National Promised A 'Strong And Stable' Carbon Market - Then It Crashed

Monday, 17 June 2024, 12:36 pm
Article: RNZ

Eloise Gibson, Climate Change Correspondent

Low confidence in the government's climate plans may hit the coalition in the pocket and make it harder to fund tax cuts and other spending.

Traders in the carbon market say this week's auction of carbon credits by the government is unlikely to sell any credits, and the remaining two auctions of the year could also fail.

Together the auctions could generate at least $700 million in income - or nothing.

The Emissions Trading Scheme requires many carbon dioxide emitters - for example, petrol importers or companies burning coal - to buy enough carbon credits to cover their planet-heating gases every year.

It's the National-led government's main tool for cutting New Zealand's emissions, as well as a major earner.

Along with ACC levies, earnings from the ETS are the biggest source of government revenue after the tax take, and have been earmarked to help pay for programmes, including tax cuts.

Before the Budget, Treasury lowered its forecasts of what the government would earn from the ETS by around $300 million a year ($1.5 billion over five years) after the carbon price fell from $70 to $58 a tonne.

That was based on the price on the secondary market, where buyers and sellers trade directly.

The secondary price is now around $52.

And at government auctions, the government has to sell each tonne of pollution for at least $64 - so if buyers are not willing to pay that, it gets nothing until the next time.

Traders in the market say a lack of confidence in the government's plans is undermining demand.

Strong and stable market?

National promised to create a "strong and stable" ETS that would "give businesses certainty and confidence", after the carbon price crashed twice during Labour's last year in power.

However, a surprise move in May shook the market again.

Barring a drastic change in direction, traders and sellers who spoke to RNZ did not expect the next auction on Wednesday to sell any permits and said the September and December auctions are also looking shaky.

Murray McClintock has been involved in the ETS for 15 years. His company manages native forests and sells the carbon credits earned from them.

He described the handling of a recent review of the ETS as "muddled" and "highly unusual".

McClintock blamed the current bout of shakiness on a surprise suggestion of dropping the minimum carbon price floor, which was published in May.

The consultation document was released by the Ministry for the Environment and included a suggestion of lowering the minimum carbon price from the $68 it was set to reach in 2025 to an unspecified lower amount.

The option was unexpected because dropping the floor was not on a list of recommendations from the Climate Change Commission, which prompted the consultation in the first place. The commission's recommendations were based on shrinking the supply of units, implying a rising price.

Official analysis in the document said lowering the price floor would not be in keeping with the ETS' goals, and gave no detailed reasons for putting the idea forward.

Prices on the secondary market plunged on news of the proposal.

"The government received the advice and came out with this really muddled consultation which said, 'okay maybe we should reduce supply, but also maybe we should let prices fall', but with no details about where prices should get to or why they should fall," McClintock said.

It was "really unusual" to float an idea on something so critical to the market without further details, he said.

"The government is the biggest earner out of this system.

"It's a lot of money to throw away by not being clear about what you want the ETS to look like."

McClintock cited the government's statements that the ETS was its main tool, not grants or subsidies, to cut emissions.

"If it is the only tool in the government's climate toolbox, it really has to work."

Others watching the market agreed confidence was shaky.

Lizzie Chambers of carbon trading platform Carbon Match said confidence might improve if the coalition laid out a clear climate strategy in its Emissions Reduction Plan, due mid-year.

But right now, she said, prices were volatile and it appeared "nobody is going to turn up" to bid this week.

"While the government has been clear that it wants stability, people don't quite know what happening, they don't know what the government's intentions are towards forestry [or] towards restricting land from entering the ETS.

"They're still waiting for more information ... and meanwhile there was certainly a spooking effect behind the idea that the government could lower the floor, because that doesn't really make sense. A falling floor is not a floor at all," she said.

Paul Harrison of Salt Funds, which manages carbon investments, said unless something changed, it was unlikely the government would earn anything from any of the remaining 2024 auctions.

The current price was too far below the auction floor, he said.

"Somebody's not learning," he said, when asked about successive governments' habit of tanking the carbon price.

"From a climate change point of view, you're basically selling the right to emit CO2 here, do you really want to do that at $50?

"You're not going to encourage any transition. Most companies we speak to talk around $70 to $150 as being necessary to encourage investment in new technologies and a move away from thermal fuels."

Zig-zagging down

For a while, carbon prices were strengthening, reaching an all-time high of over $88 a tonne in November 2022.

But the traders said for that to continue, emitters had to believe the government was committed to lowering carbon pollution with a strong and rising price.

The 2022 high came after the Labour-led government strengthened the market by introducing a cap on how many emissions could be sold, established a bottom floor on prices, and set up the independent Climate Change Commission to make expert recommendations on market settings. That last move was supposed to reduce the influence of political whims on the market.

In 2023, Labour crashed the price when it announced a sweeping review of the way forestry was used to generate carbon credits.

It had already caused a previous plunge when it refused to follow the commission's advice on letting prices rise, a call it later reversed after legal action, after admitting it could not show that it had given the matter proper consideration.

Labour, under Chris Hipkins, feared raising living costs by letting the carbon price rise. (Carbon prices affect petrol, electricity and food prices, though less than recent inflation. A jump from today's price to $90 a tonne could add 6 percent to electricity, according to a Treasury paper, which was looking at ways to compensate people on low incomes.)

All four auctions failed to sell anything in 2023.

Under National's coalition, March 2024's quarterly auction earned $190 million despite not fully selling out - the first auction to sell any carbon in over a year.

However, bids only just scraped above the price floor, with the permits selling at the lowest price the Government was allowed to sell for: $64 a tonne.

The coalition oversaw another price plunge in May, over the surprise 'price floor drop' proposal.

Future outlook

Treasury's financial forecasts for the Budget had carbon prices at $58, based on what the secondary market was selling at in March.

That was down from $70 a tonne in the half-year update six months earlier, leading Treasury to lower its forecasts of ETS revenue by a gross $600 million a year.

Because the Government would also spend less on the ETS over the same period, the net reduction worked out at an average of $300 million a year, or 1.5 billion over the five-year forecast.

However, at $58, the price Treasury used in its forecast price was below the minimum price the government was legally allowed to sell at. In reality, a price that low would mean selling nothing.

Each failed or partially sold auction pushes more tonnes into the next one, making it less likely all permits will sell. At the end of each year, all unsold permits are cancelled.

The March auction sold around 3 million of the 3.5 million credits offered, pushing 500,000 unsold tonnes into June's auction.

How many will be on the table in September and December depends what happens this week.

The Climate Commission said to fix the market, the government needed to announce it would be selling fewer credits in coming years. It said there were too many credits sitting with companies already and supply should be tightened.

Shrinking the future supply could raise prices, and encourage emitters to cut pollution.

However, traders will not know until September whether the government has decided to follow the commission's advice - or carry out a surprise drop to the price floor.

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