Energy and Environment (NER 60)

National Economic Review

National Institute of Economic and Industry Research

No. 60               December 2006

The National Economic Review is published four times each year under the auspices of the Institute’s Academic Board.

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Editor: Dr A. Scott Lowson

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ISSN 0813-9474

Energy and environment

Graham Armstrong, NIEIR

Abstract

Graham Armstrong provides an update on the Kyoto Protocol before considering several related issues. These include the differing responses to greenhouse policy by the Australian States and Territories on the one hand and the Federal Government on the other, developments in this field in the European Union, an update of the New Zealand Kyoto Target, and carbon trading in Australia.

Kyoto Protocol update

  1. The Kyoto Protocol (KP) was developed in 1997 by two major groups of countries: Annex B and non-Annex B (see below for definitions). Since 1997 the countries party to the Agreement have met regularly as the Conference of the Parties (COP) to clarify and refine the Articles of the KP.
  2. Annex B countries comprise developed economies and economies in transition (mostly eastern European countries) who have made commitments to reduce greenhouse gas (GHG) emissions to the levels set out in Annex B of the Kyoto Protocol document. The specified levels are for the first commitment period, 2008-12, where emissions levels are compared with a 1990 base. Non-Annex B countries, loosely called developing economies, comprise all other countries signatory to the KP.
  3. Annex B countries were called on to ratify the KP, that is to be legally bound by their commitments in Annex B. When countries comprising 55 per cent of emissions covered by total Annex B emissions had ratified the treaty the KP came into force. This occurred on 16 February 2005 following ratification by the Russian Federation.

 

As of 1 July 2005, the percentage of Annex B emissions covered by ratifying countries had reached 61.6 per cent with 0.2 per cent of emissions from countries likely to ratify. The countries opposing ratification, the United States and Australia, comprise 38.2 per cent of emissions (USA 36.1 per cent, Australia 2.1 per cent).

 

  1. Australia and the United States continue to oppose ratification for two main reasons: potential damage to their economies and the non-inclusion in Annex B of major and rapidly growing emitters, particularly India and China.

It is important to note that:

  • projections by the Australian Greenhouse Office (AGO) continue to indicate Australia will meet its Kyoto target, but mainly through reduction of emissions from land clearing;
  • all Australian States and a significant number of USA States support KP ratification; and
  • close neighbours and trading partners of the United States and Australia, Canada and New Zealand, have ratified the KP and are implementing strategies to meet their Kyoto commitments.

 

  1. COP meetings and discussions in countries around the globe are increasingly looking towards policies and programs to address greenhouse (global warming climate change) in the post Kyoto period, that is beyond 2012. The two major issues are:

 

  • how to include Annex B ratifiers in Annex B and non-Annex B countries in a post 2012 agreement; and
  • what form post 2012 agreements should take.

Post-2012 global policy discussions dominated the COP-10 meeting in Montreal, Canada, in December 2005.

 

  1. The United States and Australia (depending on future government make-ups), and some major non-Annex B countries, are likely to oppose targets and timetables for the post 2012 era, whereas most Annex B ratifiers appear to favour continuation of the Kyoto Protocol targets and timetables approach. However, there is broad global agreement that major GHG emissions reductions (“deep-cuts”) will eventually be required.

The Asia-Pacific Partnership on Clean Development

The recently announced Asia-Pacific Partnership on Clean Development, although not viewed by partners as an alternative to Kyoto, will be a factor in future global policy discussions. An inaugural meeting of the group was held in Adelaide in March 2006. Current members of the Partnership are the United States, Australia, China, Japan, South Korea and India. Together they account for about half the world’s population, gross domestic product and greenhouse gas emissions. Of the countries only Japan is an Annex B Kyoto Protocol ratifier.

The primary aim of the Partnership, as set out in the group’s Vision Statement, is to achieve regional cooperation in developing and adopting cleaner (lower emission) energy technologies, including those based on coal, natural gas, nuclear (fission and fusion) and renewables, and technologies to capture and store GHG emissions.

Essentially the Partnership is a multi-lateral extension of existing clean technology agreements, for example that between Australia and India on clean coal. The main implication for States of the Partnership is that, in conjunction with the federal Low Emission Technology Fund, State development of low emission technologies could receive a further boost, depending on how the Commonwealth intends to act on progressing the aims of the Partnership.

Technology development, though essential for reducing global greenhouse gas emissions, does not alone lead to implementation of these technologies to actually reduce greenhouse gas emissions. Market signals complemented by market responsive regulations are a necessary adjunct to technology development. In this respect the plans and proposal outlined in Victoria’s Greenhouse Challenge for Energy (2004), and now being implemented, represent an exemplary integrated approach to future greenhouse policy development.

Thus, the Energy Technology Innovation Strategy (ETIS) and the earlier establishment of the Centre for Energy and Greenhouse Technology (CEGT), support for provision of market signals through development (with other jurisdictions) of an Emissions Trading System (ETS) and the development of Victorian Energy Efficiency and Renewable Energy Strategies (VEES and VRES), represent a balanced and responsible approach to the great challenges posed by global warming to global energy systems.

The Federal versus State/Territorial greenhouse policy positions

Introduction

The Federal and the States/Territories have very different views on greenhouse policy. Thus, despite some cooperation in the areas of energy efficiency (the National Framework for Energy Efficiency (NFEE), Minimum Energy Performance Standards) and in technology development there is fundamentally a wide difference in approaches to greenhouse policy.

Kyoto

The Federal Government continues to oppose Kyoto Protocol ratification whereas the States/Territories, while recognising that Kyoto is just a first tentative step towards an integrated global policy, support ratification.

Emissions trading system (ETS)

The Federal Government continues to oppose the introduction of an ETS whereas the States/Territories are putting a major effort into designing an ETS appropriate to Australian circumstances. Consultations on the ETS design principles developed earlier in 2005 were held around the country over the September/November period. Efforts are now focussed on detailed proposals on the 10 design propositions set out in the Background Paper for Stakeholder Consultation dated 12 September 2005 (www.cabinet.nsw.gov.au/greenhouse/emissions trading). A Secretariat has been formed headed by Anthea Harris (formerly of Frontier Economy).

Design issues to be considered as a priority

Point of liability – and liability average (large and small final emitters, comprehensive coverage).

  • Cap – what range of caps should be analysed: level, timing, flexibility.
  • Allocation – the methods of allocation, permit duration and impacts on electricity prices of different designs, the basis for administrative allocation (“grandfathering”) and the role(s) of auctioning.
  • Offsets – definitions, sources, baseline issues, impacts on permit prices.
  • Treatment of energy intensive trade exposed sectors: definitions, treatment options and impacts of these options.
  • The roles of research, development, demonstration and commercialisation (R, D, D and C) in longer term greenhouse gas abatement and how an ETS can promote these roles.

Process issues to be considered as a priority

There are a number of other issues which should be addressed as a matter of priority which are essentially process related. These include:

  • the legal basis for a scheme – particularly in relation to the constitutionality of a State based scheme. There is no point in States designing a preferred model, without considering what form of scheme is constitutionally sound; and
  • reporting requirements.

Short, medium and longer term greenhouse policies

The Federal Government has virtually no short or medium term policies, seemingly content to assume current policies (or lack thereof) will attain Australia’s Kyoto target, that medium term (2012-20) policies such as an interim carbon signal are not required until global action post-2012 is decided on, and that in the longer term current technology development policies are adequate.

The States/Territories believe that integrated market based and regulatory policies are required for short, medium and longer terms to put us on a path for an orderly transition to a more stringent carbon constrained economy. That is, there is a belief that early action to place activities on a progressively carbon constrained economy is required.

Thus, for example, the States/Territories and the Federal Government’s seeming abandonment of MRET is poor policy and short sighed despite the federal government’s R, D, D and C support for renewables. And the States/Territories are moving on a more rigorous approach to energy efficiency improvement (EEI) and promotion of lower greenhouse gas intensive (GHGI) electricity production.

Developments in the European  Union (EU) ETS

The EU ETS which began on 1 January 2005, has been beset by start-up problems. Firstly, about half the EU countries have not finalised their National Allocation Plans and this has restricted EU ETS trading in emission allowances.

Secondly, allowance prices have been much higher than expected: up to E30/tonne (now down to about E20/tonne compared with an expected range of E10-15/tonne. Besides the partial market (should the commencement have been delayed until 2006 to allow for completion of all NAPS), the rise in oil prices has led to a significant rise in oil linked gas prices, leading to substitution of coal for gas in electricity generation. This resulted in a higher than expected demand for allowances (in a restricted market) with generators not better off paying for coal plus allowances rather than generating with high priced gas.

New Zealand Kyoto target update

Original estimates (2002) of New Zealand’s carbon trading status were that New Zealand would have a 30 Mt surplus of CO2 credits over 2008-12, worth about NZ$450 million. However, 2005 projections indicate a deficit of 36.2 Mt costing NZ$543 million due to rapid growth in energy (mainly transport), industrial process emissions, miscalculation of Kyoto forest sequestration credits and over-estimation of program (EEI, etc.) impacts.

The New Zealand carbon tax of NZ$15/t CO2e was estimated to cost the average household about NZ$4/week and raise about NZ$360 million a year. A review of the New Zealand Climate Change program in the fourth quarter 2005 resulted in termination of the proposed carbon tax and development of a new climate change policy is now underway.

The New Zealand experiences should indicate for Australia:

  • doubts on whether the Australian emission target will, in fact, be attained as the Federal Government continues to claim; and
  • the difficulties associated with climate change policy designs and impacts.

Carbon trading in Australia Current markets

Currently a range of initiatives, mandatory (M) and voluntary (V), most with a trading element, are reducing, or aim to reduce, greenhouse gas (GHG) emissions through greenhouse gas abatement. Certificates associated with these measures have a market value in 2005 totalling about $ 325 million. These measures are briefly outlined below.

1.             MRET (M)

 

MRET is currently a high cost route to GHGA, effectively sunsetted at about 6 Mt CO2e GHGA in 2010. Renewable energy certificates (RECs) from accredited renewable sources are now trading at about $30/MWh (about $ 25-35/t CO2e) from a range of renewable electricity sources.
The value of REC market in 2005 is about $100 million and about $285 million in 2010.

 

2.             New South Wales’ Greenhouse Abatement Scheme (GGAS) (M)

Recently extended to 2020, the Scheme requires electricity retailers to purchase their share (based on electricity sales of the estimated target market determined by regulations each year). NSW Greenhouse Abatement Certificates (NGACs), from a range of accredited renewable, fossil and energy efficiency improvement sources, are currently trading at about $14/t CO2e.

The value of the NGAC market in 2005 is estimated to be about $155 million and to be about $315 million in 2010.

3.             Queensland 13% Gas Scheme (M)

This measure is aimed at increasing the share of gas in the Queensland electricity generation mix and requires electricity retailers in Queensland to source 13 per cent of their electricity from gas (large loads over 750 GWh/year) are exempt (see Section 4.5 of this report for details). The Scheme which commenced on 1 January 2005 is implemented through tradable accredited Greenhouse Electricity certificates (GECs) which are currently trading at about $15/MWh.

The value of the GEC market in 2005 is estimated at about $70 million and in 2010 about $60 million (GEC price expected to drop despite increased volumes).

 

4.             Green Power (V)

Green Power involves the voluntary payment of a premium for electricity to cover the retailer costs of acquiring Green Power RECs which cannot be used for acquitting MRET liabilities.

The value of the Green Power market in 2005 is estimated to be about $15 million and perhaps some increase to $20 million in 2010.

5.             Greenhouse Friendly Certificates (V)

GFCs which accredit GHGA from eligible sources (including flaring of methane at landfill gas sites) are voluntarily purchased by companies to offset their greenhouse gas emissions from their activities. Currently there is a very limited market for GFCs which are trading at about $4/t CO2e.

The estimated GFC market value in 2005 is <$5 million and in 2010 to be about $10 million.

6.             Greenhouse Abatement Certificates (GACs) (V)

This market, which is just commencing, is the voluntary purchase of GHGA accredited certificates by entities to offset GHG emissions from their activities. The GACs differ from GFCs because of the wider range of eligible sources and their generally more stringent eligibility (additionality) criteria.

The rationales for purchasing GACs vary from “green image” to “contingent liabilities” and “learning by doing” in advance of a mandatory emissions trading system (ETS) introduction. Use of renewables for production of thermal energy (process heat, water heating), which are not eligible under MRET, GGAS or GP can be eligible to produce GACs.

The estimated value of the GAC market in 2005 is <$1 million and in 2010 possibly $ 10 million plus, as interest in GACs increases.

Total estimated value of the above “carbon” markets in 2005 is about $280 million.

Some companies, such as Energy Developments Ltd (EDL), are significant players in this market (EDL Annual Report indicates about $20 million of accredited certificates in 2004).

Future carbon markets

  • Current markets, in absence of new measures, could build to about $700 million in 2010.
  • The 31 October 2005 announcement by Victorian Premier Bracks of a Victorian Renewable Energy Obligation (VREO) to sustain the renewable electricity in Victoria is faced with collapse as a result of a static MRET. The VREO target is 10 per cent of electricity end-use consumption by 2010. Compared with an MRET only policy this would require about another 2,500 GWh of Victorian RE by 2010. At $35/MWh VREO (higher cost than MRET RECs) this “carbon” market would be worth about $90 million in 2010. VREO details are currently being considered.
  • Main potential future measure is an Emissions Trading System (ETS) now commencing operation in the EU, Norway and proposed for Canada to meet their ratified Kyoto Protocol commitments.
  • ETS elements: tradable carbon emission permits to attain a specified greenhouse target (information available on www.iea.org.).
  • Federal Government remains opposed to ETS but supported by States/Territories who are now designing a national “made in Australia” ETS.
  • Ten design propositions/issues including:
  • method of allocating permits (auction, AA, hybrid);
  • target: now looking at beyond Kyoto (2012) period and approach to GHGA (greenhouse versus economic uncertainty);
  • point of permit liability (who must hold and acquit permits) – some stationary energy sector possibilities set out in Figure 2.1; and
  • means of addressing adverse economic impacts on certain economic sectors.

ETS permit prices, economic impacts and size of the permit market will depend on the specific design of the ETS: potentially $3 billion total value of permits (at $10/t CO2e) in 2010.

Table 1 E and E NER 60

The concept of Australian Greenhouse Gas Abatement Program (GAP)

Currently in the absence of an emissions trading system (ETS) there is no national carbon signal initiative. As indicated above, there is a range of State programs encouraging greenhouse gas abatement (GHGA) that mainly focus on renewable electricity (gas electricity in Queensland and New South Wales).

MRET and Green Power are high cost GHGA routes and no program covers the range of GHGA opportunities, thus not encouraging least cost GHGA. For example, except for domestic solar hot water (SHW) under MRET production of thermal energy from renewables (for example, production of biogas from renewable wastes avoiding landfill and displacing fossil fuels), although often relatively low cost, is not eligible under any programs.

What is suggested here, in advance of an ETS, is a national GAP implemented through tradable certificates and based on new projects with a greenhouse gas intensity of <0.3t/CO2e and not viable under market conditions (that is, the projects would be additional, beyond BAU, as under the Kyoto Protocol Clean Development Mechanism rules). Energy efficiency improvement (EEI) projects would also be eligible, albeit raising difficult baseline/additionality issues.

More work is required on the GAP concept, but it is one worthy of consideration, perhaps initially on a voluntary basis (there are niche market opportunities) and later to replace existing programs.

Potential GAP features

  • Energy sources, including production of thermal energy from thermal sources, with a GHGI lower than 0.2-0.3t CO2e/MWh would be eligible for tradable abatement certificates.
  • Would be a greenhouse gas abatement measure (NOT a renewable electricity scheme) implemented through tradable GACs not RECs.
  • Between 0 and 0.2t CO2e/MWh GHGIs which fossil fuel technologies would qualify?
  • fuel cells: 0.4+?;
  • cogeneration: probably not but depending on how GHGI estimated (electricity, heat) could qualify at 0.25;
  • other? Geosequestration with CCGTs and possibly coal, hybrid RE/fossil technologies for example biogas/gas electricity generation;
  • energy efficiency: difficult baseline issues.
  • Would eligible sources be restricted to emerging technologies? If so, how would emerging technologies be defined? Additionality test?

Definitions of Large Final Emitters (LFEs) and Small Final Emitters (SFEs):

  • data sources on energy use (sources) and emissions (levels) (ABARE, AGO) and decision, following analysis, of SFEs, LFEs. LFEs in Canada emit >8,000t CO2e (about 0.16 PJ of gas emits 8,000t CO2e);
  • treatment of fugitive emissions.

Decisions required for these emissions on acquittal points (upstream, downstream) and/or alternative policies: analysis and recommendations being prepared by Vic. ETS Technical Group (DPI, DSE, DOI).

Suggest an 0.3 upper limit

  • All renewable energy applications would qualify, not just renewable electricity as in MRET, GGAS, GP: thermal applications of renewable energy would qualify.
  • However, given MRET and VREO would renewable electricity qualify?
  • Should a portfolio approach be adopted?
  • Could be badged as a greenhouse abatement program (GAP) OR low emission technology application (LETA) program.
  • Implemented through gas and electricity retailers and certificates. Target?
  • Project cost of certificates? Up to $20/t CO2e if renewable electricity excluded. If used portfolio approach, different prices for each portfolio would emerge.