Compensation will be key to Emissions Trading Scheme’s success

Compensation will be a key issue in the success of the Rudd Government’s emissions trading scheme (ETS), in two ways. Firstly, as the European experience showed, if too many (or perhaps, any) free emission permits are handed out to industries that manage to lobby for special concessions, it reduced their incentive to reduce emissions. They simple carry on as normal, paying a few fines if they exceed their quotas.

There’s also an argument for compensation to poorer households hit by rising fuel and food costs. (It looks likely that farming will be directly excluded from the scheme anyway, but food prices will still rise because of the oil used in food transport, farm machinery, etc.)

The idea of an emissions scheme is an overall quota cuts the total emissions, forcing industry to switch to cleaner technology (which costs more) or pay to buy emission permits from other busineesses that are reducing emissions (which, again, costs money). This pushes up prices. The government, having raised revenue by auctioning off the permits each year, gives this money back to consumers to cushion them from the impact of rising prices.

This has some merit as a political strategy. The fear is that without compensation, the government won’t be able to sell the scheme to the voting public, leaving the door open for a populist appeal by the opposition to throw out the whole scheme. Brendan Nelson clearly has this in mind already. 

In theory too, compensation doesn’t matter. Because the number of permits issued each year is less than the year before, total emissions has to fall.

In practice, it rarely works so smoothly. Emissions are, literally, like hot air -almost impossible to quantify accurately. And given a lot of businesses will have an interest in not being accurate about how much they are emitting, it’s likely to be an inexact science. So it’s important that at the same time the scheme is used in a way that encourages people towards low-carbon lifestyles.

Hence, rather than hand out tax and excise rebates so people can keep buying petrol and using electricity as before, the revenue from the sale of permits should be used to fund schemes that drive behaviour change to energy-efficiency and renewable energy. These can be directed towards poorer households by means-testing them.

For instance, increased grants for insulation, solar hot water, solar panels and energy-saving appliances will help households and businesses reduce their electricity bills to offset the rise in electricity prices.

And improved, subsidised public transport such as buses, trams and light rail to car-dependent outer suburbs such as Sydney’s north-west will mitigate increased petrol costs.

Using compensation this way will reinforce the core aim of the emissions scheme – to wean Australians off their dependency on greenhouse gas-producing fossil fuels.

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