Transitioning voluntary carbon markets to compliance: Japan case study

Japan’s emissions trading scheme (ETS) – known as the Green Transformation ETS (GX‑ETS) – is a cornerstone of the country’s strategy to reduce greenhouse gas emissions and become carbon neutral by 2050. Launched in 2023, the GX‑ETS combines a mixture of fiscal and policy measures in defining a 10‑year roadmap to transform various industrial sectors and accelerate decarbonisation. Over 150 trillion Yen ($1.1 trillion USD) of investment has been earmarked to make it happen. The ultimate outcome will be a national cap‑and‑trade system that integrates with international carbon markets, increasing the flexibility and cost‑effectiveness of achieving emissions reduction targets.

While the GX‑ETS is entirely voluntary, strong incentives from the Japanese government have seen over 600 companies participate (accounting for 60% of the country’s total emissions). Currently in its first phase, the scheme operates as a voluntary baseline‑and‑credit system which will last until the end of March 2026. After this, participation in the scheme will become compulsory as it transforms into a cap‑and‑trade system.

In addition to ensuring nationally determined contribution targets are met, the use of CDR voluntary credits in the GX‑ETS is expected to enhance the competitiveness of Japanese companies in relevant technological fields.

Over the past two decades, Japan has implemented schemes to reduce carbon emissions and facilitate carbon trading. One example is the Tokyo Cap‑and‑Trade Program, a regional pilot initiative that has been operating since 2010 and serves as a model for a national scheme. It was Japan’s first mandatory ETS and the world’s first urban cap‑and‑trade program that requires emissions reductions from large commercial and industrial buildings.

In 2013, the Government set up the J‑Credit Scheme which promotes low‑carbon technologies, improved energy efficiency and enhanced integrity of forestry and agriculture projects. Credits issued within the J‑Credit Scheme can be used to meet both voluntary and regulatory requirements.

While the J‑Credit Scheme operates solely in Japan, the Joint Credit Mechanism (JCM) was introduced to target international audiences. The JCM aims to facilitate global emissions reductions by adopting Japanese low‑carbon technologies in developing nations.

The GX‑ETS builds on the strong foundations and lessons of the previous schemes, with the goal of achieving broader emissions reductions across multiple sectors.

In April 2024, the Japanese Government made the landmark decision to admit a selection of international CDR projects within the GX‑ETS, having previously only allowed offsets from the country’s J‑Credit and JCM systems. Projects include carbon capture and utilization (CCU), blue energy with carbon capture and storage (BECCS), coastal blue carbon and direct air carbon capture and storage (DACCS) from overseas projects. Other CDR technologies are also on the table for discussion.

For international credits to be eligible they must be used in “compliance with international standards” in terms of additionality, permanence and avoidance of double counting, or involve the Government of Japan in the operation of the programme.

Companies wishing to use CDR credits must have a total investment of at least 20 % in the project or provide the technologies or solutions – such as maintenance and monitoring – necessary for successful delivery. It’s worth noting that Japan is also considering including CDR in its J‑Credit market, though plans for this are still in the early stages.

Japan's ETS includes several guardrails to ensure the quality of carbon removals. The measures are designed to maintain the integrity and effectiveness of the GX‑ETS in delivering measurable, verifiable and permanent emissions reductions.

Carbon removal projects must be accredited by recognised bodies and verified by independent third‑party authorities to ensure they meet high governance standards. Projects must implement continuous monitoring systems to track emissions reductions accurately and must submit regular reports to track progress.

Though a voluntary market, the Japanese Government provides strict regulatory oversight to ensure compliance with ETS rules. Non‑compliant projects face penalties, including fines and exclusion from the trading scheme.

The GX‑ETS also mandates the use of standardised protocols – such as those set out by Gold Standard, CDM or VCS – for different types of carbon removal projects, including soil carbon sequestration, carbon capture and storage (CCS) and others. These outline the procedures for project implementation, monitoring and verification. This ensures that Japan’s ETS has the potential to be integrated within a global carbon market and also upholds high quality and credibility of carbon removals.

Japan’s ETS is an excellent example of a voluntary carbon market that, when backed by strong government support and with stringent guardrails in place, can transform into a compliance‑based national cap‑and‑trade system.

Transparency and integrity are key. Countries must demand detailed disclosure of project methodologies, external verification and regular updates to track emissions reductions and verify the ongoing efficacy of carbon removals.

By implementing rigorous and standardised international protocols, Japan – and other nations – can integrate their ETS within a global carbon market framework. While establishing the GX‑ETS has faced challenges, ongoing efforts to refine and expand the scheme, along with complementary measures, are expected to enhance its effectiveness in the coming years.

Finally, the phased approach of starting the GX‑ETS as a voluntary programme before transitioning to a mandatory scheme offers numerous benefits that international countries can learn from. In essence, it allows nations to iron out any potential hurdles before the market becomes fully regulated by building capacity and experience, fostering stakeholder engagement and reducing compliance risks. It can also encourage early action and allow for regulatory flexibility. This strategy helps ensure a more robust, efficient and widely accepted emissions trading system, ultimately contributing to Japan’s long‑term climate goals and reputation as a global climate leader.