An independent regulator for emissions trading and a futures market could be the next steps in New Zealand’s carbon market design, according to BusinessNZ Energy Council webinar panellists.
The panel discussed how to shape the emissions trading scheme to drive long-term decarbonisation.
They suggested a regulator to oversee the market and step in where it isn’t delivering would help set the right climate trajectory.
NZX head of energy markets Shane Dinnan says rising prices for New Zealand Units and greater participation in carbon markets mean the ETS must keep evolving.
Establishing a government regulator would be “a good step” in its evolution that would bring the New Zealand in line with similar schemes overseas.
He points to the Climate Change Commission’s capacity as an independent advisor to government as an example to draw from.
“A lot of it would come down to the scope of what the regulator would do,” he says.
Markets have limits
Jarden head of commodities Nigel Brunel was also on the carbon markets panel.
He agrees independent regulation will become necessary because the ETS is unlikely to deliver enough emissions cuts to reach the net-zero target. He argues markets are important, but limited, and some sources of emissions are inherently harder to dislodge.
Brunel also points out carbon markets aren’t like regular financial markets, which don’t have a particular purpose beyond pricing risk. Carbon markets on the other hand are designed expressly as mechanisms to reduce emissions by pricing things like fossil fuels “out of existence.”
“There are other tools the government can use and it shouldn’t necessarily rely on the market being able to do all the work on its own,” he says.
“If the ETS is finding some parts of the economy sticky in regards to reducing emissions that’s where the government will need to come in and regulate.”
There may also be room for adding features found in conventional financial markets to give the ETS regime more flexibility.
Brunel thinks a futures market, for example, would complement New Zealand’s “very good, well-developed” spot market for carbon.
“I think the next development will be a futures market to aid management of risk,” he says.
Treating carbon spot markets as financial instruments is common overseas and there are several active forward markets for carbon units.
Examples include the ICE Carbon Futures Index Family, which comprises the world’s biggest and most active carbon markets – the European Union, California, the UK and a several northeastern US states.
CME Group also offers the Global Emissions Offset futures contract. Singapore-based carbon traders AirCarbon is developing a futures market with Deutsche Börse, Germany’s largest exchange.
New Zealand regulates carbon trading under the Climate Change Response Act, which may not be the best vehicle to develop more sophisticated market mechanisms.
Achieving that doesn’t necessarily require a major overhaul. Brunel suggests the right tools are found in the Financial Markets Authority and its enabling legislation, the Financial Markets Act.
These would capture transactions that become derivative, such as a forward market for carbon which is “potentially the next evolutionary step.”
EY climate change director Matt Cowie says the limits of carbon markets illustrates a wider dynamic of the climate policy debate.
A “classic” example is the tension in the ETS between gross and net emissions reductions, which largely come down to forestry units. People are always calling for the ETS to be “fixed” to solve this but the problem goes well beyond the scheme itself.
“That question about the balance between these two outcomes is a really complicated economic, social and political question,” Cowie says.
“The ETS can’t answer that unless we have an answer before that.”
In other words, targets are just one step. New Zealand stills needs to decide where to direct its efforts to achieving this while managing trade-offs.
This comes down to particular policies, which relate to ETS settings rather than its architecture.
“The range of things we might want to ask it to do might change in the future.”