Emissions Accounting Revisited

Why Scope 3 Matters

Ed. note: McGee here…wanting to update all of you on some important thinking that’s happening behind the scenes at WattCarbon. Fair warning, I wrote this in one sitting and have only barely edited it. But I felt like it was important to share with all of you. There will be more to come, I’m sure of it.

Emissions Accounting for Impact

The challenge of global warming is similar to an overflowing bathtub. The water is coming in faster than it can drain out and the floor is getting soaked. There are basically two options: put towels on the floor or turn down the water.

Carbon offsets are like putting towels on the floor, but as we all know, the real goal is turning down the water. It’s going to take about $10 trillion in capital aimed at decarbonizing energy in order to turn down the water enough to prevent catastrophic climate change, but that’s the job in front of us.

In the world of carbon accounting, the emissions that are caused by burning fossil fuels are called Scope 1 emissions. In our everyday lives, these emissions come from driving a gas-powered car, heating water or air with a gas furnace or water heater, or even grilling in your backyard. Another big source of emissions is from power plants. This is such a big problem that these emissions get their own Scope. When companies report their Scope 2 emissions, they are reporting the proportional emissions from the power plants that deliver electricity to them. They get to mitigate their Scope 2 emissions by reporting a second set of numbers that take into account purchased clean energy. So Scope 2 gets divided into “locational” and “market” emissions.

Then there is this nebulous category of Scope 3 emissions. One way to think about it is “everything else”, but really Scope 3 is the sum total of everyone’s Scope 1 emissions. If we got rid of all Scope 1 emissions, there would be no Scope 3 emissions (or Scope 2 for that matter).

Generally, the purpose of this emissions accounting framework is to provide a way to think about how to apportion responsibility for emissions. Scope 1 is everything that is directly under your control. Scope 2 is the subset of emissions that are directly related to electricity production (and district steam heating). And Scope 3 is everything else not under your control outside of your electricity usage related to your business (or life if you are thinking of it as an individual).

Framing it in terms of Scopes also helps us design solutions. Scope 1 emissions must be reduced on an absolute basis. The reason we have Scope 2 emissions is to incentivize more renewable energy generation. But Scope 3 emissions has long been a head-scratcher for me. Why bother? It’s very imprecise, a lot of work to compile, and not particularly actionable.

My Big Revelation

The big brouhaha last week over the SBTi’s flip-flopping on carbon credits got me thinking differently about Scope 3. As expected, SBTi’s own research casts significant doubt on the effectiveness of “putting towels on the floor.” But SBTi’s contorted logic raised an interesting question: what if your sustainability efforts helped reduce emissions in the first place? What if by investing in reducing your own Scope 3 emissions, you helped someone else lower their Scope 1 or Scope 2 emissions? This could be a game changer!

Stepping back for a second, Scope 3 is - by definition - emissions that belong to someone else. We literally double count emissions when we add them up. All Scope 1 equals all Scope 2 plus Scope 3. And at least for the subset of Scope 3 emissions that stem from the combustion of fossil fuels, any reduction in Scope 1 or Scope 2 emissions must result in a reduction of Scope 3 emissions.

But because Scope 3 emissions are effectively shared, any reduction in Scope 1 or 2 emissions results in lower Scope 3 emissions for everyone. It’s a classic public goods problem. Nobody benefits all that much from reducing Scope 3, so it’s in nobody’s particular interest to do anything about it.

Fortunately, economists have a solution! Paul Romer won the Nobel Prize in Economics a few years ago for pointing out that investment into public goods was possible if you got a specific benefit for it. For example, inventors publish their work because they’ve already benefited by developing specialized know-how, even if other people come along and copy their inventions.

Here’s what economists would suggest: be explicit about assigning credit for Scope 3 emissions reductions. Make it individually worthwhile to participate in the creation of a public good. Give credit where credit is due for turning off the tap.

Is this Different than what WattCarbon already does?

This revelation is more of a Gestalt switch than anything else. WattCarbon already certifies EACs based on reductions in Scope 1 and Scope 2 emissions, but I’ll be the first to admit that we’ve been a bit hand-wavy on the ownership and double-counting question. We’re now able to say with a lot more specificity who owns what.

Here’s how it will work. All EACs are assigned to a particular Scope. Scope 1 and Scope 2 EACs have to stay with the original owner of the emissions. These are simply a certification of reductions that have been achieved. Scope 3 EACs can not be claimed by the original owner of the emissions. They have to be transferred to a third party. Scope 1 and Scope 2 (locational) EACs are automatically retired on behalf of the owner. Upon retirement, a Scope 3 EAC is created that can be assigned to a third party (this includes selling the EAC).

By being more explicit about EAC ownership, we’re also aligning incentives the right way. In order to unlock a Scope 3 EAC (which has potential monetization value), you first have to achieve a Scope 1 or Scope 2 emission reduction. This means that any organization looking to claim Scope 3 emissions reductions has an incentive to help you reduce your Scope 1 or Scope 2 emissions.

Imagine now that your favorite local company is trying to get to net-zero Scope 3, but they want credit for turning off the tap (to return to our metaphor), not for adding towels to the floor. They help you install a heat pump that generates Scope 1 emissions reductions for you, but you can then give this company the sole rights to all of the Scope 3 EACs that come from this project. The company gets a legitimate claim to reducing Scope 3 emissions (what our economist friends said was necessary to elicit investment into public goods), while you’ve done the heroic work of reducing Scope 1 emissions, but haven’t had to bear the full brunt of the cost yourself. And there’s no inappropriate double counting.

What’s next?

We’ll start rolling out features over the next couple of weeks that highlight this change in the concept of EAC ownership. The only other visible change will be showing Scope 3 EACs in units of carbon (rather than MWh or MWhe). We also have a few big product announcements coming in the next month or so where this thinking will feature prominently. Stay tuned!