Liquidity in Klima 2.0 — Klima Protocol Blog

Liquidity is a foundational component of Klima 2.0. Without reliable liquidity, carbon suppliers cannot sell, buyers cannot retire, and governance participants cannot meaningfully engage with the Protocol. The challenge is not simply to "add liquidity", but to design liquidity in a way that is stable, scalable, and appropriate for carbon markets.

Klima 2.0 takes a materially different approach to liquidity compared with Klima 1.0. This shift reflects a core learning from early on-chain carbon market experiments: carbon itself does not behave well when treated like a fungible asset and routed through generic AMM pools that can be exposed to volatility.

Lessons from Klima 1.0

In Klima 1.0, liquidity for carbon credits was primarily facilitated via AMM pools. While this approach succeeded in bootstrapping early activity, it ultimately proved unsatisfactory for many market participants.

AMM-based carbon pools exhibited several structural weaknesses:

Volatility leakage: Carbon prices became implicitly correlated with broader market cycles, despite carbon markets operating on multi-year, policy-driven dynamics.
Fragile pricing: Thin liquidity and speculative flows could produce carbon prices that were misaligned with underlying carbon fundamentals, or traditional market pricing.
Operational cost: Maintaining deep, well-incentivised pools across multiple carbon classes required significant capital and ongoing management.
Limited adoption: Many institutional and corporate participants were unwilling to rely on AMMs as a primary venue for carbon execution, or used them only as a venue to liquidate but not source carbon.

These pools were effectively maintained as public goods, but were capital-intensive, difficult to tune, and often underutilised relative to their cost.

A Different Model: Internal Carbon, External Liquidity

Klima 2.0 separates carbon liquidity from economic liquidity:

Carbon inventory is held internally by the Protocol
Token liquidity is provided externally via standard DEX infrastructure

This distinction is deliberate.

Rather than exposing carbon credits directly onchain, the Protocol maintains its carbon inventory and determines execution terms through transparent, rules-based protocol mechanics. Access to that inventory is mediated through Klima's native tokens, which are freely tradable and liquid on external markets.

In practice, this means:

Carbon never sits in AMM pools
Users interact with carbon exclusively through protocol-defined functions that facilitate retirement only
Liquidity risk is borne by token markets, not carbon inventories

The Role of kVCM and K2

All protocol interactions in Klima 2.0 are mediated through two tokens:

kVCM: the primary unit of account and governance signalling token
K2: the secondary governance and incentive token

kVCM functions as the common denominator for all carbon activity:

Carbon intake
Carbon retirement
Governance deposits

This creates a single quoting convention across carbon classes, simplifies execution paths, and allows the Protocol to focus liquidity around one fungible asset rather than fragmenting it across multiple carbon pools.

kVCM ↔ USDC Pool

Primary access point for protocol participation
Enables users to translate between dollar terms and carbon activity
Underpins all carbon intake and retirement flows

kVCM ↔ K2 Pool

Access and withdrawal point for governance exposure
Allows participants to rebalance between kVCM and K2

Both pools exist on external DEX infrastructure and are supplied by third-party liquidity providers incentivised by the Protocol.

How Liquidity Enables Core User Flows

Liquidity providers enable all major interactions with the Protocol:

1. Carbon Suppliers

Supply eligible carbon credits to the protocol at real-time indicative execution terms
Receive kVCM directly from the Protocol
Swap kVCM for USDC via external liquidity to withdraw
Pool: kVCM ↔ USDC

2. Carbon Buyers (Retirements)

Acquire kVCM using USDC
Carbon credits accessed through the protocol are retired immediately and cannot be transferred or reused
Receive a retirement certificate
Pool: kVCM ↔ USDC

Note: Routing between USDC and kVCM may be abstracted away for non-onchain users via third-party services such as Carbonmark.

3. Governance Participants

Acquire kVCM and/or K2
Lock tokens to signal preferences within predefined protocol parameter bounds related to pricing and capacity
Pools: kVCM ↔ USDC, kVCM ↔ K2

4. Governance Withdrawals

Unlock previously locked tokens or protocol-issued incentives
Swap kVCM or K2 for USDC to withdraw from the ecosystem
Pools: kVCM ↔ USDC, kVCM ↔ K2

5. Liquidity Providers

Supply liquidity to the Protocol's token markets
Receive protocol incentives for providing liquidity services that enable protocol access
Enable continuous access to protocol functionality via external markets
Pools: kVCM ↔ USDC, kVCM ↔ K2

Pricing, Stability, and the Role of USDC

Carbon markets operate on fundamentally different cycles to crypto markets. Policy decisions, compliance timelines, and corporate procurement strategies unfold over years, not weeks.

One of the key critiques of Klima 1.0 was its exposure to crypto market beta. While inevitable in early experimentation, this correlation limited the usefulness of onchain carbon markets for corporates seeking price stability and predictable execution.

Klima 2.0 addresses this by using USD as its sole external reference currency via USDC. The Protocol does not incentivise pairing kVCM with volatile assets such as ETH.

USDC was selected because:

The vast majority of carbon trades are settled in USD terms
It provides a stable bridge between on-chain execution and off-chain accounting
It allows users to reason about carbon prices in familiar monetary units

While carbon pricing is expressed in kVCM within the Protocol, users may reference protocol pricing in dollar terms via external markets.

Incentives and Decentralised Liquidity

By standardising execution through a small number of fungible tokens, Klima 2.0 lowers the barrier for user-provided liquidity. Liquidity providers do not need to hold or price individual carbon credits, nor take exposure to idiosyncratic project risks.

Instead, they supply liquidity to transparent token markets and are eligible for protocol-defined incentives for providing liquidity services.

This model allows Klima to:

Avoid relying on bespoke market-makers or OTC intermediaries
Scale liquidity via incentives rather than balance-sheet capital
Distribute value to participants rather than extracting rents

Summary

Klima 2.0's liquidity design is built around two core outcomes:

Scalability: Carbon capacity and market access can grow through incentives and user participation, without requiring the Protocol to raise or borrow significant external capital.

Alignment: Liquidity provision, governance participation, and carbon market access are aligned around a shared token framework, allowing protocol utility and access to be distributed among participants rather than intermediaries.

By internalising carbon inventory while externalising token liquidity, Klima 2.0 provides a more stable, accessible, and market-appropriate foundation for on-chain carbon markets.

This approach to liquidity positions Klima 2.0 as a viable backbone for carbon market infrastructure, delivering rational pricing and reliable access for a wide range of participants, from developers building on the Protocol to market participants accessing or supplying carbon.

For more detailed documentation on the Klima Protocol, visit our Docs page.