How some polluters will make money from the carbon tax

What is not commonly realised is that for a number of large industrial plants the carbon tax, rather than costing them money, will end up making them money, due to excess free carbon permits the government will provide.

Hydro, the owner of the Kurri Kurri aluminium smelter, also has a substantial stake in the Tomago aluminium smelter – one of the plants that will make money from the introduction of the carbon tax/trading scheme. In the first year of the carbon trading scheme, Tomago will pocket a windfall gain of around $12.3 million in excess free permits, and a cumulative total of $44 million between 2012/13 and 2020/21*, although it could be as a high as $840 million if its electricity contract prevents the pass through of carbon costs.

This windfall gain is due to a quirk in the way the carbon trading scheme awards free permits to trade-exposed industries. Free permits are given to emissions intensive, trade-exposed industries per unit of product they produce, rather than as a lump sum. You can't just halt production and pocket the free permits to sell to someone else. Also in order to avoid favouring the more polluting firms, these permits are given as a percentage of the Australian industry average emissions per unit of product, rather than based on each individual plant's emissions.

So in the case of aluminium smelters, the industry average emissions per tonne of aluminium production is 17 tonnes of CO2. So for each tonne of aluminium a smelter produces, in 2012/13 they will receive free permits equal to 94.5 per cent of 17. In 2013/14, the percentage of free permits they are entitled to declines to 93.3 per cent of 17, and this rate of decline continues slowly out to 2020. Although in reality it seems unlikely that the proportion of free permits will drop below 90 per cent due to an obscure clause in the legislation.

In the case of Tomago, including the electricity they consume, they emit about 15 tonnes of CO2 per tonne of aluminium (which is twice as polluting as the average for smelters globally). But they'll receive 16.07 free permits in 2012/13 (94.5 per cent x 17). From 2016 onwards they'll still receive slightly more permits than they need – 15.3 per tonne of aluminium (90 per cent x 17).

On top of this, Tomago has an electricity contract with Macquarie Generation until 2017, in which it appears that Macquarie is unable to pass through carbon costs (based on this story from SMH). This means Tomago would only face a carbon liability for its direct emissions, which are likely to be less than 2 tonnes of CO2 per tonne of aluminium. This then blows out Tomago's windfall gain from free permits to more than $840 million between 2012/13 and 2020/21.

* These calculations assume Tomago's annual aluminium production is 524,000 tonnes and the carbon price stays at the carbon price floor from 2015/16 onwards, and the floor price mechanism is extended to 2020/21. It also assumes that the proportion of free permits will not be reduced below 90 per cent of the industry average emissions intensity benchmark of 17.