Direct Action's absolute best hope

Reputex Market Insider

On Tuesday, RepuTex released its February Carbon Market Update, which analysed domestic emissions abatement under the government’s proposed Direct Action Plan versus the Carbon Price Mechanism, accounting for new design elements discussed in the recent Emissions Reduction Fund Green Paper.

Specifically, the analysis focuses on the impact of establishing 'absolute' emissions baselines under the Direct Action Plan, along with a 'make-good' mechanism for companies to offset any emissions increases beyond business as usual levels, as discussed in the government’s Green Paper. 

Whether these new design elements make the final cut remain to be seen, however, how decisions are made on their inclusion stands to go a long way in determining the environmental effectiveness of the government’s policy, and how closely Direct Action resembles a true ‘baseline and credit’ market.

Direct Action – more abatement than the CPM?

Modelling of the Green Paper’s potential mechanics indicates that the Direct Action Plan may result in similar – or even more – domestic emissions reductions than the currently legislated Carbon Price Mechanism, depending on the role of the secondary market and the methodology used for setting baselines.

Results show that under ‘emissions intensity’ baselines, Direct Action is likely to lead to similar domestic abatement to the Carbon Price Mechanism, while should ‘absolute’ baselines be introduced in conjunction with a secondary offset market, Direct Action may achieve 56 per cent more domestic abatement than the CPM.

Notably, enabling industry to balance emissions increases above business as usual levels via the use offsets – even if calibrated to match historical maximum emissions levels – would result in around 120 Mt more domestic abatement being delivered to the government via a secondary market, with the high growth LNG and coal industries carrying much of the load.

Critically, while domestic abatement levels may be improved though absolute baselines, each Direct Action scenario modeled still fails to achieve enough emissions reductions for Australia to meet its Kyoto commitment. 

Watch this space

Ultimately, if Direct Action is to achieve the 5 per cent reduction target, the ERF will require a complimentary device to support further emissions reductions.

The ability for one policy mechanism to reduce Australia’s ‘business as usual’ emissions to the target level is a considerable task, one that the currently legislated Carbon Price Mechanism never intended to achieve though domestic emissions reductions alone.

Despite the shortfall under Direct Action, limiting emissions growth via the design of absolute baselines and leveraging a secondary market represents a way to significantly reduce domestic emissions below levels forecast under the CPM.

Moreover, such an approach would provide the government with the possibility to exert direct control of domestic emissions though a ‘baseline and credit’ compliance scheme where baselines could be tightened to reflect emissions reduction targets, or restrictions on the use of international emissions offsets eased, be it now or later.

These are the key mechanics around which we continue to anticipate potential policy movement, with the Green Paper indicating that the government is keeping its options open on key design elements, while preserving the Coalition’s design principles – to incentivise domestic emissions abatement, maintain economic growth, and limit the use of penalties.

How these elements impact industry exposure and change the shape of abatement supply and auction prices within the ERF could dramatically re-cast who stands to win and lose out of the government’s emerging policy.

RepuTex’s Market Insider is a fortnightly review of the key issues shaping the Australian emissions market. It was originally published by RepuTex under its Australian emissions markets research service. For more information, please click here.