Econation: Ins & Outs Of Emissions Trading Schemes

The big question is: Will we be in or will we be out?

There is plenty of opinion on both sides about the New Zealand Emission Trading Scheme but much of the criticism seems ill informed and/or off target. Many people criticise emissions trading schemes without knowing how they work or what their purpose is.

The purpose of an emissions trading scheme (ETS) is to reduce greenhouse gas emissions, with the ultimate goal of halting climate change. In spite of the die-hard sceptics, it is generally accepted that anthropogenic (human generated) climate change is occurring and that it is reducing humanities' ability to sustain itself and the environment.

However many people seem to be less concerned with this and more concerned that the ETS will result in price rises and job losses. They are worried about how the scheme will impact on businesses and the economy in general and they are concerned that taxpayers will end up carrying the costs.

The fact is that the cost of our greenhouse gas emissions is already being borne by society in the form of loss of environmental services caused by climate change. These are real, tangible costs that include water shortages, soil degradation, biodiversity loss and sea level rises. (See Ministry for the Environment: http://www.mfe.govt.nz/issues/climate/about/impacts.html)

To halt climate change greenhouse gas emissions must be mitigated, which costs money. However this amounts to much less than the afforementioned environmental cost. To give an indication, the Intergovernmental Panel on Climate Change (IPCC) has projected that the financial effect of carbon trading within the Kyoto commitment period will be between 0.1-1.1% of GDP among trading countries. In comparison the Stern report placed the costs of doing nothing at five to 20 times this much.

Taxpayers are already paying the cost of greenhouse gas emissions indirectly but it would be much more sensible and fair to attribute the cost to its cause directly. An ETS is a mechanism that will equitably achieve this in the following ways:

1. It internalises the environmental cost of emissions.
This is a case of 'polluter pays'. Activities that cause a net increase in greenhouse gases, such as fossil fuel use and deforestation, have effectively been getting a free ticket to pollute. The introduction of a emissions trading system will cap (i.e. limit) the amount of greenhouse gases that a company can freely emit. If they emit more than their allowance they have to buy more ‘allowances’ (usually called credits or units). This cost, like all costs, will be passed on to the end-consumer.

2. It levels the playing field.
Fossil fuels are relatively cheap compared to renewable options (mainly for the reasons given above). However renewable energy sources are in effect already internalising the environmental cost of emissions. By being able to sell credits renewable energy providers and other mitigators are levelling the playing field. Fossil energy will become relatively dearer and renewable energy will become relatively cheaper. Of course this will ultimately lead to growth in production and consumption of renewable energy, which is the idea. Organic, small-scale and low-energy farming will become more competitive with large-scale, energy-intensive farming. Those planting new forests will compete more with those clearing them to make dairy farms.

3. It caps emissions and sets the value of emission abatement.
This is relevant when comparing a trading scheme to a carbon tax. Experts are divided as to which is the best mechanism. Both mix government and market solutions. With a tax the government sets the carbon price and the market sets the quantity of emissions; with a trading scheme the government caps the quantity of emissions and the market sets the price. The two approaches would in principle give exactly the same result. In practice the outcome could be very different though. Whilst a carbon tax has many advantages, such as being cheaper to implement and providing greater certainty in the price of carbon, the big problem is that it doesn’t actually cap the amount of emissions allowed. As mentioned, this may not make any difference in the long term but the long-term might be too late for the environment. It is this uncertainty that makes a carbon tax unacceptable. Also the actual cost of emission abatement strategies may be more or less than the tax charged which would make it unfair. Some experts think a hybrid scheme combining the benefits of both would be better than either, which could well be true.

Assuming that some version of an ETS is the best mechanism chosen for us to meet our Kyoto obligations the main issues then are:

1. Where to set the cap
If the cap is too high there will be no appreciable benefit and therefore the scheme will be an expensive waste of time and money. If the cap starts too low there might be too much of a shock to the economy. Another issue is whether other countries have the same cap as us, if any. An obvious problem occurs if we implement a lower cap than our main competitors therefore making ourselves less competitive.

2. What will happen to the Government's revenue from surplus credits
Critics of the ETS also argue that it's just a moneymaking activity for central government. It is possible that in the long-term our Government could make around 1% of GDP (or around $NZ1 billion) a year from this scheme. This revenue should go towards paying for our Kyoto commitments, the mitigation of greenhouse gases and the restoration and protection of our environment from climate change. If there is anything left over it should offset other taxes. Where the ETS revenue is spent must be transparent and accountable.

3. Buying allowances from overseas
An ETS allows businesses to buy credits from sellers here or overseas. From the point of view of the environment it doesn't matter if credits are bought domestically or not but for the benefit and sustainability of our economy it is much better if they are bought here. The issue is that businesses are likely to buy the cheapest credits they can and overseas businesses may be able to mitigate emissions more cheaply than ours.

The question still remains: Will we be in or will we be out?
The New Zealand Emission Trading Scheme (NZETS) is currently on hold while it is being reviewed. If we want to preserve our place in the global market we will end up having an ETS or a carbon tax. All of our main trading partners have signed the Kyoto Protocol and apart from the US they have all ratified it too. We would be shunned if we did nothing at all.

It seems that National favours an ETS whilst the ACT party would prefer a carbon tax. Internationally ETSs are favoured and it would be advantageous to stay in step with our trading partners and competitors for a number of reasons. So it seems likely we will have an ETS.

Which is what we already had.

Rodney Hide, and ACT, who promoted the review of the NZETS have contrived a total waste of time and money, which is exactly what they campaigned against. National are also implicated in this waste and, whilst their plan all along may have been to placate ACT, in doing so they have made New Zealand look foolish on the international stage.

People and businesses shouldn't be worried about an ETS. If done properly it will create much more upside than downside. It is an opportunity for growth in the economy – as well as making us more sustainable and self-sufficient. If we are smart and invest enough in mitigating climate change New Zealand will become a net seller of credits. If we collectively work towards this goal we will not only be environmentally responsible we will all be financially better off.

Michael Lockhart
Econation | Making sense of sustainability

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