On 19 December 2017, the Federal Minister for Environment and Energy, Josh Frydenberg released the long awaited review of Australia's climate change policies. It essentially concludes that the current policy suite, with some adjustments, provides the right approach to achieving emissions reductions in line with Australia's international commitment, while maintaining energy security and affordability, and preserving competitiveness of industries.

In the Review, the Government has reiterated its commitment to meet Australia's emission reduction target under the Paris Agreement of 26-28% below 2005 levels by 2030. However, it has continued to spurn the approach of having a single economy-wide policy, such as an emissions trading scheme, believing instead that its existing sectoral specific policy suite will position Australia best to reach that target. Those policies are:

  • the Emission Reduction Fund;
  • the Safeguard Mechanism; and

Unsurprisingly there is no mention in the Review of the current Renewable Energy Target which is meant to be replaced by the NEG when the emissions guarantee component commences in 2020.

In addition to these policies there are a number of other programs including the National Energy Productivity Plan and various initiatives in the transport sector to improve low emission technology and fuels. These are however unlikely to deliver significant emission reductions in the near term to make a major contribution to achieving Australia's 2030 target.

On the same day as it released the Review, the Government also released its latest emissions data which showed that Australia's emissions had increased for the third year in a row with its policies largely in place. So how can the existing policies deliver on Australia's target and what changes are proposed?

Emission Reduction Fund

The ERF is a $2.55bn Government-funded domestic abatement program, the majority of which has already been expended to contract abatement of 191.7 million tonnes of CO2e with the recently completed sixth auction. The majority of this abatement is not contracted to be delivered until after 2020 (only 26.5m tonnes has been delivered to date) and it remains to be seen if all of this abatement will in fact be delivered. Indeed a number of contracts have recently been terminated and questions remain over the viability of some projects.

The Review states that the ERF remains at the core of the Government's suite of policies. However, the Review makes no commitment to additional funding, with any decision to be made as part of future budgets. Any money for future purchases is likely to be limited to the remaining unspent funds ($265m) and funds recycled under terminated contracts. To the extent that any refinements are proposed to the scheme, it is limited to continuing to "look at ways of improving the operation of the Fund" and considering the recommendations of the Climate Change Authority's review of its enabling legislation.

Also unanswered is where the demand might come in order to scale up the ERF to deliver significant volumes of abatement. While there is a reference to transitioning from government to private sector purchases, it is limited to potential voluntary purchases. The opportunity to create demand for ACCUs from sectors with emission reduction compliance obligations is not exploited by the Review.

The Government's in-principle support for the use of international units also poses a potential threat to the financial viability of projects under the ERF, depending on the type and quantity of international units that might be declared eligible. No decision will be made in relation to the use of international credits, or the potential export of ACCUs, until 2020 at the earliest when the rules under the Paris Agreement are expected to have been settled.

Safeguard Mechanism

The Safeguard Mechanism, established under the National Greenhouse and Energy Reporting Act 2007, sets baselines for large emitting facilities. Its object is to ensure that overall emissions in the economy do not increase, thereby undermining any abatement achieved under the ERF. The Safeguard Mechanism currently applies to approximately 140 facilities equating to about 50% of Australia's emissions. This however includes the grid connected electricity sector and it is expected that this sector will cease to be subject to the sectoral baseline that applies under this mechanism with the recent announcement of the NEG.

Whereas many submissions to the Review advocated that the Safeguard Mechanism be transitioned so that baselines for facilities would be ratcheted down over time consistent with achieving emissions reductions equitably across the economy, the Review has proposed providing greater flexibility for adjusting baselines to reflect actual production, rather than historical emissions.

It is unclear how this will result in creating a cap on emissions from those facilities that will remain covered by the Safeguard Mechanism, if each of those facility operators can apply for a calculated baseline reflecting actual production.

The Government has signalled a further review of the Safeguard Mechanism in 2018, and again in 2020, when its long term emission reduction strategy will have been prepared (see below). What is clear is that, at this time, it is not proposed that the Safeguard Mechanism do any heavy lifting when it comes to delivering emissions reductions, let alone scalable reductions.

National Energy Guarantee

There is no new detail around the NEG in the Review. However, the Government's in-principle support for the use of international units is in line with the Energy Security Board's (ESB) proposal for the NEG which states that domestic and foreign carbon credits "could be permitted to meet a proportion of the retailer's [emissions] guarantee".

In addition, the ESB has prepared a further advice to the COAG Energy Council in relation to the impact of the NEG on the national electricity market (NEM), which includes detailed modelling based on Australia's 2030 target. According to the ESB, the NEG can reduce emissions while improving reliability and affordability.

The modelling shows that there will be an increase in the amount of contracted generation in the NEM as retailers and large electricity users which purchase electricity from the spot market are required to contract with generators for dispatchable generation. As a result, in order to cover their contracted generation, generators will bid into the market at lower prices to increase their chances of being dispatched. This will result in both lower spot prices and retail bills for electricity customers.

Additionally, if demand for contracted generation cannot be met by existing generation assets, new entrants will be incentivised to enter the market, thereby improving system reliability and reducing the likelihood of extreme spot price events.

Looking longer term

The Finkel Review recommended that by 2020, Australia should have a whole of economy emissions reduction strategy for 2050 to provide business and investor confidence. One of the new initiatives coming from the Review is to commence work on that strategy. However, the Government has made clear that the strategy will not be prescriptive in terms of tools or targets. Rather, it will explore pathways for an orderly transition to a lower-emissions economy through identification of new opportunities, and building on the existing policy framework.

In addition, the Government proposes to establish a five-yearly domestic policy "review and refine" process which will work within the framework of the long term strategy and also align with the periodic international reviews under the Paris Agreement.

What are the implications of the Review of Climate Change Policies?

The principles underpinning the Government’s review were that climate policy needs to be predictable, stable and scalable. The outcome of the 2017 policy review was certainly predictable and provides stability in that it does not foreshadow any significant change in current policy settings. However the proposed changes to the Safeguard Mechanism to provide for emission baselines calculated on actual production and the absence of any demand incentive for ACCUs generated by ERF projects (such as through emission reduction compliance obligations) does not allow either of those programs to be scaled up to achieve Australia’s 2030 target.

In this regard it is salient to recognize that Australia’s 2030 target ‒ which requires a reduction of about 1btCO2e ‒ is a baseline; Australia’s target can only increase. The 2018 global stocktake under the Paris Agreement, the Talanoa Dialogue initiated at COP23 and review of NDCs before the commencement of the Agreement in 2020 will put increasing pressure on most countries, including Australia, to significantly scale up abatement ambition to meet the "less than 2 degree" goal of the Paris Agreement. It is clear that commitments under current NDCs have the world well short of that target.

While proposed design elements of the NEG suggest the potential for that policy to provide scalable emissions reductions, it is limited to the electricity sector. With the current concern around electricity prices and energy security, it is unlikely that the burden of achieving Australia’s current (or any increased target) will fall heavily on the NEG, at least in the short-medium term.

To achieve Australia's 2030 target, the Review places some reliance on the fact that the required abatement task has progressively reduced from earlier predictions, and that the factors driving that reduction ‒ lower demand for electricity and technological changes ‒ are likely to continue. The Review makes clear that the Government is wary of committing to policies which would drive significant emissions abatement, with consequential potential adverse economic impacts, when technological change might do the job. Initiating and keeping up with the expected technological change will therefore be critical to ensure that its contribution to Australia's abatement task is quantifiable and predictable.

In circumstances where the Government has reaffirmed its commitment to a patchwork of sector based climate and energy policies, in preference to an overarching, economy wide approach, it is even more critical that a strategic framework is developed to ensure that each policy is delivering on Australia's emissions reduction commitment in the timeframe required and cost-effectively. The proposal therefore to develop such a long-term strategy is a welcome one, as is the proposal for regular periodic policy reviews which align with the reviews under the Paris Agreement.