Have you noticed the emissions trading scheme?

With the turmoil in financial markets in recent months it is easy to forget about longer term issues such as global warming and the cost of doing something about it.   The Emissions Trading Scheme (ETS) is supposedly meant to reduce our consumption of carbon-intensive goods, such as energy, steel and concrete by raising the prices of those goods.

Have you noticed the effects of the ETS on the cost of energy?   Household electricity prices have risen by over 90% since 2000 and household gas prices have surged by 180%.   The ETS, which was introduced for the energy sector only in 2010, has added an about 5% to the cost of electricity negligible by comparison.   With regard to petrol or diesel costs the impact of the ETS has been about 3c/litre, totally swamped by changes in the international price of oil.

Other carbon intensive industries such as cement and steel receive generous free allocation of emission units from the government, meaning that they can largely insulate consumers from price increases.   Agricultural emissions of methane and nitrous oxide, which constitute about 50% of New Zealand’s emissions are not even in the ETS.   Thus as consumers we don’t really see the higher prices that are required to persuade us to buy fewer carbon intensive goods and services.  

Businesses face a similar situation. A survey of businesses responses to the ETS undertaken last year by the Ministry of Economic Development showed that only 6% of firms intended to take actions that would reduce their energy costs and thus their exposure to the carbon price.  The survey also revealed that over 30% of   businesses believed that emissions pricing will fall from favour in most countries, including New Zealand, and end up as a small percentage of energy costs.  

The overall picture that emerged from the survey is that while the public noise around the ETS is concentrated on large energy-intensive and trade-exposed firms, most firms are not in that group.   For them there is little incentive to reduce emissions.

The ETS was changed numerous times before it became law and was then immediately softened with a $25/tonne price cap and a 2-for-1 deal – two tonnes of emissions for the price of one.   This year the ETS has been reviewed and any policy announcements from that review have been deferred until the Scheme is reviewed yet again in the light of recent announcements in Australia.   No wonder that households and businesses have little belief that the ETS will bite in future.

Before the introduction of the ETS it was widely assumed that the revenue from either a carbon tax or from the sale of emission permits would be used to reduce other taxes, particularly personal income taxes.  However, apart from a small proportion of revenue being recycled back to households in the form of subsidies for home insulation, this did not happen.  Instead of higher prices for energy and other carbon intensive goods being offset by lower taxes, we got only the higher prices.   Most of the rest of the revenue is in effect being handed back to industry and agriculture in the form of the 2 for 1 arrangement, free allocation and outright exemption from the scheme.

The trouble with this policy muddle is that it accomplishes almost nothing. The price signals are too muted to encourage carbon reduction by consumers, but if the price signals were stronger consumers would need to be compensated with tax cuts.  

One might say "who cares?"   Unfortunately, every tonne of emissions that we do not remove in New Zealand we have to offset by purchasing emission permits from other countries, which the government buys with our tax payments.   So as consumers and taxpayers we end up paying for the cost of carbon emissions anyway.   The difference though is that if it costs less to reduce emissions by one tonne in New Zealand than it costs to buy a permit fora tonne of emissions from offshore, we should do the former.  

If carbon absorption by our forests more than offsets any excess emissions over the amount agreed under the Kyoto Protocol, New Zealand will be in a net credit position and able to sell emissions permits to other countries.   In this situation not engaging in efficient emissions reduction in New Zealand would still make us worse off as it would reduce the income we could get from such sales.    

The business survey referred to above also suggested that businesses act according to their perceptions about the degree to which their customers and shareholders value lower emissions and carbon neutrality. One suspects, however, that until there is a realistic price on carbon and an emissions trading scheme that is credible and well-promoted, pressure from consumers and shareholders will be negligible.   Hence we will continue to pay more for our emissions than necessary and be the poorer for it.

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