In my last blog "It's an insurance policy" I argued that taking action on climate change is simply a risk management issue. You don't have to be 100% sure that global warming is a result of human activity - you just need to think there's a high enough risk that we are the cause to justify paying a premium to reduce our carbon emissions.
But what kind of government action is needed to make sure that we all pay our fair share of the premium, that it's the cheapest premium possible, and that it actually works to reduce emissions?
The way I see it, this is a simple economic issue: Coal fired power is cheaper than any other kind of power so, in a free market system, there is no reason why any generator would build anything but coal fired power stations. Maybe in time, green power will get cheaper and coal will get more expensive even if government does nothing. I'm not convinced of that. There's easily 300 years of coal still under the ground. Eventually it will run out but not before Carbon emissions have far exceeded safe limits. So government policy needs to find a way to make coal more expensive or green power cheaper. There are three ways to do that.
The first option is "direct investment" - government spends taxpayers money to directly fund or subsidise specific green energy projects like wind farms or solar power stations. It will work but my problem with this is that I'm not convinced that government is best qualified to pick the winners or that they are the most efficient operators of major national infrastructure. Where's the incentive to innovate and where does it end? Government could end up owning or part owning 100% of the power generation capacity in Australia. It might not be called a "tax" but you can be pretty sure that this option will cost more tax dollars than any other.
The second options is a "carbon tax" - government levies a flat tax per ton of carbon. The idea being that the tax makes coal fired power more expensive so the market will find that it is more cost effective to build green power stations. I think this option is pretty risky. How will government set the right tax level? Lets say that the tax is set at $50 per ton. But if it needs $60 per ton to make green power cheaper, then coal is still cheaper and nothing changes - so we'll have paid a tax that has no benefit. Or alternatively if it needs $40 per ton to make green power cheaper then we'll be paying an unnecessary $10 per ton. This option also has no direct connection to an emissions reduction target - "how much tax is needed to reach a 40% emissions reduction by 2020?". There's no way to answer that question.
The third option is an Emissions Trading Scheme (ETS). Also called a "cap and trade" system. The basic idea is that the government starts by setting an annual limit (the "cap") on the amount of carbon that can be emitted. Then the government auctions permits (the "trade") to emit up to the cap. The free market sets the price of the permits. There are less permits available each year so unless coal power is replaced by green power, the permits will get more expensive. Clean power stations don't have to buy permits and so there is a strong incentive to innovate low cost clean power systems. So this option achieves the desired outcome (because the cap is set) at the lowest cost (because the free market sets the price of a permit). And guess what? it's not a new idea. Does anyone remember the problem of "acid rain" in the '80s? Power stations were emitting too much sulphur which mixed with rain and turned into acid which did a lot of environmental damage. It was a cap and trade acid rain program started by the US EPA 20 years ago that fixed this problem faster and cheaper than anyone expected!
So to my mind, an ETS is by far the most obvious solution to the problem. Federal liberals are calling the ETS a "tax" to scare people off. Of course it's a tax! ALL the options are a tax! But an ETS is the lowest tax option with the highest chance of actually working. It does seem ironic to me that its labour government that is proposing an ETS (a free market low tax option) and a liberal government that is proposing direct investment (a big government, high tax option).
So if, like me, you are a traditional liberal voter but want action on climate change then you have a headache. I have no confidence that the liberal leadership even understand this issue, never mind how to deal with it. So until the message from the liberals changes, Kevin Rudd has my vote.
So, in summary, I'm ready to pay my premium and I think an ETS is the clear winner solution. But what about the rest of the world? What does it matter whether Australia takes action if China keeps pumping out far more carbon? That's the subject of the next blog!
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While I agree with the premise that climate change is a risk that should be mitigated, I can't agree that an ETS is the best way to tackle the problem; particularly in the "pragmatic" world of politics. The Australian ETS (what we know of it) has been burdened with compromise and emasculated. No wonder the large polluters are rushing to endorse this course of action - it becomes a license to pollute!
ReplyDeleteAlso, an ETS sets up the foundation of a derivatives market that will be particularly difficult to unwind or make substantive adjustments to, once it is inflicted upon the economy. People brighter than me have likened these ETS mechanisms to a Ponzi scheme, and I have to agree. For example, see comments from Professor James Hansen (top US climate scientist & head of NASA’s Goddard Institute for Space Studies.
The answer is a carbon tax, along with other measures (no single measure is likely to succeed) This approach is advocated by Professor William Nordhaus (Sterling Professor of Economics, Yale University) He states "...You need only to look today at the wreckage of the current financial system to see the latest example of the effects of failed regulatory and risk-management design. So, if the Kyoto model turns out to be another failed model, it has lots of company. But it would be better to recognize and change it now, rather than in one or two more decades of ineffective and inefficient efforts to slow emissions. The international community should move quickly to replace the current cap-and-trade structure with one in which the central economic mechanism is a tax on greenhouse-gas emissions.”
As for the European example, this is anything but a success. As Dr Robert J. Shapiro (Chair, U.S. Climate Task Force & undersecretary of commerce for economic affairs in the Clinton Administration)stated early this year: “A cap-and-trade system is very unlikely to reduce global greenhouse gas emissions — and more likely to introduce new, trillion-dollar risks for the financial system. The clearest illustration of the problems with cap-and-trade is the European Trading Scheme, based on the Kyoto protocols covering most of Europe. According to a new report by the Government Accountability Office, there’s little if any evidence that the ETS has had any effect at all on emissions in Europe."
Cost of coal needs to be calculated on a triple bottom line basis - it may well be not the cheapest option once this is undertaken. Problem is that markets only deal with a very narrow view.
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