Will forestry be a winner from the Emissions Trading Scheme Review?
Hamish Levack, New Zealand Tree Grower May 2016.
The Ministry for the Environment admitted recently that, since the Emissions Trading Scheme was set up in 2008, it has made practically no difference to business investment decisions. It has also probably not affected household expenditure.
New Zealand has lost a lot of international credibility among those who care about the environment. They can see we have an Emissions Trading Scheme, but also see that it has done very little to actually reduce gross carbon emissions or even move in that direction. The figures show that between 1990 and 2013 gross carbon emissions from New Zealand increased by 21 per cent. It puts us among a small and select group of countries which have failed to meet their emissions reduction targets.
However, not many casual observers would see this failure. The government allowed emitters to substitute virtually worthless international carbon credits for units that represent real carbon being sequestered in New Zealand forests. It might have seemed that a lot of New Zealand carbon dioxide was being sequestered by trees but this was not the case. Even worse, most or all of those overseas units were cheap because they had been rejected by other countries as probably not being real.
Over the last eight years artificially low carbon prices, combined with rising land prices driven by an agricultural sector generally free to pass its environmental costs on to the taxpayer, discouraged forestry investment. The evidence is the deforestation and new planting rates recorded by the Ministry for Primary Industries.
Signs of change
There are now strong signals that the government feels the need to do something about this. At the international Conference of the Parties in Paris in December 2015 it signed an agreement which acknowledges that New Zealand’s target is to reduce greenhouse gas emissions by 2030 to at least 30 per cent below 2005 levels. We have committed to meet this target under the UNFCCC and not under the Kyoto Protocol. The latter applied for the period 2008 to 2012.
Since the December meeting, results are more important than processes and as long as New Zealand meets its target it can follow its own rules. Nevertheless, under what is termed COP21, New Zealand is obliged to be honest about how it measures its nett greenhouse gas emissions. Relevant measurements must be true, transparent, accurate, complete, comparable and consistent, with no double counting.
David Rhodes, New Zealand’s forestry observer to COP21, observed that we can no longer rely on the carbon sequestered as a result of the 1990s afforestation boom to balance the nation’s greenhouse gas accounts. A lot more new planting is needed, and the obvious way to encourage this is for the government to let the price of New Zealand units rise.
This view has been echoed by Jan Wright, the Parliamentary Commissioner for the Environment, as well as the Motu Economic and Public Policy Research Trust among others. Significantly in February the new Minister for Climate change, Paula Bennett, said ‘…the Emissions Trading Scheme is a key tool to send clear cost signals to businesses and consumers and to drive pollution reduction... It is clear that if the ETS is going to work, carbon has to cost more than it does right now.’ The Ministry for the Environment has reinforced this by publishing an environmental aim, without saying exactly how it is to be achieved, to plant an additional 500,000 hectares of trees by 2040.
Making the scheme work
The Ministry for the Environment has also recently released, some might say promoted, a New Zealand Institute of Economic Research report which says that the economic effects of removing the ETS transitional measures are minimal. What this means is that it will cost a fraction of a per cent of gross domestic product, real wages and other relevant economic measures if we remove the 50 per cent subsidy − more commonly known as the two for one benefit − that emitters currently get.
In addition the Ministry for the Environment has published two other papers which focus on forestry’s role in making the Emissions Trading Scheme work. The first was a University of Canterbury’s study. This says that, at a price of between $12.50 and $25 for each New Zealand unit, new planting should reach 15,000 hectares a year. At a price of more than $25 a unit, new planting should exceed 30,000 hectares a year.
The second paper was the Forestry Technical Note of March 2016 which says ‘Forestry is potentially one of New Zealand’s largest and most cost-effective abatement opportunities. The government wants the forestry sector to continue to help New Zealand meet its international emission reduction targets and to help reduce our nett emissions below business-as-usual levels, in line with the purpose of the ETS.’
In the light of this we can assume that the Government’s launch of its ‘New Zealand Emissions Trading Scheme Review 2015/16 – Discussion document and call for written submissions’ last November was not really an invitation to participate in a review, but a statement of intent. What looks like consultation could simply be education, designed to raise public support for tightening up the Emissions Trading Scheme for emitters.
The NZFFA response
Cynicism aside, all this seems to bode well for the forestry sector. In making its written submission, a complete version of which is on the website, the NZFFA Executive has in general supported the direction we think the government wants to go. One notable exception is that we do not agree that the agricultural sector should remain exempt from the ETS. In summary, the NZFFA submission contains the following main points.
- Government should adopt rational and transparent policies aimed at achieving real emissions reductions.
- This includes not allowing emitters to again purchase cheap international credits, permitted up to May 2014, and immediately abolishing the two-for-one subsidy that emitters have enjoyed for the past eight years.
- Government should aim for an ETS which generates confidence and certainty. This includes a clear pathway and criteria for phasing out the free allocation of New Zealand units after 2020. A steady phase-out of free allocations would lift carbon prices, and encourage the investment needed in new planting to fix more carbon.
- Government should maintain an upper price limit for New Zealand carbon credits − $25 per New Zealand unit in the meantime − but this cap should be allowed to rise steadily in line with international carbon prices.
- New Zealand should move immediately to full surrender obligations for the liquid fossil fuels, industrial processes, stationary energy and waste sectors. But appropriate allowances should be permitted for trade-exposed industries, including agriculture, in line with international agreements.
- Regulatory certainty, and administrative efficiencies such as repealing taxation legislation that prevents the aggregation of forests, and doing away with, or ameliorating the requirement to use the Field Measurement Approach in forestry, are simple steps that would increase the attractiveness of forest investments. Complimented by an increase in New Zealand unit price, this would help increase afforestation and the volume of carbon sequestered by forests.
- Farmers have identified that they own over 700,000 hectares of land which could be usefully planted in trees to store carbon and provide other valuable eco-system co-benefts. What they currently lack is any good reason to bother, such as a sufficiently high New Zealand unit price.
- Forest owners should be appropriately credited with the carbon that goes into harvested wood products after their trees are cut down.This final item would be an important boost for forestry. Under the Kyoto Protocol, timber removal at harvest was deemed to have been ‘instantly oxidised’. Of course this does not happen, the classic example being the many tonnes of carbon stored in the Old Government Building in Wellington which was constructed 140 years ago. Under COP21, carbon stored in harvested wood products is acceptable and Treasury now recognises this in our national carbon accounts using the figures outlined in the table.
This final item would be an important boost for forestry. Under the Kyoto Protocol, timber removal at harvest was deemed to have been ‘instantly oxidised’. Of course this does not happen, the classic example being the many tonnes of carbon stored in the Old Government Building in Wellington which was constructed 140 years ago. Under COP21, carbon stored in harvested wood products is acceptable and Treasury now recognises this in our national carbon accounts using the figures outlined in the table.
|Average end use as a per cent of harvested logs
|Average half life years
|Sawn, plywood and poles
|Pulp and paper
|Waste and energy
The NZFFA, supported by the Forest Owners Association, has argued in its submission that at harvest time forest owners should be credited with the fact that they are contributing to increasing stocks of carbon in the harvested wood products made from their logs. Without such a benefit – and depending on the prevailing price of carbon − there could be a perverse incentive for forest owners not to harvest. Their trees would continue to generate carbon credits for decades after their normal rotation as shown below.
The next article, starting on page 36, explains in more detail about harvested wood products.
Higher New Zealand unit prices
As noted above, the changes the government has signalled for the ETS should be good for forestry. At the least, New Zealand unit prices will rise. It is worth considering the implications of that from the perspective of the typical small-scale forest owner.
The graph above shows the accumulation of carbon dioxide equivalent up until age 28 when the stand is harvested. After the logs are removed the on-site slash, stumps and roots still contain around 348 tonnes of carbon dioxide equivalent per hectare, about the amount the stand had sequestered by age 14. If the forest is replanted the owner can sell all of the 348 units as they will never have to be repaid.
However, if they claim and sell more units than the residual amount, there will be a liability at harvest when more will have to be bought to balance the account. This carries a funding risk.
If New Zealand unit prices rise over this period, at low rates of increase it would be economic to sell units from growing forests, use the cash, then buy them back to meet harvest liabilities. At higher rates of increase it would not be economic to do so.
The graph above indicates the nett present values of carbon dioxide equivalent for a land owner who receives $15 a unit for the carbon fixed by trees up to age 20, versus the different prices which might be faced when the trees are age 28 to meet liabilities.
The graph shows that if a grower sold units at $15 with trees at ages 14 and 20 and invested the money at seven per cent, they could afford to pay up to $95 a unit in year 28 to meet the harvest liabilities assuming no inflation. If the future price was unlikely to be as high as $95, units should be sold as the forest grows, and the money used to buy units back only when they were needed. Obviously, if units were worth more than $15 early in the rotation it would be even better for the grower.
This suggests that a forest owner who budgeted well and managed the cash flows associated with the units generated should be financially advantaged by the ETS. Even those who failed to set aside enough money to cover their harvest carbon liabilities, or who found themselves otherwise unable to meet the liabilities, should manage if they deferred harvest and allowed the stand to grow on. The graph on the bottom of the left column suggests that carbon stocks would continue to accumulate, providing that the stand was not lost to storms, pathogens or fire.
Averaging to remove risk?
In the Ministry for the Environment’s March 2016 Forestry Technical Note, officials suggested that the concept of averaging could be introduced as a way of eliminating the risk of having to pay harvest liabilities. It is not clear exactly what they mean or whether averaging would be mandatory or not. ETS forest owners already have the right to sell up to 348 units more or less and face no liabilities at harvest time. Of course, if under averaging that safe threshold were to rise, it would be an advantage.
If averaging were to be mandatory, there would be opposition from those who understand the time-value of money, and who believe that by the end of the forest rotation the price of carbon will not have increased much. In particular, those whose liabilities at harvest time are manageable because they own or are part owners of a normal forest will be strongly opposed. Forests with a mix of age classes are much less likely to have sudden large fluctuations in carbon storage. Currently the NZFFA’s position is that it is not opposed to the government introducing averaging, providing that growers may opt in or out.
There seems to have been an attitude shift in the government with a lot more emphasis being placed on the ETS as a working tool for managing greenhouse gas emissions. Overall it looks positive for forestry. The NZFFA Executive has carefully considered the proposed changes to the ETS and with some reservations, supports them.
Hamish Levack is a member of the NZFFA Executive.