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IEEFA: Change to the Emissions Reduction Fund jeopardises Australia’s 35% emission reduction forecast

March 30, 2022
Johanna Bowyer

A recent change to the Emissions Reduction Fund puts Australia’s 35% by 2030 emission reduction forecast, taken to Glasgow, at risk unless taxpayers fork out for additional carbon reduction or other ways are found to reduce emissions.

Eligible carbon abatement projects in the Emissions Reduction Fund (ERF) scheme – such as human induced forest regeneration, avoided deforestation, landfill gas abatement etc – earn one Australian Carbon Credit Unit (ACCU) for each tonne of carbon dioxide (CO2-e) abated.

Now, however, carbon abatement suppliers in fixed delivery contracts with the Federal Government can exit and sell units in the open market. Many of these suppliers will be better off.

The change has resulted in ACCU prices dropping 36%, from $47 to $30.

Australia ACCU spot price drops

The reduced ACCU price could deliver savings to big emitters and buyers of carbon credits in the near-term.

Meanwhile, the government could be up to 112 million tonnes of CO2-e behind on its emissions reduction task, facing further financial and climate risk.

Many carbon abatement suppliers, plus big emitters, will benefit

Many suppliers of ACCUs stand to gain by exiting fixed delivery contracts.

Previously they would have been paid $12.50 on average for delivering abatement. Now they can pay an exit fee of $12.50 on average, setting the cost at $25, sell units in the open market and receive higher prices (currently $30). So, suppliers could gain $5 per unit. The potential gain for the 112 million outstanding ACCUs held by these contract holders is about $600 million.

The carbon market as a whole had not expected the change. Many operators will be worse off.

Carbon abatement suppliers in optional delivery contracts will now receive less if they sell at depressed prices. There may be less confidence in developing or investing in carbon abatement now that Australia’s carbon market has lower prices, volatility and regulatory risk.

ERF change challenges Australia’s emission reduction task

The 112 million tonnes of abatement in fixed delivery contracts had been factored in to meet the country’s official 26-28% target, and the 35% emissions reduction forecast.

If suppliers of the outstanding units exit prior to 2030, the government would not be on track to meet the 35% emissions reduction forecast without further action to meet the target – such as buying replacement ACCUs or increasing the share of renewable energy in the grid.

Federal Labor, were it to take office, would also be behind on its 43% target.

Buying replacement ACCUs comes at a cost

It’s highly unlikely the Federal Government could buy new ACCUs anywhere near the original average of $12.50. Prices closer to the current market rate of $30 or even the previous $47 seem more likely (the cost of carbon abatement tends to increase each year with a focus on harder-to-abate sectors).

If all suppliers exited fixed delivery contracts and the government had to buy 112 million replacement units at $30 it would cost $3.4 billion, and at $47, $5.3 billion.

The exit fee is intended to “support new ERF projects” but is not likely to be enough to cover the full required emissions reductions.

The cost to the taxpayer could be between $600m and $2.5bn or even more

If all fixed delivery contracts were exited, the total government benefit would be about $2.8 billion: $1.4 billion in exit fee revenue and $1.4 billion from not having to pay out the initial contracts (based on $12.50/ACCU average contract prices).

Therefore, to stay on track with 35% emissions reduction post this recent ERF change, the cost to the taxpayer could be between $600 million (at $30/ACCU) and $2.5 billion (at $47/ACCU) – or even more if ACCU prices increase.

Abatement quality is a further issue – 70-80% of the ACCUs are low in integrity and not delivering legitimate abatement, according to Professor Andrew Macintosh, previous statutory chair of the Emissions Reduction Assurance Committee.

Taxpayers face an extremely big bill for questionable emissions reductions if we continue to rely predominantly on the ERF to meet the 2050 net-zero target.

How can this mess be solved?

Professor Macintosh suggests an independent inquiry to analyse the integrity of ACCUs as well as reforms to ensure low-integrity projects do not receive credits.

Stronger Safeguard Mechanism requirements could be introduced, lowering the baseline for emitters each year, enforcing progressively greater annual emission reductions (or buying additional “legitimate” ACCUs if emitters cannot meet requirements). This will increase demand for ACCUs, funded by emitters rather than taxpayers.

Ideally, emissions should be reduced or paid for in full

Ideally, the whole carbon market should be redesigned as a comprehensive “gross” emissions trading scheme in which emissions are reduced or paid for in full (rather than only emissions above a baseline). Emissions should be reduced with mandatory annual targets for each sector, with a mechanism for flexibility via trading.

All of this would enable Australia to meet much more stringent sectoral emissions reduction targets, helping Australia align with the Paris agreement to limit global warming to 1.5 degrees Celsius.

Johanna Bowyer is an Australian electricity analyst with the Institute for Energy Economics and Financial Analysis (IEEFA). Read her report.

This article was first published in Renew Economy.

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Johanna Bowyer

Johanna Bowyer is the Lead Research Analyst for Australian Electricity at IEEFA. Her research is focused on trends in the National Electricity Market, energy policy and decarbonisation.

Prior to joining IEEFA, Johanna researched distribution networks at CSIRO, worked as an engineer at Solar Analytics and Suntech and worked as a management consultant at Kearney.

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