Combet's Calculated Risk On Carbon


Well that didn’t last long. Only yesterday we were remarking that Labor had enjoyed a rare week in which Tony Abbott and industrial relations, rather the carbon tax, were the dominant stories in the media cycle.

But Labor appears to have decided that now is the time to roll out a series of big announcements. Today, it was a big dental health plan. Yesterday, we had the announcement that the government was abandoning the $15-a-tonne floor price on carbon permits. Instead the government will link Australia’s carbon pricing scheme with the European Union’s scheme from 2015. By 2018, the two schemes will be completely interlinked, with a carbon permit bought in Europe or Australia tradable between the two jurisdictions.

Remember that until 2015, the carbon price is fixed by legislation.

Even so, the change is going to confuse people. We’re only seven weeks into the "clean energy future" and already the government is tinkering with the details of the carbon price. Getting your head around carbon pricing is difficult enough for the experts. Ordinary punters can be forgiven for shrugging their shoulders or throwing up their hands. Greens media advisors were fighting a losing battle on Twitter yesterday trying to explain it to their followers.

It’s not exactly clear why the Government has decided to push for this change. Climate Minister Greg Combet has kept the negotiations with the European Union under wraps, a fair achievement in and of itself. He’s pointed out that this is consistent with Labor’s long-standing approach to carbon pricing, which has always been based on the idea that a fully-developed emissions trading market is the cheapest and easiest way to reduce carbon emissions across a advanced economy.

Combet said in his media release yesterday that "these arrangements provide Australian businesses with access to a larger market for cost-effective emission reductions and provide European market participants with enhanced business opportunities."

I suspect the real reasons are as much about the politics as the policy. The price floor has come under heavy pressure from industry in recent months, and independent Rob Oakeshott has indicated he would no longer support it on the floor of Parliament.

As climate economist Frank Jotzo points out, linking the Australian and European schemes provides another mechanism to put a floor on carbon prices, one that both the Greens and the independents support. If Australian companies go ahead and buy up European permits, that may make it harder or Tony Abbott to roll back the scheme should he win office next year.

The linkage also gives the lie to the argument that Australia is "going it alone" on carbon pricing. Bear in mind that several other jurisdictions are also exploring linking up to Europe’s scheme, including California, the world’s second largest emissions trading zone.

Certainly, there are some compelling policy advantages to linking the two schemes. Australia is joining a carbon market with half a billion people in it, in one of the world’s largest economic blocs. This will vastly increase the potential liquidity of the Australian carbon market. It will also mean that Australia’s carbon price will effectively be Europe’s. As Tim Jordan, an analyst with Deutsche Bank, told Reuters, "Australia will be a price taker after 2015".

Of course, as many have observed, that may be a bit of a problem, because Europe’s carbon price is particularly low at the moment — currently trading below $10 a tonne. This is partly because the Europeans gave away so many free permits in the early years of the scheme, permits which have created a huge overhang in the market. And, of course, the European economy is in the doldrums, so economic growth and therefore energy consumption has been much lower than expected.

However, there are signs that Europe will address the permit overhang in the near future, by cancelling permits. Some analysts think this could push the European price to €14 a tonne by 2014, depending on how many permits the Europeans cancel. The crucial decisions will be taken in Brussels around the issue of "backloading". This is the proposal by which the EU plans to withdraw hundreds of millions of permits from auction in the next few years to shore up the price.

If you dig into the detail, you can see why the Greens agreed to the change too.

Clearly, they preferred to be at the negotiating table rather than excluded. This involvement appears to have secured an important concession in the form of a drop in the quota for Kyoto Protocol clean development permits from 50 per cent of the Australian total to only 12.5 per cent. Under the old scheme, companies could source fully half of their carbon pollution permits from overseas markets regulated by the UN’s Clean Development Mechanism, which is in many cases dubiously regulated, and is in case trading at around half the price of European permits.

For forward-thinking Australian businesses, this is a win.

Companies with large future carbon bills can now hedge their future carbon risks by buying up European permits ion the cheap now, and putting them in the bank for 2015. As analyst Elisa De Witt told Ticky Fullerton on The Business last night, "come 2015 the companies that have already bought those units at a lower price will be better off financially, because they won’t be having to pay the higher prices we’re anticipating in 2015."

It’s complex stuff, this carbon trading. We can’t be sure the Australian price won’t drop further in the short-term; on the other hand, by hitching our wagon to the Europeans, we are more than likely ensuring a higher carbon price after 2020. In the end, no-one really knows. That’s the thing about markets: they’re uncertain.

Ben Eltham is New Matilda's National Affairs Correspondent.