The rationale for carbon pricing. There is growing agreement amongst authorities, businesses, and the financial community on the fundamental role of carbon pricing in the transition to a decarbonized economy.

Putting a price on carbon emissions is seen as one of the most effective ways to tackle climate change. It is often referred to as the polluter pays principle. Implementation of carbon reduction policies means that heavy emitters are penalized and greenhouse gas emissions reductions are promoted.

International agreements on climate change through which countries have committed to national contributions to global emissions reductions mean that policymakers have been looking for tools to reduce companies' reliance on business models and technologies that are responsible for those emissions.

Policymakers have several tools at their disposal, all of which are being used to some extent. Firstly, they may simply ban particular products or processes that generate emissions. Another alternative available to governments is to impose a tax on each tonne of carbon dioxide emitted. The advantage of such systems of taxes is predictability. However, the success will depend on the carbon tax rate and the extent to which companies can pass on the carbon costs to their end consumers.

Alternatively, they may use an emissions-based permit trading system. This is a market-based system. Industry participants are allocated emissions permits, but any unused permits may be sold in the market to other industry participants that require extra permits. This trading of permits allows supply and demand to determine a market price for those emissions permits, and therefore, the cost of carbon emissions. Emission trading systems are commonly used in many regions around the world. By putting a price on carbon, these markets are reshaping incentives for firms.

They influence firms' decision-making with regard to production processes and investment expenditures, and it's the main way of regulating emissions. It is also the main reason for a switch by utilities away from coal into gas or renewable sources of energy.