31 October, 1997
Energy Federation: New Zealand's Climate Change Policy
Thank you for asking me to speak to you today about the Government's climate change policy and the prospects for an outcome at the Third Conference of the Parties in Kyoto in a few weeks time. I want to start today by talking about the reasons for the Government's climate change policy, and what we are trying to achieve in the negotiations. Then I want to say something about the rather technical matter of carbon sequestration and its importance to New Zealand. Finally, I want to sound a note - which may come as a surprise to some of you here today - about where public opinion stands on this issue of climate change, and the priority which the New Zealand public accords to positive environmental action. New Zealand's Negotiating Position
While most countries seem to have been pre-occupied with arguing over greenhouse gas reduction targets, New Zealand has been mainly concerned with the way in which any agreed commitments can be met, and the terms of agreement between Parties. We consider the emphasis on targets has been myopic -- and potentially counter-productive. At this early stage in the life of the Convention, getting any agreement at all will be a major achievement. Given that we are dealing with the energy life-blood of the entire world economy, the stakes are very high. Solutions that ignore the costs of change and the different starting positions of countries are a one-way ticket to the collapse of the Convention. On the other hand, solutions that minimise costs and make the transition path as easy as possible have a real chance of success. With this in mind, New Zealand has insisted that whatever targets countries may have in mind, there are four key issues that must be addressed:
Any agreement must encompass all greenhouse gases, or at least carbon dioxide, methane and nitrous oxide;
Provision must be made for commitments to be met by the least possible cost means available (such as emissions trading);
Any agreement to legally binding targets by developed countries in Kyoto must be followed, in reasonably short order, by an evolution of commitments to developing countries;
Sequestration of carbon in sinks (such as forests) should qualify alongside emission reductions for the purposes of counting progress towards any targets that are agreed.
If each of these matters is sensibly dealt with, we will be well on the way towards real progress (bearing in mind that this is a long-term issue that will not be solved in one quick hit). I shall expand on each point in turn, the first three relatively briefly (given the wide currency they have already enjoyed), the last in rather more detail.
The risk of climate change flows from the aggregate increase in the emission of all anthropogenic greenhouse gases. Therefore reductions in any greenhouse gases will be valuable. The preoccupation to date with CO2 is a reflection of the concerns of northern hemisphere industrialised economies. But for a country like New Zealand, methane is at least as important. While our CO2 emissions are, on a per capita basis, modest when compared with countries like Australia or the USA (reflecting our high level of renewable energy used to generate electricity), our methane emissions are the highest per capita in the world. That reflects our ruminant livestock industries. How we tackle our methane emissions will have at least as much impact on our contribution to global warming as how we tackle CO2. Fortunately, the removal of agricultural subsidies and the concomitant reduction in stock numbers means that over this decade our methane emissions are expected to decline by around 10%. The indications are that selective breeding could permit an on-going reduction in emissions even if stock numbers stabilised. Other economies will have different emission 'signatures' to our own. It makes sense for each country to make progress on whatever gas for the time being holds the most promise. It just happens that New Zealand's biggest contributing gas (methane) happens to hold some excellent emission reduction prospects. It would be foolish not to follow them up as a priority.
Least Cost Solutions
Kyoto is unlikely to agree to major reductions in greenhouse gases relative to 1990. But in time, provided the scientific evidence firms up, major reductions will be needed. For that reason we cannot be indifferent to the adjustment costs involved. And indeed, adjustment costs dominate the attention of most parties to the Convention and account, in large part, for the different negotiating positions being adopted.
It is important at this point to distinguish between two quite different issues: the marginal cost of abatement (being the relative ease or difficulty different countries face in abating a tonne of CO2) and the absolute cost of any particular abatement strategy. Countries pre-occupied with the total cost of abatement have shown great interest in differentiated commitments. In particular, Australia has proposed a differentiation approach to limit the total costs different countries face in reducing emissions. The trouble with this sort of thinking is that finding a basis for differentiation on which everyone could agree may be even more difficult than reaching agreement on a target! Countries will tend to advocate a formula which just happens to suit their national interests (but not necessarily those of others).
New Zealand has taken the view that trying to find a differentiation formula runs the risk of a slippery slope towards special pleading. New Zealand, which faces one of the highest marginal abatement costs in the world, has (along with the USA) preferred a uniform reduction target provided mechanisms are put in place that will equalise, and minimise, the marginal costs of any adjustment. Without question, adjustment costs will be minimised if emissions are able to be reduced wherever it is cheapest to do so -- and that will not always be behind national borders.
Hence our advocacy of tradeable emission permits. New Zealand proposes that all developed countries should effectively operate a 'bubble' and that countries should be able to meet their obligations in the lowest cost way by seeking out reduction opportunities wherever they occur. Being able to trade allowed emissions would enable New Zealand emitters to purchase emissions reductions in Canada or Greece if that was cheaper than doing so here. The effect of such a scheme would be to create a world 'price' for emission reductions in much the same way that there's a price for oil. With oil, as you know, production occurs at different levels in different countries, up to the point at which marginal production costs equal the world price. An open, competitive market guarantees much lower prices than would be faced if oil was only available from local production. So it would be with emission reductions. While total costs would differ, access to a world market for emission reduction opportunities would equalise, and dramatically lower, costs.
It is interesting to compare this approach with that proposed by the European Union. The EU advocates uniform rather than differentiated targets. But behind its own borders it is proposing a bubble within which there is no uniform target. Rather, differentiated commitments have been agreed which would see Germany (benefiting from the collapse of smokestack East German industries) shoulder a 25% reduction while Portugal would be allowed a 40% increase. In crude terms, the richer European countries have the most ambitious reduction targets; the less rich ones could increase emissions. How the EU manages emissions within its own borders is entirely its business. But in calling on all other developed countries to match its aggregate reduction target of 15% by 2010, it has invited criticism that it is operating a double standard -- insisting on uniform targets for other countries but operating differentiated targets within its own bubble. Trading within an Annex One 'bubble' is the obvious answer to the problem -- it's the overall reduction in emissions that counts, not particular decreases or increases within arbitrary national borders.
Moreover, within the EU, why should British or German emitters face more stringent measures than their Portuguese or Spanish counterparts? Trading within the EU could achieve its 15% reduction target much more cheaply, with Germany and Britain being able to sell permits for some of their emission reductions thereby providing some reward for good environmental practices. Conversely, countries like Portugal and Greece would have to purchase the right to increase their emissions. The overall outcome is likely to be a less costly curtailment of emissions than if half the countries of the EU are simply allocated 'free' space for extra emissions.
In summary I would like to stress that New Zealand's advocacy of tradeable emission permits does not involve worship at some obscure intellectual shrine. It stems from a vital appreciation that, since we face one of the highest marginal abatement costs in the world, least cost mechanisms are vital if we are to participate. It also stems from knowing that there are practical examples, such as SO2 trading in the US, which show how costs can be reduced by trading. And the experience in the US shows that only a market mechanism will provide the incentives to seek out the as-yet-unknown emission reduction technologies and alternative energy sources that provide the only real hope of a solution.
Evolution of Commitments
I need not spend too long on why we regard an evolution of commitments to developing countries as crucial -- the arguments are well understood: with developing world emissions set to overtake developed country emissions within 25 years, this is a truly global problem requiring a truly global solution.
New Zealand has always accepted that developed countries should take the lead given that the elevation in greenhouse gas levels to date is largely the result of developed country emissions. But once developed countries have demonstrated their good faith by taking the first steps, there must be an evolution of commitments to countries outside of Annex 1. The boundary between Annex One and non-Annex One countries is already barely defensible. Singapore -- a member of the Alliance of Small Island States which is calling for a 20% reduction emissions by developed countries -- is significantly richer than New Zealand on a per capita basis. Its emissions are twice as high as ours. But it is not prepared to adopt a target itself because it claims that it is not yet fully 'developed'. Other countries like South Korea and Mexico are rapidly approaching developed world living standards.
Leaving aside issues of fairness, the stark reality is that unless all countries have some commitments, industries that emit CO2 will migrate to countries that don't accept obligations. The point can be starkly demonstrated in New Zealand's case. If New Zealand adopted too ambitious a target in the absence of genuinely global sign-up, it's likely that some industries would relocate. If New Zealand Steel and Comalco closed, for instance, New Zealand's emissions would fall by about 7 percent. But we would still consume steel and aluminium. We would simply import them -- probably from a country that wasn't imposing emission reduction measures. So the world's climate wouldn't be helped -- and neither would our economy.
I believe Kyoto should seek to establish a timetable for the evolution of commitments beyond developed countries. No-one suggests that the commitments facing developing countries should be the same as those facing us. There will obviously have to be room for their emissions to grow along with rising living standards. But the trajectory that the growth path takes will depend critically on the technologies that are being deployed in those countries. It is here that joint implementation strategies could prove particularly valuable. And the reality is that if credit were given for the reductions achieved through jointly implemented projects, the flow of capital and technology to countries like China and India could be sufficient to enable them to completely leap-frog the energy intensive development phase that economies like ours have had to pass through.
I want to turn now to a part of the international picture as it is developing in the negotiations taking place in Bonn, Tokyo and, finally, Kyoto. This part of the picture is the matter of carbon sequestration - or, more prosaically -- sinks, and I want to dwell on this issue today because I think it is important that industry and energy users in New Zealand have an understanding of how sinks may or may not help, and the implications for New Zealand post-Kyoto.
I want to say why sinks are important - spelling out in broad terms the economic benefits to New Zealand of counting sinks - and explain briefly how New Zealand considers they ought to be treated. Then I want to say why - even though the correct treatment of sinks is both fair in terms of the Convention, and good for New Zealand's economy - sinks nevertheless do not and cannot protect New Zealand emitters of greenhouse gases from adjustment.
Let's start with the science and the Framework Convention. Scientifically, as far as carbon dioxide concentrations in the atmosphere are concerned, sequestration of a tonne of carbon is as good as emitting one less tonne. No-one questions that. The Framework Convention also recognises sinks -- indeed it makes enhancement of sinks a central aim of the Convention Article 4.2(a) requires Annex I Parties to take measures to mitigate climate change by both limiting emissions and protecting and enhancing sinks and reservoirs.. Does the recognition of sinks benefit New Zealand? Well, the answer to that question is not as simple as it sounds. In short, it depends. Over a period of some months, New Zealand has been working to increase understanding of what we believe is the appropriate approach to including sinks. This work is still in train -- currently at the Bonn meeting -- as I speak. The Convention is unclear about exactly how sinks should be recognised. In early negotiations among Annex I Parties on the Berlin Mandate, it was proposed that carbon sequestration (removals) in any future year should be compared with 1990 rates of sequestration. This is not environmentally sensible. It would mean that a country that was clearing sinks in 1990 would be entitled to keep clearing them as long as it didn't increase its rate of clearance. Conversely, a country like New Zealand that was adding sinks in 1990 would have to keep sequestering carbon at that rate forever: any slow-down at all would count against it. This 'flows' based approach would, perversely, reward a de-forester and penalise an afforester.
The more environmentally rational approach is to focus not on flows but 'stocks' of carbon as the yardstick of measurement. Adding to carbon stocks through afforestation should count positively; reducing stocks (through forest harvest, land clearance and such like) should count negatively. A key point we have been making is that there should not be a hurdle rate, based on sequestration rates in 1990, to get past in recognising carbon sequestration. Our point is that if, in any budget period (e.g. 2008-2012), New Zealand is actually sequestering carbon, that is a desirable thing and we should get credit for it.
If - and I emphasise if - sequestration is treated in the way New Zealand has long been advocating, then the major contribution we expect to make to removing carbon from the atmosphere in future years will earn us 'credits'. If, on the other hand, New Zealand's CO2 removals are assessed against the 1990 rate of removals - which happened to be quite a high rate - then New Zealand is likely to gain a much reduced 'credit' from the continuing expansion of forest planting in New Zealand in future years. In the longer term, the 1990 'reference' rate of removal would become a liability, since the rate of removals is bound to fall eventually as the forest estate stabilises.
Let me now turn to a related question: why recognition of sinks nevertheless does not and cannot protect New Zealand emitters of greenhouse gases from adjustment. It might be suggested that New Zealand's interest in sinks stems purely from a desire to secure for itself a large buffer that would allow for significant growth in greenhouse gas emissions. That is not the case -- nor do I believe would it be credible to pursue such an objective. Let me explain why by identifying three principles that have underlain our advocacy to date.
First, openness. The Government has consistently supported the concept of open-economy trading. I mean that in the specific context of trading of 'emissions allowed or emission credits' (to use the language of the current draft negotiating text in front of the Parties to the Convention). But I also mean it in a wider sense. Trading allows the world market to establish the least cost means of achieving an end -- whether that be the least cost way of producing and delivering oil or the least cost way of reducing emissions. New Zealand has consistently argued that a least cost approach means that not only carbon dioxide emissions should be part of the trading picture, but so should carbon credits from sinks, and so should other gases -- in particular methane and nitrous oxide. Only when all elements are included in a Party's allowed emissions budget will truly least cost means be found to abate greenhouse gases.
Secondly, protection. It does not make sense to protect one part of our economy from adjustment at the expense of another. The only possible exception to this is if a short transitional adjustment period can substantially ease the pain of a large adjustment. We learnt the lessons of excessive protection of our economy over previous decades when we found we had to face up to a painful belated adjustment in the 1980s. We do not want that to happen again. The most important benefit arising from the recognition of sinks is that it gives a useful buffer period to make the necessary adjustment to a lower carbon economy. We need time to smooth the adjustment path, and to get more environmentally friendly technology up and running. At the same time, this window should not be a protection from the need for adjustment. To avoid this means ensuring that the price signals coming from the international economy are reflected right through to producers and consumers in our economy. Whatever world price of carbon the market in carbon allowances and credits throws up should flow through both to emitters of carbon and forest growers -- those who can remove carbon from the atmosphere.
Thirdly, equity. It would not seem reasonable to me to ask forest growers to buy carbon certificates -- under a trading regime -- when they reduce the size of their forest plantings, if on the other side we do not give forest growers credit when they increase their forest plantings. Remember that under the proposed Protocol text, emissions from land use change and forestry activities will count in precisely the same way as industrial or energy emissions. Thus a forest grower harvesting without replanting would be emitting and would have to buy a carbon certificate. If the forest grower was in balance, i.e. with cutting balanced by plantings, then no certificates would change hands. And a forest grower expanding plantings would be earning a certificate. This is symmetrical and fair. It is also fair that a forest grower be able to sell a credit for sequestration to the highest bidder -- who may well be an offshore bidder. To withhold from forest growers the credit earned by such sequestration, or to limit growers to selling their credits domestically, would be unfair and unreasonable.
With those principles in mind, let me say a word about the international negotiations. New Zealand's stance on sinks has been treated with scepticism by some because, superficially, it looks as though it may be special pleading by New Zealand to take advantage of our sinks to reduce the pressure on emitters to make adjustments. We do not see it that way. New Zealand has been clear in responding to other countries that we do not see the accrual of sink credits as a way to insulate New Zealand from acting to reduce emissions. We see New Zealand's sink credits being an integral part of the international emission trading market. As such, we see New Zealand emitters facing the world price for carbon emissions provided that price is generated by a free market in emission permits.
It would simply not be credible to advocate least cost tradeable mechanisms for the world and then seek to keep New Zealand's forest credits for domestic use only. Sequestration credits should accrue to the forest growers who earn them, and they should be free to place them on the world market. I am quite clear in my own mind that New Zealand's advocacy of forest sinks -- and in particular the way in which we propose they should be treated -- is firmly tied to the principles I have outlined above.
If a target is agreed at Kyoto, one of the assessments the Government will have to make is how heavily it will impact on our economy. We've done sufficient modelling to know that the adjustment costs fall dramatically if the agreement extends to all gases, trading and the inclusion of sinks. But those costs are still not zero and they will fall unevenly within the domestic economy. Obviously, the more emission intensive an industry is, the higher the costs. And if there is a slow turn-over in the stock of plant and equipment deployed, room for speedy adjustment may be limited.
To compare extreme examples, take the private motorist and the owner of a steel mill. The motorist faced by the cost of emissions can alter his driving habits and/or switch to a more fuel efficient vehicle. Given the rapid turnover in our vehicle fleet, fuel efficiency improvements encouraged by more expensive emissions will rapidly flow through to the motorist. The owner of a steel mill faces an altogether different prospect. Once hundreds of millions of dollars have been sunk in existing technologies, it will often not be practicable or economically viable to undertake wholesale changes within short time spans. The question then arises whether some major emitters should be either exempted or given transitional assistance. Let me turn briefly to possible exemptions for major emitters and illustrate for you some of the implications of exemption, in terms of potential costs and impacts.
One option is to consider exemptions for some of New Zealand's major emitters who claim to be either operating at the margin or competing in a world commodity market. But if such emitters were to be exempt from any instrument or target for emission reductions, then, in order to meet a given target, the required level of reductions would need to be achieved elsewhere in the economy. In other words, the same quantity of reductions in CO2 emissions that would have been required in aggregate from all emitters would now need to be achieved by just those sectors of the economy who did not qualify for an exemption.
The question, then, is whether you as energy producers or, ultimately, your customers are prepared to pay more in order to protect those for whom the adjustment costs are high? Politically, some sort of policy along these lines is attractive but it runs similar risks, in time, to those posed by tariff protection: the benefits of removal are highly diffuse, the costs concentrated and visible.
Perhaps a less unattractive possibility is a limited transitional adjustment scheme-- for some companies that are hit particularly hard by a reduction commitment, should the world community arrive at a stringent outcome at Kyoto. It would be important to satisfy ourselves whether the hard-hit sectors had really had insufficient time to adjust. It is worth remembering that -- if an outcome is reached at Kyoto -- it is likely to involve a first budget period beginning in 2008. That is over 10 years away, so it does allow a rather lengthy adjustment period. By the second decade of the next century, if not well before, I hope all parts of our economy will have made a substantive adjustment to a higher world carbon price.
I would also have to observe that, at this stage, only modest targets appear likely and this is no bad thing: it would be better to sign up to something that is achievable and enforceable so that we can learn to operate a tradeable emissions permits system. The alternative -- stringent and ambitious targets -- would risk no sign-up at all. Attitudes
Finally today, I want to let you know where the public of New Zealand stands on this important issue of climate change, and to put that in a wider context by setting it against attitudes to the environment as a priority. While I view survey results as things to be taken with a large grain of salt, they can provide a useful straw in the wind. A recent poll by Market Attitude Research Services posed an interesting question to 1000 New Zealand respondents in February this year. It asked:
"As you may know, scientists are uncertain how much impact human activities have on the world's climate. Some people say we should not take major action to reduce human impacts on climate until we know more, because of the great economic costs involved. Other people say we should assume the worst and take major action now to reduce human impacts on climate, even if there are major costs. Which of these points of view best reflects your own?"
The responses to that question were interesting: 65% were in favour of assuming the worst and taking major action now, as against 21% who though no major action should be taken until we know more.
Turning to the wider context for positive environmental action, it is interesting to note that a similar -- in fact rather a higher -- proportion of the public appear to favour according greater priority to the environment rather than economic growth. This result may in part reflect the rather strong growth we have experienced in our economy over the last five years. Nevertheless let me describe the results:
The question asked: "With which of these statements about the environment and the economy do you most agree?
One option was "Economic growth should be given priority, even if the environment suffers to some extent." Some 12% of respondents supported this proposition.
A second option was "Protecting the environment should be given priority, even at the risk of slowing down economic growth." Some 77% of respondents supported this statement.
'Neither option', 'Depends' or 'Don't know' accounted for 17%.
In my view the message is useful -- even if this, like all poll results, is hardly definitive: most New Zealanders care deeply about the environment, and want positive action to protect it. And that positive action must extend into the realm of climate change policy.
At the same time -- when it comes to the crunch -- people will not pay excessive costs to protect the environment. For this reason, the Government has to be cautious in how it approaches environmental agreements. These considerations are also part of what lies behind the Government's advocacy of a 'least cost' approach.
Nevertheless, there are strong pressures in our economy and society for environmental action to be taken -- not just by the Government, but by the private sector and the community as a whole. It is the Government's job to ensure, in framing policy in areas such as climate change, that a reasonable balance is struck in terms of these pressures.