Australia will be joining many other countries who have introduced emission trading schemes to combat global warming, including the European Union’s (27 countries) scheme, which commenced in 2005 alongside the Norwegian scheme, and New Zealand’s scheme which started in 2008.

Nine US states are due to commence a scheme in 2009 with Canada to introduce a scheme in 2010.

The Australian scheme will assist Australia in meeting its internationally binding Kyoto target of 108% of 1990 levels and the government’s emission reduction target of 60% on 2000 levels by 2050.

Scheme cap

The proposed scheme will cap 75% of Australian emissions by issuing permits up to this upper limit. This cap will become progressively tighter thus ensuring a reduction of emissions in real terms. Limits will initially be set for the first five years with 10-year gateways or trajectories beyond the initial five-year period.

The gateways will set different levels of targets and the choice of which gateway to move to will be largely dependent on international participation in similar schemes. Thus the industry will have advanced notification of possible future targets which will become “firm” depending on international action.

The gateways will be re-set every five years.

Carbon cost

If a permit costs $20, the scheme will have a direct cost of $8.4 billion to liable parties.

There will also be indirect costs to all Australians as the carbon cost is passed through the supply chain.

A $20 permit price is anticipated to raise inflation by 1%, increase electricity prices by 16% and fuel prices by 5.6c per litre (although for the first three years the government has pledged to reduce fuel tax by a similar amount).

Permit price

The cap will effectively dictate the price of permits.

If the cap equalled the emissions of business as usual, the value of the permits would be just above zero.

For example, the price crash in EU permits was the result of an over-allocation of permits.

A tougher cap equals a higher price. The Australian government will issue its modelling for the cap and gateways by the end of 2008.

Liable parties

The Australian scheme will impose obligations on approximately 1000 entities whose emissions (direct or attributable) of greenhouse gases exceed 25,000 tonnes per year.

These entities will need to buy permits equivalent to their annual emissions.

One permit will equal one tonne of greenhouse gases.

Liable entities will be electricity generators, gas producers, fuel suppliers, mining (for fugitive emissions) and industrial processors (for example, concrete manufacture and aluminium smelting).

Forestry will be able to opt in to create “offset” permits.

If it is cheaper for a liable party to reduce its emissions, rather than to buy permits, the liable party will reduce its emissions.

Permit acquisition

The permits will be a form of personal property, freely transferable, uncertificated and registered on a central registry.

Permits will be auctioned by the government, possibly quarterly, and the auctions will be open to participation by non-liable entities such as banks.

The government is considering placing a limit on the amount of permits a single entity can purchase at each auction in order to allay fears of a single entity cornering the market and forcing up permit prices.

A secondary market is expected to develop with derivative financial products also being created.

To assist liquidity and to maintain smooth price curves, permits may be banked for future use and a limited borrowing of a subsequent year’s permits will be allowed.

Offsets

In the early years, limited use of Kyoto compliant offsets is expected to be allowed.

Offsets are exchangeable for permits and are created from activities that reduce emissions. In addition, if the forestry sector in Australia opted in to the scheme, offsets from carbon sequestration may be used to create permits for sale to liable entities.

Offsets can only be created by industries in non-covered sectors.

If a liable party reduces its emissions it will not have to surrender permits equal to the reduction in emissions (in this sense it has “offset” a liability, but the reduction does not create offsets which can be registered as permits under the scheme).

Revenue expenditure

Revenue collected by the government via the sale of permits each year will raise $8.4 billion. All of the funds are to be spent on compensation packages to the most affected industries and households and to fund energy efficiency and low emission technologies.

Assistance to trade exposed industry

The scheme proposes providing assistance to trade exposed emission-intensive industries to prevent them moving offshore.

Moving offshore simply relocates the emissions and has no net benefit globally.

These industries are likely to be given a significant proportion of free permits, but will be encouraged to reduce emissions to best industry practice.

Assistance to electricity generators

In addition, it is proposed to give assistance to the coal-fired power industry in order to prevent closure of such plants with a resulting shortage in electricity in the period leading up to the introduction of less emission-intensive generation.

It has been estimated, for example, that a $20 permit is the minimum required to underpin new gas baseload power generation plant.

Stability of supply in this industry is essential so assistance measures need to balance the continued supply of higher emitting electricity production while encouraging the introduction of lower emitting production.

The government expects the success of carbon capture and storage to provide an offset for higher emitting generation in the longer term. Given the New South Wales government’s announced plans for partial privatisation of NSW electricity generation assets there is no doubt political pressure at play here too.

Price cap/penalty

Liable entities will surrender permits annually and upon surrender the permits will be cancelled.

In the first five years a price cap/penalty will be set so that if a liable entity cannot acquire a permit below the price cap it may instead pay the price cap/penalty.

After the first five years, depending on the success of the scheme, the...click here to read on.