Monthly Archives: July 2008

128 – Compensation to carbon emitters

The Australian government has just released a “Green Paper” on trading of carbon emissions. The media coverage has been dominated by discussions about compensation for high emitters, trade-exposed industries and low income groups.

There are a few things that have struck me when listening to the public conversation about compensation.

1. Some of the discussion on current affairs programs sounded like people thought that, if we compensated ourselves for the increased costs, we could somehow avoid those costs. In fact the costs will still have to be borne. Compensation just redistributes the costs within the community.

2. The redistribution of costs away from high emitters means that the costs will end up being borne more by low emitters, on average.

3. The prospect of compensation mobilises people to lobby for special deals through the political process. For far-reaching policies like this one, the transaction costs of such lobbying activities are likely to be substantial.

4. Some commentators seemed to think that paying compensation to emitters would reduce their incentive to abate emissions. However it depends on how compensation is provided. If it is paid as a lump sum, unrelated to future emission levels, then there is no diminution in the incentive to abate. Overall, the level of abatement required is determined by the cap that is set on emissions. All the other details of the program just determine the cost of achieving that cap, and its distribution, not the aggregate level of abatement achieved (although there can be leakage in various ways, of course). All emitters covered by the scheme will have an incentive to abate emissions, irrespective of whether they have to buy or are given emission permits, and irrespective of how many emission permits they are given. This is because the permits have a market value and can be sold, but to sell them, you have to limit your own emissions.

5. Commonly in cap-and-trade schemes, permits to emit are “grandfathered”, meaning that they are given for free to existing emitters, at a reduced proportion of their current emissions. The proposed emissions trading scheme in Australia is relatively unusual in not using grandfathering for the initial distribution of rights, although grandfathering has been proposed as one of the means of compensating some emitters. Grandfathering does not mean that firms in aggregate avoid abatement costs, because they still have to operate within the lower cap set by the system. Individual firms might avoid abatement costs by holding or purchasing sufficient permits, but to do so they have to forgo the revenue from selling those permits.

6. Given that Australia will be ahead of many other countries if it does implement the proposed emissions trading scheme, there is a risk of firms moving off shore to avoid the impost of having to purchase emission permits. Given this likelihood, it does make some environmental sense to compensate those industries that are likely to move off-shore in response to the policy (assuming that reducing their emissions is actually worthwhile).

7. Compensation is being justified as an interim measure. However, it is worth asking what would bring the interim measure to an end? If we are providing compensation to industries that are threatening to move overseas, presumably we would need to keep providing it until most other countries adopt similar policies. That could take some time. If we are paying compensation to heavy emitters because we want to allow them time to adjust to the new system (or some such rationale) we could be stuck with paying compensation for a very long time indeed. The expectation seems to be that the cap will slowly become more stringent, probably over the next 50 years or so. If we have to compensate heavy emitters for the scheme’s introduction, why wouldn’t we also compensate them each time it became more stringent? The same sort of question would apply to compensation to low income earners suffering from higher prices. Compensation starts to look more like a permanent feature than an interim measure.

Overall, is compensation worth the complexity and the transaction costs that it will introduce? If one supports the general thrust of the program, then I suppose the leakage of heavy emitters to countries without emissions policies does potentially justify some compensation. Other than that, the idea looks pretty questionable, and even for that case, I have concerns, particularly about who will qualify for compensation. The scope for special pleading will be enormous. The point where the line is drawn will be essentially arbitrary, and the temptation for politically motivated decisions will be irresistible. I suppose we might have to live with that as the price of getting the scheme established quickly.

David Pannell, The University of Western Australia

127 – Sequestering carbon in agricultural soils

With the release of the Garnaut Report on climate change policy in Australia this week, there has been a lot of talk about the impact of any emissions trading scheme on agriculture. Here I argue that farmers are unlikely to benefit from one of the management options being discussed: carbon sequestration in soils.

Agriculture looks like it may be included in Australia’s emissions trading scheme, although probably not immediately, due in part to difficulties in reliably measuring emissions and levels of sequestration.

Its eventual inclusion is likely to affect agriculture adversely, particularly due to the need to pay for emissions from livestock. To moderate this impact, people have been looking at the potential benefits to agriculture from sequestration of carbon. This PD discusses one of the sequestration options that has had some attention: sequestration in agricultural soils.

Firstly, what is it?

Soil carbon sequestration is the process of transferring carbon dioxide from the atmosphere into the soil through crop residues and other organic solids, and in a form that is not immediately reemitted. This transfer or “sequestering” of carbon helps off-set emissions from fossil fuel combustion and other carbon-emitting activities while enhancing soil quality and long-term agronomic productivity. Soil carbon sequestration can be accomplished by management systems that add high amounts of biomass to the soil, cause minimal soil disturbance, conserve soil and water, improve soil structure, and enhance soil fauna activity. Continuous no-till crop production is a prime example.” (Sundermeier et al., undated),

Under an emissions trading scheme, farmers who increase their soil carbon above the existing level would, in principle, be able to sell emission permits to other emitters, or use them to offset their own emissions elsewhere on the farm. There has been some optimism about this prospect. For example, in relation to agriculture, Garnaut says, “The most significant opportunities may be in the area of improved carbon sequestration through better management of soil carbon.” (p. 355).

Unfortunately, in my judgment, payments for extra carbon sequestration in soils from changes in land management will result in little, if any, benefit to Australian farmers. There are several reasons for this.

1. It is difficult to increase the amount of carbon stored in most cropped soils in Australia, even with zero till and when large amounts of stubble are retained (Chan et al., 2003).

2. Soil sequestration is a once-off process. Once farmers change their management to increase soil carbon, it increases up to a new equilibrium level and then stops. After that, there are no net additions of carbon to the soil each year. This means that a properly designed emissions trading scheme would pay the farmers for their extra sequestration once, but only once. The carbon would not be a source of annual income. The annual financial benefit would be the value of the carbon sequestered times the interest rate, which means it is small relative to other economic drivers of farm management. The farmers would need to maintain their soil carbon at the new higher level in order to avoid having to pay for emissions permits.

3. It is difficult to measure the amount of carbon stored in soils. To do so in a convincing way would involve regular and ongoing costs, which would eat away at the modest once-off benefits.

4. John Passioura (2008) has pointed out a crucial and under-recognised problem: increasing humus in the soil (e.g. from reduced tillage) does tie up carbon, but it also ties up other valuable nutrients: nitrogen, phosphorus and sulphur (Williams and Donald, 1957; Passioura, 2008) which would otherwise be available to increase crop yields. He estimates that in Australian cropping conditions, the cost of replacing these nutrients using additional fertilizer would be sufficient to wipe out any benefits from carbon sequestration even if the CO2 price was as high as $80 per tonne. He acknowledges that the error margin around this estimate is large, but even so there is clearly likely to be little or no net benefit at the sort of CO2 price currently being discussed: $20 to $40 per tonne.

This combination of issues means that farmers who are looking for opportunities to benefit from climate change policy should probably look at other options.

Also note that I am not referring in this piece to the idea of storing carbon as biochar, only to attempts to increase soil carbon through changes in land-management. At this stage I am not for or against biochar.

David Pannell, The University of Western Australia

Further Reading

Chan, K.Y.; Heenan, D.P., and So, H.B. (2003). Sequestration of carbon and changes in soil quality under conservation tillage on light-textured soils in Australia: a review, Australian Journal of Experimental Agriculture 43(4): 325-344.

Passioura, J. (2008). The hidden costs of sequestering carbon in the soil, GRDC Groundcover.

Sundermeier, A., Reeder, R., Rattan Lal, R. (undated) Soil Carbon Sequestration—Fundamentals,

Williams, C.H. and Donald, C.M. (1957). Changes in organic matter and Ph in a podzolic soil as influenced by subterranean clover and superphosphate. Australian Journal of Agricultural Research 8(2): 179-189 .