What would bipartisan carbon pricing policy look like?

The Conversation

The long-term future of carbon pricing in Australia’s efforts to reduce our emissions of greenhouse gases is bleak if there is no bipartisan approach.

With the Coalition likely to win September’s election and repeal the carbon tax, the government should be looking at ways of modifying its current carbon pricing approach to make this harder – and in fact unnecessary.

Despite rhetoric from both sides, this may not be as difficult as one may think. The fact is there are substantial areas of agreement between the two parties – but also some major stumbling blocks.

Where they agree

Both Labor and the Coalition agree on the need for a carbon price, but differ only on the ‘how’. The government has opted for an explicit carbon price paid for by consumers of goods and services, while the Coalition proposes an implied carbon price in its Direct Action plan that is funded by the general tax revenue pool.

Both agree on an unconditional 5 per cent reduction (from 2000 levels) in our greenhouse gas emissions by 2020, though both gloss over the fact that achieving this target is based on assumed purchases of some international credit certificates and that not all emissions reductions will come from within Australia.

Both also agree on a 20 per cent renewable energy target by 2020. The government rightly sees the RET as complementary to the carbon price in its greenhouse gas emissions mitigation efforts while the Coalition sees it as complementary to its Direct Action plan.

Finally, both agree that our international trade competitiveness should not be compromised by an Australian carbon pricing regime operating in the absence of carbon prices in major countries with whom we trade. Therefore the government provides free carbon permits to the energy-intensive trade-exposed industries and presumably the Coalition would adopt a similar approach in its policy.

Where they disagree

There are three main areas of contention between the two parties. The first is the so-called ‘carbon tax’, or fixed carbon price. The Coalition is dead set against this, but have been a bit coy about whether it supports a flexible price regime (or emissions trading scheme) set by the markets, which is due to replace the current government fixed price scheme after June 30, 2015.

The second revolves around the long-term funding. The government’s policies are subject to market risk in that funding comes from the sale of carbon permits, which depends on uncertain prices for permits. In comparison, the long-term funding of Coalition’s Direct Action policy is based on how much the relevant minister manages to get funds from the Treasurer in each budget cycle and in competition with defence, health, education and social welfare ministries – so the risk is political or regulatory.

Third is how polluters pay. Both coalition and government approaches are likely to deliver least-cost solutions for business – but by taking different routes.

The government is leaving it to business to decide on which least-cost method of emissions reduction it finds cheaper – either reducing emissions by process improvements, or by buying carbon permits.

On the other hand, the Coalition’s proposed ‘reverse auction’ will mean the government chooses projects that deliver emissions reductions at least-cost from a pool of ‘auction bids’ submitted by various businesses. This involves a greater role for the government.

Inconvenient facts

Regardless of the differences and similarities, there are some inconvenient facts both parties need to grapple with.

Compared to our fixed price of $23/tonne (due to increase to $24.15 on July 1 this year), the international price for carbon in Europe is around €4 to €7, while under the Californian ETS it is about $US10.

The EU ETS is much larger than the Australian carbon market, but it is currently unstable, with about two billion surplus allowances in the market already.

So linking our yet-to-be-established ETS with Europe means that carbon prices in the Australian ETS will be dictated by events in Brussels and London, places which are no longer our major trading partners, rather than by any local policies or actions. We run the risk of losing control over our greenhouse gas mitigation efforts by effectively becoming the 31st country of the Euro ETS ‘bubble’.

Our current target of a 5 per cent reduction from 2000 levels by 2020 is based on the assumption that this target will be met only by a combination of local actions and some purchase of imported foreign permits. This muddies the picture and our reduction target should also be expressed in terms of just our local actions – that is, what will be the reduction in emissions occurring in the Australian continent?

So what would a bi-partisan policy look like?

The government should be aiming by taking a number of steps now to ensure the Coalition has no need to proceed with the dismantling of the entire edifice of carbon pricing, should it come to power in September 2013.

First, end the fixed price period and switch to a flexible pricing regime as soon as practicable instead of waiting until July 2015. A target switch-over date of January 1 2014 should be considered. In a literal sense the carbon tax would no longer exist beyond that date.

Second, express our greenhouse gas emissions reduction targets purely in terms of Australian emissions and sequestration activities; use these in setting the parameters for the Australian ETS such as the number of permits to be auctioned in our ETS.

Third, postpone the linking of our ETS with other schemes in Europe, California and New Zealand until about 2018 so as to allow time for the Australian scheme to settle down.

We will also know by then what the new post-Kyoto arrangements would look like. Thus, the only offsets allowed in the ETS until 2018 should be the Australian Carbon Credit Units created under the Carbon Farming Initiative.

Fourth, set the ceiling price in the ETS that is dynamically linked to international carbon prices, using a trade weighted index approach.

Thus the maximum price paid under an Australian ETS could be a weighted average price of carbon prices prevalent in our major trading partner nations such as the USA (California to start with), China, Japan, EU, Korea, India and Indonesia. In the calculations, prices in China and the US would attract greater weightings than the EU prices. These prices could be either explicitly market-based as in California and the EU, or implied by tax and regulations.

Fifth, encourage Australian businesses to use the money that they would otherwise have spent on purchasing international certificates, on bilateral low-emissions technology projects in least developed countries.

Sixth, adopt the principles of the reverse auction, a key plank of the Direct Action policy, in the way permit revenue is disbursed to energy efficiency and renewable energy innovation projects, thus ensuring least-cost abatement from such programs.

Seventh, continue with the Renewable Energy Target and Energy Efficiency Targets Schemes as complementary policies to the ETS and provide additional greenhouse gas reductions needed to meet our targets.

Both parties had a similar approach to carbon pricing between 2007 and 2010. Strident opposition since then to a misnamed ‘carbon tax’ has paid huge political dividends to the Coalition. Labor could make minor adjustments to the current carbon pricing scheme that will make it easier to live with for any future Coalition government.

Gujji Muthuswamy is an Industry Fellow in the Faculty of Business and Economics, Monash University and lectures on carbon pricing.

This article was originally published by The Conversation. Republished with permission.