Defending the ETS

Insights Newsletter
5 February, 2021

This week, the Climate Change Commission told the government it should take control of the economy to lower emissions.

The Commission’s advice, part of its draft emissions budgets to 2035, was based on doubts that New Zealand’s Emissions Trading Scheme (ETS) will be enough.

The ETS has been reducing emissions since 2008. It is a cap and trade system based on government-issued emissions permits. The permits trade for a price, which is effectively the cost of emitting a tonne of CO2. Higher permit prices lead to lower emissions.

For years, the ETS was watered-down by lenient policies and delivered only marginal emissions benefits. But recent reforms have given the ETS bite. It has a firm emissions cap and a sinking lid on emissions.

The ETS covers most of the economy, working through the price system. It raises the price of products according to their emissions, with the biggest increases for the highest emitters, to nudge consumers towards greener alternatives. The ETS is based on the same principle as alcohol and cigarette taxes.

The ETS can pack a good punch. At $38 per tonne of emissions, the ETS raises the cost of coal-fired electricity generation by around 60%. In the UK, electricity sector emissions have dropped 55% since 2013 as generators dumped coal for cleaner gas. This transition was mainly due to their ETS, according to a recent study.

It is said that the ETS cannot work because consumers make mistakes. Consumers will keep driving their petrol car even when the ETS makes electric the better choice, it is believed.

But consumer mistakes do not kill the ETS. If consumers do not change their behaviour, the ETS will simply raise the emissions price further until, eventually, behaviours change and emissions fall. Consumer mistakes mean a higher ETS price, but emissions still come down.

Of course, prices can only rise so far. But in practice it does not take astronomical prices to bring down emissions. Consumer mistakes are not frequent enough to break the system.

The ETS may be the best asset we have to get to net zero emissions. The Climate Change Commission says an ETS price of just $50 will get us to net zero emissions of CO2 by 2050.

So before the government commits to sweeping economic controls to reduce emissions, it should first check what the ETS is already delivering.

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