We can pay for lower electricity emissions without lowering our living standards
by Alison Reeve
With a couple of honourable exceptions, politicians are shy about saying the words “carbon price” and “electricity” in the same postcode, let alone the same sentence. And fair enough. Pricing carbon to create an efficient pathway to net zero comes with the trade-off of higher electricity prices. But a reticence to articulate this reality has been holding back the energy market reforms required to deliver the investment we need.
Electricity is responsible for 34 per cent of Australia’s emissions and is an enabler for decarbonising energy use in other sectors. As more sectors switch to electricity, demand for electricity will double between now and 2050.
Left to itself, the electricity sector will not decarbonise quickly enough to support Australia’s economy-wide emissions-reduction targets. Coal-fired generators will close when they are no longer economic (if their reliability holds up), but those closures will come too late for the government’s challenging targets.
A carbon constraint in the electricity market would mean investors don’t have to second-guess their future liability for emissions. They can put their money into renewables, gas or storage in whichever combination suits their risk appetite – without having to worry about arbitrary changes to state targets or misinterpreting cryptic signals from ministers about the role of gas.
So why haven’t we done it?
Well, from the largest smelter to the smallest household, no one likes it when electricity bills go up. That was the case when Australia last debated carbon pricing in 2010, and it still holds true.
But the energy system has changed profoundly since 2010. Renewable power has grown from 11 per cent in 2008 to more than 36 per cent of total electricity, while costs have fallen by 25 per cent for wind and 80 per cent for solar. Batteries and storage are now realities, as are electric cars. Coal plants have been closing without the lights going out.
The biggest change is our understanding of the role of electricity in the net zero economy. Electricity is energy, but not all energy is electricity. Over the next 25 years, most of the energy used in the economy will shift from being oil, gas and coal (which is the case today) to renewable electricity.
And this means lower costs, particularly for households. Because electricity is a more efficient way to deliver the same services (driving, cooking, heating), overall household energy bills are likely to fall substantially in the next 25 years. Modelling for our new Grattan Institute report, Bills down, emissions down, confirms trends that others have shown: that the average household energy bill (including petrol, electricity, and gas) in 2050 is likely to be around $3000 – about half what it is today.
If bills can fall this far, there’s plenty of room for governments to constrain carbon, and for households to still be better off. Our work shows that, with a carbon constraint in line with the net zero 2050 national target, that annual saving might be reduced by about $100. That’s not a bad trade-off.
There are many ways that a carbon constraint could be introduced in the electricity system. We think the most practical is to expand the Safeguard Mechanism, which is already working in the industrial sector. Activating it in the electricity sector would not require introducing a new policy but can increase Australia’s chances of finding the least-cost path to net zero. And it would complement proposed reforms to the National Electricity Market by making it easier to get the right amount of firming capacity into the market.
Unlike a carbon tax or a cap-and-trade scheme, the Safeguard Mechanism doesn’t raise revenue. Instead, renewable generators (and gas in the early years) would get credits for being cleaner, and coal generators would have to buy these credits in increasing amounts if they want to keep generating. In effect, the older, dirtier generators would subsidise the newer, cleaner ones until the cleaner ones take over.
The federal government should use next year’s review of the Safeguard Mechanism to analyse the benefits and costs of activating it in the electricity sector. It can also consider whether including electricity would make for a smoother decarbonisation pathway for some of our largest industrial facilities, which are finding international conditions challenging.
Of course, governments could attempt to meet the 2035 and 2050 targets by continuing their current approach: pushing renewables into the market until coal becomes uneconomic. The problem is, this risks having to pay coal generators to stay open because there isn’t sufficient firm capacity to replace them. These payments have consequences for consumers and for climate targets; and the uncertainty they create has consequences for investors.
When the facts change, we should be open to changing policies. The trade-off won’t go away, but we can pay for lower electricity emissions without lowering our living standards. That’s what we get for pricing carbon, and our report shows that that is now well and truly worth paying for.