Progress on the NZ Climate Change (Emissions Trading and Renewable Preference) Bill

The Finance and Expenditure Committee has recently released its report on the Climate Change (Emissions Trading and Renewable Preference) Bill (Bill). The Bill which was first tabled in December last year proposes a number of major changes which aim to assist in reducing greenhouse gases and increasing the use of renewable electricity energy. In this Update we look at the Select Committee's suggested changes to the Bill and the political response.

Background

The Bill is to amend the Climate Change Response Act 2002 to introduce a greenhouse gas Emissions Trading Scheme (NZ ETS) in New Zealand covering 'all sectors and all gases'. The Bill also proposes to amend the Electricity Act 1992, creating a preference for renewable electricity generation by implementing a 10-year restriction on new baseload fossil-fuelled thermal electricity generation, except to the extent necessary to maintain security of New Zealand's electricity supply.

The Bill had its first reading in December last year. On 16 June this year the Finance and Expenditure Committee (Select Committee) reported back on the Bill and recommended by majority that it be passed with amendments.

The report on the Bill prepared by the Select Committee lists about 1000 changes, but most of them are technical in nature. The major changes from the original Bill, such as the delay for liquid fossil fuels and the extension of the free allocation period, were announced by the Government prior to the Select Committee deliberations.

General recommendations

General recommendations from the Select Committee include:

• The coverage for free allocation to heavy emitters (agriculture, stationary energy and industry) of up to 90% of 2005 levels be extended until 2018 with a phase-out period till 2030.
• Early reporting requirements for agriculture, waste, Hydrofluorocarbons (HFCs), Perfluorocarbons (PFCs) and sulphur hexafluoride.
• Mandatory registration and reporting for sectors that enter the NZ ETS in 2011(liquid fossil fuels) and in 2013 (agriculture, waste and synthetic gases). Mandatory reporting would mean that NZ ETS participants were subject to penalties for failure to report but would not have to surrender units for their emission obligations.
• Restricting the trading of imported Assigned Amount Units (AAUs) after the first five-year commitment period under the Kyoto Protocol (2008-2012). AAUs are allowances for carbon emissions allocated to developed countries up to their target level under the Kyoto Protocol. These allowances are tradable under the Kyoto Protocol's international emission trading mechanisms in place from 2008 to 2012. Each AAU equates to one tonne of carbon dioxide emissions.
   The Select Committee's suggested restrictions prohibit the surrender of AAUs imported during the first commitment period for compliance with NZ ETS obligations that accrue after 2012. This effectively means that New Zealand companies will not be able to purchase and surrender Russian credits (AAUs assigned to Russia under the Kyoto Protocol) after 2012. A tightening up of the provisions on access to individual accounts under the New Zealand Emission Unit Register to provide increased protection for commercial information about participants in the NZ ETS.
• That requirements for submitting annual emission returns be clarified to ensure participants are only required to submit one annual return that covers all their activities.
• Minor and technical amendments to the offences and penalties section of the Bill for clarity.
• A requirement for consultation on draft regulations regarding data collection methodologies and verification, in response to the large number of submitters who expressed concern as to the lack of clarity on what will be specifically covered in the regulations, and their ability to give input on regulations.

A significant change recommended by the Select Committee was to strengthen the five-yearly review of the ETS. An independent panel would be appointed by the Government to assess how the NZ ETS measured up to those of competitor nations to make sure the country's competitiveness is not damaged. The range of factors the panel would consider would include such things as the international competitive environment and the technology options available for reducing emissions. The panel could then recommend an extension or curtailment of free allocation periods based on its assessment.

The Select Committee rejected calls by some submitters for a cap on the price of carbon, saying it would undermine the effectiveness of the ETS, disadvantage sellers of credits, slow the development of the carbon market in New Zealand, be difficult to administer, have a negative impact on the whole economy, and make the scheme hard to link internationally to other schemes.

The Bill remains silent on a number of its key mechanisms which the National Party argues are needed to make the ETS work. For example, no one knows who will take the responsibility for agriculture ie the processor or the farmer.

All in all, the Select Committee's report still leaves large areas of uncertainty, particularly given a lot of detail has been left for regulations.

Sector specific recommendations

Recommendations made by the Select Committee in regards to each sector include:

Forestry

• The definition of 'forest land' be amended to be an area of land of at least one hectare that has, or is likely to have, when the forest species reach maturity, tree crown cover from the forest species of more than 30% in each hectare.
• Increase in the allocation of New Zealand Units (NZUs). NZUs are the primary unit of trade in the NZ ETS. Each NZU equates to one tonne of carbon dioxide emissions.
   The Select Committee recommends an increase in the NZUs allocated to pre-1990 forests from 39 NZUs per hectare to an estimated 60 NZUs per hectare, and an increase in allocation of 18 NZUs per hectare to Treaty claimants who receive Crown Forest lands.
• The definition of 'pre-1990 forest land' be amended to provide that land ceases to qualify as such once it has been deforested and liability to surrender units for that deforestation has been met. Under the scheme, pre-1990 forest owners harvesting their land could meet their liabilities under the ETS either by replanting the exact same land or by planting an equivalent area of land elsewhere in New Zealand not currently in forestry.
• Suggestions that pre-1990 indigenous forest be included in the ETS were rejected on the basis that legislation adequately protected such forests from deforestation.
• The Bill provide a clear indication that, should future international rules provide for offsetting, such provisions will be reflected in the NZ ETS. This would mean that forest owners could deforest and replant on the same piece of land or another piece of land and offset the equivalent carbon absorbency on a hectare-for-hectare basis.

The Select Committee recommended amending income tax legislation to provide for the tax treatment of emission units dealt with by forest owners. The main tax changes recommended are to:

• Allow a deduction to be claimed for the purchase of emission units required to meet a liability for deforestation of pre-1990 forestry land by a person who holds that land on revenue account.
• Treat emission units generally as excepted financial arrangements.
• Remove the ordering rules for separate classes of emission units. The Select Committee sees it as more appropriate for the tax treatment to reflect the emissions units which are actually sold.

Liquid Fossil Fuels

• Delay entry of the liquid fuels sector into the NZ ETS from 2009 to 2011.
• This sector be subject to voluntary registration and reporting in 2009 and mandatory registration and reporting in 2010, with no obligations to surrender NZUs in either year.
• The start date for surrender obligations of large purchasers of jet fuel who opt in for their domestic jet fuel use be changed from 1 January 2008 to 1 January 2010.
• Amendment made to enable additional activities of coastal shipping and fishing within the New Zealand exclusive economic zone to be captured under liquid fossil fuels. This is accompanied by the recommendation that this be subject to the approval by a resolution of the House within 12 months. This recommendation aims to:
  • Create an obligation on international shippers to surrender emission units for fuel used on the domestic legs of international voyages where cargo was picked up and dropped off in New Zealand.
  • Place an obligation on foreign fishing vessels that did not refuel in New Zealand but fished under New Zealand quota to surrender emission units.

Stationary Energy

• Amendment to include explicitly in the NZ ETS fugitive emissions from coal seam gas, such as emissions that result from coal-mining activities, including venting and flaring, but not methane extracted or captured for sale as an energy source.
• Amendment to enable a participant to opt in for coal or natural gas or both, and to clarify threshold requirements.

Industrial Processes

• Recognising companies that have already reduced emissions by moving to the use of waste oil in place of coal or other fossil fuels for energy, by making them eligible for free allocations.
• Delay entry of the refrigeration sector (imported HCFs and PFCs) from 2010 to 2013.
• The allocation of free units be widened - but calls from some sectors for an intensity-based approach and voluntary reporting were rejected.
• For large trade-exposed emitters, permit the allocation of free units to be done on an intensity or per-units basis rather than on volume, as many submitters advocated. This will reward companies that invest in world-best technology and practice to minimise their emissions. However, allocation will still need to be within an overall collective cap fixed at 90% of 2005 emissions.
• No threshold be specified for eligibility for free allocation in the industrial sector. However, the Select Committee stated that emitters producing significantly less than 50,000 tonnes of carbon a year would be appropriate. This area remains uncertain.
• Room left for some units to be set aside for new entrants or growth in emissions by incumbents, but this is to be provided for within the overall capped allocation.

Agriculture

• A staged approach to reporting, with voluntary reporting beginning 2011, followed by full mandatory reporting in 2012.
• Uncertainty still remains as to the point of obligation. The point of obligation determines who in each sector has unit obligations. In the agriculture sector this will most probably be at either the farm or processor level. The Select Committee does state that this will have to be decided by 30 June 2010.
• Amendment to be made to enable farmers to opt in to a farm-level obligation if a processor-point of obligation comes into effect.

Waste

• No significant recommendations.

Moratorium/Restriction on baseload generation

• The Select Committee backs the proposal in the Bill for a moratorium on new baseload thermal power generation to let the NZ ETS determine the flow of investment into new power plants. This recommendation goes against the pleas of business group submitters, including those who appeared in favour of emissions trading,
• The term 'moratorium' be replaced with 'restriction'. This is on the grounds that the Bill does not purport to impose a blanket suspension of baseload fossil fuel operation or investment, but it would impose specific restrictions.
• Amendments to clarify that it is intended for baseload fossil fuel generation to be restricted, rather than the loose term 'fossil-fuelled thermal electricity generation'.
• Amendments to include the exemption of a plant operating under a reserve contract with the Electricity Commission.
• Landfill gas generation be excluded from the renewable preference regime.

The Political Parties' positions on the Bill

The National Party has said:

• The Select Committee process was both 'rushed and reckless', and has resulted in a 'botched' piece of legislation that needs substantial amendment to achieve the goal of reducing emissions at the least cost.
• The NZ ETS should be delayed to observe the imminent announcement of Australia's ETS, and resolve the many issues that the Select Committee has put on hold.
• The scheme will result in $23 billion in profit for the Government, at the expense of families and businesses. They want the scheme reconfigured so that this is not the case.
• The Bill is silent on key mechanisms needed to make the NZ ETS work. It is unsatisfactory to defer many significant design issues raised by submitters to regulations to be determined in the future.

The Green Party has said:

• It sees the Bill as not only having major flaws, but being largely ineffective as entrance into the scheme by sectors is too slow, and free allocation is far too long.
• It opposes the late entry of both liquid fossil fuels and agriculture, as well as strongly opposing the delayed phase out of free allocations.
• The Bill gives too much protection for polluters for too many years, leaving the taxpayer with the bill.

New Zealand First has said:

• It is worried about the effect of the scheme on power prices and also about the effects on the fishing and shipping industries.
• Is not too sure about the planned ban on new thermal power generation, and wants to look carefully at the impact on major employers such as a steel mill.

The Maori Party has said:

• The NZ ETS is not fair or transparent.
• The ETS is a 'rip-off' for taxpayers which hurts poor families the most. The party is not happy with big businesses and farmers getting off 'scot free' for years with costs falling almost entirely on ordinary people.
• It holds sympathy for the fishing industry which does not receive any carbon credits.

United Future has said:

• Even with some compensation for households, the fall-out costs of the NZ ETS are too great for households to bear, given rising petrol, food and mortgage bills.

The Australian situation

A number of commentators, including from within political parties, have indicated that New Zealand should wait to see what Australia does before committing to any particular course of action at this stage.

In Australia, the Garnaut Climate Change Review (so named after the review head Professor Ross Garnaut) has been commissioned by the Australian Commonwealth, state and territory governments to examine the impacts, challenges and opportunities of climate change for Australia. A draft report was delivered to the Australian governments on 30 June with a final report due by 30 September. The public release of the draft report is due to occur this Friday (4 July). The focus of the review is the key role for an emissions trading scheme.

We will provide an update on the Australian process in due course.

Conclusion

The Government is currently negotiating with the minority political parties (New Zealand First, United Future, the Greens and the Maori Party) to elicit support for the Bill. This process is expected to take a few weeks.

At this stage the second reading is likely to occur in about three weeks due to the fact that Parliament will be in recess until 21 July. Further updates will be sent out as the matter progresses.

This update was written prior to the release of the Taxation (International Tax, Life Insurance, and Remedial Matters) Bill.  An update to cover this Bill will follow shortly.

For more information, please contact:

Jessica Hogan, Law Clerk
Tel +64 9 300 3847
jessica.hogan@dlaphillipsfox.com

Martin Thomson, Partner
Tel +64 9 300 3850
martin.thomson@dlaphillipsfox.com

Adam Holloway, Senior Associate
Tel +64 4 474 3261
adam.holloway@dlaphillipsfox.com