To Tax, Or Not to Carbon Tax?

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To Tax, Or Not to Carbon Tax?

As the Durban conference on climate change continues, does the debate over a carbon tax in Australia offer any useful lessons for gathered delegates?

Political coups, green bashing and business warfare: welcome to Australia’s high stakes global warming debate, 2011-style. After the issue claimed the scalp of one premier, threatened another and saw a number of false starts, Australian Prime Minister Julia Gillard declared victory on November 8 with the passage of the nation’s first carbon pricing laws.

While supported by environmentalists, the carbon tax battle has seen Gillard’s Labor Party sink in the polls amid fierce opposition from the mining and manufacturing industries along with the government’s political opponents, led by Liberal Party and Coalition leader Tony Abbott.

Yet even as the dust has barely settled in Australia, the seventh largest emitter among industrialized nations, current climate treaty talks in Durban, South Africa, are again attempting to find a global solution to the issue. Will the new Australian scheme inspire the world’s top emitters to do likewise, perhaps even creating an “Asia-Pacific” carbon trading regime? Or will Australia’s effort simply vanish into the thin air of international diplomacy, as the world’s leaders focus on rescuing the global economy?

The Diplomat spoke to political, business and economic analysts on the implications of Australia’s new scheme. Unfortunately for the green visionaries, the most upbeat prognosis was: nice try, pity about the timing.

“There’s an argument that Australia can set an example and others will follow, but my experience of foreign policy is that what really drives national policy is self-interest,” says former Foreign Minister Alexander Downer.

“These days, the fashion in international dialogue is the problems of the global economy, not climate change,” he says. “As much as we may hope that what we do will influence other countries, it won’t encourage a greater sense of altruism in other countries, and to think so is just naïve.”

Downer’s hard-headed, Realpolitik assessment appeared well-founded, after U.S. President Barack Obama declared while visiting Australia that carbon trading was off the agenda in the United States for the foreseeable future.

And with the European Union’s carbon price in free fall, the accusation that Australia has given a free kick to trading competitors by levying a costly and high carbon price has gained weight.

Still, last month’s passage of the carbon pricing legislation marked a personal victory for Gillard, who ousted former Labor leader Kevin Rudd in June 2010 partly due to his failure to drive through parliament his proposed “Carbon Pollution Reduction Scheme,” or CPRS.

Aimed at achieving at least a 5 percent reduction in emissions compared with 2000 levels by 2020 – and potentially an 80 percent cut by 2050 – Gillard’s scheme has legislated for a A$23 a ton carbon price from July 1, 2012, rising 5 percent a year for three years.

By comparison, Europe’s carbon price has dropped more than 40 percent in the past four months to below A$12.30, its lowest level since the global financial crisis, according to the Australian Financial Review.

By mid-2015, assuming Abbott’s coalition hasn’t assumed power and abolished the scheme, Australia’s system is proposed to become a trading scheme linked to international carbon markets, although with a floor price of A$15 per ton.

But four years is a very long time in politics, judging by the troubled history of Australia’s proposed carbon pricing schemes.

On, off and on again

Australia’s first serious attempt at carbon pricing was in 2007, an election year in which both the challenger, Rudd, and the incumbent, then Prime Minister John Howard, pledged their own versions of the scheme. After winning office, Rudd announced plans for the CPRS, a cap and trade scheme aimed at slashing Australia’s emissions by 60 percent compared with 2000 levels by 2050.

Yet by late 2009, Rudd’s scheme was under attack from both environmentalists and business groups, with the government forced to concede ground in gaining support from the Malcolm Turnbull-led opposition. Turnbull’s leadership on the CPRS angered his party members, however, and on December 1 he lost a leadership ballot by just one vote to the anti-CPRS Abbott, who called it a “great big new tax.”

A day later, and the opposition-controlled Senate blocked the legislation, giving Rudd the trigger for a new election. Rudd failed to grasp the opportunity, though, and his decision in April 2010 to delay the scheme ultimately helped cost him the party leadership.

In another irony, Gillard had reportedly helped convince Rudd to scuttle the CPRS over fears of its electoral unpopularity. Abbott, for his part, would have been duty bound as a government minister to implement the Howard scheme had his party won the 2007 poll, and was even quoted in mid-2009 saying a carbon tax might be preferable to emissions trading schemes.

By June 2010, Rudd was badly trailing Abbott in the polls, and with an election looming, Gillard was installed as Labor leader in a bloodless coup. In her first speech as prime minister, Gillard pledged to “prosecute the case for a carbon price at home and abroad.”

Despite vowing that “there will be no carbon tax under the government I lead,” the cliffhanger August poll saw Labor lose its parliamentary majority, and Gillard was forced to implement a carbon pricing scheme as a condition of forming a minority government with the Greens and independents.

Consequently, in February 2011, Gillard proposed a fixed carbon price prior to a floating, market-set price in the Clean Energy Bill. Despite both major parties committing to emissions reductions of 5 percent below 2000 levels by 2020, a bitter debate followed, with the legislation passing through the lower house in October and the upper house a month later. Announcing his continued opposition, Abbott made a “blood pledge” to abolish the scheme after the next election, even if it required a double dissolution election. He has proposed a A$3.2 billion “direct action” plan involving tree planting, solar rebates and direct subsidies to emitters, although the government has claimed its actual cost would be A$62 per ton of carbon.

But for Gillard, the legislation’s passage was a moment of political history for her beleaguered government.

“Within the space of just 38 years…our nation will cut nine out of every 10 tons of the carbon pollution we would otherwise have released into our atmosphere,” Gillard was reported as saying.

The legislation’s passage through the Senate corresponded with a rise in Labor’s electoral support, with one lawmaker saying it made a move against Gillard less likely following speculation of a challenge from Rudd.

Defending the price difference with the EU scheme, Climate Change Minister Greg Combet told the Sydney Morning Herald that the fixed price “provides certainty for investors.” The statement was supported by four major green investment groups representing US$20 trillion in funds, including the Investor Group on Climate Change, which said that “carbon pricing is the only real, long-term policy solution for Australia.”

According to June 2011 forecasts by the National Australia Bank, the carbon price will have only a modest impact on the economy, increasing inflation by 0.75 percent in 2012/13 and cutting economic growth by just 0.2 percent. Postponing action would likely increase the cost, with the OECD warning of 50 percent higher costs in 2050 compared to more timely action globally.

For its part, the Business Council of Australia said the carbon price threatened to “significantly increase risks to economic growth and competitiveness,” while the Minerals Council of Australia predicted it would cost Australian businesses and households more than A$105 billion by 2020. 

The Australian Coal Association warns some 47,000 jobs could be lost due to carbon pricing, even with federal government assistance for so-called “gassy mines.”

“No wonder our coal producer competitors in South Africa, Canada, Mongolia and Indonesia are cheering; we will now export our emissions, investment and jobs to them rather than our coal,” says Nikki Williams, New South Wales Minerals Council chief executive officer.

Following a previous successful A$17 million media campaign against the Rudd government’s proposed resource super profits tax, the business lobby groups advertised against the carbon price, noting that Australia was responsible for only 1.5 percent of global emissions.

Abbott claimed some 3 million Australian households would be worse off under the scheme, although the government instead said more than 4 million households would benefit due to A$15.4 billion compensation in the form of tax cuts and other assistance.  The government has also pointed to data showing Australians generate more emissions per capita than any other developed country, and it asserted that only around 500 big polluters would be subject to the carbon price. Without action, the government estimates carbon pollution will continue rising 2 percent a year through to 2020.

“World’s costliest scheme”

Put 10 economists in a room and it is said you’ll get 10 different answers to a problem; and the same may be said for those polled by The Diplomat on the effects of the carbon price.

Tim Wilson, director of climate change policy at the pro-market Institute of Public Affairs, says the Australian government scheme would be the world’s costliest due to the combined effect of state-based renewable energy targets and the national Clean Energy Finance Corporation scheme.

“Australia’s carbon tax really only compares with the European price, where there’s a direct price put on major emitters, and even that only sits at half the cost. By comparison, where prices exist across the rest of Asia, they are through forms of regulation imposed through things like Australia’s mandatory renewable energy target, which already imposes a significant indirect carbon price,” he says. “If you add the carbon tax to the pre-existing carbon price in Australia, Australia will have a carbon tax rate well in excess of any other country on Earth, including the combined EU region.”

Wilson says the electricity generation, aluminum smelting and mining industries would be the main ones affected, with higher electricity costs hitting the manufacturing industry particularly hard.

“The effect will be economy-wide as prices for everything will have to go up – that’s the intent of the tax…Domestic industries will be quite significantly harmed if they’re trade exposed, and understandably some may move offshore.”

QUT Business School’s Mark McGovern agrees, saying the scheme risks adding to the “deindustrialization of Australia” by encouraging the export of productive, income-producing “polluting” industries.

“The idea that we can act and save the world, so to speak, is ridiculous…It would have been much better to incorporate it within the tax system, where you can put in incentives for new investment in cleaner energy.”

He says the scheme would only encourage some “experimentation” in renewable energy and also disadvantage exporters. An added issue is the risk of leakage from Australia’s carbon trading system, should the international price fall below the minimum mandated by Canberra.

“One of the problems with a trading system is if the price falls low enough, it becomes ineffective. Everyone is assuming that the price is going to rise, but how can you mandate a floor when you have international movement of [permits]?

“We haven’t thought about what might happen if the carbon price goes ridiculously high or low – we’re just hoping that by the goodness of the market, this problem will be solved, and that’s a pretty foolish position to take.”

But the University of Queensland’s Prof. John Quiggin was more positive, arguing the government’s “generous” assistance measures would lessen the impact.

“We’ll see brown coal-fired power stations shutting down and we’ll see a pretty strong incentive against any new such stations…I don’t think either mining or manufacturing, with the exception of some metals smelting, will be affected at all,” he says.

“Once the price is in place, we’ll see that many of the predictions prove to be nonsense. If nothing much is happening on the global scheme, we could stick with a fixed price and increase it gradually, and if we are seeing forward movement then we should move in that direction as well.”

BDO partner Dylan Byrne, an environmental sustainability adviser, says the initial price of A$23 per ton wouldn’t be high enough to encourage investment in alternative energies such as solar, wind and thermal power. However, the situation could change after 2015, when the supply of carbon permits starts falling and the price is set by the market.

”Over time, the expectation is that the price will become high enough to make alternative, renewable energy sources more economical,” he says. “This will assist in driving that behavioral change that you need to reduce emissions.”

Asia-Pacific scheme?

Talk of an Australia and New Zealand-led carbon trading scheme spanning the Asia-Pacific region, which comprises 60 percent of global emissions, has been hosed down by Australian climate change bureaucrats.

An August 3, Australian Financial Review article said Australia was “investigating options to set up an Asia-Pacific carbon-trading scheme ahead of the likely failure to achieve a global climate deal later this year.”

According to the business daily, the Australian and New Zealand governments had pledged to integrate their emissions schemes. Law firm Baker & McKenzie had also been asked to advise on new carbon trading mechanisms in the region with countries such as Indonesia and Papua New Guinea, seen as potential sources of carbon credits.

The move followed a report by government climate change adviser Prof. Ross Garnaut urging a regional scheme, but only one with “clear accounting, reporting and verification procedures.”

Asked to confirm the report, a spokesperson for Australia’s Department of Climate Change and Energy Efficiency said the study would conclude in early 2012 and was simply aimed at identifying “possible capacity building opportunities in Asia-Pacific developing countries to support the design and implementation of carbon market mechanisms. This may inform the Australian government’s future aid programs and international climate change policies.”

While admitting that “there’s currently no regional carbon trading scheme in the Asia-Pacific region,” the spokesperson referred to the prospect of trans-Tasman cooperation, stating that “linking Australia’s and New Zealand’s emission trading schemes helps lower carbon prices and can lower business compliance costs for firms operating in both countries.”

Asked about the prospect of a broader regional scheme, the spokesperson pointed to moves in this direction by a number of major regional powers.

“Japan has a voluntary carbon trading [scheme] in place; China is planning to pilot carbon trading; and [South Korea] has passed a Framework Act on Low Carbon Green Growth under which it plans to implement carbon trading…in North America, carbon trading has operated in 10 US states since 2009, and a new scheme involving US and Canadian states and provinces is expected to begin in 2012.”

Along with bilateral climate change agreements with China, Japan, New Zealand and the United States, Australia was working with near neighbors Indonesia and Papua New Guinea to “build each country’s capacity to reduce emissions from forests,” the spokesperson added.

Australia’s carbon trading scheme, planned for 2015, would link with the New Zealand and EU schemes. Linkages with other schemes would be based on criteria including a commitment to emissions mitigation, “adequate and comparable monitoring, reporting, verification, compliance and enforcement mechanisms” and compatible design and market rules.

The pay-off for Australia would also include a stronger hand at global climate treaty talks, the spokesperson said.

“Helping to shape a global climate change solution is a priority of the Australian government…Having a domestic scheme underpinning our emissions reduction pledge demonstrates our serious commitment to make a full and fair contribution to international efforts. This puts Australia in stronger standing in international negotiations on climate change.”

However, Australia’s stronger position may not necessarily inspire others to follow, according to Downer.

Downer, who spent 11 years as foreign minister, says the lack of consensus would count against a region-wide scheme or a global deal at Durban.

“In most of the international community there’s more or less agreement that climate change is an issue, but most of them take the view that ultimately it’s going to be a matter for the major economies to address: the EU, the US, China…[they’re] prepared to do a bit, but aren’t going to go out alone and do anything that imposes additional costs without there being any obvious benefits,” he says.

“There’s potential to link the Australian and New Zealand schemes, but given that the New Zealand economy is about one-eighth the size of Australia’s, it’s not going to have a very big impact one way or another.

“Do I think Southeast Asia, China and Japan are going to get into setting up an emissions trading scheme which would become a region-wide scheme? Not in my lifetime they’re not – this isn’t going to happen.”

However, Downer points to the September 2007 Washington conference, chaired by then U.S. Secretary of State Condoleezza Rice and involving the 16 leading economies, as a model for a future global agreement.

“It’s always been my view that if you want to get a meaningful international deal on climate change, then frankly the best way to do it is to get the 15 to 20 biggest economies to sign off on an agreement themselves, and then they can reach out to the rest of the United Nations,” he says.

While potentially feasible under WTO rules, the University of Queensland’s Quiggin downplays the likelihood of Australia raising tariffs on imports from competitors without carbon pricing schemes in place.

“I don’t think any Australian government is going to be stupid enough to put tariffs on imports from China [or elsewhere]. Let’s be honest, the Chinese have eaten our lunch in manufacturing already. There aren’t going to be large areas where we’re going to be exposed to imports from China.”

Renewables race

As the world’s biggest producer of greenhouse gases, any action by China to curb emissions is set to have an important bearing on global action. In recent months, though, Japan has also signaled its intention to join the renewable energy race by launching its feed-in-tariff (FIT) scheme after previously pledging a 25 percent cut in emissions from 1990 levels by 2020.

According to Jonathan Watts, The Guardian’s Asia environment correspondent and author of When a Billion Chinese Jump, Chinese policymakers see carbon trading as another means of achieving their target of improving carbon intensity rather than simply cutting emissions.

Beijing has flagged plans to have emissions trading schemes in 13 regions by 2013, with the Chinese government having pledged to reduce carbon intensity by 40 to 45 percent of 2005 levels by 2020.

“The Chinese government has been looking at the carbon cap and trade system for some time, and what they’re doing is what they often do with something new, which is having a series of pilot projects in provinces where they think they are most likely to be effective,” he says. “I think they will put effort into making it work because they have been pushing quite hard over the last five years on top-down, old-style centralized measures to trim the carbon intensity of China’s economy. But they realize that that alone isn’t working. They don’t see it as the market or the state – it’s horses for courses and cap and trade is another potential tool to be added to the mix.”

Watts says China’s lack of experience in market-based systems makes it a challenging project for Beijing’s planners, given the issues with carbon trading in developed countries.

“The United States wasn’t able to make it work, Europe’s system is far from problem-free and Australia’s is about to start. To think that China, which has much less experience in administering markets generally, and much less background on measuring and monitoring carbon emissions and overall governance supervision, is suddenly going to be able to do it when other countries haven’t is a bit over-optimistic.”

Watts also points to the vexing issue of additionality, with experts questioning whether EU purchases of Chinese carbon credits actually encouraged new investment in renewable energy, or had simply reduced the cost of wind and hydropower projects that would have otherwise proceeded.

“The really contentious issues have surrounded some of the big chemical and power plants, which have effectively claimed that we’re going to do this [pollution], but if you give us a bunch of carbon credits we’ll scale back. It’s like being paid not to rob someone – it’s really quite bizarre, and all sorts of questions have been asked about it,” he says.

Watts says China’s investment in wind and solar power has made it the leading force in such industries. In 2010, Asia’s biggest economy reportedly invested more than US$50 billion in renewable energy, outpacing Germany’s US$41 billion and the US$34 billion spent in the United States.

Yet despite the renewables push aimed at improving China’s carbon intensity and boosting energy efficiency, the country remains reliant on greenhouse gas-producing coal-fired power. Reflecting its economic development, per capita emissions have risen from 2.2 to 6.8 tons since 1990, and could even overtake the United States’ level by 2017.

China already produces more emissions than the United States, accounting for 24 percent of the world’s total compared to the second-ranked United States at 18 percent, with neither country having committed to mandatory targets under the Kyoto framework.

“The Chinese government is trying to wean itself off coal…but in the meantime, wind power, despite its impressive gains, is still just 2 to 3 percent of overall power generation. China is aiming for 15 percent of all energy to come from renewable sources by 2020, but that’s hydro power and nuclear, and neither are exactly problem-free,” he says.

Watts said while Chinese policymakers recognized that it would be “one of the worst affected countries” by climate change, its emissions might not peak until 2030, with a slowdown in economic growth likely as resources became scarcer and more expensive.

While producing less than one fifth of China’s 2008 emissions, neighboring Japan’s actions on climate change have been closely watched following its hosting of the original Kyoto Protocol, which expires in 2012.

However, the decision in December 2010 by then Prime Minister Naoto Kan to postpone national carbon trading was seen as a blow for proponents, while its nuclear energy plans and refusal to commit to a post-Kyoto treaty without the inclusion of China and the United States also alarmed activists.

However, the March 11, 2011 earthquake and tsunami disaster and resulting meltdown at the Fukushima Daiichi reactor changed the debate in Japan. From being promoted as producing 53 percent of its electricity by 2030, nuclear power suddenly lost much of its political sway, with a permanent boost to renewables seen coming from the August passage of the FIT bill.

Under the FIT scheme, which comes into effect in July 2012, utilities will be required to buy electricity generated from renewable sources, including solar power, at fixed prices. According to Rikkyo University Prof. Andrew DeWit, the FIT would achieve similar outcomes to carbon trading in reducing emissions and supporting the development of “clean” power, but it had also taken much of the momentum away from carbon trading.

“The feed-in-tariff is going to cost a lot of capital in the transition period to renewables – these will get cheaper over the medium to longer term, but in the short term they will cost, and they’re very sensitive about anything to do with cost,” he says.

“Now that the FIT has been brought in, it seems unlikely that there will be the political momentum and clout inside the [Democratic Party of Japan] administration [for carbon trading]…Are you going to be able to orchestrate any kind of movement on an emissions trading scheme that was postponed even before Fukushima? Try to sell an emissions trading scheme without an economic recovery? Forget it.”

While DeWit says Japan would in the short term be forced to utilize more emissions-intensive energy due to its reduced nuclear power, ultimately the FIT would serve to drive down emissions and even serve as a model for other countries to follow.

“Japan’s capacity to lead in creating a post-Kyoto carbon reduction regime is hindered by the fact that it’s going to have to burn a lot more oil, gas and coal, depending on how fast it can ramp up its renewables capacity and ratchet down waste. But is it best to go to an international regime first, or is it best to get robust feed-in-tariffs driving an energy shift?

“Once you get economies of scale and technological innovation really going, you start seeing profound results and that will become clearer in a case like Japan. Japan is still a world-class manufacturing center, and was the leader in renewables until the nuclear village smothered its efforts…Japan’s contribution to the international achievement of low carbon economies may come through the FIT, rather than Kyoto.”

“Exactly the wrong time”

With the world’s attention turning once again to global warming action, Australia’s scheme puts it back among the “in crowd” of those countries seen committed to action on climate change. But with the United States and Europe in economic trouble, Japan recovering from its worst natural disaster in history and China showing signs of a slowdown, any momentum towards a regional or global deal appears to have stalled.

In Australia, Abbott’s commitment to abolishing the carbon pricing scheme should he win power at the next election – likely in 2013 – would end carbon trading even before it got off the ground, although a Greens-controlled Senate could prove difficult to overcome.

“The carbon tax will be in place until the next election and until then there will be uncertainty – for most businesses, due to recent polling, investment [in renewables] is going to be on hold,” the IPA’s Wilson says.

“Should the government win re-election, then the situation will change quite quickly because unwinding an emissions trading scheme is much harder than unwinding a carbon tax. But should the Opposition win, which is what every poll says, we’re going to see a radically different outcome and the world will be a very different place. Under Abbott’s direct action plan, you’ll see government purchasing of emissions reduction, and whether that’s effective or not is very much an open question.”

Wilson says international linking of carbon trading schemes required “an incredibly large amount of trust,” with the prospects of an Asia-Pacific scheme dampened by the European experience.

“The EU experience shows that there are a lot of countries that have been dishonest in the way they impose such a scheme. It’s possible a regional solution could develop over time, but I don’t think we’re talking about the next 10 or 15 years – I think by 2050 it may be a possible scenario.”

According to the UN’s Clean Development Mechanism, there were already some 3,500 emissions reduction projects in 72 countries, but the international market was “vulnerable to an exodus of CDM participants” should the Durban talks fail.

QUT’s McGovern points to the global economy as the major stumbling block for climate change negotiators.

“One of the things we are underappreciating is the seriousness of the problems facing the big developed economies of Europe, the United States, China and Japan. Unfortunately for those who love the [carbon trading] scheme, it’s probably come at exactly the wrong time for the global economy,” he says.

But while agreeing a quick deal was unlikely, Quiggin says Australia still has reasons for taking unilateral action.

“We’ll get a global agreement sooner or later – the hope is we get one in time that can address the problem at low cost. The cost to us of there being no agreement is such that we have to exercise all the influence we can towards getting an agreement, and the only way to do so is to act ourselves,” he says.

“In the event that the United States, China and EU come to some sort of deal, actions by second tier players like Australia will exert pressure on countries like Canada, for example.”

Australia’s carbon scheme would likely be a spur for the growth of emissions saving projects in countries such as Indonesia, he adds.

“In the long run, as we move towards tighter targets, we’ll be a net exporter of energy-intensive goods and a net importer of permits. Indonesia is an obvious candidate [as a market]. There are benefits for poor countries that haven’t yet industrialized as there will be significant demand for permits.”