A scheme for all seasons

*This is the final article in a five-part series on designing an effective Emissions Reduction Fund for Direct Action ... 1) Less talk, more action ... 2) Listening to the market ... 3) Follow the baseline ... and 4) Buying the way out.

In this, the final of five articles on the proposed Emissions Reduction Fund, we propose a structure for the fund that addresses the concerns raised by business and, at the same time, remains true to the principles outlined in the Direct Action Plan.

In proposing this design for the operation of the ERF, we were aware of a number of overriding drivers. Firstly, any implementation of the Direct Action Plan must be consistent with the broad principles of Direct Action (at bottom). Secondly, it is essential that any scheme offers certainty to the business community.

The lack of bipartisan support for the mechanism to achieve the national emissions target is driving investment away from Australia. Given Labor’s support for an emissions trading scheme, Energetics believes that a failure to implement a scheme that largely satisfies the policy objectives of the current opposition merely introduces uncertainty sometime in the future. Further, it would be remiss of the government to implement a scheme now that was not able to deliver abatement reductions deeper than the current target. To do so would again introduce uncertainty should Australia’s international obligations require cuts in emissions beyond 5 per cent as it forces the government, at the time, to introduce additional policy measures.

Building on the arguments presented in the early parts of this series, we believe that the implementation of the Direct Action Plan must consist of two components:

– a reward and penalty system centred on site baselines developed from industry-wide activity based emissions intensities

– a project based system generating abatement for sale to the fund and to other participants.

Creating an equitable market place – a reward and penalty system

Parties that report under NGER (National Greenhouse and Energy Reporting) would participate in this scheme, which would have the following features:

– The site or facility baselines to determine the rise or fall of emissions are derived from meaningful measures of energy intensity determined at a sector level.

– Sites or facilities that achieve emissions below their baseline can offer the abatement for sale to the fund or to any other buyer such as corporations whose emissions exceed their baseline.

– Sites or facilities that achieve emissions above their baseline must either pay a penalty or purchase verified abatement from other participants. The level of the penalties will be set at the current price offered by the fund plus a margin.

– Monies raised from any penalties would be made available to the fund to purchase additional abatement.

Generating offsets – a project based system

All businesses may seek to implement abatement activities and offer the abatement for sale. The system would have these features:

– The abatement generated by the project would be determined by approved methodologies.

– The methodologies must recognise that some measures, such as the destruction of methane in landfill gas, result in abatement only for the year that the methane is combusted, while other measures, such as energy efficiency or renewable energy, offer abatement over the life of the assets. A formal monitoring and verification process would need to verify savings and independent verification required for projects over a certain size.

– Abatement can be offered to sale to the Emissions Reduction Fund or to any approved participant in the reward and penalty system.

– Projects that have a payback of less than two years will be considered to be ‘business as usual’ and not be able to sell abatement to the fund. Beyond this, there will be no requirement to ensure financial additionality.

– Third party ownership of the reduction projects is allowed to encourage flexibility for financing and off-balance sheet arrangements to make the program more attractive.

Key to successful fund operation

The Emissions Reduction Fund would have the following features:

– The fund would buy verified reductions from the most cost effective carbon reducing projects.

– Where a measure requires an investment that will offer abatement over the life of the new asset, the fund must be willing to contract to purchase verified abatement every year over the agreed life of the project – i.e. the participant will not be required to offer the abatement into the auction each year.

– During each round of the reverse auction the operator will clear a fixed volume of abatement starting at the lowest bid price. The operator will provide an indicative target price for each round for guidance to companies in advance (but the round may not clear at this price).

Evolving with international obligations

Several features will ensure that the scheme can evolve with Australia’s changing international obligations.

1) The baselines can be adjusted to reflect changing international obligations. The mechanism is to adjust the emissions intensity factors used to generate the site or facility baselines. These adjustments can be made on a sectoral basis.

2) Participants liable to pay a penalty, or the ERF itself should it be facing a shortfall in abatement, can supplement domestic abatement by purchasing approved international offsets.

The scheme defines a market for abatement which offers an economically efficient means to address changing obligations. It is essentially a baseline and credit trading scheme with a secondary mechanism to generate abatement beyond what is needed to meet the baseline targets.

Australia has been debating its response to climate change for more than a decade, and fighting elections over climate change for much of that time. The Direct Action Plan is the latest chapter in this story. The government insists it has a mandate to implement the Direct Action Plan. Within the principles laid out in Direct Action, there is potential for a scheme that addresses the concerns of business for equity and certainty. A baseline and credit scheme could provide robust mechanisms to meet the national abatement target and ensure that Australia maintains its global competitive advantage for future generations. 

Emma Fagan is a consultant and Dr Peter Holt and Gordon Weiss are both principal consultants with Energetics.

*Direct Action principles