Time to give up on Gillard’s carbon price

Among those that put years of effort into finally getting a price on carbon, there is great emotional attachment to the government's scheme. But given the problems with Europe's ETS, it's best we moved on.

Amongst those who have invested blood, sweat, tears and money to get action on carbon emissions there is a great deal of emotional attachment to Australia’s carbon trading scheme. For many the prospect of a Tony Abbott repeal represents the unwinding of decades of hard work. But it’s time to move on.

European carbon prices are not expected to rise above €10 ($A13.50) prior to 2020, according to a recent survey of banks, manufacturers and power generators by Reuters Point Carbon. Given Australia’s carbon price is likely to be determined by the EU carbon market (or worse UN carbon credits at 55 cents a pop), it’s time to start thinking about whether such a scheme is worth the emotional attachment.

A carbon price out to 2020 of $13.50 is so low that we need to actually begin to think about the unthinkable – new coal-fired power stations. Yes, such a carbon price is sure as hell better than nothing. But it might not even be sufficient to act as a warning shot across the bows of investors to stop them from building another 50-year coal-fired power plant. You might scoff at the thought, but when Western Australia saw gas prices rising to export parity levels (as is now happening on the east coast), the state government effectively underwrote the construction of the Bluewaters coal power station.

Even the European Commission freely acknowledges that the ETS with its current low carbon price is wholly inadequate stating:

“It [the ETS] has not succeeded in being a major driver towards long-term low carbon investments. Despite the fact that the ETS emission cap decreases to around -21 per cent by 2020 compared to 2005 and continues to decrease after 2020, in principle giving a legal guarantee that major low carbon investments will be needed, the current large surplus of allowances, caused in part by the economic crisis, prevents this from being reflected in the carbon price. The low carbon price is not providing investors with sufficient incentive to invest and increases the risk of ‘carbon lock-in’.”

Sure the current emissions cap and trade scheme is at its core a reasonably good design. It may not be perfect but big reform requires a few compromises. Importantly it creates a robust, predictable legal platform for long-term emission reductions. And it is certainly vastly superior to the Coalition’s idea of using consolidated revenue to procure abatement via contracting in advance with abatement providers. 

The Coalition’s plan is at best a stop-gap solution, and at worst a fig leaf to last just until they get elected. As Malcolm Turnbull put it so eloquently, relying on the budget to achieve emission targets is a “recipe for fiscal recklessness on a grand scale”.

But we need to face reality – unless Europe does something serious to address the huge permit oversupply in its ETS, the Australian carbon pricing mechanism is like a BMW without petrol. 

Some people try to suggest that the low carbon price doesn’t matter – ‘we’re achieving our abatement targets so who cares’. Usually this is complemented with the line, “sure Australia isn’t reducing its emissions by much, but by buying up European permits we’re stopping them from emitting more, and it’s all the same atmosphere.” 

This ignores the realities surrounding the setting of carbon caps and the huge carbon allowance oversupply in the EU ETS. The chart below illustrates that Europe will have a huge surplus of permits all the way out to 2020 (the red line is the accumulated surplus, the black line is expected emissions, and the bars represent new annual supply of allowances and international credits). All up their surplus will accumulate to a touch over 2 billion tonnes without serious reform. To put this in perspective, Australian polluters liable under our ETS could essentially live off this surplus for nearly six years without needing a single Australian emissions permit. 

EU emissions, allowance supply, and cumulative allowance 

Graph for Time to give up on Gillard’s carbon price

Source: European Commission (2012)

So Australia will only make a small dent in this surplus and Europe’s actual emissions will be almost no lower out to 2020 then if we hadn’t bought those permits. But Australia’s emissions will be significantly higher (in proportional terms). All up we’ve got ourselves a fool’s paradise – we pretend we’re making a difference buying up hot air permits; meanwhile Europe just does its thing.

‘Ah but what about beyond 2020?’, the champions of unfettered international trading say. Well you’re probably looking at about 2025 before some decent supply tension comes in. The reality is carbon markets this far out are a mythical land inhabited only by economists not investors, because political uncertainty is too great. 

By 2020 it is conceivable, indeed highly likely, that a completely new suite of policy settings are put in place. These could act in some aspects to wipe the slate clean, meaning Australia’s prior acquisition of surplus allowances is rendered meaningless for future emissions.

It might be comforting to engage in fantasies that Tony Abbott, once elected, will reinterpret his blood oath to mean just removing the fixed price period and keeping the ETS. But it won’t happen and it still leaves us with a car but no petrol.