How carbon markets help reduce emissions in Australia and around the world

Summary

Trade in emissions units through international carbon markets allows countries to access cost effective emission reduction opportunities, wherever they occur. This reduces the cost of emission reductions for both Australia and the world. As countries realise that emissions reductions are achievable and affordable, and can smooth the transition to a low-carbon development pathway, they may be more willing to join the global effort to cut emissions. Through the Government's Clean Energy Future Plan, Australia is well-placed to harness international carbon markets to achieve ambitious emission reductions and strong economic growth.

The role of international carbon markets in reducing emissions

Carbon markets allow for the trade of emissions units. An emissions unit, sometimes called a 'carbon offset' or 'carbon credit', represents a tonne of carbon dioxide equivalent (CO2-e) of emissions avoided or removed from the atmosphere. For example, emissions units might be issued for the emissions avoided when renewable energy or energy efficiency measures are put in place in a developing country.

International carbon markets provide incentives to reduce emissions where it is most cost effective. It makes no difference where emissions reductions occur, provided that they do occur. Reducing the cost of cutting national and global emissions makes it easier and more affordable for countries to commit to greater ambition. Or, in other words, Australia and other countries will be able to achieve greater emission reductions for the same cost.

Around two-thirds of the world's lower cost emissions reductions opportunities are in developing countries. A carbon market allows many of these emissions reduction opportunities to be converted to emissions units which can be sold internationally. This provides an incentive to invest in emissions reduction activities and encourages the private sector to develop and deploy low emissions technologies in developing countries. Carbon markets will thereby contribute to developing countries' growth and development, in addition to achieving emissions reductions objectives. They are also expected to play a significant role in the mechanism to provide incentives to reduce emissions from deforestation and forest degradation in developing countries (REDD+), which currently accounts for around 18 per cent of all annual global emissions.

The United Nations Framework Convention on Climate Change (UNFCCC) and Kyoto Protocol, to which Australia is a Party, support the aim of low-cost emissions reductions. The UNFCCC says that 'policies and measures to deal with climate change should be cost-effective so as to ensure global benefits at the lowest possible cost'. The Kyoto Protocol establishes a framework and market mechanisms, such as the Clean Development Mechanism, which allow countries to use emission units to meet their national emission reduction targets.

How carbon markets lead to real emissions reductions

The Kyoto Protocol allows for Parties to create and acquire emissions units, commonly referred to as 'Kyoto units', from other countries via three market mechanisms referred to as 'flexibility mechanisms':

  • International Emissions Trading, which allows developed countries to reduce their emissions more than their target and sell the surplus Kyoto units
  • The Clean Development Mechanism, which allows developed countries to undertake projects to reduce emissions in developing countries to generate Kyoto units
  • Joint Implementation, which allows developed countries to undertake projects to reduce emissions in other developed countries to generate Kyoto units.

All Kyoto units are underpinned by robust emissions accounting frameworks that are agreed internationally and ensure that emissions reductions are real and not double counted. International units are tracked, emissions reductions projects in developing countries are monitored and emissions reductions verified. Developed countries' emissions and compliance with targets are also reported and verified.

International units will be allowed into the Carbon Pricing Mechanism of Australia's Clean Energy Future Plan from the beginning of the flexible price period (1 July 2015) onwards, subject to qualitative and quantitative restrictions. Only credible units that represent real emissions reductions will be eligible in Australia's scheme to ensure its environmental integrity. An independent body, the Climate Change Authority, will provide recommendations to the Government on which international units may be allowed.

Liable entities under the Carbon Pricing Mechanism will be able to meet 50 per cent of their obligations through the use of international units up until 2020. Even with access to the international carbon market, modelling undertaken by the Australian Treasury indicates that the Government's Clean Energy Future Plan will drive significant reductions in Australia's domestic emissions relative to what they would otherwise have been, and a low cost. This is because putting a price on carbon emissions will change the pattern of Australia's economic growth towards a low-emissions future.

What Australia is doing to promote the development of international carbon markets

According to the World Bank, the international carbon market has grown in value from US$11 billion in 2005 to reach over US$140 billion in each of 2009 and 2010. It will continue to grow as more countries undertake emissions reduction efforts, at the domestic, regional and international level.

With the Government's Clean Energy Future Plan, Australia joins a growing number of countries, provinces and cities, around the world in designing and implementing emissions trading schemes, which play an important role in the development of international carbon markets.

Emissions trading schemes (ETSs) have been operating in Europe (27 European Union Member States plus Norway, Iceland, Liechtenstein and Switzerland) since 2005 and New Zealand started emissions trading in 2008. Several United States and Canadian States have been involved in regional emissions trading and California, the world's ninth largest economy, will start its ETS in 2013.

China, the Republic of Korea, Chile, South Korea, Kazakhstan and Ukraine are expected to be the next movers on emissions trading. China plans to pilot emissions trading from 2014 in several major provinces and cities, including Beijing and Shanghai, and has expressed its intention to scale up to a national scheme from 2016. Australia's top five two-way trading partners—China, Japan, the United States, the Republic of Korea and the United Kingdom—have introduced, or are planning, ETSs and carbon taxes.

Australia is working closely with other countries to build their capacity to design and implement market mechanisms to reduce emissions. This includes Australia's work through the World Bank Partnership for Market Readiness, to which Australia has made a $10 million contribution, to build capacity and trial market mechanisms in emerging economies.

Australia is placing itself at the forefront of international efforts to reduce emissions from deforestation and forest degradation in developing countries (REDD+) through the International Forest Carbon Initiative and is a leading advocate for the role of carbon markets in achieving this aim. An example of early work in this area is the Indonesia-Australia Forest Carbon Partnership (IAFCP), through which Australia is providing financial and technical assistance for demonstration projects and development of the Indonesian National Carbon Accounting System. IAFCP is helping Indonesia build its capacity to address forest emissions and ultimately participate in a future REDD+ mechanism.

Further reading