We should not be debating a choice between direct action and carbon pricing: we need both, but with credible, well-designed mechanisms.
Why we need both
We need a carbon price based on certificate trading for several reasons.
It sends a signal to both emitters and investors that they need to cut emissions, starting today. The price rises if there is insufficient action, and declines if action is effective. And there is the potential to profit from trading. All of that makes emitters more likely to innovate and bring down the cost of reducing emissions.
The revenue from a carbon price provides funds to support additional cuts and help those affected by the price to adapt. Because a price brings in revenue, funds don’t have to be dragged from other government activities.
We need effective direct action because carbon pricing is a relatively crude and imperfect incentive. A carbon price can be undermined by non-financial barriers and market imperfections. Weak carbon caps lead to low carbon prices that do not reflect true long-term costs of climate change.
Businesses and households also tend to put more value on money they have now than money they have in the future. That means future carbon costs are not necessarily powerful motivators when compared with other factors.
In the electricity industry, profits increase with higher sales, so a carbon price will encourage action that reduces emissions per unit of electricity sold, such as renewable energy, but not actions that reduce sales. Energy companies won’t encourage energy efficiency, the most cost-effective abatement option, because it cuts their profits.
A carbon price does increase the prices consumers pay for fossil fuel sourced energy, but it is a small increase in a small part (1-5%) of most business and household costs. If we want consumers and businesses to improve their energy efficiency, or set up distributed energy generation such as solar panels, direct action can help.
Direct action can be applied to activities that cannot be included in a carbon trading scheme. We have already seen this approach under the Carbon Farming Initiative, which encourages sequestration by rewarding those who act.
The problems of a badly designed system
The carbon trading mechanism as developed in Australia, and in use elsewhere, undermines voluntary abatement by state and local government, businesses and households. Unless the cap is tightened or permits are removed from the market in response to such actions, these well-intentioned entities and individuals are simply freeing more space within the cap for other emitters to emit more.
But as many economists have pointed out, direct action can be ineffective and potentially expensive. Many oppose the government’s version of it, not direct action per se.
They argue the government’s proposed approach reverses the widely accepted “polluter pays” policy to “pay the polluter”. It fails to focus on fossil fuels (responsible for three-quarters of Australia’s emissions plus exports), is inequitable, unworkable, limited by the available budget, may encourage inflation and manipulation of abatement cost, and is difficult to quantify. This increases uncertainty and ramps up the potential for political games.
The reality is that poorly designed and implemented pricing mechanisms and direct action can both be inefficient and ineffective. But well-designed versions of both can be efficient and effective. A combination of these may be most effective.
We already have examples of a range of direct action abatement programs, as well as experience of pricing mechanisms. We can learn from this experience.
A blend that works
Australia’s appliance energy efficiency programs are reducing emissions by close to 10 million tonnes per annum at a cost of -A$56/tonne of CO2 avoided. The Energy Efficiency Opportunities industry program is saving millions of tonnes of emissions at approximately -A$95/tonne avoided.
Building energy regulation is delivering millions of tonnes of cost-effective abatement while also improving health, cutting peak electricity demand (and cost) and creating net additional jobs. So cost-effective direct action options exist.
Some abatement measures also save energy, reduce the costs of peak electricity demand, save water, improve equity or improve soil quality and rebuild habitat. Others improve health.
Energy efficiency measures in business can improve product quality, staff productivity, innovation and saleable output while reducing capital costs.
If we look at strategies used in other areas, for example smoking and road safety, we see a combination of pricing, regulation and strong education and support programs to influence decisions and behaviour.
Regulation is not always crude and inefficient. It can increase investment certainty, capture economies of scale and drive innovation. Pricing schemes are not always economically efficient, for example where demand is inflexible or a scheme is poorly designed. Financial incentives do not always motivate.
And there are many other policy tools available, such as supporting innovation, education and training, information programs, government example and removing existing subsidies that encourage higher emissions.
It is truly a pity that efforts to limit climate change have fallen into such a conflict-ridden, political and simplistic debate.