Scope 1 emissions result directly from the combustion of fossil fuels in power plants or on-site facilities. Scope 2 emissions result from the purchase of power, meaning that the Scope 2 emissions of, say, a law firm’s offices are, in fact, the Scope 1 emissions of the power company from which the law firm buys its power. Here, a rules-based structure must fastidiously avoid double counting.

Scope 3 emissions derive from indirect activities, such as emissions from business travel flights, or emissions generated by suppliers in the product life cycle. Here, too, it is critical to avoid that the same tonne of emissions is counted twice or three times either in inventory or as a reduction. Keeping emissions types separate is critical for emissions trading, as otherwise, the underlying value of an allowance could be inflated and questionable.

The roster of CCX Charter Members included many of the leading companies in the US, many large scale Scope 1 emitters, eager to reap the advantages of the experiment, as well as significant representatives from the public service, non-profit and academic sectors, including the City of Chicago. The then-Mayor of Chicago, Richard M. Daley, personally approved the city’s CCX membership, and he fully understood the brand value of adding the world’s first carbon market to the city’s storied history of markets and trading. So important to the city’s identity is its financial history that civic leaders reconstructed the ornate décor of the 1893 trading room of the Chicago Stock Exchange and installed the replica as a permanent public exhibit in the Art Institute of Chicago.

Chicago also itself generated Scope 1 emissions from its municipal power plants, not to mention its power purchases and significant suppliers who also generated emissions. Spotting ways to reduce emissions meant, at the least, possible energy savings, and so savings to the city’s fuel bills.

The World Resource Institute (WRI), a leading environmental think tank, came on board early to learn the ropes of emissions management, then truly nascent, understanding it would be called upon over time to advise and comment on public policy. WRI had developed the original landmark “GHG Protocol,” which over time became the world’s key reference method for measuring Scope 1–3 emissions.

Tufts University in Boston, Massachusetts signed on to CCX because it understood the opportunities for student and faculty learning that would accrue by actually participating in a cap-and-trade, as well as seeking potential energy savings in its power plant operations, even though small relative, of course, to major utility members, such as AEP, then the largest user of coal in the US. Sandor sat on the Board of AEP, and so fully understood the utility’s emissions profile, but the relationship between CCX and AEP was delegated to Bruce Braine, AEP’s Vice President for Strategic Policy Analysis at the time, who went on to become a leader in emissions trading and climate change mitigation.

Additional reasons for joining included pragmatic revenue-based decisions, such as DuPont reported they assumed that helping demonstrate the fact that emissions trading could address climate change would drive demand for their products, such as refrigerants that produced fewer GHGs, or that changes in their production of such products would also directly reduce the company’s own emissions, possibly generating a seller position in CCX.

This reasoning applied to many industrial enterprises, including utilities, who were incentivized by their CCX membership and its indirect message that climate change mitigation was inevitable, to seek less GHG emitting fuels, such as natural gas.

Also, some utilities had participated in the EPA’s SO₂ program, and understood well the value proposition inherent in the cap-and-trade system.

The healthcare leader, Baxter, became a CCX Charter member because the company believed that addressing climate change and planetary health was consistent with their mission to protect human health. Abbott Laboratories subsequently joined for the same reasons.

Also, overall, from the point of view of fiduciary responsibility, as the prospects of financial, reputational, credit and operational risks related to climate change came more to the attention of Boards and shareholders, embodied in the assumption of impending mandatory legislation, CCX membership could be cited as an explicit pathway to risk mitigation in that its legally binding nature and non-compliance penalties were the highest standard of emissions monitoring a company could undertake at the time. Also, at the time, the capital markets and credit ratings agencies were beginning to develop tools to measure and reflect the “sustainability” performance of companies. For example, what is now the Dow Jones Sustainability Indices (DJSI) appeared in 1999, which ranked a company on various environmental attributes, and in recruitment conversations the CCX team was often told that a company was considering joining CCX because membership might accrue to that company’s chance of being included in this emerging class of environmentally-focused investor references.

The hardest part of building CCX was getting a group of members to join at the same time. Even among early adopters, nobody wanted to be the first. It was also critical to recruit leaders with a range of opinions and known views, since CCX would be a stage setter and scrutinized for partisanship of any kind. Consensus in the development of CCX rules was essential as well. After some companies spent several years leading work in the CCX design phase, they were the low-hanging fruit, so to speak, and likeliest to spearhead the founding set of CCX members. While it is a much longer story, suffice it to say that AEP, Ford Motor and DuPont all agreed to be first movers. International Paper, Baxter and Manitoba rounded out the other half dozen founders. All were major and well-recognized brands in the US economy and, as Martin Zimmerman, the chief economist of Ford, said “let’s all hold hands and jump in the pool together.” It was the mutual endowment effect at its best.

The original CCX member contract required emitting members to: (1) conduct an inventory of all Scope 1 GHG emissions in all North American operations, for years 1991–2001, in order to establish an average baseline year; (2) Reduce absolute Scope 1 emissions by one percent per year below that baseline each year of Phase I, through direct emissions reductions or purchase of CFIs from other CCX members, so that, overall, all CCX members would remain below the established CCX cap.

It is difficult to imagine today, when emitters are closely tracking emissions annually, that, at the time, no entity in the US had ever been asked or required to do such an inventory. And while the inventory perhaps seemed, at first, a tedious and nearly impossible task, CCX members came to understand the advantages of ferreting out their total emissions profile, which could, on the one hand, represent potential costs were GHG emissions to be priced or taxed in the future and, on the other, opportunities for reductions that could, concomitantly, represent savings against such costs.

A critical innovation of CCX was to go beyond carbon dioxide (CO₂), to cover the other five major GHGs: nitrous oxide (N₂O), sulfur hexafluoride (SF${}_6)$; methane (CH${}_4)$; chlorofluorocarbons (CFCs) and hydrochlorofluorocarbons (HFCs). Each of these gases contribute to climate change and many, such as methane, have significantly more dangerous global warming potential than CO₂. It is that potential that is translated to the metric “carbon dioxide equivalent” or CO₂e, the underlying metric of the CFI.

It was because he recognized that baselines and reduction claims of Members would have to be rigorously audited, also an entirely new field, that Sandor had contracted NASD, subsequently renamed the Financial Industry Regulatory Authority (FINRA), to be the official auditor of the claims of CCX members. This built capacity at the NASD to oversee “carbon accounting,” then more or less unknown, and Mary Schapiro, the NASD head, has remained deeply involved in climate issues and environmental discourse since her first forays into the topic of “carbon accounting” through CCX.

Building and maintaining the CCX “club” was a central and demanding task, even when the core arguments were self-evident. For example, a core appeal for CCX membership was to “get ready for regulation.” However, for that argument to be persuasive, the CCX team had to first educate the emitting entity on the regulatory landscape itself.

Critical to the early adopter argument, was the colloquial phrase, “if you are not at the table you are on the menu.”

Or, if CCX argued that an inventory was important to highlight potential energy savings, and therefore an opportunity to reduce emissions and possible carbon tax on those emissions, or what we assumed would be climbing allowance prices in market-based mechanisms, the CCX team had to offer a full-fledged tutorial on the rudiments of cap-and-trade and the principles of carbon pricing.

Over time, CCX honed its arguments and it became clear that for each member, meeting the requirements of CCX membership amounted to establishing a high-value least cost bespoke entity-wide emissions management system, pulling disparate departments, product lines, procurement needs, research and development priorities, risk management and commercial planning coherently together with greenhouse gas emissions as the focal point. This overview of emissions — past, present and future — was a critical business blueprint, as well as a competitive advantage, from which only CCX members were benefiting at the time.

A key recruitment tool created by CCX recruitment teams was the “Discussion Memo” customized for each recruitment target willing to share its known emissions profile with CCX. Based on the emitter’s own data, the Memo calculated a rough buy-sell position for each potential member without charge to the potential member. Also the data supplied to CCX for this initial assessment could be covered by a non-disclosure agreement if the potential member preferred, to guarantee that proprietorial information about the risks or opportunities the potential member faced relative to climate change would not go beyond CCX.

This bedrock discussion document educated the potential member of upside and/or latent liability and exposure that the potential member might face under proposed regulations that the proposed member might not have otherwise discovered or understood. These memos were a significant transfer of strategic value from CCX to entities considering membership, whether or not they eventually joined.

It is important to note that while CCX had a credible mix of buyers and sellers, many notable companies did not join CCX because the discussion analyses projected them as buyers, and so they did not want to incur those extra costs, or feared that if they officially self-identified as a buyer, that might suggest to management or employees an operational shortcoming or that the entity was not taking the climate change threat seriously.

Some companies chose not to join because they had their own ideas about how to proceed on climate change and did not want to join a group effort, i.e., they were not subject to the “club” principles. An interesting sidebar is that Larry Page and Sergey Brin, founders of Google, sought out Sandor at the first annual Clinton Global Initiative (CGI) in 2005 to hear about CCX and were sufficiently advanced in their understanding of carbon sequestration to ask if a wooden table leg could store carbon! In the end, Google did not join CCX.

Nor did major oil producing companies such as Exxon or BP, the latter having been a member of the CCX design committee. BP, did, however, subsequently introduce a trading program of sorts within its own company operations. Rex Tillerson, the then CEO of Exxon, deserves a shout out. Sandor and Walsh were given 45 min to pitch CCX to him. He was well schooled, and unlike others, had no staff with him to answer questions for him. We got a rational response for Exxon’s not joining CCX. Unlike many of the major oil companies, Exxon was solely an exploration company with no trading infrastructure. Tillerson told us his company had other plans to deal with climate change.

In short, CCX membership illuminated that significant emissions reduction was doable, not impossible, likely desirable and surely inevitable. Through research, determination, and sales acumen, CCX defanged fear of managing GHG emissions.

(Overall, CCX was essentially a mini university in pairing emissions management with environmental finance. The objective was a transparent market-based price on CO₂ emissions. Since CCX’s establishment of carbon pricing two decades ago, pricing carbon has continued to be central to academics and practitioners not to mention an elusive global objective since the Rio Summit. And, in 2024, there is still no global carbon pricing structure in place.)

CCX members also bet that as mandatory regulations emerged in the US, emitters who had already reduced emissions ahead of regulation would be recognized for “early action” and benefit perhaps from some relief from the near-term compliance requirements of a mandatory bill. CCX members, thanks to the rigorous auditing of their annual emissions results, were well positioned to prove their “early action” to legislators. The potential for “early action” recognition was a strong recruitment draw for CCX, though CCX made no promises in that regard. Nevertheless, CCX as a whole, and many individual members actively lobbied in favor not only of a mandatory cap-and-trade but for reasonable “early action” recognition.

Thus, even the demanding NASD annual audit required by CCX came to be seen as a valuable tool.

CCX also generated significant media attention, which supported recruitment. In 2007, Sandor was named by TIME Magazine to its “Heroes of the Environment” roster for his work as the “Father of Carbon Trading.”

CCX Annual meetings were not only informational gatherings to brief members on evolving climate change policies and Exchange business, but also truly effervescent and social occasions that were almost always sold out. A mixture of education efforts, interactive luncheon panels and celebratory and convivial dinners solidified and strengthened the mutual endowment effect.

That the CCX administration went to lengths to keep in touch with members was a vital glue and members themselves often found ways to even go beyond what was required, such as Baxter Pharmaceuticals, through Ron Meissen, that volunteered among the voluntary to demonstrate a link between CCX and the EU system. Henry Derwent, an aide to then Prime Minister of the UK, Tony Blair, who was astute to the problem of climate change, made a call on Blair’s behalf to CCX to ask if such a transaction could be executed to illustrate the viability of international trading and hasten internationalization of carbon pricing — Brexit, of course, had not yet happened and Blair wanted the UK to be a leading player in the EU emissions trading system.

Baxter, which had operations in Europe and emissions covered by the EU ETS and thus required to be reduced, agreed to retire some allowances from its EU account to its CCX account, adding the tonnage represented to its CCX baseline, so that tonnage that “went down” in the EU account “went up” in the CCX account, to avoid the false impression that the EU emissions had actually been reduced. Instead, what occurred was that Baxter’s obligation to reduce that specific tonnage in the EU was transferred to its CCX obligation, retaining the environmental impact since the atmosphere is indifferent to where emissions reductions occur.

This important demonstration transfer transaction took a few electronic seconds to occur, also demonstrating operational viability and compatibility among market platforms.

As of this writing, this Baxter transaction remains the only conceptional, operational and transactional linkage that has occurred between the EU ETS and an emissions trading system in the US.

Critical to CCX operations, as well as the intellectual and practical development of the carbon market arena, was the pioneering work CCX undertook in the research, design and implementation of “offset” projects, not to mention their use and integration into the reduction plans of individual CCX members, and the overall emissions reductions achievement of CCX members. The offset program of CCX was led by Michael Walsh in his role as founding Executive Vice-President of CCX, integrating his many years of market experience. Murali Kanakasabai and Nathan Clark, two agricultural economists, were hired for their expertise in the area.

Offsets are projects true to their name — they “offset” emissions, or “avoid” emissions, but they do not, in themselves, “reduce” emissions. For example, the most well-known types of offsets are afforestation or reforestation projects, because most species of trees sequester CO₂, meaning forests in a given setting can offset emissions regardless of where emissions originate. Other offset categories include methane capture from landfills or agricultural products; no-till agriculture, where less CO₂ is released from the soil. Tonnage offset can be measured and verified, and converted to “carbon credits” and sold to emitters seeking to comply with reduction targets, or claiming to be “carbon neutral” in what we call today the “VCM”. Offset credits can also be sold into cap-and-trade systems, depending on the offset acceptance rules of those systems. However, regardless of type, offsets are not in themselves the same as cutting emissions at the source but rather are tools to balance out direct emissions, complementary to direct emissions cuts.

The principle of offsets, though scientifically valid, has long suffered the accusation that to offset emissions, rather than reduce, is to escape responsibility for emissions reduction. Some commentaries have compared “offsets” to the medieval “indulgences” issued and sold by Popes to exonerate followers from debt or reduce their burden of sin.

The notion that offsets are an “easy way out” for emitters continues to shadow all efforts to integrate them into global carbon pricing efforts.

A role for offsets had been built into the Kyoto Protocol framework, mostly to generate cash flow to developing countries, through the system of Certified Emissions Reductions (CERs). CERs derived mostly from projects funded largely by private developers from developed countries who invested in cleaner technologies in developing countries. Then, in theory those investments would generate emissions reductions that could be translated to CER credits and sold by the project owners and developers to emitters who had compliance objectives in the EU ETS, which was at the time directly linked to the CER system. The CER system had both environmental and political objectives. Throughout UN negotiations on climate change, from COP to COP, developing countries rightly balked at the idea that they should bear an equal burden for solving the climate change problem when their economies, emitting less because of being less industrialized, had played little to no role in creating the problem. CERs were therefore conceived to “offset” this imbalance, as it were, by translating the environmental benefits being generated by CER projects in developing countries into cash paid directly to those countries, who could share in CER sales. At the same time, in theory, developing countries would also benefit indirectly from the projects investing in advanced technologies and environmental improvements in their home countries.

The EU ETS framework allowed for emitters to apply a limited percentage of CER credits to their compliance accounts, creating in general a system of developing countries as sellers and emitters covered by the EU ETS as buyers.

However, from the start the CER system was plagued by high verification costs, and insufficient capital investment in project development, compounded by design problems in the early years of the EU ETS that had led to oversupply of allowances, low prices and therefore low CER demand.

Many CER projects developers left the arena as their business cases faltered and eventually the CER system was discontinued.

Recognizing the importance of offsets to help compliance, generate bona fide environmental improvement, and generate cash benefits for the broader community who engaged in project development, CCX built a thriving offset program. A major contribution of CCX was that it embarked on an intensive education campaign with farmers and agricultural organizations in the Midwest, to design and implement offset projects that generated environmental benefits from such practices as no-till agriculture, since less tilling released less CO₂ from the soil; or methane capture from animal husbandry. CCX also developed protocols for reforestation and afforestation projects.

Many of the offsets protocols pioneered by Michael Walsh, Murali Kanakasabai and Nathan Clark and others in the team, though experimental at the time, eventually proved themselves and served as templates for other emerging markets, such as the state wide California cap-and-trade system.

The CCX program was not without its detractors, however, who criticized some CCX offset rules for not requiring “additionality” — meaning emissions reductions had to be additional to reductions that had been ongoing or would have occurred “anyway” and before requirement to do so.

Gauging what is or isn’t additional to existing practice is a complexity that continues to resonate throughout the offset market. In the CCX program, it’s true that CCX did credit some CFIs to farmers who had been practicing no-till before their enrollment in the CCX offset program, which then required the farmer to continue the practice according to contract terms. However, the amount of such “non-additional” tonnage was de minimis in the grand scheme of things. CCX employed strict verification standards and conservative metrics in these cases, and this “grandfathering” enabled farmers to continue their no-till methods without introducing a false interruption, and then additional re-start costs. Walsh and team believed the benefits of recruiting farmers and expanding no-till practice, which had significant environmental benefit and delivered needed revenue to financially stressed farmers, outweighed the criticism.

Over time, CCX generated thousands of dollars to Midwest farmers, who could sell their offset credits to buyers in the CCX system. CCX also generated offset projects to cities for substitution of LED lighting, capture of methane from municipal landfill, etc.

To illustrate the viability of offsets and to endorse the idea of cap-and-trade and carbon pricing overall, the Office of the Administrator of the US House of Representatives became an Associate Member of CCX, which category required that the member undertake a direct and indirect emissions inventory each year and then either reduce or offset those emissions annually to achieve what is known as “carbon neutrality,” meaning that a given enterprise does not increase the burden of GHGs in the atmosphere in a given year. The Administrator’s CCX membership covered all emissions generated directly and indirectly by the operations of the US Capitol building, which did have its own small fuel-burning plant, in addition to purchasing power. To meet the terms of its CCX membership, the Administrator’s office introduced cleaner fuels for the fuel plant, to cut emissions at the stack. To address the rest of its emissions from purchased power, the Administrator bought offsets through the CCX system from suppliers, including many farmers, across the nation. This broad reach helped build political momentum for the legislation then being sponsored and nursed along by US Congressmen Ed Markey of Massachusetts and Henry Waxman of California that required nationwide emissions reductions and incorporated a cap-and-trade system. Commonly referred to as “Waxman–Markey,” this was the first legislation being taken up by the US Congress on climate change since the Earth Summit in 1992.

CCX even generated a breakthrough project in Kerala, India, to address a constant problem of unhealthy air in village homes where cooking depended on the burning of firewood or manure. Through the initiative of Dr. Murali Kanakasabai of the CCX offsets team, CCX worked with a local community group, Andhyodaya, that had introduced biogas cooking stoves that though they improved immediate air quality, also emitted methane, a potent greenhouse gas. Working with hundreds of local farmers CCX and Andhyodaya developed standards for improving the operation of the biogas stoves to reduce methane emissions, verify those reductions, and then translate the emissions reduced into CCX CFIs that could be sold to CCX emitters on the other side of the world. In addition, in a true innovation, Andhyodaya was able to engage the local Bank of Kerala, which agreed to pay cash directly to villagers who presented documentation of the methane reductions, speeding up and ensuring the benefit to villagers, with the bank taking the risk that market prices on CCX could fall below what the bank had paid upfront to villagers.

Of course, throughout this period, CCX recruited staff and Sandor made a particular effort to recruit an enthusiastic team just out of college. Not only did he believe in educating the next generation in the principles of environmental markets and emissions trading, he understood that recent graduates fit the CCX start-up mentality well, bringing fresh inspiration to their work, without the weight of professional preconceptions, otherwise known as “baggage”!

In fact, after a presentation by Sandor and some of the CCX team to a not-for-profit organization from Oregon, Sandor was asked “Do you have anyone working at CCX over 30?”

On the policy front, CCX worked tirelessly to help pass the Waxman–Markey legislation and was a member of US CAP, a coalition of pro-legislation entities, including CCX members. For example, Honeywell a CCX member, hosted policy strategy sessions at its office in Washington, DC and CCX members signed a collective letter supporting the legislation.

Sandor testified at various US Congressional hearings, holding forth on the value of CCX to supporters and naysayers alike. As it grew, CCX had members, participants and supporters in just about in every US state. This meant that even when then US Senator from Oklahoma, James Inhofe, perhaps the most vocal climate change denier in the US Senate at the time, declared his belief at a hearing that his state had no stake in the climate change problem, Sandor was able to graciously rebut with the fact that the University of Oklahoma, a football powerhouse in the United States, was a member of CCX.

CCX staff also traveled the world to brief regulators on CCX, encourage mandatory cap- and-trade and/or undertook discussions with numerous existing stock and commodities exchanges about possible partnerships and linkages including in Australia, Chile, Brazil, New Zealand and Japan. Eventually, CCX had members around the world, such as the City of Melbourne. In this sense, CCX was a de facto international system with CFIs trading across borders.

In addition to being a “first” itself, CCX pioneered other emissions management frontiers, such as

As previously reported (DiPerna, 2018): “By the time CCX ended Phase II in 2010, the program-wide baseline of 680 million metric tonnes CO₂ was one-third the size of Europe’s EUETS, and double the combined size of the RGGI and California programs at the time, which meant that during the days of CCX, the USA had more emissions under a managed cap than Germany, which then had the largest National Allocation Plan in the EU ETS. CCX members represented 17% of the Dow Jones Industrials, 11% of the Fortune 100 and 20% of the largest emitting utilities in the USA.”

Summarized by Michael Walsh, former Executive Vice-President of CCX, accomplishments of CCX included:

Figure 2 displays the distribution of CCX (Chicago Climate Exchange) membership across the United States. Each marker represents a member’s location and the map highlights the widespread, national participation in the CCX, including members from electric power generators, manufacturers, retailers, governments and universities.

Overall, CCX was, on reflection, a commercial labor of love, brimming with the verve of a start-up and balanced by the lifelong expertise of the principals and members.

The CCX story is rich and nuanced, and further details about CCX have been written by the authors elsewhere, and can be found in other publications cited in our Bibliography.

In those same publications, we also detail our foray to China to launch China’s first pilot cap-and-trade, the Tianjin Climate Exchange (TCX), a joint venture between the city of Tianjin and the China National Petroleum Corporation (CNPC), a division of Petro China, a state-owned enterprise and the largest company by market cap in China at the time. Negotiations kicked off in 2005 over a small dinner in Beijing between Sandor, DiPerna, Jeff Huang, a markets expert representing CCX in China, and the eventual partners. TCX opened for business in 2008, a milestone that also marked the first time a US entity was granted shares in a Chinese financial institution, let alone China’s first actual carbon market. Suffice it to say here that helping to bring emissions trading to China stands as among the most memorable and prideful achievements of the authors, not only because China was at the time and remains today the world’s largest emitter of GHGs, but because the journey to success was entirely nonlinear and unpredictable.

Every day of discussion with our partners, the horizon both approached and receded.

There were never any plateaus or take-a-breath periods, and every trip connected with our joint venture was both exhausting and thrilling, punctuated by numerous dinners, negotiating sessions, long walks to wind down and, culminating, at last, in Sandor actually signing by hand 26 copies of the final contract legal establishing the joint venture, then formally sealed at a VIP public ceremony complete with a cannon shot of golden confetti.

Establishing TCX required not only belief in the dream that we could transfer the CCX passion to China, but true physical stamina, and we were successful because, even if we did not frame it to ourselves as such as the time, we were building a lighthouse in the Coasean sense of the word, and expanding the CCX endowment effect, in the sense of Jack Knetsch. That our partner in China, the gargantuan oil company Petro China, was thinking beyond fossil fuel extraction to the counterweight — emissions reduction — was also a great leap of faith and vision on its part, and entirely voluntary as no formal reduction requirements yet existed in China’s economic planning.

Ultimately, however, despite sparking emissions trading in China, and even though CCX did extend into a Phase II, which ran until 2010, the failure of national cap-and-trade legislation in the US meant that the core raison d’etre of CCX and its early adopter model that anticipated mandatory rules, no longer applied.

CLE and all its exchanges and subsidiaries, including CCX was purchased by the Intercontinental Exchange (ICE) at 7.50 pounds per share in 2010. The return was largely driven by the value of the ECX; CCX served as the gateway and enabled the financial success of the enterprise.

The investors were happy with a 7.5x return on their investment and for some early investors even more. CCX had gifted equity in CLE to the Joyce Foundation in an amount equal to the original grants, and so when CLE and CCX were sold, the Foundation’s original confidence in the CCX idea was repaid with a premium. This repayment of a grant was a novel event in philanthropy, to match the novel nature of having the Jesuits as original private investors and both were highlights of the CCX success story.

ICE gradually wound CCX down, selling its shares in TCX back to the original partners, while maintaining ownership of ECX, which continues to thrive in conjunction with the EU ETS and other emerging regimes.

Meanwhile, in China, other pilot markets had followed TCX, and in 2021, China opened its national cap-and-trade system, covering the power sector only. As of the end of 2023, China’s national ETS covered more than 2,000 companies from the power sector, and a total of 422 million tons of emission allowances had been traded, with a transaction value of nearly 25 billion Yuan ($3.5 billion). Yet, there were evident shortcomings in the development of institutional construction and the regulatory system. The potential for data fraud remained a major concern. In response, on February 4, 2024, the State Council in China announced the “Interim Regulations on Carbon Emissions Trading Management” (the “Regulations”), which aimed to provide a legal framework for the operation of China’s ETS and designate the State Council’s ecological and environmental departments to oversee and manage carbon emission trading. The Regulations also give authorities more power to investigate and punish companies for trading-related violations and emission data fraud.

Starting in 2024, China’s emission trading scheme (ETS) was expected to support the country’s peak carbon peaking goal by 2030. In 2023, the annual average trading price for China Emission Allowances (CEAs) reached Yuan 68.15/mt CO₂e ($9.62/mt CO₂e), up 23.24%, and the trade volume was 212 million mt CO₂e, jumping 316%, as reported by the Shanghai Environment and Energy Exchange (SEEE), which tracks carbon trading trends in China.

So, what after all, is to be learned from the CCX journey?

Others picked up the baton on both mandated and voluntary markets. Tables 3 and 4 illustrate the success of mandated markets at the regional and state levels. In fact, voluntary markets particularly have surged during and after CCX.

There has been a remarkable growth in the state-wide and regional carbon markets in the US. Table 3 shows the breadth and depth of those markets. In fact, most observers do not realize that the market breadth, i.e., open interest of compliance carbon and other environmental commodities markets, is the size of the gold market from an open interest perspective. Because the federal government of the US has failed to establish a national regulatory structure for carbon markets or emissions reduction, there is a misconception that there has been no reduction efforts in the US. However, bi-lateral activities, as well as leadership by the state of California and the RGGI system have kept significant momentum going. It is worth noting that rules requiring seat belts in automobiles in the US came into force starting at the local level, and the federal government followed. Perhaps this scenario will repeat itself with environmental markets.

However, a lack of price transparency exists, due to the heterogeneity resulting from numerous un-connected registries and heterogenous project types.

Overall, the charts above suggest that the voluntary market was thriving. Figure 3 displays the annual number of credits issued (in green) and credits retired (in black) from 2007 to 2022. The bar chart illustrates an increasing trend in both issued and retired credits over time, with significant growth observed from 2017 onwards. This reflects growing participation in carbon offset markets and growing demands for carbon credits as the world transitions to low-carbon and more sustainable practices. This figure is adapted from “Carbon Credits and the future of sustainable business: Exploring best practices,” by Jennifer L., 2023, using data from UC Berkley Voluntary Registry Offsets Database (Haya, Abayo, So, and Elias, 2024). Nonetheless its success and bi-lateral nature has led to recent criticism and what appears to be a decline in activity. In fact, environmental, social and governance investing (ESG) in general has become a lightning rod for many who oppose environmental markets.

As said earlier, core criticism of the VCMs derives from suspicion of offset allowances, credits or other financial instruments being traded because their underlying “commodity” is not a direct emissions reduction, i.e., an outright reduction of emissions at the source. Instead, transactions in today’s VCM consist of credits or allowances issued, registered and traded that are based on indirect reduction through offsetting emissions, or avoiding emissions.

Offsetting continues to be criticized in some quarters for being an “easy” alternative to the hard work of eliminating greenhouse gas emissions altogether. Figure 5 displays the average price of carbon offset credits by project type for the year 2020, 2021, and 2023. The project type includes AFOLU (Agriculture, Forestry, and Other Land Use), Energy Industries, Fugitive Emissions, and Energy Efficiency. The data in the figure shows a significant increase in prices over the recent years, with AFOLU projects reaching the highest price at $8.64 and Energy Efficiency at $9.82 in 2023. This figure is adapted from “Xpansiv Carbon Market Review: Trading Insights from 2022,” by Xpansiv, 2023. This suspicion fuels long-standing tensions between industrialized and non-industrialized nations since, like the original CER market, the VCM largely depends on projects undertaken in less industrial countries, notably those in the global south endowed with extensive rainforests, for example, that will generate credits that emitters in industrialized nations seek to buy. While profits from an offset project can accrue to project developers in less industrialized nations, even governments, the idea that countries without significant emissions history are supplying offset credits to the countries that, on the contrary, have been the major sources of emissions, can further fuel long-standing resentment between “rich” and “poor” countries.

These suspicions and international dynamics can at times seem intractably ideological, to the detriment of progress on the complexities of meeting the climate change problem.

Figure 4 illustrates the number of retired offsets (in millions) within major carbon offset registries, specifically VCS (Verified Carbon Standard), Gold Standard, CAR (Climate Action Reserve), and ACR (American Carbon Registry). The green sections of the pie chart represents the portion where data has been entered, while the pink sections represent the portion where no data is entered to indicate who has claimed credit for the retirement. The data in the figure indicates significant amount of missing data in major registries. This figure is adapted from “Analysis: How some of the world’s largest companies rely on carbon offsets to ‘reach net-zero’,” by Josh Gabbatiss, 2023, using data from Berkeley Carbon Trading Project’s Voluntary Registry Offsets Database

However, even if one were to ignore suspicions and ideology, the ultimate environmental efficacy of the VCM can be difficult to assert since, to date, the market remains a network of pairs of willing buyers and sellers, who for the most part are not bound by any fixed, i.e., mandatory and regulated, emissions reduction targets. In essence, this bi-lateral structure means that participants can abandon their action plans at any time, without penalty other than, perhaps, reputational tarnish for reneging on commitments to address climate change.

Rather than being covered by compliance cap-and-trade requirements, emitting enterprises in the VCM undertake subjective commitments, such as to be a “net zero” emitter by 2050 or 2030 or another chosen date. Or to be “carbon neutral” by such a date. Or to invest a given sum in low-carbon projects by a given date and so forth.

Determining what is and isn’t “net zero” remains elusive since baseline dates, delivery dates and boundaries of emissions included per claimant are not standardized.

To monitor claims of environmental benefit made by emitters, or what we might call the “demand” side of the VCM, a non-profit monitoring group called the Voluntary Carbon Market Integrity Initiative (VCMI), was formed whose mission is to “enable high-integrity VCMs that deliver real and additional benefits to the atmosphere, help protect nature, and accelerate the transition to ambitious, economy-wide climate policies and regulation.” The VCMI, itself entirely voluntarily constituted, requests emitters who are making claims of “net zero”, etc. to submit their claim to the VCMI, which will then assess the validity of the claim using a VCMI-developed rubric and provide the claimant feedback, perhaps making its findings public as well.

To monitor what we may call the “supply” side of the VCM, the Integrity Council for the Voluntary Carbon Market (ICVCM), also non-profit, was formed, also tapping experience and expertise from across sectors, to create its Core Carbon Principles (CCPs) and Assessment Framework (AF). According to the ICVCM, the CCPS and the AF “will set new threshold standards for high-quality carbon credits, provide guidance on how to apply the CCPs, and define which carbon-crediting programs and methodology types are CCP-eligible.”

Both the VCMI and the ICVCM developed from an umbrella effort started in 2021, known as the Task Force on Scaling Voluntary Carbon Markets (TFVCM), that recognized that some form of voluntary action was needed to supplement mandatory rules, and its mission was to “scale an effective and efficient VCM to help meet the goals of the Paris Agreement.”

There are also other various offset project verification standards, numerous registries to track serialized “credits,” and many private companies and project developers participate in both the supply and demand side of the VCMs. Various blockchain platforms have also come into existence to manage the chain of custody for credits generated by VCM projects.

However, despite a rather massive effort to cleanse suspicion from the VCM, that suspicion persists, exacerbated by headline stories of outright fraud.

Of course, natural systems are not mechanical engines, and it must be said that verifying offset projects to ensure that, indeed, environmental benefits have occurred is complex and vulnerable to many vagaries. There can be much unpredictable interference with the projected environmental benefits of a project, such as that reforested areas can burn down in wildfire or newly planted trees can be blown down in extreme storms. Also, measurement of benefits, such as actual carbon sequestration, is technologically complicated, can fluctuate with the weather changes inherent in climate change, and can become expensive. Contracts between offset project providers and buyers can include caveats to cover variables, of course, and projects can be insured against financial loss. However, overall, keeping offsets programs credible requires expert scientific knowledge and vigilance, and sophisticated project maintenance and financial acumen to ensure that project developers can maintain sufficient profit to not only stay in business, but physically maintain the projects themselves.

The profit margin of a project developer depends on the price a buyer is willing to pay and this going price varies considerably between compliance markets and the VCM.

Even though in 2024 there were numerous national cap-and-trade mandatory systems, the largest being the EU ETS covering mostly the power and industrial sectors, many direct and indirect emitters remain outside of mandatory compliance systems but, nevertheless, aim or at least claim to intend to help solve the problem of climate change.

The VCM is their most available pathway to implement their claims and intentions and Article 6 of the Paris Agreement continues to make valiant efforts to reconcile and resolve the complexities of how today’s VCM can advance Paris agreement goals.

China too participates in the VCM, relaunching in January 2024 its customized financial instrument, the China Certified Emission Reduction (CCER), which had been paused for new project registration for six years. CCERS will be integral to the national compliance structure since, under current rules, CCERs can cover up to 5% of an emitter’s annual emissions obligations that total more than 4 billion mt CO₂e. This will translate into over 200million mt CO₂e of annual CCER demand, equivalent to at least 50% of annual global VCM trade, according to Ecosystem Marketplace volumes data.

Though the volume and scale of the VCM in 2024 dwarfs the size of the CCX offset system when CCX ended in 2010, that CCX included a collective “cap” and emissions reduction coherence, while the VCM does not, is vital to understanding the importance of a collective approach to climate change, and the urgent need for a coherent global carbon pricing system.

Otherwise, while the VCM can continue, if it remains outside bona fide compliance systems, there is a high risk that VCM prices can never rise high enough to maintain the level of investment needed to generate offset projects at the scale required. Ultimately, only a cap, i.e., a constantly reducing number of permissible emitted tonnes, can drive sufficient demand for offset credits at a price at least as high and ideally higher than the cost of emissions mitigation.

This in no way implies that a well-organized Over The Counter (OTC) cannot be effective. To the contrary, the international swaps market is a perfect example of an efficient interest rate hedging market. However, it is highly organized with mutually designed documentation, clearing, etc.

What about environmental derivatives? The first VCC futures were listed at the CCFE-CCX CFI Futures in 2007. They were delisted after the sale of Climate Exchange. More recently, the CME, ICE and Nodal Exchange (in partnership with IncubEX) have launched VCC futures. The CME is the leader in this limited market. In our opinion these markets have yet to really take root because of the heterogeneous nature of the offset market. That may change.

On December 21st, 2023, the CFTC introduced a paper on VCM Guidance. It represented an important steppingstone in the formalization of the optimal organization of these markets. The paper urges DCMs, i.e., exchanges, to consider “quality standards,” tracking, additionality, etc. The CFTC guidance speaks to governance that, in our opinion is the key ingredient in designing and optimum market structure for a regulated VCM. It is interesting to note that much of the guidance covered the very same issues that CCX dealt with two decades earlier.

7. Reflections and Recommendations

Returning to the debate over the lighthouse work of Ronald Coase and the relative roles of private and public sector players, CCX did not seek to prove that a voluntary effort by the private sector, even that governed by standardized rules in a standardized framework, could or should be substituted for governmental regulations and efforts. On the contrary, CCX was founded on the very expectation of governmental regulations, the appearance of which would only strengthen the business model as the early adopter approach would have “corralled” market participants who might well elect to stay with the CCX trading platform as mandatory regulations gradually subsumed and transcended the CCX reduction schedule. Moreover, as we described above, CCX worked tirelessly to advance the Waxman-Markey legislation.

Far from asserting a position of the role of the private sector versus the public sector, CCX represents perhaps an example of an optimum way to achieve a workable blend — namely, in the absence of a clear mandatory signal, to tap into the pent-up urges of volunteers to act by providing them a framework to channel those urges and a rules-based multi-lateral system to smooth out differences among them so as to achieve a greater social good for all, in this case, broad education across the economy on the role cap-and-trade could play in addressing climate change and significant emissions reductions during the period CCX operated. These broad achievements, we would argue, could not have been attained through mere bi-lateral arrangements among interested parties. Though bi-lateral arrangements may indeed have generated social and environmental benefits in themselves, they would not have become a sum of their parts to coherently achieve a broad social objective. We argue, therefore, that the achievement of generalized social objectives by private sector actors that are visible and credible to society at large, ultimately, does require multi-lateral rules-based frameworks. And transparency and symmetry of all information involved.

However, because CCX was voluntary and was attracting many participants across all sectors, traditional environmental organizations, who were also tirelessly working in favor of mandatory national climate change legislation — some in favor of cap-and-trade and some not — often misconstrued the important sentinel role CCX played, taking an either/or position. Some went so far as to state publicly that entities in the public sector should not join CCX because participation in a voluntary scheme could, de facto, imply mandatory rules were not needed, thereby weakening the political resolve to secure mandatory rules. For example, the US state of Maine at the time had passed state-based legislation calling for emissions reductions, and CCX actively tried to recruit the state to join CCX as CCX could serve as an implementation tool for the state’s legislation. Still, when some environmental organizations published a public letter asking the state’s Governor not to authorize his state to become a CCX member, recruitment discussions with the State ended.

One could argue that this opposition to CCX by those who were not intrinsically involved in its creation represents a “reverse endowment effect,” and we discuss this below in our Lessons Learned.

CCX withstood various criticisms, some valid and many invalid. Others are invited in different venues to discuss and debate these. This is not our purpose here. This paper is devoted to the origins of CCX and to learn what its impact may have been in informing future developments in environmental markets. That story continues unfolding today.

8. What Did We Learn?

9. Why Look Back?

As we face the increasingly complex challenges of climate change, why is the CCX experience still relevant and worth reviewing? First, because the world still needs breakthroughs to address the problem and most especially a credible, transparent international compliance-based carbon pricing mechanism. CCX proved such a system can be established.

Also, breakthroughs require an understanding of what came before, what has worked or not, and why. If we do not understand the history of an effort, we are bound to start over for no reason, introducing duplication and repetition that could be avoided.

While the EU, China and all nations have undertaken to address the climate change problem through the 2015 Paris Agreement, with many nations planning to use carbon pricing as a tool, the US remains largely outside carbon pricing momentum. In fact, with the failure in the US of the Waxman–Markey legislation, the United States lost its intellectual and practical leadership role in mandatory carbon pricing, and this set back the world. Carbon trading desks closed globally, institutional knowledge dissipated and likely the family of nations lost a decade or more in the battle to stem climate change as a result.

We can also wonder if CCX could be created today. Would there be a sufficient cadre of visionary leadership in the C-Suites and on Boards of Directors? Is there now too much confusion, even suspicion, of offsets and the voluntary market to tap into the “early adopter” psyche? Is there sufficient behavioral momentum to do what is required to stem climate change, now that nearly three decades have passed since the original Framework Convention on Climate Change was ratified and came into force.

10. Going Forward: Some Possible Practical Steps

Even though CCX has left the world stage, its meld of relevant concepts from Knetsch, Buchanan and Coase still apply today, and we would like to make some practical recommendations for building upon its experience and accelerating the use of carbon markets and cap-and-trade to address climate change.

11. Conclusion

Easy things are easily done, but stemming climate change is far from easy. Courage, dedication, and vision are important ingredients in transformations.

It is hope that the observations made in this paper, and the CCX real-world example revisited, can accelerate the world’s efforts to confront climate change, re-inspire those who are striving so hard to address the problem, and recover lost time. There is none to lose. The low-cost solution and accompanying market architecture already exists. Use it! Please!

Acknowledgments

This paper is written in honor of Ronald Coase. His friendship, support and encouragement to author Richard Sandor over 40 years was invaluable. The paper also honors the work and memory of Maurice Strong, Les Rosenthal and Carol Brookins. The authors wish to thank the Coase Sandor Institute for their support. Yusun Zhang provided valuable research assistance. We also wish to thank Lynne Kiesling, Rafael Marques, Mike Walsh, Dan Scarbrough, Fran Kenck, Julie Sandor and Elijah Ludden for their input and comments. Iris Chaoui-Boudrane provided important organization skills and editorial assistance. Levi Haas also contributed to the editing. A special thank you to Jeff Huang for expanding CCX’s efforts in China. Dr. Xiansheng Dai of CNPC was tireless in establishing the TCX. Financial markets often underestimate the importance of liquidity providers (market makers). The CCX was no different. Keith Bronstein played a pivotal role in the success of the Exchange. Richard Sandor cannot overestimate his professional support and personal friendship for more than five decades. A special shout-out to Neil Eckert, the Board of Climate Exchange Plc., and the Board of the CCX. For over four decades, through thick and thin, Sir Brian Williamson was always there with his friendship and extraordinary advice. The management and employees of CCX were a pleasure to work with. They were all professionals who enjoyed the challenge.

Author Sandor offers a special shout-out to ICE and its founder, Jeff Sprecher, who were incredible partners to the CCX effort. As always, the strongest thank you goes to Ellen Sandor and the family. Paula DiPerna also offers the above thanks. She is also the author of the book, Pricing the Priceless: The Financial Transformation to Value the Planet ... (Wiley), a global environmental policy consultant and Special Advisor to CDP.

Appendix. Members of Chicago Climate Exchange