Tuesday, May 29, 2007

Tuesday column: Don’t break out the CO2-free champagne

Don’t break out the CO2-free champagne. On Sunday the Prime Minister is expected to give environmentalists (and economists) what they have long wished for - a system of trading in permits to pollute.

Advertising agencies have already scripted the campaign that is to follow.

The Prime Minister’s announcement will confirm what has been becoming apparent bit-by-bit for months. That John Howard is no longer insisting that we wait for the rest of the world before setting up our own carbon trading system and he is no longer insisting that we wait for further evidence that climate change is serious.

As he put it last month: “Everybody agrees that you have to have some price on carbon to effectively deal with the emissions problem. And the best way of delivering a price on carbon is through a market mechanism, namely an emissions trading system.”

The Prime Minister is a late convert, but apparently a real one. So why shouldn’t environmentalists and the 75 professors of economics who have written him an open letter break out the bubbly?..

Because, as satisfying as winning an argument is, what is far more important are the details of the system that results.

Think about a road traffic congestion charge - another idea beloved of both environmentalists and economists. These days any private car that wants to come into the city of London during the day has to pay $20 for the privilege or stay away. Londoners regard it as a huge success. Travel times have halved, traffic in the city is down 25 per cent, and the money raised has been used to put on 300 new busses.

But the same idea could have been introduced differently.

London, or Sydney, could have accepted the theory but instead set the charge low – perhaps at just a few cents a day - and also exempted from the charge every vehicle that had grown used to traveling into the city.

Surely that couldn’t happen to emissions trading?

It is exactly what is being proposed.

Polluter after polluter that has made a submission to the Prime Minister’s taskforce on emissions trading has said that while it supports the idea of a trading scheme, it wants the price of the permit set low and it wants to be given enough permits - gratis - to cover most of the pollution it already does.

As Australia’s most venerable economic modeler and one of the signatories to the economist’s letter Professor Peter Dixon of Monash University told me: “It’s the same as putting a tax on carbon pollution and then instead of doing something useful with the proceeds - like cutting another tax - giving it to the shareholders of the polluting companies”.

It is even better than that for the polluting companies. If they get given for free permits that a would-be competitor would need to buy, they get given a built-in cost advantage. Their would-be competitors might not bother! No wonder they like the idea. (Economists call the idea “grandfathering” and call the result a “barrier to entry”.)

The best way to distribute permits is to auction them. The firms that need them will pay what they are worth and pass on the costs to consumers in higher electricity prices.

The government can use the money it raises from each year’s auction to cut income tax, to cut company tax, or to support the development of low-carbon technologies.

A word of warning: don’t expect the government to go for a system where all of the permits are auctioned. That’s politically unrealistic. As the submissions say, the existing polluters want “compensation”. What will be important in the Prime Minister’s announcement on Sunday will be the mix of auctioning and handouts in what he proposes. The greater the proportion of permits that he hands out and the smaller the proportion that he auctions, the less serious he will be about cutting emissions and the keener he will be to buy off polluters.

Another measure that will indicate how serious the Prime Minister really is about cutting emissions will be the price at which he suggests the permits will trade. However they are initially allocated, the price at which they eventually change hands will be decided by the number on offer each year. If there are very few on offer (just as in the market for bananas last year) the price will skyrocket. If there are many (as there were when Europe set up its carbon trading scheme) the price will collapse.

The feeling of people who have spoken with the Prime Minister’s taskforce is that it is looking at a fairly low carbon price to start with – around $10 per tonne emitted, which won’t be anything like enough to cut emissions from electricity generators by the 80 per cent needed by the middle of the century.

The Prime Minister and his taskforce might argue that a low initial price is needed to get business used to the system (just as London’s planners might have argued that a low initial price was needed to get car-users used to the idea of a traffic congestion charge). But economic modeling suggests that the lower the initial carbon price, the higher the carbon price will need to later climb nearer the middle of the century and the higher will be the average electricity price in the 40 years ahead.

If the Prime Minister talks about a low initial carbon price in his speech on Sunday it is a fair bet that he isn’t serious about cutting emissions – that he regards climate change as a mere “irritant”, as he put it to his MPs last week.

There are two other tests. One is whether or not the Prime Minister extends or abolishes mandatory renewable energy targets.

Sir Nicholas Stern, the economist who ran the last year’s British inquiry into climate change makes the point that what is at stake is far too important to leave to the economists favourite plaything – trading. Targets requiring electricity wholesalers to source their energy from renewable sources are needed as well.

Without mandatory renewable targets the Prime Minister won’t be serious, and he won’t be serious without Kyoto either.

All sorts of reasonable arguments can be mounted as to why the Kyoto agreement isn’t perfect, or is merely symbolic. But that is no longer the point. It is set to expire in 2012. If Australia continues not to sign, it may miss out on a seat at the table that will design the agreement that comes next.

No Prime Minister serious about climate change would want that to happen.

1 comments:

Dave Bath said...

Looks like the government is following the European model with all the pitfalls of the world's first real attempt, without listening to the Europeans saying "Learn from our mistakes with Version 1.0, while we are trying to go to Version 2.0"

Their mistakes include
(1) Too low a price because of too many credits created in the first place
(2) Kowtowing to industries to get almost free allocations in the first instance.

The only mistakes we might not make in the first instance is if the initial allocations are driven by state-v-state wrangling, each making it easy for their own industries, in the same way that German v Polish v French (etc) wrangling created too many allocations.

Post a Comment

COMMENTS ARE CLOSED