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Carbon offset programmes aim to lower emissions by allowing high-income countries to meet part of their reduction targets by financing projects in low- and middle-income countries. Evidence from China—one of the world’s largest suppliers of these projects—suggests that non-additional offsets (i.e. those that would have happened anyway) can in fact exacerbate environmental damages.
How do we cut carbon emissions without slowing economic growth? One way is through offset markets: markets to buy reductions in emissions from parties all over the world. Offsets are meant to incentivise projects that cut emissions. Instead of reducing emissions themselves, firms or countries can pay others to do so on their behalf. This trade in abatement can potentially lower the costs of bringing emissions down.
We study the Clean Development Mechanism (CDM), the world’s largest carbon offset programme, and find that it failed to reduce emissions in a key setting: China’s manufacturing sector (Chen, Ryan, and Xu 2025). In fact, firms that received CDM projects saw their emissions increase by 49% over four years. This is the opposite of what they had projected when applying to the programme, claiming emissions would fall by 20%. Why did this happen? And what did it cost the world in terms of increased damages from emissions?
How are offset markets supposed to work?
Offset markets aim to deliver emissions reductions where they are cheapest. In theory, if one firm can abate more efficiently than another, then that firm should cut emissions the most. Offsets allow the high-cost party to buy abatement from the low-cost party, thereby creating gains from trade for both.
Environmentally, this trade should not affect total world emissions, as the offset only changes who abates, and not the total amount. But offsets will only keep global emissions fixed if the offset-funded projects are additional, that is, if they would not have happened without the offset payment. Otherwise, the seller gets credit for a reduction that would have occurred anyway, and the buyer uses offsets to keep their own emissions high. In this case, of non-additional offsets, allowing offset markets increases global emissions.
What is the Clean Development Mechanism?
The Clean Development Mechanism (CDM) was established under the Kyoto Protocol to allow firms in high-income countries to meet part of their emissions reduction targets by financing projects in low- and middle-income countries. In return, they received tradable carbon credits, known as Certified Emissions Reductions (CERs).
Over 3,000 CDM projects were implemented across 80 countries, generating 2.2 billion tons of CERs. China was the programme’s largest supplier, with projects concentrated in manufacturing sectors and focused largely on waste gas/heat utilisation, energy efficiency upgrades, and fuel switching.
The CDM attempted to enforce additionality through a regulatory review process. Firms submitted project proposals, including cost and return estimates, and a central board rejected those that appeared privately profitable. Only investments deemed too costly to occur without offset revenue were approved.
What actually happened to emissions?
We combined CDM project data with administrative data on fuel use, emissions, and output from Chinese manufacturing firms. This allowed us to compare firms that participated in the CDM projects with matched firms that did not.
Emissions at CDM-registered firms rose by 49% over four years. Firms that proposed but were rejected saw emissions rise by 25%. Emissions intensity, defined as emissions per unit of output, remained flat.
These results are surprising, if not shocking—offsets are supposed to reduce emissions, but emissions at firms that sold offsets went up! Some prior research has found that offsets do not reduce emissions as much as claimed (Badgley et al. 2022, Calel et al. 2025). But even these findings are for less-than-claimed reductions, rather than an outright increase.
Figure 1: CO2 emissions increased for both registered and proposed CDM projects after implementation
Figure 2: Installation of waste heat recovery system in a coking plant in Qian’an City, China (CDM #909)
Why did emissions increase under CDM?
Figure 3: CDM's financial benefits to participants but substantial negative social costs
To understand why emissions increased, we developed a model of firm investment and offset approval. In this model, there are two reasons why firms undertaking CDM projects have their emissions go up.
- Selection: High-growth firms were more likely to apply and be approved. In these cases, efficiency upgrades funded by offsets made expansion easier. Even among firms whose projects were additional—who would not have invested without CDM support—emissions increased due to growth.
- Better technology actually causes emissions to rise: Firms became more efficient, in turning emissions into output, but used those efficiency gains to expand production rather than cut back on emissions.
We use the model to break down the 49% emissions increase:
- 70% of the emissions increase came from selection: high-growth firms were more likely to participate.
- While 30% came from the scale effect of efficiency-driven expansion.
What was the climate cost of CDM?
We estimate the private benefits from CDM trading were modest: US$7 per ton for Chinese firms and $14 per ton for European buyers. But the climate damages from increased emissions were much higher: $89 per ton. The result: a global welfare loss of roughly $65 billion from CDM participation by Chinese manufacturers.
Can offsets be part of climate policy?
Our research identifies two fundamental problems with offset markets:
- The voluntary aspect of the opt-in. Firms can opt in to selling offsets when it benefits them, which leads to the offset buyer paying for projects that would have happened anyways.
- The projects themselves do not regulate emissions but technology. Firms adopting new technology or capital equipment may, as we find here, actually increase emissions. Offsets in the CDM often subsidise ‘green’ investments, rather than paying directly for emissions reductions.
A better alternative is a large-scale system that covers all sources, regulating emissions rather than technology. These challenges continue to remain relevant. The Paris Agreement’s Article 6, China’s new Certified Emissions Reduction programme, and India’s new carbon market regulations all allow offset trading under rules similar to the CDM (Asia Society Policy Institute 2024, Bureau of Energy Efficiency n.d.). Without looking to redesign the existing systems, future markets risk repeating the same problems we document here.
References
Asia Society Policy Institute (2024), "ETS status: China."
Badgley, G, J Freeman, J J Hamman, B Haya, A T Trugman, W R L Anderegg, and D Cullenward (2022), “Systematic over‑crediting in California’s forest carbon offsets program,” Global Change Biology, 28(4): 1433–1445.
Bureau of Energy Efficiency (n.d.), "Carbon market," Ministry of Power, Government of India.
Calel, R, J Colmer, A Dechezleprêtre, and M Glachant (2025), “Do carbon offsets offset carbon?” American Economic Journal: Applied Economics, 17(1): 1–40.
Chen, Q, N Ryan, and D Xu (2025), “Firm selection and growth in carbon offset markets: Evidence from the Clean Development Mechanism,” Unpublished manuscript.
