The Government has put the Emissions Trading Scheme (ETS) under review. Photo / File
The Government’s review of the emissions trading scheme (ETS) will present challenging choices and value judgments for New Zealand, says climate change expert Matt Cowie.
As the review progresses, it’s crucial that the focus goes on the message rather than the messenger - the ETS - says Cowie, who is climate change director at international consultancy EY.
Through the ETS, carbon is sequestered by planted forests. Companies - typically those that burn coal and gas - can then buy carbon credits, or NZ Units (NZU) to offset their carbon emissions. Under the ETS, possession of one NZU gives a polluter permission to release a tonne of carbon dioxide.
In theory, the high cost of carbon should encourage polluters to switch to greener fuels.
As things stand, forest owners can claim carbon credits for trees grown for both carbon and timber. They also have the option to plant permanent forests which would provide carbon credits to the forest owner for as long as the trees were in the ground.
Both options can include native and exotic species, but pinus radiata is the most popular because of its ability to sequester carbon quickly.
The review is likely to be welcomed by many - particularly people in rural communities who feel the current system offers too much incentive to plant trees at the expense of pastoral agriculture, while failing to tackle the underlying issue of pollution.
There are also concerns that there is not enough encouragement for planting more slowly-growing native trees.
The Government’s review aims to find out whether changes are needed to provide a stronger incentive for businesses to move away from fossil fuels, while also supporting the removal of greenhouse gases.
The review is big news for those who grow trees for carbon sequestration, and for polluters who buy the units to offset their emissions.
Until recently, unit prices have been climbing, but uncertainty about the likely increase in supply of NZU’s led to a failed auction in mid-March.
Cowie said the ETS was just one of many messengers available to the Government.
Phase one of the review will look at what balance of gross and net emissions reductions should be incentivised by the ETS. The second phase will include proposals to amend the ETS in line with the Government’s preferred balance.
Deciding on the message will be the most important and difficult part, Cowie said.
“This is especially true for the New Zealand market given many of the country’s most complex climate change questions revolve around land use choices.
“What works for one industry won’t work for another, and with many industries, businesses and people invested in the scheme, there’s a multitude of desired outcomes.
“The one that works for New Zealand will likely take into consideration everyone’s concerns to find a middle ground,” said Cowie.
As it stands, the ETS provides “blunt” incentives for forestry. Cowie said there were many other technical options for forestry add-ins (or take-outs) available to policymakers within the scheme that could be refined.
“However, if the message from phase one is garbled, uncertain or non-committal, then it is highly likely that the proposals made in stage two will be correspondingly complex and confusing,” he said.
Cowie said there would be three main drivers of the review.
First, there was the Climate Change Commission’s advice that the incentives for forestry, particularly exotic forestry, were “probably too strong” for the ETS.
Second was the debate over the past three or four years, when many people in farming communities became concerned about the proliferation of forestry, and land use changing away from agriculture.
And the third driver revolves around the debate that opened up last year when the Government said it was considering removing exotic forests from the permanent forests category, leaving many questions, particularly from Maori landholders, about whether that was a good outcome.
There are two contrasting views from landholders themselves on whether to incentivise forestry.
Over the past three or four years the focus has been on price controls, and the market has been concerned about being undersupplied with NZUs.
The fact that the Climate Change Commission’s recommendations were not adopted by the Government last year hasd caused people to think about what the downside risk was, or the oversupply risk in the market, which had acted to depress the unit price, Cowie said.
Planting trees for carbon sequestration, sometimes at the expense of productive agricultural land, has been controversial in some rural areas.
Cowie said the review was “definitely” going to give those communities some cause for consideration.
“The Government needs to balance off a range of different considerations in terms of what forestry outcomes it seeks.”
Some landowners would like to keep the right to plant trees for carbon, while other landowners would see that as a harmful outcome.
Cowie said that somehow, a middle ground must be found. “It’s not just a kind of on/off, yes or no decision,” he said.
“There is a transition question and there is a mixture of exotic and indigenous forest outcomes.”
He said there was a role for exotic forestry in New Zealand as a land use, and as part of the economy.
“And then there is a role and purpose for longer growing indigenous forests as long-term carbon stock and from a biodiversity perspective.”
The Government’s review comes at a volatile time for the carbon market. For the first time ever, an NZ ETS auction failed to clear.
Cowie said the fundamentals of this market had been heading towards this outcome for some time.
Over the past year for which data is available, the stockpile of NZ Units has continued to climb while the cover ratio – bids relative to the number of units available - has declined.
December’s auction cleared at a price of $79. In contrast, the March 16 auction didn’t clear because the demand was insufficient.
“We have somehow transitioned in a very short space of time from a market that feels under-supplied to one that feels over-supplied,” Cowie said.
“This back-and-forth outcome helps to illustrate that a lot of thinking is going on, and probably more still needs to happen, about where the secondary NZU price should sit in light of the ever-larger stockpile volume.”
The NZU ETS price has tumbled since the Government - clearly with an eye on the inflationary impact of an escalating carbon price - rejected advice from the Climate Change Commission last year to tighten ETS settings by raising the minimum price at which units were sold on the primary market.
The policy change has resulted in prices on the secondary market slumping. NZ Units most recently traded at $59.25, down from close to $90 towards the end of last year.
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