STANDING COMMITTEE ON FINANCE AND PUBLIC ADMINISTRATION - 23/02/2009 - PRIME MINISTER AND CABINET PORTFOLIO - Department of Climate Change

Senator «MILNE» -On the issue of leakage, the modelling Treasury used in its economic assessment stated:

... that fears of carbon leakage, for the emission prices explored in the CPRS scenarios, may be overplayed.

And that two of the economic models used in the analyses, the GTEM and the MMRF:

... are likely to overestimate carbon leakage and the relocation of production activities: the models are not forward-looking (so firms are assumed to take no account of the possibility of future emission prices in the new location), and do not account for adjustment costs associated with relocation.

The report also notes:

In reality, industry location reflects multiple factors, including access to skilled labour, legal and political stability, access to resources and quality of infrastructure.

And so on. My question is: what is the carbon leakage assumption used by the department in formulating its policy advice? In other words, how many jobs do you estimate are likely to be exported due to the CPRS and how much in terms of emissions are likely as leakage? If estimates are uncertain, what is your approximate range?

Dr Parkinson -The Treasury modelling comes up with a cost to the Australian economy, as I said earlier, of around one-tenth of one per cent of GDP. That cost was only the cost of action-that is, it took no account of the costs that were avoided. We would have to go back and see whether Treasury has specific details on the extent to which there was any leakage. As I said earlier, the assessment there was that it would likely be minimal as has been the case with an ex-post assessment of what actually happened in Europe. I would like to clarify that I was not criticising any participant in the private sector, but I am struck by the fact that I have been through this debate before in the eighties and nineties when firms talked about this particular cost impact in Australia being higher than elsewhere. Again, with the points that you have just raised, location decisions are made on the basis of a complex set of circumstances including political stability, exchange rates, access to infrastructure and so on. It is very hard to believe that a scheme that raises at the outset around one per cent of GDP notionally in revenue and gives more than that back, because the scheme is revenue negative over the first couple of years, is actually somehow going to lead to massive exodus. At the margin, there may well be, but that is always going to be at the margin in the same way people will move for a whole variety of other reasons.

Senator ABETZ -What is one per cent of GDP? Then I think I might have my figure.

Senator Wong -One-tenth of one per cent.

Senator ABETZ -What is that?

Dr Parkinson -The net cost of one-

Senator ABETZ -I thought you said in answer-

Dr Parkinson-The scheme raises one per cent of GDP notionally. That is the $11½ billion to $12 billion, Mr Comley was talking about at the outset. Notionally, it raises that. It does not actually collect that in revenue.

Senator ABETZ -Thank you for that. That is all I needed to know.

Senator Wong -Could we finish the answer?

CHAIR -I think it would be helpful if witnesses could complete their answers. Dr Parkinson have you concluded?

Dr Parkinson-There are two other things I think it is important to put on the record here. The first is that, because resources move, because the economy is dynamic and flexible, it creates jobs elsewhere, so you gain in the longer term there. I am having a senior moment and I have lost the other point-my apologies.

Senator «MILNE»-If I can come back while you are thinking about that, from what you have just said I take it that you are arguing that the likelihood of carbon leakage is minimal. It is minimal because-I take it from what you have just said that you agree-skilled labour, legal and political stability, access to resources, quality of infrastructure and so on are as important in terms of relocation or location decisions as anything else. Given that, I would like to know-and this relates to the extent of compensation that you are providing to all these companies that are claiming that, if they do not get this level of compensation, they are heading offshore-what your assumption is in formulating the policy advice that they need 90 per cent or more of free permits.

Senator Wong -Hang on-it is 90 per cent or less. Let's be accurate. It is 90 or 60.

Senator «MILNE»-All right, up to 90 per cent of free permits. If the risk of leakage is not great, and I concur with that view, why are we giving them all these free permits?

Dr Parkinson-Sorry-the Treasury modelling is talking about the risk of leakage, having modelled essentially a mechanism of support. That is in the green paper. So, after that support, it is essentially saying there is minimal likelihood of carbon leakage. But if you turn it around the other way and say, if we gave no support-that is, at the extreme: if, rather than 60 per cent and 90 per cent, you took it down and gave no support-then we would increase, at the margin, the extent of leakage. So the policy has been addressed here to do two things: first, to help manage the carbon leakage problem and, second, to help Australian firms make the transition to a low-carbon environment.

Senator Wong-Senator, I am familiar with your views about this, but the point I did want to make, and it seems to sometimes not be part of the discussion, is that the cap still remains. We can have a separate discussion about the cap, because the free permits do not alter the environmental outcome. It is just a question of how much cost you impose on which sectors of the economy in the earlier parts of the scheme. So what you are essentially arguing about is not an environmental outcome. That is a separate discussion. You are arguing that you do not like the assistance measures.

Senator «MILNE»-No, I am asking for the rationale, the assumptions behind to risk. What are your assumptions about the risk and where did they come from, given that you have just conceded all these other issues are relevant to where companies basically locate? I want to know what the scenarios were, what the assumptions were and what the evidence was that jobs would be exported due to the Carbon Pollution Reduction Scheme and that emissions would go offshore. What is your assumption, given that the models that were run-two of them at least-overestimate the carbon leakage and relocation risks?

Senator Wong-Again, I do make the point that your argument is with the assistance measures. I again make the point that they do not undermine the environmental outcome. So really you have, I suppose, a moral or a policy argument against those assistance measures.

Senator «MILNE» -No, I am just asking for the rationale. I am not making an assumption about whether they are environmental or anything else.

Senator Wong-No, but the point is there is no alteration of the environmental outcome. It is just a question of how one achieves that-correct?

Senator «MILNE» -I am wanting-

Senator Wong -Perhaps Dr Parkinson may want to add to this-

Senator «MILNE» -It is a distraction from what I am asking here.

Senator Wong-I am happy to answer the question. We did take into account the Treasury modelling, which has a range of assumptions in it, as you know. We also took into account the consultation that was engaged with between different sectors of industry as well as the community and the government about the impact of the scheme. As you have heard tonight from Senator Boswell, there are some who still do not believe the assistance is sufficient and there are others in this debate who believe it is. But the answer to your question is the government took into account a range of factors and they included the Treasury modelling as well as the information provided to us in the consultation period between the green paper and the white paper.

Senator «MILNE» -If I may continue on-

Senator BOSWELL -Chair, can I just call a point of order. I am very respectful of Senator «Milne»'s questions but I think there was an agreement that we were to have a till 9.40-

CHAIR -Which you did, Senator Boswell.

Senator ABETZ -No, 8.40.

CHAIR -Yes, 8.40, and that is what you had, Senator Boswell. Then Senator «Milne» had a supplementary question. We agreed that at the conclusion of the supplementary question you could come back with your final question.

Senator «MILNE» -We agreed that you could ask your question and then it would come back to me.

Senator BOSWELL -Okay.

Senator «MILNE»-If I could just continue on this, the issue for me is where did you get these assumptions about carbon leakage that justify the level of compensation? I appreciate the minister tellingly me that part of it was in consultation with the industry itself, and one would have to assume that there is a high level of self-serving capacity in that. But I would like to know what assumptions were made in the economic models about where these industries might relocate to. What are the assumptions about that?

Senator Wong -I am not sure the Treasury modelling went to that point. I could be wrong; I do not have Treasury officers here.

Mr Comley -Senator «Milne», the issue here is actually that the ET policy has explicitly two objectives, which is laid out in the policy position, and that is to reduce the likelihood of carbon leakage but also to provide transitional support to these industries. If you only had one of those objectives and it was purely a carbon leakage objective, then, other things being equal, you would have less generous assistance than is provided under the policy. But just to illustrate an example of why that last limb is there, you could have a situation of industry of someone who is undertaking quite a lot of capital investment, they then are faced with a carbon price which they may not have anticipated-some may have; some may not have had-and it may be that they do not change location at all. When you look at studies of carbon leakage all you observe is if that firm moves, but there could potentially be, with no assistance, a significant change in profitability. So the policy is a balance of the pure carbon leakage argument with a transitional argument, which is not uncommon to policies such as tariff reforms where you do not change them overnight. So it is the balance of those two that led into the ET policy.

Senator «MILNE»-Okay, and I appreciate the second part of your answer. But let us remove the issue of transformational, because you are making a case for stranded assets. That is the tobacco industry's standard argument. I want to come back to the issue of leakage, because that is the issue that is being run all over the place to justify up to 90 per cent free permits in relation to these industries. What I am hearing from you is that there is no real data there at all to support your argument that they deserve up to 90 per cent on the basis of leakage.

Mr Comley-I think the argument that industry is only raising the carbon leakage argument is not the experience I have had in consultations. It is both the carbon leakage and the question of the level of profitability for particular firms.

Senator «MILNE»-The stranded assets is another issue but I just wanted to clarify that because there has been a lot written about the need for these compensation provisions to prevent both the industries and jobs and the emissions going offshore. I have not heard anything from you tonight about the assumptions that were used about the number of jobs or any assumptions about where these industries might locate to, so I will come back after Senator Boswell to address the other issue of stranded assets and transformational policies. I will defer to Senator Boswell now.

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Senator «MILNE» -I come back to the issue of carbon leakage and profitability-so coming to the second part of these large emitters and trade exposed. Those who use more than 0.5 petajoules of energy under the Energy Efficiency Opportunities Act were required to have identified the energy efficiency opportunities that existed for these companies. How many of those to whom you are allocating up to 90 per cent of free permits have actually implemented any of the energy efficiency opportunities they have been required to identify?

Mr Comley-The first point to make is that the government has not finally made the list of ET enterprises-well, certainly activities and therefore enterprises. The department is in the process now of undertaking data collection to establish what are the ET activities and their emissions intensities. Following that process we will then be able to identify the likely liable parties. I think it would be premature at this stage to say who they are, because there is currently that data collection exercise going on.

Senator «MILNE»-Are you going to take into account the extent to which those companies have implemented the energy efficiency opportunities they have identified in determining whether and how many free permits they get? The flip side of it is: wouldn't it have been a better to auction the permits and then return some of the auction money to actually assist in implementing energy efficiency and therefore changing the profile rather than just giving them the free permits? But I will go back to the first one: what is your process for looking at the energy efficiency opportunities and actually requiring them to be implemented?

Mr Comley-The policy in the white paper is to not link the allocation of permits under the ET regime to a program such as EEO; it is to take historical baseline emissions intensity for an activity and use that as the baseline for allocation.

Senator «MILNE» -You argued to me earlier that the justification-

Senator Wong -This is very important-it is the industry average.

Mr Comley -Sorry, industry average.

Senator Wong-There are two ways-three ways, actually-in which there remains an incentive for these companies to improve their energy efficiency. The first is that the allocation is on the basis of industry average emissions intensity. In other words, if you are doing better, you will do better out of it. The second point is that no-one gets a free ride-even if you are at 90 per cent you still have a 10 per cent cost imposition. The final point is-and I cannot remember the economic term-that there is an opportunity cost in the sense that if you reduce your emissions you can trade the permits. You can sell the permits you do not need. So we are utilising the market in order to drive these energy efficiency measures for these firms rather than imposing a range of conditions. It is the case, Senator «Milne»-and I understood that the Greens did support an emissions trading scheme-that inherent in why you have a scheme is that you use a carbon price and a market mechanism to drive these efficiencies.

Senator «MILNE»-Well, auctioning 100 per cent of the permits is part of such a mechanism and it was a mechanism recommended by other notables, let me say.

Senator Wong -It is the case that we are proposing to auction more than the European Union at commencement.

Senator «MILNE»-The European Union's emissions trading system has some significant flaws, which they are desperately trying to overcome. Minister, I would suggest that we have not actually learned many of the lessons we could have learned from the European system, including its current collapse.

Senator Wong -I think we have actually sought to do that. I am not sure that I would agree with that.

Senator «MILNE»-I will come back to this issue. You said to me before that, apart from the carbon leakage argument, the issue was transformational-that you are trying to get these industries to transform. Therefore, I do not understand why you would not take into account the driver that is already there in legislation in terms of the energy efficiency opportunities that these companies have identified. If you do not do that, you are effectively rewarding companies for bad behaviour-for investing their capital in whatever else they wanted to invest it in and not in energy efficiency. They are big users, big emitters and then they get rewarded for it.

Mr Comley -I do not think I said this is about necessarily the transformation of the economy; I said this is about a transitional measure.

Senator «MILNE» -Transitional measure for those companies I thought you were implying.

Mr Comley-The point I am making there is that generally-not in all cases-in most major policies there is a phased introduction of obligations or a new regime reflecting both transformational, if you like, efficiency objectives but also concerns raised about equity, about changing the rules of the game in a situation imposing a cost. So that policy reflects a balance of those considerations which the government took into account.

The point about driving transformation comes back to this point of historical average, which is important. As the scheme commences, as the minister said, they have a full incentive to reduce their emissions for any given unit of output. So there is no reduction in the marginal abatement incentive for each unit of output within the ET sector. So that full incentive applies from day one. The area in which the incentive is muted is on whether they change their level of output, which is the measure directly related to carbon leakage. That is where, in the first instance, they will either face 10 per cent of the carbon price or 40 per cent of the carbon price. Of course, over time, the carbon productivity contribution will reduce that rate of assistance, which will help drive that transformation.

CHAIR -Senator «Milne», you have one more question before we go to someone else and then we will come back after the break.

Senator «MILNE» -Sorry, Chair, are you telling me that someone else wanted to ask a question?

CHAIR -Senator Cameron has been waiting to ask that supplementary question-and some more.

Senator «MILNE» -Okay, go for it.

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Senator «MILNE» -Just to come back to that, though, since you have argued that early adoption creates these opportunities, we have already lost 200 BP Solar jobs to overseas, Vestas left northern Tasmania a couple of years ago, no-one is manufacturing or even assembling wind turbines in Australia at the moment, Solar Heat and Power went to California and Zhengrong Shi is in China. Wouldn't you argue that, rather than being ahead of the game, we have already suffered considerable leakage and lost opportunity by failing to act until now?

Senator Wong-That is why the government wants to put in place the Carbon Pollution Reduction Scheme to introduce a price on carbon and renewable energy legislation to quadruple the amount of renewable energy in this country by 2020.

Senator «MILNE» -We will come to the renewable energy target in a minute. Have you done any modelling of the cost of not having acted?

Senator Wong-Not to date, in the sense of what we have lost because of the 12 years of the previous government. I think Dr Parkinson referred to the finding in the Treasury modelling of the economic advantage to acting earlier rather than later because you do not lock in carbon intensive investment, infrastructure et cetera which you then have to turn around.

Senator «MILNE»-I will pursue that just before the break we are going into. Given that you acknowledge the jobs potential in those technologies, why do you take a policy position of opposing a gross feed-in tariff to complement renewable energy targets?

Senator Wong-We believe that that would result in a multiplicity of policy mechanisms at the federal level really seeking to achieve the same objective. I just want to go through the policies that the government is committed to: a carbon price from an emissions trading scheme-the CPRS; a fourfold increase in the renewable energy target in a decade-

Senator «MILNE» -We will get to that.

Senator Wong-But it is not to be dismissed as a policy mechanism-plus a half-billion dollar investment in renewable energy on top of what I think is called the Low Emissions Technology Fund Both of those are in Minister Ferguson's area. So there are three policy mechanisms which are about investment in renewables, amongst other things, and we think that is a very substantial investment at the national level in renewable energy. Obviously, there are states that choose to take a feed-in tariff approach. That is an issue that has been discussed at COAG, as you know. I have heard you often quoting the German experience. I make the point that a feed-in tariff is used there in lieu of a renewable energy target. So it is not a cumulative policy, it is a one-or-other policy mechanism, and the choice made by the government was a renewable energy target.

Senator «MILNE»-Given the design of your renewable energy target, how are you going to bring on utility scale solar thermal under that renewable energy target?

Senator Wong-The renewable energy draft legislation was out for consultation. I think the consultation period closed on Friday. That is one of the views that has been put by one of the sectors. There are obviously other views put by other participants in the industry. The way I have described it is that you need to work out what is the most appropriate policy mechanism for the objective. It may be that we need to consider what is the best policy mechanism for new and emerging technologies as opposed to those that are immediately deployable. The most obvious examples are geothermal and solar thermal versus wind.

The question the government has to answer is: what is the best policy mechanism to deal with that? Do you pick technologies through a legislative target, or do you have a more technology neutral target but you assist those new and emerging technologies through direct assistance, through the Renewable Energy Fund? There is a legitimate argument that it is not the best thing to do in a market for the government to pick the technology. Rather, we would be better to use the public investment, through the Renewable Energy Fund, for those technologies. But those decisions obviously have not been finalised and they will also need to be agreed at COAG.