Recent news reports suggest that the carbon pricing scheme, even if it does not get scrapped by the next government, faces a bleak future. The European Union, with which Australia's emissions trading scheme will be linked from July 1 2015, is plagued by a very large oversupply of permits and a depressed carbon price. Does this mean that Australia should consider bringing back the carbon floor price? Or does this mean that Australia should reconsider the carbon pricing scheme as the centrepiece of Australia's climate change policy?
The carbon pricing scheme
The main carbon pricing legislation (The Clean Energy Act 2011 (Cth)), divides the carbon pricing scheme into the following two phases:
-- The fixed price phase (July 1 2012 to June 30 2015), during which the carbon unit prices will be fixed at $23 per tonne in 2012/13, $24.15 per tonne in 2013/14 and $25.40 per tonne in 2014/15; and
-- The floating price phase (July 1 2015 onwards), during which the carbon unit prices will be determined by the market.
Arguments for the return of the carbon floor price
It was originally intended that the carbon pricing scheme would provide a carbon floor price during the first three years of the floating price phase – at $15 per tonne in 2015/16, $16 per tonne in 2016/17 and $17.05 per tonne in 2017/18. The carbon floor price was to act as a safeguard against any price plunges in the Australian emissions trading market, thereby ensuring a meaningful incentive for reducing greenhouse gas emissions domestically.
However, on August 28, 2012, the federal government announced that the carbon floor price would not be implemented.
The government argued that this was in order to facilitate the linkage between the Australian carbon pricing scheme and the European Union's emissions trading scheme. Since the Australian carbon pricing scheme will be linked with the biggest (and arguably the most well-established) emissions trading market in the world, it was argued that the need for a carbon floor price as a safeguard against the risks of price plunge in a newly established market no longer existed.
Conversely, the European Commission was said to be uncomfortable linking its scheme with one that was a hybrid of a tax and trading scheme. This is probably due partly to fact that taxation policy in the EU rests with member states rather than the Commission.
Linking with a much larger market would have the inevitable (and intended) consequence that, once the Australian carbon pricing scheme entered into the floating price phase, Australian carbon unit prices would effectively be the same as the price for European Union allowances.
The European Union's emissions trading scheme however has been plagued by low allowance prices for some time. A recent attempt to revive the market price via a so-called ’backloading’ proposal was rejected by the European Parliament's in April. The proposal was designed to stop price falls in the market by postponing the auctioning of 900 million European Union allowances from the years 2013-2015 to 2019-2020 and consequently reducing the oversupply of the allowances in the market.
These problems in the European market in turn caused Treasury to revise downwards its forecast of carbon price revenue in 2015, forcing the government to "defer" the promised tax cuts linked to the carbon pricing scheme, including raising the tax-free threshold from $18,200 to $19,400 in 2015. This gave more ammunition to the opponents of the Australian carbon pricing scheme to argue for the repeal of the entire scheme.
It would not be wise to assume that the European Union will have fixed the oversupply problem with its emissions trading scheme by July 2015. While the European Union should be saluted for operating the world's biggest emissions trading market, the economic difficulties in Europe are likely to put downward pressure on the price for European Union allowances for a while and also make market intervention less likely.
All of these factors support the return of the carbon floor price in Australia. As per its original design, a carbon floor price would protect against any price plunges (whether European-induced or not) in the Australian emissions trading scheme. This would ensure that the carbon price in Australia cannot fall under the floor price (eg. $15 per tonne in 2015/16) and secure, at least to some extent, incentives for reductions in greenhouse gas emissions domestically.
Why a floor price cannot be brought back
Nonetheless, the following factors mean that a carbon floor price is not a realistic option:
-- First, if the government is to be believed, reintroducing the floor price may lead the European Union to reconsider the two-way linkage between the two trading schemes. This would be an important setback, hindering global momentum for an internationally harmonised approach to carbon pricing.
-- Second, it would be politically difficult for any Australian government to implement a carbon floor price which is considerably higher than the prevailing market price for European Union allowances. Such a position has been subject to considerable opposition from business groups that argue it would unduly penalise Australian businesses against foreign competitors.
Some may argue that the first point above can be easily dealt with by abandoning the linkage with the European scheme. It may be argued that without the linkage, the Australian scheme will not experience such a drastic price fall even without a floor price. But even if this were true, it would be incredibly difficult for the government to resist the political pressure to intervene and reduce the Australian carbon price to European levels.
Despite the importance of taking action against climate change, it would be politically challenging for the government to maintain a scheme with a carbon price that is significantly higher than the prevailing market price in the biggest emissions trading market in the world, let alone introduce a carbon floor price that is higher than the European price.
A recent report predicted that South Korea is set to have the highest carbon price in the world at $90 per tonne CO2-epa when its emissions trading scheme commences on January 1 2015. However, as an export-oriented economy, the South Korean government would face intense economic and political pressure to reduce its carbon price. This is particularly so given that Japan, Korea's biggest competitor in industrial exports, is not only free from a nationwide carbon price but is actively taking measures to devalue its currency to boost its exports.
Therefore, the South Korean government is likely to design its emissions trading scheme to ensure that its carbon price is similar to (or at least not substantially higher than) the European price. It follows that the Australian government is unlikely to be able to use the Korean example to justify introducing a carbon floor price to limit the price fall.
In a perfect world, Australia (along with other big major emitters) would have an emissions trading scheme operating efficiently to provide sufficient incentives for renewable energy and reducing greenhouse gas emissions. In the real world however, Australia's carbon pricing scheme appears likely to experience a big price fall once the floating price phase commences on July 1, 2015 (assuming the scheme is not repealed by then), and it would be unrealistic to implement the carbon floor price to limit such a fall.
The way forward
It seems appropriate then to reconsider the carbon pricing scheme as the centrepiece of Australia's climate change policy.
Australia already has the Renewable Energy Target, which provides a market-based mechanism to incentivise renewable energy generation by requiring electricity retailers to purchase and surrender renewable energy certificates. As noted by the Climate Change Authority, since the introduction of the RET in 2001, Australia’s renewable electricity capacity has almost doubled, increasing from around 10,650 megawatts in 2001 to around 19,700 megawatts in 2012. While it has had its problems, the RET has largely been successful in incentivising renewable energy generation.
If the current trends in the polls continue, the Coalition is likely to be elected in September and introduce its own climate change policy – the Direct Action Plan, which will establish an Emissions Reduction Fund to provide incentives for reducing emissions. The merit of the Direct Action plan has been subject to much debate recently, with even some Liberal MPs questioning the plan.
Given the shortcomings in both parties' key climate change policies (Labor's carbon pricing scheme and the Coalition's Direct Action Plan), the only realistic approach (as grim and unsatisfactory as it is) appears to be to build on the RET and further develop it into a more effective and ambitious scheme (as the current government has been doing so far). Of course it would need to be complemented with other measures, but it would no longer be regarded as an ancillary policy that is eventually to give way to the carbon pricing scheme or Direct Action.
This would mean that despite the six years of Labor's attempts to deal with the "great moral challenge of our generation", John Howard is set to remain the only Australian prime minister to have introduced and implemented a successful and lasting market-based climate change policy (the RET).
Albert Yu is a Lawyer at Allens.