Policy needs to dovetail with climate change reality

by Tony Wood

Published by Australian Financial Review, Thursday 17 September

One of Prime Minister Malcolm Turnbull’s highest priorities should be an integrated energy and climate change policy.

Three quarters of Australia’s 550 million tonnes of annual greenhouse gas emissions come directly or indirectly from energy, either stationary or transport. The federal government has announced a target to reduce these emissions by 26 to 28 per cent below the level of 2005 by 2030. Yet neither side of politics has a credible policy, let alone one with bipartisan support, to achieve it.

Worse, with many billions of dollars of investment at stake, there is no tangible connection between climate change and energy policies. The federal government’s 2015 energy white paper effectively ignored this connection. Yet a third of our emissions in 2014 came from electricity production, 17 per cent from other fuel combustion and another 17 per cent from transport.

This means that the way we invest in and use energy will largely determine whether our emissions reductions targets can be met and at what cost. For
example, current LNG expansions in Queensland will add about 10 million tonnes a year to domestic emissions.

No constraints on emissions

There are no legislated or regulatory constraints on these emissions. It would be hardly surprising if the project developers sought financial compensation or exemption if a future climate change policy was to impose a cost through some form of carbon price.

Federal and state policies to address climate change are having a major impact on the energy markets that underpin our modern economy. For example, setting a fixed gigawatt hour target for the Renewable Energy Target (RET) forced a fixed and growing amount of new electricity supply into the market. This might have been absorbed in a growing electricity market, but electricity demand has been falling and the result is gross oversupply.

Disrupting a market’s operation in balancing supply and demand is never without consequences. To a large extent this particular disruption led to the protracted and highly contested debate over the RET during 2014 and 2015.

Over the last decade, electricity demand has risen, fallen and risen again, both because of and in spite of various climate change policies. Unstable and unpredictable changes to climate change policies have contradicted the white paper’s commitment to the stable and predictable policy settingsthat are needed to encourage investment in future electricity generation assets.

Federal policies have been further muddied by state and territory climate change initiatives that have little regard for their interaction with national markets. For example, generous solar feed-in tariffs added to changes in the RET to support rooftop solar, and combined with outdated network tariffs to create a messy set of subsidies that reduced emissions but at the high price of about $170 a tonne.

Coal and gas exports

The International Energy Agency’s 2014 projections indicate that climate change policies will have profound implications for Australia’s position as a significant exporter of coal and gas. The agreed goal is to keep average global temperature increases caused by climate change to less than 2 degrees
Celsius. If governments act to meet this goal, world coal demand must fall by 42 per cent below what it will be if current policy paths continue. Growth in demand for gas will also have to slow significantly, if less dramatically, after 2030 in order to meet the 2 degrees target. That means a lot less demand for
Australian coal and gas. The white paper seems oblivious to this prospect.

Yet for all the alarming weaknesses in current policy settings, there are hopeful signs.

The COAG Energy Council of ministers is the peak national body for policy development and energy market reform. For the first time, the communique from the council’s mid-year meeting in Perth acknowledged that the energy sector must play a major role in Australia’s effort to reduce greenhouse gas emissions.

Encouragingly, the communique stressed that measures to reduce greenhouse gas emissions, and national energy objectives to promote efficient investment, operation and use of electricity must be consistent. Finally, it required energy bureaucrats to explore how the governing bodies of the national energy market can advise on how the development and implementation of climate change policies will affect energy markets.

How these commitments play out depends largely on whether governments endorse the central role of markets in delivering reliable and affordable energy and addressing climate change effectively and efficiently.

Stop-start policies

The 2015 energy white paper is committed to energy market reform to increase competition and innovation. It recognises that unnecessary government intervention pushes up energy costs and prevents the market from driving costs down. Yet stopstart policies to address climate change such as the fixed carbon price and its abolition have increased the role of direct subsidies, such as those for renewable energy. This policy unpredictability has been behind the support that some companies have shown for proposals that could provide certainty by regulating the withdrawal of fossilfuel generation.

Prime Minister Turnbull said on taking power that the government’s current climate change policy is very well designed. Yet he has also shown openness to the potential for revision and adaption. Industry is seeking a credible and predictable, market-based approach, and the key design elements of such an approach exist in the Direct Action policy and its safeguard mechanism. Introducing firm, reducing baselines and allowing trading of emissions reduction credits would be the necessary changes. The approach could then be progressively expanded until it became an acceptable ETS in the future.

There are two good reasons for taking this path. First, it builds on the current policy framework without another policy bonfire. Second, it quickly becomes real market mechanism with future potential improvements. It may just have a chance of securing the bipartisan support that is fundamental to achieving an effective Australian climate change policy.

International and domestic climate change policy will have a profound impact on Australia’s energy sector. The capacity of both government and industry to take an integrated approach to the design and management of our energy markets will largely determine how effectively and efficiently we meet our climate change targets.