Review of NSW Climate Change Mitigation Measures · Australia’s principal means of mitigating the effects of climate change. This scheme will be supported by three other ‘pillars’

Independent Pricing and Regulatory Tribunal

Review of NSW Climate Change

Mitigation Measures

Other Industries — Final Report — Volume 1

May 2009

Review of NSW Climate Change Mitigation Measures

Other Industries — Final Report — Volume 1 May 2009

ii IPART Review of NSW Climate Change Mitigation Measures

© Independent Pricing and Regulatory Tribunal of New South Wales 2009

This work is copyright. The Copyright Act 1968 permits fair dealing for study, research, news reporting, criticism and review. Selected passages, tables or diagrams may be reproduced for such purposes provided acknowledgement of the source is included.

ISBN 978-1-921238-91-6 S9-39

The Tribunal members for this review are:

Dr Michael Keating, AC, Chairman

Mr James Cox, Chief Executive Officer and Full Time Member

Ms Sibylle Krieger, Part Time Member

Inquiries regarding this document should be directed to a staff member:

Angela Woo (02) 9290 8428

Dennis Mahoney (02) 9290 8494

Independent Pricing and Regulatory Tribunal of New South Wales PO Box Q290, QVB Post Office NSW 1230 Level 8, 1 Market Street, Sydney NSW 2000

T (02) 9290 8400 F (02) 9290 2061

www.ipart.nsw.gov.au

Contents

Review of NSW Climate Change Mitigation Measures IPART iii

Contents

1 Introduction and executive summary 1 1.1 IPART’s key findings and recommendations on the analytical framework for

assessing NSW mitigation programs 4 1.2 Key findings and recommendations of IPART’s assessment of the 26

nominated NSW mitigation programs 6 1.3 IPART’s associated findings and recommendations in relation to the NSW

Government’s broader policy settings and the CPRS 7 1.4 Structure of the Report 12

2 Context for IPART’s review 14 2.1 National targets for reducing GHG emissions 14 2.2 The Carbon Pollution Reduction Scheme 16 2.3 Other national mitigation policies 18 2.4 Uncertainties in the current policy environment 18

3 Rationale for mitigation measures in addition to the CPRS 20 3.1 The CPRS may not be sufficient to overcome all market failures and barriers in

covered sectors of the economy 21 3.2 The CPRS will not cover all the sectors of the economy that produce GHG

emissions 23 3.3 In some sectors of the economy, price signals do not play a significant role in

decision-making 23 3.4 Some programs may have one or more non-mitigation-related objectives 23 3.5 Other characteristics of mitigation programs in addition to the CPRS 24

4 Framework for assessing NSW mitigation programs 25 4.1 Overview of the assessment framework 26 4.2 What types of market failures and other barriers need to be addressed by

programs in addition to the CPRS? 27 4.3 How do market failures and other barriers prevent or hinder the take-up of

profitable mitigation opportunities? 33 4.4 How should programs that encourage government agencies to take-up

profitable mitigation opportunities be assessed? 35 4.5 How should programs that have one or more non-abatement objectives be

assessed? 36 4.6 How is a program’s cost-effectiveness assessed? 37 4.7 What specific methodology is used to assess cost-effectiveness? 38

Contents

iv IPART Review of NSW Climate Change Mitigation Measures

4.8 How accurate are the cost-effectiveness assessments? 47

5 IPART’s assessment of nominated NSW mitigation programs 51 5.1 Summary of findings on energy efficiency programs by recommended future

status 60 5.2 Summary of findings on low-emissions generation programs by

recommended future status 63 5.3 Summary of findings on direct emissions reduction programs by

recommended future status 64

6 Associated findings and recommendations 65 6.1 Findings and recommendation on NSW ‘umbrella’ policies 66 6.2 Findings on NSW emissions reduction target 68 6.3 Findings and recommendations in relation to future policy developments at

the national level 70

Appendices 73 A Terms of Reference 75 B Complementarity principles 78 C List of Submissions and Roundtable Participants 80 D Carbon Pollution Reduction Scheme 83 E Future Electricity Prices 87

1 Introduction and executive summary

Review of NSW Climate Change Mitigation Measures IPART 1


The threats associated with climate change and concern over the sustainability of energy resources are major issues for governments, businesses and communities across Australia and the world. For the past decade, the NSW Government has been aware of the rising level of greenhouse gas (GHG) emissions. Like other state and territory governments, it has established a wide range of programs designed to encourage individuals, businesses and its own agencies to reduce their emissions. The NSW programs have been an important factor in raising NSW citizens’ awareness of carbon pollution and giving effect to the community’s desire to reduce GHG emissions to combat climate change.

The NSW Government has long called for a national approach to climate change – because it would address a national issue more effectively and efficiently, and because, ultimately, the stabilisation of GHG emissions in the atmosphere requires concerted and coordinated action by all emitting countries.

In 2008, the Federal Government announced that it would establish a national carbon emissions trading scheme by mid-2010. This has since been extended to mid-2011. This scheme, known as the Carbon Pollution Reduction Scheme (CPRS), is to be Australia’s principal means of mitigating the effects of climate change. This scheme will be supported by three other ‘pillars’ of the Federal Government’s climate change mitigation strategy – an expanded renewable energy target (RET), research into carbon capture and storage, and promotion of energy efficiency activities.1

Once the CPRS is operational, it is likely that many of the existing mitigation programs at the state and territory levels will require redesigning and some may become redundant.2 Given this prospect, the Council of Australian Governments (COAG) has agreed that the federal, state and territory governments will review their existing mitigation programs to ensure that the CPRS is supported by a “coherent

1 IPART interprets energy efficiency broadly in this review. An increase in the efficiency with

which energy is used is said to occur whenever the same output or outcome is achieved with less energy input or whenever households, businesses or governments use less energy to achieve their chosen ends. The latter is often called ‘energy conservation’. Definitions of energy efficiency are discussed in Productivity Commission, The Private Cost Effectiveness of Improving Energy Efficiency, Report no. 36, Canberra, 2005, pp 13-16.

2 As the Wilkins Report noted: “Currently, there are in excess of 200 relevant programs around Australia in the States and Territories. Many have the potential to interfere with an emissions trading scheme. The States and Territories, over a decade, filled the policy vacuum left by the Commonwealth Government.” Mr Roger Wilkins AO, Strategic review of Australian Government Climate Change Programs, 31 July 2008, p 2.


2 IPART Review of NSW Climate Change Mitigation Measures

and streamlined” set of policies across all jurisdictions. All mitigation programs in addition to the CPRS must be complementary to it and neither overlap, duplicate or compete with it.

In September 2008, the NSW Government asked the Independent Pricing and Regulatory Tribunal of NSW (IPART) to develop an analytical framework for assessing whether existing or proposed NSW mitigation programs3 are complementary to the CPRS. The Government also asked IPART to review 26 existing NSW programs to assist it in forming its report to COAG in mid 2009 on the streamlining actions it considers most appropriate in this state.4

The terms of reference for the review (which are provided in Appendix A) require IPART to have regard to a range of matters. These include:

the COAG Climate Change and Water Working Group’s Document of Shared Understanding, which sets out principles in relation to the design of mitigation programs in addition to the CPRS

the frameworks used in other jurisdictions to assess mitigation programs, and

the Federal Government’s Green and White papers on climate change mitigation and the CPRS plus any related material that became available during the course of the review.

While IPART complied with its terms of reference, it is important to note that two recent developments occurred too late for IPART to incorporate them into its analysis. These were:

The announcement on 4 May 2009 by the Federal Government of its decision to increase the upper limit of its medium-term emissions reduction target.

The release in May 2009 of the report on the strategic review of Federal Government mitigation programs (the Wilkins Review).5

IPART was not able to consider the Wilkins Review’s approach and recommendations in detail. However, it notes that the principles used in the review to assess whether programs complement the CPRS are similar to those set out by COAG, on which IPART’s recommended framework is based. (See Appendix B.) The frameworks and findings of other states’ and territories’ reviews were not available to IPART.

IPART was also not able to incorporate into its analysis the Federal Government’s decision to increase the upper limit of its medium-term carbon reduction target from 3 In this report, IPART uses the word ‘program’ to describe the NSW Government policies

referred to it for review. It has the same meaning as ‘measure’, which is used in the terms of reference.

4 IPART received revised terms of reference in December 2008, accompanied by advice on which NSW programs should be reviewed. These revised terms of reference extended the due date for the report from end March 2009 to end May 2009.

5 Mr Roger Wilkins AO, Strategic review of Australian Government Climate Change Programs, 31 July 2008. Available on the Department of Finance and Deregulation website.



15 per cent to 25 per cent. The carbon price impact of a ‘CPRS-25’ scenario and related impact on the prices of carbon-intensive goods and services, such as electricity and fuel prices were not available and cannot be inferred from current modelling reports.6

However, IPART notes that such an increase would not alter the major findings and recommendations of its review. IPART’s proposed assessment framework for evaluating programs is based on principles rather than specific targets. One of the most significant likely effects of the increase in the upper bound of the medium-term target would be an increase in the price of GHG emissions, which would result in higher increases in power and fuel prices than IPART assumed in its analysis. The most likely effect of higher carbon prices is that programs IPART found to be cost-effective would become even more cost-effective.7

Volume 1 of this report summarises IPART’s review. This chapter provides an overview of the key findings and recommendations, and indicates how the remaining chapters explain and support the findings. Box 1.1 summarises the process IPART followed in conducting the review. Volume 2 of the report sets out IPART’s assessment and recommendations for each of the 26 programs nominated for review.

Box 1.1 Review process

IPART undertook this review under section 9 of the Independent Pricing and Regulatory Act 1992. It drew heavily on information provided by various NSW Government agencies that managethe NSW mitigation programs. It also conducted public consultation and its own analysis.Specifically, IPART:

released an Issues Paper in December 2008 and invited submissions from all interested parties (a list of those who made submissions is provided in Appendix C)

posted on the IPART website a paper on various issues and programs in preparation fordiscussion at a public roundtable

conducted a public roundtable discussion on 2 April 2009 (a list of attendees is provided in Appendix C) and posted a transcript of the discussion on its website

commissioned a peer review of IPART’s cost-effectiveness methodology and research on the market failures that are likely to exist following the introduction of the CPRS, to supplementIPART’s own research

considered all the submissions and analysed all the information it received before reachingthe recommendations contained in this report.

6 These and other modelling outputs are a product of a suite of models used by the Federal

Treasury to capture the global, national, sectoral and household dimensions of specific different mitigation scenarios. Each scenario has different flow-on impacts.

7 Whilst the price and broader economic impacts of a ‘CPRS-25’ scenario is not known, some guidance as to the possible effect of simply higher electricity prices on the cost-effectiveness of programs can be inferred from the sensitivity test that IPART conducted. The cost-effectiveness calculations were run with energy prices 15 per cent higher.



1.1 IPART’s key findings and recommendations on the analytical framework for assessing NSW mitigation programs

The basis for a framework to guide the NSW Government’s analysis and decision making on climate change measures to support the CPRS was provided by the principles developed by COAG. (These principles are provided in Appendix B.) Therefore, IPART developed a framework that is based on these principles, and is tailored for practical application in NSW.

Under this framework, to be warranted in the context of the CPRS, a NSW mitigation program must meet one of four ’in-principle‘ criteria and also comply with best-regulatory-practice principles. The in-principle criteria are that the program:

1. Addresses a market failure or barrier that:

– is either not adequately addressed by the CPRS or reduces the effectiveness of the CPRS, and

– is significant and amenable to government intervention, or

2. Addresses a market failure or barrier that:

– is in a sector not covered by CPRS (ie, agriculture in the initial years of the scheme and forestry excluding voluntary opt-ins to the CPRS), and


3. Addresses a sector of the economy where price signals do not play a significant role in decision-making (eg, land use and planning), or

4. Has one or more non-abatement objectives (including assisting individuals or organisations adjust during the transition to a carbon-constrained environment) that do not adversely affect the efficient operation of the CPRS.

These in-principle criteria represent the first, high-level test. Programs that do not meet at least one of these criteria are deemed not complementary to the CPRS, and therefore should not be retained or implemented after that scheme is in place. Programs that do meet one of these criteria are subject to a more detailed test.

To pass this more detailed test, the program must be consistent with best-regulatory-practice principles. One of the most important of these is cost-effectiveness. For the purpose of this review, IPART defined programs to be cost-effective where the cost of reducing greenhouse emissions and, if applicable, reducing energy use (whether power or fuel) or generating new low-emissions energy through the program is less than the cost of achieving the same outcomes through the CPRS. It also developed a detailed methodology for measuring a program’s cost-effectiveness.

Other best-regulatory practice principles include that the program is the best option available, is best delivered at the state level, and is simple to administer, transparent, equitable and regularly reviewed.



Only ten out of the 26 NSW programs nominated for review were amenable to quantitative analyses of benefits and costs. The remainder were not subject to such analyses predominantly due to the lack of data. Of the ten programs subject to quantitative assessment, some were found to be clearly cost-effective (eg, BASIX) or cost in-effective (eg, the Lighting Retro-fit stream of the Schools Energy Efficiency Program). Others were more closely in the benchmark range.

IPART found that, while information was extensive for some programs, for others the information was more speculative, in part because the program itself had either not yet commenced or had only been operating for a short time. The latter raises questions about whether the mitigation benefits expected from some of the programs will materialise. Should cost over-runs or abatement shortfalls occur it would endanger the conclusions that IPART has reached on the cost-effectiveness of some programs.

IPART recommends that future evaluations of any mitigation program recognise the possibility that programs may not deliver the results expected of them, either as to cost, emissions abated or energy (power or fuel) saved or produced. The programs that are retained, and any new programs that are introduced, should be reviewed within three years of start-up. The object would be to analyse any divergences between expected and actual outcomes and re-design the programs on a sounder basis using the framework of assessment adopted in this review.

An important pre-requisite for robust program design and assessment is that all the data relevant to a program (including enabling assessments of cost-effectiveness) and the processes to collect it and monitor the program, are available. The collection of such data and monitoring processes should be included as part of the program design.

IPART’s recommendations on the framework for assessing NSW mitigation programs and the page number of Volume 1 on which they appear are listed below.

Recommendations on the Assessment Framework

1 That the policy and assessment framework proposed in sections 3.1 to 3.5 and 4.1 to 4.7 of this report be applied to all present and future NSW mitigation programs. 27

2 That NSW mitigation programs be reviewed for actual outcomes relative to expectations after three years from program start-up and regularly thereafter; and that targets be adjusted and the programs re-evaluated in the light of these reviews. The reviews should preferably be done by an independent body. 50

3 That all future NSW mitigation programs specify in their program design a means of data collection and monitoring that enables effective regular reviews of the program. 50



1.2 Key findings and recommendations of IPART’s assessment of the 26 nominated NSW mitigation programs

In relation to its assessment of the 26 nominated climate change mitigation programs, IPART first divided these into three broad groups depending on whether they:

reduce carbon emissions by increasing energy efficiency

reduce emissions by creating new low-emissions energy sources, or

directly reduce emissions in the atmosphere (for example, by carbon capture and storage).

Twenty programs are aimed at increasing energy efficiency. While some target a specific group of energy users – such as low-income households, businesses of a particular size, and NSW government agencies – there is a degree of overlap in these programs’ objectives and target groups. This indicated an opportunity for rationalisation of programs.

Four programs primarily concerned low-emissions energy generation. Two were solely concerned with the direct reduction of emissions.

To assess the programs’ individual merits, IPART applied its recommended analytical framework to determine whether they should be retained in their current form, retained but redesigned, retained during the transition to the CPRS only, or terminated.

IPART concluded that:

Seven programs should be retained in full in their current form. These include the Energy Saving Scheme; BASIX; the BASIX co-generation demonstration project; three components of the NSW Government Sustainability Policy (the umbrella policy, Energy Performance Contracts, and the Government Energy and Water Efficiency Investment Program); and the Clean Coal Fund.

Three programs should be retained in part. The Green Business Program’s Market Transformation stream should be retained and incorporated in the Sustainability Advantage Program. The Schools Energy Efficiency Program’s Climate Clever Energy Savers stream should be retained and consideration given to its redesign. The Renewable Energy Development Program should be retained but redesigned to support projects that aim to lower abatement costs and that are better aligned with NSW’s strengths and interests.

Nine programs should be retained in full during the transition period only, and some of these should be re-designed. Those to be retained in their current form include: the Energy Efficiency Skills Development Program; the Low Income Household Refit Program; the proposed Energy Saver Program (an expansion of the Sustainable Advantage Program); and the Energy Efficiency for Small Business Program.



Those to be retained but redesigned include: the Energy Efficiency Community Awareness Program (consideration should be given to revising funding levels); the Residential Rebate Program; the FleetWise Partnership (to be incorporated into the Sustainability Advantage Program); the Cleaner Government Fleet Program (a component of the NSW Government Sustainability Policy); and clause 45B of the Electricity Supply (General) Regulation 2001.

One program should be retained in part during the transition period only (the Public Facilities Program’s Community Savers stream).

Three programs should be terminated in part. These include the Green Business Program’s Direct Measures stream; the Public Facilities Program’s Demonstration stream; and the Schools Energy Efficiency Program’s Lighting Retrofit stream.

Five programs should be terminated in full. These include the NSW Energy Efficiency Target; Clause 4 of the Suppliers Authorisation of the Gas Supply Act 1996; the proposed mandating of actions under Energy Savings Plans; the Greenhouse Gas Reduction Scheme (when the CPRS commences); and the Carbon Neutral Government Policy (offsetting of emissions).

One program should be subject to an independent economic appraisal. The mandating of biofuel content in petroleum-based fuels under the Biofuel (Ethanol Content) Act 2007 (as amended) should be terminated unless it can be shown that the program produces a net benefit.

Chapter 5 provides a summary of IPART’s findings and recommendations on each broad group of measures. IPART’s specific recommendations in relation to the 26 NSW mitigation programs and the page number of Volume 2 on which they appear are listed below.

Recommendations on the 26 NSW mitigation measures:

Energy Efficiency – General

1 That the NSW Energy Efficiency Target be terminated. 8

2 That the Energy Efficiency Community Awareness Program be retained as a transitional measure, as planned, for three years. However, the $9 million cost of the “black balloons” campaign is relatively high and warrants further consideration by the NSW Government. 19

3 That the Energy Efficiency Skills Development Program be retained in its current form to assist transition to the CPRS. 32

Energy Efficiency - Energy Sector

4 That the Energy Savings Scheme be retained in its present form. 43



5 That the Energy Savings Scheme’s qualifying criteria for projects against which Energy Savings Certificates may be created be regularly reviewed in the light of rising post-CPRS electricity prices and a reduction in the stock of energy efficiency projects that require the stimulus of the scheme. 43

6 That clause 4 of the Gas Supplier’s Authorisation be removed. 47

Energy Efficiency - Residential Planning

7 That BASIX be retained and, in time, integrated with any national scheme that establishes standards that are at least equivalent to those under BASIX. 61

8 That the review of BASIX planned for later in 2009 considers resetting the basket of options offered to developers and households and/or the size of the target reductions required of them in the light of IPART’s assessment. IPART’s recommended assessment framework should be applied to any changes to BASIX. 61

9 That the BASIX cogeneration demonstration project be retained. 65

10 That decisions on future proposed BASIX demonstration projects be based on an assessment of the complementarity with the CPRS using IPART’s recommended framework. 65

Energy Efficiency - Households

11 That the NSW Government retains a hot water rebate under the Residential Rebate Program as a transitional measure only to 2011, as planned. In light of the Federal Government subsidies for energy efficient hot water systems, the NSW Government should revise the hot water rebate scheme to reduce the level of subsidy and thereby remove any over-compensation. 83

12 That the Low Income Household Refit Program be retained as a transitional measure for five years as planned, subject to there being no duplication with Federal Government programs. 100

Energy Efficiency - Businesses

13 That the Small Business Energy Efficiency Program be retained as a transitional measure for two and a half years, as planned, subject to the Federal Government not implementing similar programs. 114

14 That the Energy Saver Program be retained. 131

15 That the subsidies for energy audits provided under the Energy Saver Program be a transitional measure for five years. 131

16 That the NSW Government not extend the Direct Measures stream of the Green Business Program for energy savings projects beyond Round 1. 151



17 That the NSW Government retains the Market Transformation stream of the Green Business Program but incorporates it under the Sustainability Advantage Program.151

18 In order to enhance its effectiveness, the NSW Government should amend the Market Transformation stream by requiring applicants to demonstrate how the projects will make businesses aware of energy efficient technologies and practices that are relevant to their operations and likely to be cost-effective. 151

19 That the proposal to mandate the implementation of cost-effective energy efficiency actions identified in Energy Savings Actions Plans not be pursued. 163

20 That FleetWise Partnership be retained as a transitional measure only. A review of the need for the program should be undertaken when the CPRS starts, in accordance with IPART’s assessment framework. 178

21 That FleetWise Partnership be incorporated into the NSW Sustainability Advantage Program, as planned by DECC. 178

22 That FleetWise Partnership be terminated if a similar national program is established. 178

Energy Efficiency - State Government

23 That the NSW Government not extend the Demonstration stream of the Public Facilities Program for energy savings projects beyond Round 2. 196

24 That the NSW Government redesign the Community Savers stream of the Public Facilities Program as a separate program to ensure it is more clearly framed as an assistance measure and that the redesign: 196

– consider whether the current guidelines for the Community Savers stream remain appropriate in light of the termination of the Demonstration stream and the proposed Federal assistance for community sector organisations under the Climate Change Action Fund, and 196

– only provides transitional assistance through to the early years of the CPRS, in accordance with IPART’s assessment framework. 196

25 That the Sustainability Policy be retained in relation to its building energy use mitigation objective and that: 204

– other individual components of the policy be subject to the specific recommendations made elsewhere in this review, and 204

– an explicit review process is introduced and formal reviews (preferably independent) be undertaken in line with IPART’s assessment framework every three years, including verification that projects have produced a 12 per cent internal rate of return. 204

26 That Energy Performance Contracts be retained. 220



27 That the Government Energy and Water Efficiency Investment Program be retained. 229

28 That the Cleaner NSW Government Fleet Program be retained as a transitional measure, and end no later than 2011 (the last year of its current environmental targets). 245

29 That the Cleaner NSW Government Fleet Program be redesigned to: 245

– provide government agencies with the flexibility to depart from the program’s environmental directives where compliance with them is not cost-effective or inappropriate in light of operational requirements 245

– make reports on the performance of the Cleaner NSW Government Fleet Program publicly available. 245

30 That the Cleaner NSW Government Fleet Program be terminated if a similar national program is established. 245

31 That the NSW Government not retain the Lighting Retrofit stream of the Schools Energy Efficiency Program on the basis of its mitigation objective. 256

32 That the cost of further lighting upgrades in schools be met through the Budget, rather than the Climate Change Fund. If other improvements to energy efficiency in schools are pursued, the NSW Government should explore the use of alternative funding programs, such as the Treasury Loan Fund, which would assist to ensure that expenditure is cost-effective. 256

33 That the NSW Government retain the Climate Clever Energy Savers stream of the Schools Energy Efficiency Program. Consideration should be given to whether the Climate Clever Energy Savers should become a separate program or be amalgamated within other programs with a strong environmental education focus. 256

Low Emissions Energy Generation

34 That the NSW Greenhouse Gas Abatement Scheme be terminated on the introduction of the CPRS, as planned. 258

35 That clause 45B of the Electricity Supply (General) Regulation 2001 (“the licence condition”) be repealed when the CPRS is introduced. 267

36 Prior to the introduction of the CPRS, that the requirement under the licence condition that electricity suppliers compulsorily make renewable energy sources offers to new and moving customers be removed, but that other elements of the licence condition be retained or (where appropriate) modified to ensure that the consumer protections currently provided with any offers of accredited renewable energy are maintained. 267



37 That the NSW Government redesign the Renewable Energy Development Program prior to the commencement of Round 2 to support projects that aim to lower the costs of mitigation under the CPRS (consistent with IPART’s assessment framework), and are better aligned with NSW’s strengths and strategic interests. 280

38 If the Government determines that the primary purpose of funding currently provided under the Renewable Energy Development Program should be to attract industry investment, rather than achieve abatement, it should provide funding for this purpose from a source that is not the Climate Change Fund. 280

39 That the NSW Government commissions an economic appraisal of the Biofuel (Ethanol Content) Act 2007 and Biofuel (Ethanol Content) Amendment Act 2009 by an independent, appropriately qualified party. The Acts should be repealed unless the independent appraisal shows that they produce a net economic benefit. The Government should publicly report on the economic appraisal and its outcomes. 298

Direct Emissions (GHG) Reduction

40 That the Clean Coal Fund be retained. 314

41 That the Carbon Neutral Government Policy be terminated. 322

42 That measures to reduce emissions from government operations continue to be pursued (in the short term, through the NSW Government Sustainability Policy) where these measures are determined to be cost-effective in line with IPART’s recommended assessment framework. 322

1.3 IPART’s associated findings and recommendations in relation to the NSW Government’s broader policy settings and the CPRS

In the course of its review, IPART reached several findings on the potential for the NSW Government’s broader policy settings to affect the effectiveness of the national climate change mitigation strategy. In particular, it found there is a need to clarify and streamline the objectives and rules of the NSW Government’s three ‘umbrella’ mitigation policies – the NSW Climate Change Fund, the NSW Energy Efficiency Strategy and the NSW Sustainability Policy. It also found that the current NSW target for reducing GHG emissions by 60 per cent by 2050 is not consistent with the national approach to climate change mitigation and may hinder the effective operation of the CPRS.



In addition, IPART noted that its assessment of the nominated NSW mitigation programs took into account what is currently known about the national mitigation policy framework. As this framework will continue to evolve, it will be important that future assessments take account of the latest policy developments. IPART also considers that:

If more ambitious long-term national emissions reduction targets are adopted, there is a stronger case for programs that will assist individuals and organisations to adjust to more stringent constraints, such as support for R&D of lower emissions technologies that could substantially reduce future abatement costs.

It is desirable that governments minimise policy and regulatory uncertainty, where possible.

As there is some interaction between mitigation and non-mitigation policies, the Government should consider the potential for non-mitigation policies (including the regulation of energy prices) to help or hinder the CPRS to achieve least-cost abatement.

IPART’s recommendations on these additional issues (and the page number of Volume 1 on which they occur) are listed below.

Recommendations on associated matters

4 That the NSW Government review ‘umbrella’ mitigation policies, including the Climate Change Fund, the NSW Energy Efficiency Strategy and the NSW Government Sustainability Policy to ensure that these policies are consistent with IPART’s recommended framework for assessing and reviewing climate change mitigation measures. 68

5 That the NSW Government make a clear policy statement, based on IPART’s assessment framework, regarding the circumstances in which it will introduce new mitigation policies. 72

6 Given the interaction between mitigation and non-mitigation policies, that the NSW Government consider the potential for its non-mitigation policies to help or hinder the ability of the CPRS to achieve least-cost abatement. 72

1.4 Structure of the Report

The remainder of this report is structured as follows:

Chapter 2 provides an overview of the Federal Government’s carbon pollution reduction strategy, the role of the CPRS within this strategy, and other elements of the national strategy.

Chapter 3 outlines the general rationale for mitigation programs in addition to the CPRS and other national policy measures.



Chapter 4 sets out IPART’s recommended analytical framework for assessing existing and future NSW mitigation programs. It also explains the way that IPART has applied this assessment framework to the 26 NSW programs nominated for assessment as part of this review.

Chapter 5 summarises IPART’s findings and recommendations on these 26 programs.

Chapter 6 discusses IPART’s additional findings and recommendations on the potential for the NSW Government’s broader policy settings to affect the effectiveness of the national climate change mitigation strategy.

Volume 2 of this report provides a more detailed discussion of IPART’s assessment of, and recommendations on, each of the 26 NSW mitigation programs included in this review.

2 Context for IPART’s review



Most of the world’s scientific community agree that increases in greenhouse (GHG) GHG emissions from human activities since the 1950s have contributed to global warming. Continued growth in these emissions is expected to create a high risk of dangerous climate change.8 As GHG emissions contribute to climate change regardless of where they are emitted in the world, coordinated action by all nations to reduce and stabilise emissions is required to address this risk.

Until recently, there has not been a national policy framework for the reduction of GHG emissions in Australia. Therefore, the NSW Government (like other state and territory governments) has established a collection of policy measures and programs aimed at encouraging individuals, businesses and public organisations in the state to reduce their GHG emissions.

In late 2007, the Federal Government announced that it would establish a national approach for mitigating the risk of climate change, including national emissions reductions targets and a national Carbon Pollution Reduction Scheme (CPRS). In addition, the Council of Australian Governments (COAG) agreed to cooperate to reduce emissions, and that the CPRS would be the principle measure for achieving reductions.9

The sections below discuss the national targets for reducing GHG emissions, the role of the CPRS in meeting these targets, the other national policy measures to support the CPRS, and the current uncertainties about this policy environment.

2.1 National targets for reducing GHG emissions

The Federal Government has set a long-term target to reduce Australia’s GHG emissions by 60 per cent below 2000 levels by 2050. Initially, it also announced a medium-term target to reduce emissions by between five per cent and 15 per cent below 2000 levels by 2020. This range comprised:

an unconditional commitment to reduce emissions to five per cent below 2000 levels by 2020, and

8 The Garnaut Climate Change Review, Final Report, September 2008, p 23. 9 COAG Communiqué, 20 December 2007, p 7.



a commitment to reduce emissions by 15 per cent below 2000 levels by 2020, provided that a global agreement is reached under which:

– all major economies commit to substantially restrain their emissions, and

– all developed economies agree to take on emissions reductions comparable to Australia’s emissions reductions.

Recently, the Federal Government has further committed to reduce Australia’s emissions to 25 per cent below 2000 levels by 2020 provided there is an international agreement to stabilise GHG emissions in the atmosphere at 450 ppm or lower by 2050,10 and as part of this agreement:

there is comprehensive coverage of gases, sources and sectors, with inclusion of forests and the land sector (including soil carbon initiatives if scientifically demonstrated) in the agreement

there is a clear global emissions reduction trajectory, where the sum of all economies’ commitments is consistent with achieving stabilisation of emissions at 450 ppm or lower, and with a nominated early deadline year for peak global emissions that is no later than 2020

other advanced economies agree to reduce their aggregate emissions by at least 25 per cent below 1990 levels by 2020

major developing economies agree to reduce their aggregate emissions by at least 20 per cent below business-as-usual levels by 2020, and there is a nominated peak year for individual major developing economies

there is global action that mobilises greater financial resources, including from major developing economies, and results in fully functional global carbon markets.11

The Federal Government also indicated that if these conditions are met, it will seek to increase Australia’s long-term emissions reduction target above the current level of 60 per cent.12

The medium-term targets are intended to create domestic momentum towards the long-term target, and to assist Australia in negotiating a global agreement to reduce emissions.13 The Federal Government estimates that achieving a 25 per cent reduction in Australia’s GHG emissions in the medium term will require per capita emissions to be cut by almost one-half of 1990 levels, taking projected population growth into account. In comparison, achieving a five to 15 per cent reduction will require per capita emissions to be cut by around one-third of 1990 levels.14

10 In comparison, the five per cent medium-term target would put Australia on a path to

stabilising emissions in the atmosphere at 550 parts per million (ppm) and the 15 per cent target at 510 ppm.

11 DCC, Strengthening Australia’s 2020 Carbon Pollution Target, Fact Sheet, May 2009. 12 DCC, Strengthening Australia’s 2020 Carbon Pollution Target, Fact Sheet, May 2009. 13 DCC, White Paper, p 4-8. 14 DCC does not provide comparisons with the 2000 baseline, on which emissions targets are

based.



2.2 The Carbon Pollution Reduction Scheme

The stated objectives of the CPRS are to meet Australia’s emissions reduction targets in the most flexible and cost-effective way, to support an effective global response to climate change, and to provide for transitional assistance for the most affected households and firms.15 Initially, the CPRS was to be established by mid 2010. However, the Federal Government has recently announced that the scheme will now start by mid 2011, to allow the Australian economy more time to recover from the impacts of the on-going global financial crisis.16

The CPRS will be a ‘cap and trade’ scheme. Under this scheme, an annual cap on the aggregate emissions from the sectors covered by the scheme will be set, and this cap will be reduced each year. The Federal Government will issue permits that entitle the holder to emit GHG emissions. The total number of permits available in any year will be equal to the scheme’s cap. Entities in the sectors covered by the CPRS will be required to acquire and surrender a permit for each tonne of GHG emissions they produce during a year.

Setting an annually reducing cap on GHG emissions means that the right to emit will become scarce, and therefore valuable. This scarcity creates a price for GHG emissions or a ‘carbon price’,17 which is represented by the price of permits. Trading in permits will ensure that permits go to firms that value them most highly – ie, those that face higher relative costs from reducing their GHG emissions. The market will determine how or where emissions are reduced, and the price of permits (ie, the carbon price).

Placing a price on GHG emissions will create incentives for producers and consumers to invest in low-emissions products, technologies and processes. An effective carbon price signal could result in significant reduction of emissions from all sectors.18

The CPRS will cover all six GHGs listed under the Kyoto Protocol19 and will also have maximum coverage of industry sectors, to the extent that this is practical.20 Broad scheme coverage will lower the overall cost of the CPRS, as it will increase the scope of opportunities for abatement. The CPRS aims to cover around 75 per cent of emissions at the commencement of the scheme. (See Figure 2.1.)

15 DCC, White Paper, December 2008, p 5-5. 16 Department of Climate Change (DCC), Deferral of Mandatory Obligations under the Carbon

Pollution Reduction Scheme, Fact Sheet, 4 May 2009. 17 GHG emissions are predominantly carbon-based. In line with the convention adopted by policy

makers, all references to carbon emissions or carbon price in this report have the same meaning as GHG emissions and price.

18 IPCC, Fourth Assessment Report, Working Group III, Summary for Policymakers, May 2007, p 28. 19 These gases are carbon dioxide, methane, nitrous oxide, hydrofluorocarbons, perfluorocarbons

and sulphur hexafluoride: DCC, White Paper, December 2008, p 6-4. 20 DCC, White Paper, December 2008, p 6-1.



Figure 2.1 Initial coverage of the CPRS

Data source: Australian Government, Department of Climate Change, National Greenhouse Gas Inventory 2006, June 2008, pp 1, 6 -15.

However, because the CPRS will not cover all sectors that are sources of emissions, the scheme cap and Australia’s national emissions target will be different. The Federal Government proposes to reconcile the difference by notionally allocating permits for sources of emissions not covered by the scheme and retiring these each year on behalf of the uncovered sectors.21

The CPRS is designed to link with international emissions trading markets and schemes, both in view of the importance of coordinated action to reduce the risks of climate change and the role that access to other markets could play in reducing the overall costs of Australia’s (and other countries’) mitigation efforts.

The Federal Government will provide assistance to firms operating in emissions-intensive industries that operate in competitive international markets.22 It will also introduce a number of measures which limit the impact of the CPRS, especially in its initial stages. This includes putting a ceiling on permit prices for the first five years of the scheme. In the first year, 2011/12, permits will be available at a cost of $10 per tonne. Full market trading will start from 1 July 2012.23 The key aim of these

21 DCC, White Paper, December 2008, p 10-18. 22 DCC, White Paper, December 2008, p 12-1. 23 DCC, Deferral of Mandatory Obligations under the Carbon Pollution Reduction Scheme, Fact Sheet,

May 2009.

9

Proposed CPRS coverage

Industrial processes

Electricity

Fugitive emissions

Other stationary combustion

Land use

Waste

Transport

Agriculture

Total national

emissions

Sectors proposed for initial CPRS

coverage

Scope for low cost mitigation in uncovered

sectors



measures is to assist firms and individuals with the transition to a fully functioning CPRS.

2.3 Other national mitigation policies

While the CPRS is to the principle measures for achieving low-cost national abatement, the Federal Government will institute three other major policies to assist transition to a low-emissions economy. These are targeted at the energy sector, Australia’s largest source of emissions, and include:24

1. A national Renewable Energy Target (RET) scheme that replaces the current mandatory renewable energy target (MRET) and aims to ensure that 20 per cent of Australia’s electricity is supplied from renewable sources by 2020. The RET scheme involves setting a new, higher RET for 2010, and increasing this target each year until it reaches 45,000 gigawatt hours in 2020. The target will remain at that level until 2030 when the scheme will end. It is expected that the CPRS will be sufficient to drive the deployment of renewable energy by this time.25

2. Investment in carbon capture and storage (CCS). Coal will continue to be a major energy source for the world over coming decades and is Australia’s biggest export, making the continuing use of coal both a reality in the medium term and a strategic domestic concern. The Federal Government’s emission reduction targets assume a significant part of the reduction task will be achieved through the use of CCS.26

3. Improving energy efficiency. The aim is to accelerate the adoption of cost-effective energy efficiency measures and thereby reduce or slow growth in energy consumption and associated GHG emissions. Measures will also be implemented to help households and businesses better prepare for, and adjust to, higher energy prices following the introduction of the CPRS.

These policies form an integral part of the national mitigation policy landscape for the medium term. IPART has taken them into account in developing its assessment framework, and applying this framework to assess the nominated NSW mitigation policies.

2.4 Uncertainties in the current policy environment

IPART notes that there is continuing public debate about the Federal Government’s decisions on the design of the CPRS and related policies, and uncertainty about the final form and timing of the scheme.

24 DCC, White Paper, December 2008, pp 19-4 to 19-5. 25 COAG Communiqué, 30 April 2009, p 8. 26 DCC, White Paper, December 2008, p 1-10.



IPART considers that it is reasonable to expect that there will be some form of national emissions trading scheme in the near future. In addition, it is reasonable to expect that this scheme and Australia’s emission reduction targets will eventually be linked to a more comprehensive (post Kyoto) international agreement on reducing emissions together with mechanisms for achieving those reductions (whether trading in offset credits, especially in the short term, or emissions rights).

Many countries are already implementing emissions trading schemes and the world’s major emitters (including the US and China) agree on the need to decisively reduce GHG emissions.

The task of meeting any given target for cumulative emissions reductions will become harder, and require steeper cuts in annual emissions, the later the process gets underway.27 The Federal Government’s White Paper notes that starting as soon as possible on a gradual adjustment to a low-carbon economy will help people to adjust and reduce the costs of mitigation by avoiding the locking-in of emissions-intensive infrastructure and development pathways that constrain opportunities to achieve abatement.28 In addition, establishing the CPRS earlier rather than later will better position Australia to argue for other countries to agree to an effective global agreement that is also in Australia’s social and economic interests.

These factors indicate that, in relation to timing, the Federal Government will be minded to introduce a national emissions trading scheme soon, even if its target start date of 1 July 2011 is not met.

However, it is important to note that the exact starting date of the scheme will not have a major impact on the conclusions of this report. IPART’s recommended framework for assessing NSW mitigation programs is based on the objectives of the CPRS and its core design features, and the complementarity principles agreed by COAG. IPART considers that these elements provide the basis for a robust ongoing framework for considering the need for, and design of, additional programs to support Australia’s emissions trading scheme.

27 Senate Standing Committee on Economics, Exposure draft of the legislation to implement the Carbon

Pollution Reduction Scheme, April 2009, p 9. 28 DCC, White Paper, December 2008, p 1-6.

3 Rationale for mitigation measures in addition to the CPRS



As Chapter 2 discussed, under the national policy framework for reducing GHG emissions, the CPRS is intended to be the principle measure for meeting the national emissions reduction targets in the most flexible and low-cost way. Three other major national mitigation policy initiatives – focused on renewable energy, carbon capture and storage and energy efficiency – are intended to assist the transition to a low-emissions environment. Why then might additional policies and programs be needed to complement this approach?

It is important to note that because the CPRS will place fixed cap on the quantity of GHG emissions that can be produced, in general, additional programs to reduce emissions will not result in additional reductions in emissions.29 This is because reducing emissions in one part of the economy through additional measures would simply allow an equivalent increase in emissions in another part of the economy without exceeding the cap. That is, the source of the emissions reductions may change, but the overall amount will not. Therefore, achieving above-target emissions reduction is not a valid reason for additional mitigation programs.

However, consistent with COAG’s complementarity principles, IPART considers there are several important reasons why additional programs might be needed. These are that:

in the sectors of the economy it covers, the CPRS (and other supporting national policies) may not be sufficient to overcome all the market failures and other barriers that currently prevent individuals and organisations from taking up profitable opportunities to reduce emissions

the CPRS will not, at least initially, cover all the sectors of the economy that produce emissions, and therefore the CPRS cannot be effective in overcoming market failures or barriers to the take up of opportunities to reduce emissions in these sectors

in some sectors of the economy, price signals do not play a significant role in decision-making, and therefore the CPRS may not be effective in increasing incentives to take up opportunities to reduce emissions in these sectors

29 The exception is in the case of voluntary purchase of renewable energy under the GreenPower

scheme, where the Federal Government has decided that additional purchases above 2009 levels will be counted as additional to the national target. A discussion of GreenPower and voluntary action is contained in Chapter 22, Volume 2 of IPART’s report.



some programs may have one or more objectives in addition to, or other than, directly or indirectly reducing emissions that cannot be achieved through the CPRS.

The sections below discuss each of these reasons, plus other important characteristics that mitigation programs in addition to the CPRS should have.

3.1 The CPRS may not be sufficient to overcome all market failures and barriers in covered sectors of the economy

As Chapter 2 noted, by placing a price on GHG emissions, the CPRS will create incentives for producers and consumers to invest in low-emissions products, technologies and processes. Thus the CPRS is intended to overcome a market failure widely considered to explain why emissions are at higher levels than is desirable and opportunities to reduce emissions are not currently being developed and adopted (ie, the lack of a carbon price).

However, the lack of a carbon price is not the only market failure or barrier to the take-up of such opportunities. To achieve the desired change in behaviour, the other significant market failures and other barriers to change also need to be addressed. Box 3.1 discusses what is meant by a ‘market failure’.

For example, the CPRS may not adequately overcome an inability to capture all the benefits from investing in the development of new low-emissions technologies, which could result in the under-supply of such technologies, or a lack of accessible, easy-to-use information on reducing a household’s or business’ emissions. If these market failures exist post the CPRS and are not corrected, the cost of adjusting to emissions constraints will be higher. Therefore, the objective of additional mitigation measures for covered sectors should generally be to correct market failures and lower the cost of meeting emissions reduction targets.

Additional programs to reduce emissions that do not address such market failures are likely to lead to the displacement of abatement that would have otherwise occurred more efficiently under the CPRS. This could, in turn, add to the costs of adjustment and make more difficult the transformation to a low-emissions economy.



Box 3.1 What is meant by a ‘market failure’?

Market failures of one type or another are widely considered to be the major reason why low-cost emission abatement and energy savings opportunities are not readily taken up byhouseholds, businesses and governments. But what does ‘market failure’ mean?

In any real-world economy, the unfettered competitive market forces of supply and demandoften fail to result in the most desirable, efficient or least-cost outcomes from society’s point of view. In essence, sometimes markets work and sometimes markets fail.

There are a range of factors that prevent or inhibit a market from working efficiently. The NSW Guide to Better Regulationa explains five well-known sources of ‘market failure’ – externalities, public goods, split incentives, information gaps and barriers to effective competition.

Over a decade ago, Jaffe and Stavinsb defined a market failure, in the context of energy markets, as “any factor that explains why technologies that appear to be cost-effective at current prices are not taken up”. This very broad definition has been refined in various ways,mostly by making distinctions between ‘market failures’ and other barriers to take-up and by exploring the various types of market failures and barriers.c For example, in 2005, the Productivity Commission in 2005 suggested three classes of market ‘barrier’:

Market failures – which arise when a market does not allocate resources according to theirhighest valued use, so that welfare is not maximised. The failures identified in the NSW Guide to Better Regulation fall in this category.

Behavioural, cultural and organisational barriers – which arise because of limits to the decision-making processes of individuals and organisations.

Other barriers – which do not ‘fit’ into the other two classes, and include risk anduncertainty, asset replacement costs and implementation costs. IPART would addregulatory barriers to this class of barrier.d

However, IPART considers that that various market failures and other barriers to the take up of low-cost mitigation opportunities overlap and affect each other. For example, some marketfailures may be a prime cause of an organisational or behavioural barrier. Some of theregulatory barriers may be in place to deal with perceived failures of the market.

Notes: a NSW Better Regulation Office, April 2008.

b Jaffee, A.B. & Stavins R.N. 1994, ‘The energy paradox and the diffusion of conservation technology’, Resource and Energy Economics 16: 91–122. Cited in The Garnaut Climate Change Review, Final Report, September 2008, p 420.

c The Institute for Sustainable Futures notes that “research and analysis of market failures and market barriers toGHG emission abatement has yet to develop a single coherent theoretical structure or even a common framework for debate. Consequently there are many competing conceptual structures for categorising market failures.” In Institutefor Sustainable Futures, Market Barriers and Measures to Complement a Carbon Pollution Reduction Scheme, May 2009, p 9.

d Productivity Commission, The Private Cost Effectiveness of Improving Energy Efficiency, Report no. 36, Canberra, 2005, p 46.

Chapter 4 of this report explains in more detail the main types of market failure or barriers that are likely to need to be addressed by government policies in addition to the CPRS.



3.2 The CPRS will not cover all the sectors of the economy that produce GHG emissions

As Chapter 2 discussed, the Federal Government’s objective is to ensure the CPRS has the broadest possible coverage. However, at least in the short term, this is not practical. Currently, two sectors are proposed to be uncovered: agriculture and land use, land use change and forestry (excluding voluntary opt-ins). The waste sector will be included in the CPRS, but emissions from past waste streams (‘legacy emissions’) will be excluded until 2018.30 (See Figure 2.1.)

Therefore, additional programs to address market failures and other barriers to change in these uncovered sectors of the economy could add to the net level of abatement achieved. If low-cost abatement opportunities in uncovered sectors are taken up, the cost of achieving overarching national targets will be lower than they would be otherwise because those emissions reductions will take the place of higher-cost options in the covered sectors.31

3.3 In some sectors of the economy, price signals do not play a significant role in decision-making

The COAG principles note that areas where prices are not a significant driver of decision-making might include urban design, health care and education.32 They suggest that there may be a role for government action in these areas to assist the community to better adjust to a low-carbon economy. For example, it may be appropriate for governments to build skills and capacity by ensuring adequate training opportunities and changes in curriculum design to support expertise in energy management. Such programs, along with a general increase in business and community interest in improving energy efficiency, may help to grow the energy services sector in the long term.33

3.4 Some programs may have one or more non-mitigation-related objectives

There may also be non-mitigation-related reasons for additional policies to complement the CPRS. These include equity programs and assistance for structural adjustment to manage the costs and distributional consequences of reform.

30 DCC, White Paper, December 2008, Chapter 6. 31 Productivity Commission, What Role for Policies to Supplement an Emissions Trading Scheme?:

Productivity Commission Submission to the Garnaut Climate Change Review, May 2008, p XVIII.

32 COAG Document of Shared Understanding, unpublished. 33 These can be seen as examples of non-market failure.



Some programs may have component parts that are not related to mitigation, such as saving water. There may also be policies that have GHG mitigation as an ancillary objective or by-product (eg, in the area of natural resource management).

Such measures should be designed so that they do not reduce abatement incentives or introduce unnecessary distortions into the carbon market.34

3.5 Other characteristics of mitigation programs in addition to the CPRS

Whether governments should retain or introduce any program depends on whether the problem the program is intended to address can be effectively solved by government action, and whether this solution will result in benefits greater than the costs of implementing the program.

Given that the CPRS is intended to meet the national targets for emissions reduction at the least cost, for an additional mitigation program to be justified it should achieve its mitigation benefits at a lower cost than if those same benefits could be achieved through the CPRS.

The CPRS will establish a benchmark price for reducing emissions. This benchmark can be incorporated into calculations that compare the cost of other mitigation programs to determine whether they are likely to be a cost-effective way of reducing emissions.

Like all government programs, additional mitigation programs should be consistent with other best-practice regulatory principles. In particular, they should be:

the best option available for achieving their stated objectives

best delivered at the state level

simple to administer

transparent

equitable (that is, fair to all parties), and

subject to regular review.

34 COAG Working Group on Climate Change and Water, Document of Shared Understanding, 2008,

unpublished.

4 Framework for assessing NSW mitigation programs



In line with its terms of reference, IPART has developed an analytical framework to assess whether or not an existing or proposed NSW Government climate change mitigation measure is complementary to the CPRS and is effective and efficient in the context of that scheme. This recommended framework is based on the approach established by COAG for assessing the complementarity of mitigation measures in addition to the CPRS (see Appendix B). However, IPART has interpreted and tailored the COAG approach where necessary, in order to make it more practical to apply.

IPART has used the recommended framework to assess each of the 26 NSW mitigation programs nominated by the NSW Government and, on the basis of this assessment, recommended whether or not each program should be retained beyond the establishment of the CPRS.

The section below provides an overview of IPART’s recommended assessment framework. The subsequent sections discuss aspects of the framework in more detail, including:

What types of market failures and other barriers need to be addressed by programs in addition to the CPRS?

How do market failures and other barriers prevent or inhibit the take-up of profitable mitigation opportunities?

How should programs designed to encourage government agencies to take up profitable mitigation opportunities be assessed?

How should programs that have one or more non-abatement objectives be assessed?

How should a program’s cost-effectiveness be assessed?

What specific methodology is used to assess cost-effectiveness?

How accurate is the cost-effectiveness assessment?

IPART’s assessments of the NSW mitigation programs are summarised in Chapter 5 and explained in detail in Volume 2 of this report.



4.1 Overview of the assessment framework

Under IPART’s recommended assessment framework, to be warranted in the context of the CPRS, a NSW mitigation program must meet one or more of four ’in-principle‘ criteria and be consistent with eight best-regulatory-practice principles.

The in-principle criteria are that the program:

1. Addresses a market failure that:

– is either not adequately addressed by the CPRS or reduces the effectiveness of the CPRS, and


2. Addresses a market failure that:

– is in a sector not covered by CPRS (ie, agriculture in the initial years of the scheme and forestry excluding voluntary opt-ins to the CPRS), and


3. Addresses a sector of the economy where price signals do not play a significant role in decision-making (eg, land use and planning), or

4. Has one or more non-abatement objectives (including assisting individuals or organisations adjust during the transition to a carbon-constrained environment) that do not adversely affect the efficient operation of the CPRS.

These in-principle criteria represent the first, high-level test that a NSW program must pass. If it does not meet at least one of these criteria, then it is considered to be not complementary to the CPRS and on that basis should not be retained/implemented after the CPRS is in place. If it does meet one of these criteria, then the program is subject to a more detailed test.

To pass this more detailed test, the program must be consistent with eight best-regulatory-practice principles. These are that the program is:

1. effective (that is, that the program achieves its stated objectives)

2. efficient (that it achieves its objectives in a least cost manner)35

3. the best option for achieving its stated objectives (including with regard to national and state-level programs with similar objectives)

4. best delivered at the state level

5. simple to administer

6. transparent

7. equitable (that is, fair to all parties), and

8. subject to regular review. 35 In some of the individual program discussions in Volume 2, these first two are combined so that

to be “cost-effective” means that the program achieves its mitigation objectives at a lower cost than is expected to occur under the CPRS.



The framework is largely the same as the one IPART proposed in the Issues Paper for this review. No stakeholder who responded to the Issues Paper expressed concern about the proposed framework.

However, some submissions in response to the Issues Paper and some stakeholders at the roundtable commented on IPART’s proposed high-level approach to assessing NSW programs. In particular, because of the uncertainty associated with the CPRS, some did not agree with IPART’s view that it should set a high threshold for the retention of existing mitigation programs. Others did not agree with the view that it should assume that flaws in the design of the CPRS would be best addressed by amending the scheme.

These stakeholders argued the CPRS may be held up or altered during its passage through Parliament, and that it would take a significant period of time to resolve any flaws in the CPRS that may come to light before or after its implementation. They also argued that additional programs may be required by state governments in the interim, and that IPART should consider outlining options or scenarios that the NSW Government might consider should the implementation of the CPRS prove difficult.

IPART has carefully considered stakeholders’ concerns. It considers, on balance, that the framework set out above provides a valid approach for assessing any existing and future NSW mitigation program in the context of a future national emissions trading scheme.

Although taking the CPRS as a given for this review, IPART considered the case for existing state programs on the basis that there will be a relatively low price for carbon in the early years of the scheme and that the CPRS in its initial years may not create sufficient incentives for behavioural change. In addition, in using the framework to assess programs, IPART has recognised that NSW may place a higher priority on particular means for reducing emissions in some areas (such as the development of ‘clean coal’) than other states or Australia as a whole.

Recommendation

1 That the policy and assessment framework proposed in sections 3.1 to 3.5 and 4.1 to 4.7 of this report be applied to all present and future NSW mitigation programs.

4.2 What types of market failures and other barriers need to be addressed by programs in addition to the CPRS?

There is wide agreement that at least three main types of market failure will need to be addressed by government policies in addition to the lack of a carbon price, particularly in the early years on the scheme, and that they are likely to be both significant and amenable to government intervention. These are information failures, split incentives and ‘early mover’ disadvantages in research and developing



new technologies (or the public good nature of new technologies).36 Each is discussed below. IPART also accepts that there may be other barriers that may be amenable to government intervention. These are also discussed below.

4.2.1 Information failures

Information failures refer to the fact that without adequate or easy to use information, people might not exploit low-emissions processes or technologies that are privately profitable (ie, generate more benefits than they cost to implement).

Information failures are widely considered to be a significant market failure for several reasons. These include, in the context of energy use, that many households and small businesses lack sufficient targeted information, knowledge, skills and time to calculate the energy costs of running a home or business and the savings they could make by increasing their energy efficiency. For many medium and large businesses, the cost of energy represents a small proportion of their total costs so they have little information or incentive to commit resources to researching, assessing and implementing energy savings options.

Experience suggests that this type of market failure can be effectively addressed by a variety of government interventions. Simply providing more information is likely to be the least effective, because it can add to the complexity of the assessment and decision-making process.37 More effective approaches include:

Providing information and assistance targeted to the needs of specific energy users. One example of this approach is the NSW Low Income Household Refit Program.

Requiring a certain level of energy savings, and providing information on a limited range of measures from which energy users can choose to achieve that saving. A current example of this approach is BASIX, which requires new residential buildings to meet certain energy savings targets, and provides an easy-to-use online tool to assist developers/owners to select which energy saving opportunities they will implement to do so.38

36 For example, the Federal Government’s White Paper December 2008, discussed each of these in

Box 19.1 on p 19-3. The Garnaut Review desired complementary policies to overcome information barriers to known technologies and to promote basic research and development of low-emissions technologies (The Garnaut Climate Change Review, Final Report, September 2008, Chapter 17, p 404 and Chapter 18, p 423).

37 The concept of ‘bounded rationality’ is relevant to such cases. It described the limits to choices when the cognitive limitations of both knowledge and cognitive capacity of decision-makers are taken into account. In the present context, if households do not know what the energy appliance star rating systems means in terms of saving on their energy bills, posting ‘more’ information on star ratings on websites or disseminating ‘more’ information through the mailbox will add nothing to their comprehension, and may well retard it.

38 Such savings targets are underpinned by specific, cost-effective energy savings measures that policymakers consider would not otherwise take place or take place at higher cost under prevailing policy settings. They are in contrast to global ‘aspirational’ targets, which by definition would not be wholly underpinned by specific measures and risk displacing efficient abatement under the CPRS.



4.2.2 Split incentives

Split incentives refer to situations where the party that makes a decision is not driven by the same considerations as another party who is affected by it.39 Split incentives may exist where energy users rent their premises and are responsible for paying energy bills. In this case, landlords have a weak financial incentive to adopt abatement and energy savings measures because they do not benefit from the savings that result. This makes it difficult for them to recoup the full costs. Tenants also have a weak incentive, because they generally have no guarantee that they will rent the premises for long enough to recoup the full costs.

Split incentives also exist between developers and office and home owners. Developers currently have a weak incentive to adopt energy savings measures when designing and constructing commercial and residential buildings, because potential buyers do not usually consider a building’s energy efficiency when making a purchase decision.

Split incentives are widely considered to be a significant market failure because a sizeable proportion of NSW offices and homes are rented. For example, around 27 per cent of all NSW homes are rented.40 In addition, developers construct a significant proportion of homes and office buildings.

The evidence on the significance of this market failure is indirectly borne out by the fact that various international and Australian studies have identified profitable emissions abatement or energy savings projects that are not implemented.41

Experience indicates that split incentives can be effectively overcome by government intervention, either by mandating activities that reduce emissions and energy use or by offering financial incentives to take up low-emission and energy saving options.

4.2.3 Public good nature of new technologies42

The successful development and deployment of new low-emissions technologies will be critical to minimising the cost of adjusting to future emissions constraints.

39 The Garnaut Climate Change Review, Final Report, September 2008, Chapter 17, p 404. 40 No data are available on the proportions of offices and homes in NSW built by developers. In

2004, of around 2.7 million occupied homes in NSW, 22.4 per cent were privately tenanted and 5.1 per cent were tenanted with the state housing authority. Source: ABS Australian Social Trends 2007, Cat # 4102.0, Data Cube on housing, Table 2.1.

41 For example, in 2007 the International Energy Agency published research into the landlord-tenant problem in relation to energy efficiency. Using eight case studies on commercial and residential sectors and end-use appliances in five IEA countries, it concluded that around 3,800 PJ/year of energy use is affected by such barriers (about 85 per cent of the annual energy use of a country the size of Spain). See IEA, Mind the Gap -- Quantifying Principal-Agent Problems in Energy Efficiency, 2007. For Australian research, see Productivity Commission, The Private Cost Effectiveness of Improving Energy Efficiency, Report no. 36, Canberra, 2005, Chapters 4-8.

42 This section draws heavily on the work in Chapter 2 of the Productivity Commission, What Role for Policies to Supplement an Emissions Trading Scheme?: Productivity Commission Submission to the Garnaut Climate Change Review, May 2008.



The rationale for government intervention in the innovation chain (see Figure 4.1) is the existence of positive externalities (‘spillovers’). There is a strong case for public support at the basic research and development (R&D) and technology research, development and demonstration (RD&D) stages, where knowledge generated by the R&D spills over cheaply to others or triggers cycles of innovation by rivals. As such, governments provide incentives such as tax credits for R&D investments.

Figure 4.1 The innovation chain

Source: Productivity Commission, What Role for Policies to Supplement an Emissions Trading Scheme?: Productivity Commission Submission to the Garnaut Climate Change Review, May 2008, p 22.

At the market accumulation and diffusion stages, where the concept or product becomes more widely available and used, spillovers are almost non-existent. The new technology has now become embodied in a tested product and is sold on the open market. Government intervention transitions from funding support, which is replaced by the private sector, to ensuring market and regulatory frameworks are appropriate.

It is at the middle stages of the innovation chain – the demonstration and commercialisation stages – that the existence of spillovers is the subject of some debate. The demonstration stage involves showing that the concept/product is commercially viable with market potential. The commercialisation stage involves firms adopting the concept/product, marking the transition from public to private institutional and funding involvement. This is recognised as a problematic phase – the so called ‘valley of the death’ – characterised by negative cash flows with large investments in demonstration plants.

The Productivity Commission considers that spillovers are less likely at these middle stages. A failure to commercialise gives rivals time to poach the R&D knowledge. This threat provides a strong incentive for firms to commercialise their technologies.43 In contrast, the Garnaut Review considers that these stages involved significant spillovers. For example, knowledge, skills, regulatory, legal and social acceptance spillovers.

43 Productivity Commission, What Role for Policies to Supplement an Emissions Trading Scheme?:

Productivity Commission Submission to the Garnaut Climate Change Review, May 2008, pp XV–XVI.



4.2.4 Other barriers to take-up of mitigation opportunities

In addition to market ‘failures’ that occur when a market does not allocate resources according to their highest valued use, other barriers to take-up of low cost mitigation by households, businesses or governments have been discussed extensively in the literature on the subject. These include:

behavioural barriers such as bounded rationality,44 risk aversion,45 and short time horizons which favour or result in short payback periods for investments

organisational barriers such as a lack of access to internal capital, management fear of technological ‘lock-in’,46 and other sub-optimal organisational structures that work against mitigation activities, especially when technical knowledge is limited and energy is a small item in the company budget.47

Barriers that arise because of limits to the decision-making processes of individuals and organisations have predominantly been claimed to exist in the area of energy efficiency. Various international and Australian attempts have been made to quantify the size of various market barriers.48 Such exercises, often using a case study approach, have proved informative but they are difficult to apply more generally because they are often dependent on the circumstances of each case.

Further, the effect of a particular market failure or barrier in preventing uptake of abatement opportunities is likely to vary over time. Rising electricity prices in real terms since 2004, a growing public awareness of energy saving possibilities and the rising tide of government mitigation programs have presumably reduced the significance of some market failures or barriers as impediments to take up.49

44 For example, The Garnaut Climate Change Review, Final Report, September 2008, Chapter 17,

p 408 and Productivity Commission, The Private Cost Effectiveness of Improving Energy Efficiency, Report no. 36, Canberra, 2005, pp 55-56.

45 Productivity Commission, The Private Cost Effectiveness of Improving Energy Efficiency, Report no. 36, Canberra, 2005, pp 62-65.

46 See The Garnaut Climate Change Review, Final Report, September 2008, Chapter 18, pp 441-442.

47 IPART requested the Institute for Sustainable Futures (ISF) to consider the range of barriers that might prevent low-cost mitigation from occurring under the CPRS. The ISF noted the barriers mentioned above and considered the extent to which each might be a barrier to low-cost mitigation activities without providing definitive answers as to their size or significance. ISF, Market Barriers and Measures to Complement a CPRS, Report to IPART, May 2009.

48 IEA, Mind the Gap -- Quantifying Principal-Agent Problems in Energy Efficiency, 2007. See also references cited in the Federal Government’s White Paper p 19-5.

49 Over the five years to mid-2009 the CPI has risen by about 15 per cent while the EnergyAustralia regulated tariff for a small residential customer has risen by 30 per cent. A further 19-20 per cent rise is expected on 1 July 2009.



On whether a case for government intervention can be made to overcome such barriers, the Productivity Commission pointed out:

Behavioural, cultural and organisational barriers do not of themselves provide a rationale for government intervention. Understanding these barriers may, however, be helpful in designing… programs that address environmental externalities, information failures and other sources of market failure.50

On the question of the gains to be made by overcoming market failures and barriers in the area of energy efficiency, the Productivity Commission concluded that:

… there is such uncertainty about the size of the gains to be made (and so many unknowns), that it is impossible to say just how big they are. Rather than debate the size of these gaps, the Commission considers it more productive to accept that they exist, and then ask why they exist, and how government intervention could help increase uptake of energy efficiency improvements in a way that is best for the Australian community.51

That a market barrier exists is not sufficient reason for policy intervention. For example, there may always be a cohort of people that do not make optimal decisions based on the information available to them (that is, who suffer from ‘bounded rationality’). Programs do not need to be created for every instance of ‘irrational’ behaviour. The significance of the problem should inform any decision to intervene.

IPART considered the particular market failures or barriers that each NSW program is trying to address, given the target group or sector. IPART’s review and the information available to it led it to conclude that the carbon market is not likely to ‘fail’ in a fundamental sense. Rather, IPART considers that the government can take action to prepare people for, and thus ease transition to, a carbon-constrained environment (including adjustment to higher prices for energy-intensive goods and services) largely because reducing emissions and improving energy efficiency are not worthwhile or perceived to be worthwhile while a carbon price does not exist or is low.

IPART accepts that there are barriers other than traditionally accepted ‘market failures’ that prevent the take-up of profitable mitigation opportunities which could be amenable to, and warrant, government intervention. However, the onus for

50 Productivity Commission, The Private Cost Effectiveness of Improving Energy Efficiency, Report no.

36, Canberra, 2005, p 45. Similar views on organisational barriers is found in Watt and Crossley who review several case studies and conclude that “for most firms, energy efficiency does not feature as a business priority at current energy price levels. Consequently, the term ‘market failure’, while having significance for economists and academics, places an unfair label on successful, but energy inefficient, firms whose priorities for the capital budget may lie in other directions. There may simply be much less risky ways of improving the firm’s cash flow situation.” Case Study: Organizational Decision Making on Energy Efficiency, 20 November 2006, p 20. An extensive review of the evidence on organisational barriers and emissions abatement is Allen Consulting Group Potential Mandatory Energy Efficiency Investment Requirements, Report to the WA Office of Energy representing the COAG IMEE Working Group, April 2008.

51 Productivity Commission, The Private Cost Effectiveness of Improving Energy Efficiency, Report no. 36, Canberra, 2005, p xxv.



establishing this should rest with the agency responsible for, or proposing, the program.

4.2.5 How did IPART assess whether a program addresses a market failure or barrier?

In applying the assessment framework to the 26 NSW programs nominated for review, IPART assessed whether a program addresses a market failure or barrier that is significant and amenable to government intervention by first asking the government agency responsible for the program to identify the type(s) of market failure or barrier the program addresses, and explain how it does this.

IPART examined any information and evidence available to it and made a judgement on whether the program was designed in a way that would overcome the market failure or barrier in question.

IPART accepts that the focus should be on overcoming whatever the barriers might be to the take-up of low-cost abatement opportunities. However, it also requires that such barriers be amenable to government policy. In the assessment of each NSW program, therefore, IPART has judged the complementarity of each program on its merits, especially with reference to its effectiveness and cost-efficiency, where information was available.

4.3 How do market failures and other barriers prevent or hinder the take-up of profitable mitigation opportunities?

Market failures and other barriers effectively add to the cost of undertaking emissions mitigation activities. As a result, they may make otherwise profitable abatement opportunities unprofitable.

To illustrate the effect of market failures and other barriers on the cost of emissions mitigation, consider a hypothetical study of a range of projects that reduce emissions by saving energy. For each project, the net cost is found by calculating the costs of the project and deducting from them the value of any project benefits related to less air pollution, lower health costs and so on. To compare projects, an average cost per project is derived by expressing the net costs in per unit terms, in $/tCO2-e52 or $/MWh53. To assess if a project is profitable, its net unit cost is compared with the unit value of the emissions abated and energy saved under it.

When projects are ranked from lowest to highest net unit cost, a marginal cost of abatement (MCA) curve or step diagram results, as illustrated in Figure 4.2.

52 Cost per tonne of carbondioxide equivalent. 53 Cost per megawatt hour.



Figure 4.2 Hypothetical abatement opportunities ranked from lowest to highest cost

20 30 50 60 80 90 120 130 160 170

Unit cost of abatement in

$/MWh

Volume of abatement (in tCO2-e or MWhs)

c(

Pe

Source: IPART. For illustrative convenience, all the projects abate the same volume of emissions.

The white boxes represent the unit cost of each project.54 The horizontal line Pe represents the current price of electricity (there is no current price for emissions saved unless a CPRS is introduced). The figure shows that all but the final three projects on the MCA curve are profitable because their unit costs are less than the value of the units of energy saved.55 These projects are called ‘no regrets’ projects because their profitability means there will be no regrets in taking them up.

Why, then, are so many apparently profitable mitigation projects not taken up? Because market failures and other barriers add an extra layer of costs to abatement projects. This extra layer is illustrated in Figure 4.2 by the second layer of boxes which represent the transaction, search and other costs that market failures and other barriers impose on projects and which mean that only the first two projects in Figure 4.2 are profitable.

54 Such an MCA ‘curve’ may be derived Australia-wide, state-wide or for a particular sector or

type of abatement activity. For simplicity, the relevant current price of energy in Figure 3.2 is assumed to be the same for all projects.

55 More commonly, net costs are calculated by subtracting the unit value of the energy saved so that the resulting MCA curve can be directly compared with a carbon price to determine whether projects are profitable or not. A well-known MCA curve in these terms is in McKinsey & Company in An Australian cost curve for greenhouse gas reduction, 2008. Its drawback for use in this review is that it obscures the energy savings benefits of the project.



One way to induce energy users to undertake the five middle projects would be to increase the value of the emissions and energy saved. Higher energy prices that result from the introduction of a CPRS would do this because the scheme puts a positive market-based value on mitigation. The CPRS will make all the projects more profitable and convert some of those that are currently unprofitable into profitable ones.

However, in its early years the CPRS is unlikely to increase the value of the abatement savings to such an extent that the effect of market failures and other barriers will be overcome on all projects. This will mean that a number of low-cost mitigation opportunities will not be taken up in these early years.56 Therefore, additional policies to address these market failures and other barriers will be required. This view is consistent with the views of many climate change commentators and policymakers in Australia, including the Productivity Commission, the Garnaut Review and the Federal Government.57

4.4 How should programs that encourage government agencies to take-up profitable mitigation opportunities be assessed?

Government agencies’ expenditure is generally constrained by their budget allocation and they are less susceptible to market forces. Therefore, it might be argued that these organisations do not face the same market failures and barriers as private sector firms and, by extension, that programs targeted at them should not be assessed using the same in-principle criteria as those targeted at private sector firms.

For example, the Australasian Energy Performance Contracting Association submitted that many of the barriers to taking up mitigation opportunities faced by government agencies can be traced back to budgeting and procurement processes.58 In essence, government capital works programs are dictated by the absolute and relative merits of proposed projects across sectors and policy areas.

56 For example, at the IPART Roundtable on this review, Ms Pidcock of the Australian Institute of

Architects argued that “it's cost positive to do those energy-efficient savings and still no-one is doing them at a rate that one would expect on such findings. So there is clearly market failure. … We also did some work into what would the CPRS do to the uptake of energy efficiency and CIE found that perhaps it would be about 8 megatonnes a year out of a potential 60 megatonnes a year, that's just using today's technology, it's not allowing for innovations or a whole lot of other things. So there's a 52 megatonne a year gap that is about a potential savings from energy efficiencies […]. I would suggest that is severe market failure and that just relying on that [the CPRS] is not going to be able to achieve the savings that we need to … achieve.” Transcript p 25, lines 27-41.

57 See Productivity Commission, The Private Cost Effectiveness of Improving Energy Efficiency, Report no. 36, Canberra, 2005, chapters 4-5, The Garnaut Climate Change Review, Final Report, September 2008, chapters 17-18 and the Federal Government Australia’s Low Pollution Future, December 2008, chapter 19.

58 AEPCA submission to IPART, 26 February 2009, p 6.



However, various government departments have asserted to IPART that the reasons why energy efficiency is often overlooked by government agencies include that energy is a small cost item, energy efficiency is not part of their ‘core’ business or capital budget, and they tend to place undue emphasis on the upfront costs of energy efficiency activities. In addition, that government agencies lack the internal expertise to assess and execute energy efficiency investments in a cost-effective manner.

IPART considers that these reasons are essentially the same as those that explain the existence of information failures and organisational barriers faced by private-sector firms.

Split incentives are likely to be less significant in the NSW public sector than in the private sector because many agencies own their buildings or lease their properties from the State Property Authority.59 However, where government agencies lease their premises from a private-sector landlord, they face the same split incentives as private-sector firms in the same position.

Overall, IPART considers that the reasons government agencies do not take up profitable mitigation opportunities largely overlap with the causes of the information failures and other barriers faced by private sector firms. It therefore considers that its recommended assessment framework is equally applicable to those agencies.

4.5 How should programs that have one or more non-abatement objectives be assessed?

Many of the 26 NSW programs that IPART has assessed have objectives in addition to reducing carbon emissions or energy. For example, one or more also aim to:

reduce water usage

encourage the growth of a market in energy services and specialist energy service companies (ESCOs) to lower the transaction costs involved in saving energy

reduce the effect of rising energy prices on energy bills in low income households

enhance regional development, reduce the petroleum trade deficit and create greater fuel security

ensure that NSW will be able to continue to use and export its coal.

Several of these programs do not aim to abate emissions or save energy directly at all – instead their objectives are to encourage increased awareness about sustainability, climate change mitigation and energy efficiency, or increase the number of trained workers in energy efficiency activities.

59 The SPA is a statutory authority established in 2006 to improve operational efficiencies of the

NSW Government’s property portfolio that it manages and maintains.



Under the framework, programs that have multiple objectives are assessed against the in-principle criteria like other programs. However, if they meet one of the in-principle criteria, then the detailed assessment of their cost-effectiveness focuses only on the costs and benefits of achieving their mitigation objectives. If this assessment indicates that the program is not cost-effective or only marginally cost-effective then IPART has suggested that the mitigation objective be eliminated from the program and/or it be assessed on its non-mitigation merits.

As indicated in the Issues Paper, IPART considers that NSW programs with multiple objectives should be subject to an overall evaluation in relation to those non-mitigation objectives. However, this overall evaluation will not be part of the assessment of a program in relation to its emissions mitigation.

In applying the framework to the programs with multiple objectives nominated for assessment as part of this review, IPART would like to have considered whether each program was likely to be effective in meeting its non-mitigation objectives. However, it did not have sufficient information to make a quantitative assessment of the costs and benefits of meeting those objectives. Where possible, a qualitative evaluation was undertaken.

4.6 How is a program’s cost-effectiveness assessed?

For the purpose of assessing whether a NSW mitigation program is warranted on the basis of complementarity to the CPRS, an important best-regulatory-practice principle is cost-effectiveness. Under the recommended framework, a cost-effective program is defined as one that delivers its emissions abatement and energy (power or fuel) savings or generation benefits at a lower cost than if the same benefits were made under the CPRS. That is, a program is considered to be cost-effective when the cost of reducing GHG emissions or, if applicable, reducing energy use (whether power or fuel) or generating new low-emissions energy through the program is less than the cost of achieving the same outcomes through the CPRS.

The cost of reducing emissions and making energy savings through the CPRS is known as the ‘benchmark cost’. The benchmark cost will vary, depending on the program. For example:

For programs that aim to reduce emissions by saving (using less) energy, the benchmark cost is the future carbon-inclusive retail cost of that energy.

For programs that aim to reduce emissions by producing new low-emissions energy, the benchmark cost is the future carbon-inclusive wholesale cost of energy. (This assumes that the low-emissions energy will displace some higher-emissions-intensive generation that would otherwise occur.)



For programs that aim simply to reduce emissions, the benchmark cost is the carbon price. This applies to, inter alia, carbon capture and storage programs and to programs that substitute one energy form with another from within the current stock of generating plant. (In this case, since there is no energy saved, the price of energy is not a relevant benchmark. The program is simply an alternative source of abatement.)

In each case, the general assumption that IPART is making is that the prices being used in benchmark costs broadly reflect the long-run resource costs of supply.60

It is important to note that in comparing the cost of reducing emissions through a NSW program to the benchmark cost under the CPRS, any other benefits associated with or related to the reduction of emissions are excluded. (For example, these benefits might include improvements in air quality, or reductions in the need to invest in energy infrastructure.)61

The exception is when these other benefits are avoided costs resulting from reductions in peak electricity demand. Some electricity savings programs specifically aim to reduce peak demand so as to reduce or defer the need to invest in electricity generation and network capacity. These avoided costs are relevant for two reasons. First, unlike other benefits associated with reduced emissions, they would not be generated under the CPRS. Second, they can be valued and legitimately be used to offset some of the costs of the program.

4.7 What specific methodology is used to assess cost-effectiveness?

The methodology for determining whether a NSW program is cost-effective in the context of the CPRS involves three steps:

1. Express the estimated costs of the program and the emissions and energy (power or fuel) savings or energy production flows it generates in present value terms.

2. Convert the present value of these costs and benefits into an average cost per unit of mitigation or energy saved or produced (the ‘levelised cost’).

3. Calculate the relevant benchmark cost.

Where the levelised cost of the program’s benefits in emissions abated and energy saved or produced is clearly lower than the relevant benchmark cost, the program is cost-effective, subject to the accuracy of the estimates (as discussed in the final section of this chapter).

60 This implies that, in the case of transport, taxes and subsidies that significantly distort prices

will be removed from the prices as used in the benchmarking. 61 These associated benefits would only be relevant if a full cost-benefit analysis of each NSW

program in isolation were being undertaken.



The sections below describe each of the above steps in more detail, then discuss some of the key issues IPART faced in applying this methodology to the 26 programs it has assessed using the framework.

4.7.1 Step 1: Express the estimates costs and benefits in present value terms

The starting point for determining a program’s cost-effectiveness is its known or estimated program (or administrative) costs and compliance (or implementation) costs, and the benefits forecast to flow from the program in terms of tonnes of CO2-e abated, or MWh of power or kL of fuel saved or generated. If the program has multiple objectives, only the costs associated with achieving the mitigation benefits are included.

These costs are assigned to their relevant years consistent with the years during which the CPRS is assumed to operate.

Then the costs, and the benefits expected to flow from them, are discounted to their present value using a 7 per cent discount rate. Sensitivity to the discount rate is tested using a 4 per cent and 10 per cent discount rate.

The choice of the discount rate is important, given the long time frames involved in climate change.62 Weisback and Sunstein note that there are essentially two viewpoints, and these groups address essentially separate issues:

1. Distribution (the social rate of time preference63) – this group supports discount rates lower than the market rate to recognise the overall distribution of welfare and resources across generations.

2. Efficiency (the opportunity cost of capital) – this group supports discounting at the market rate of return on the theory that only by evaluating projects at the market rate can there be assurance that projects are worthwhile. If a project produces less than the market rate of return, there is better return available by simply investing in the market.64

IPART considers the first viewpoint would be appropriate for an assessment of the overall costs and benefits of climate change mitigation policies. The Garnaut Review adopted this approach in assessing the net costs of mitigation policy to inform its

62 As noted, for example, in The Garnaut Climate Change Review, Targets and Trajectories,

Supplementary Draft Report, September 2008 and Commonwealth of Australia, Australia’s Low Pollution Future: The Economics of Climate Change Mitigation, October 2008.

63 The social rate of time preference refers the rate at which society is willing to substitute present consumption for future consumption of natural resources. National Oceanic and Atmospheric Association Coastal Services Centre, http://www.csc.noaa.gov/coastal/economics/discounting.htm (accessed 20 May 2009).

64 Weisback, D and Sunstein, CR, Climate Change and Discounting for the Future: A Guide for the Perplexed, Working Paper 08-19, AEI Centre for Regulatory and Market Studies, August 2008, p 5.



recommendations on emissions reduction targets. In particular, it used real discount rates of 1.35 per cent and 2.65 per cent.65

IPART considers that the second is appropriate when choosing between particular projects or policies, as is the case when determining whether a program is complementary to the CPRS. Under the CPRS, people will make decisions about abatement investments based on the market rate (or opportunity cost of capital). Therefore, to complement the CPRS, it is appropriate that programs should also pass a cost-effectiveness test based on the opportunity cost of capital.

NSW Treasury policy requires government agencies to use a real discount rate of 7 per cent, and test for sensitivity using rates of 4 per cent and 10 per cent.66 IPART considers that using rates specified by Treasury ensures that climate change measures are assessed in a manner consistent with the tests that are applied to other policies and projects across the NSW public sector.

4.7.2 Step 2: Convert the present value of the costs and benefits into a levelised cost

The levelised cost means the discounted cost per unit – whether of per tonne of CO2-e abated, per MWh of electricity saved or generated, or per kL of fuel saved or generated. The levelised cost is calculated by dividing the present value of the program’s costs by the present value of its emissions abatement and energy savings or produced benefits to derive the average cost per unit of benefit generated under the program.

4.7.3 Step 3: Calculate the relevant benchmark cost

Under the CPRS, the benchmark cost represents the value of each unit of mitigation and related benefits that have been generated under the program. The relevant benchmark cost depends on whether the program saves on emissions, power or fuel.

Calculating the benchmark cost for programs that aim to abate CO2-e

For programs that aim to abate CO2-e directly – such as carbon capture and storage programs – the relevant benchmark is the price of carbon. Once the CPRS is in place, this price will be known. However, as this price is not currently known, IPART has used the Australian Treasury’s forecast carbon prices under a CPRS with a five per emissions reduction target (called CPRS-5), and a CPRS with a 15 per cent emissions reduction target (called CPRS-15). These forecasts are shown on Figure 4.3 below.

65 The Garnaut Climate Change Review, Targets and Trajectories, Supplementary Draft Report,

September 2008, pp 28-29. 66 NSW Treasury, Guidelines for Economic Appraisal, Policy and Guidelines Paper, July 2007, p 18.



Figure 4.3 Forecast carbon prices under CRPS-5 and CRPS-15

0

20

40

60

80

100

120

140

160

2010 2015 2020 2025 2030 2035 2040 2045 2050

CPRS-5

CPRS-15

$2005/tCO2-e

Source: Federal Treasury, Australia’s Low Pollution Future, October 2008, IPART.

Calculating the benchmark cost for programs that aim to save electricity

For programs that aim to reduce emissions by saving electricity (for example, by increasing energy efficiency), the relevant benchmark is the future carbon-inclusive retail price of electricity that is relevant to the targeted customer group. For example, for programs that target households, a residential price is relevant, while for programs that target large businesses, a business price is relevant.

For programs that target small businesses and government agencies, a commercial price is relevant. For large businesses another, lower, commercial price is likely to be the most relevant.

Because the retail price of electricity varies per customer and per supplier, the electricity price will need to be an estimate of the average price per MWh for a typical member of the targeted customer group. It should also reflect the total price, not just the usage component, because the total price reflects the cost in resources of providing electricity.

Where the program specifically aims to reduce peak demand for electricity, the average price will be higher, reflecting the fact that peak electricity is supplied at a higher resource cost than non-peak electricity. If all the savings are in peak demand, the benchmark price should reflect the average peak tariff for a typical member of the targeted customer group. If the savings are in both peak and non-peak demand, the benchmark price should reflect the proportions of the savings that are peak and non-peak.



For this review, the carbon-inclusive price of electricity is not known. Therefore, IPART has used estimates of future carbon-inclusive electricity prices prepared by MMA on behalf of the Australian Treasury.67

However, it adjusted these estimates in two ways:

it disaggregated MMA’s retail price projections into estimates relevant to each of the customer groups targeted by NSW programs – households, small and large business, and government agencies

it increased MMA’s retail price projections for 2009/10 by 20.6 per cent to reflect the real increase in retail prices announced by IPART on 20 May 2009.

IPART did not attempt the complex task of disaggregating electricity prices and electricity saved into peak and non-peak categories for the NSW programs. Instead, IPART used the relevant average electricity price as the benchmark cost for all energy savings. This is a conservative approach because it will make the NSW mitigation programs that deliver peak electricity savings appear less cost-effective than they otherwise would be.

However, in summarising its assessment of each program in Volume 2 of this report, IPART has indicated where a program makes peak savings, and noted that the cost-effectiveness would have been improved (net of any reduction in non-peak prices) if the calculation had differentiated between peak and non-peak savings.

Figure 4.4 shows the retail prices IPART has used as its benchmark costs for assessing the value under the CPRS-5 of the emissions and electricity saved under the relevant NSW programs.

67 MMA, Impacts of the Carbon Pollution Reduction Scheme on Australia's Electricity Markets - Report to

Treasury, 11 December 2008. IPART also checked that the MMA projections were no higher than those derived by the other major studies – by ACIL-Tasman and CRAI - on the likely effects of a CPRS on the electricity sector. Details are in Appendix E.



Figure 4.4 Electricity price projections used by IPART under CPRS-5

60

100

140

180

220

260

300

2009/10 2012/13 2015/16 2018/19 2021/22 2024/25 2027/28 2030/31 2033/34 2036/37 2039/40 2042/43 2010/46 2048/49

Commercial

Residential

$/MWh Retail Price Projections

Industrial

Source: IPART.

Calculating the benchmark cost for programs that aim to save fuel

For programs in this review that aim to save fuel (eg, by improving fuel efficiency) the relevant cost benchmark would be the future carbon-inclusive retail price of fuel.

To be used as a benchmark, the price of fuel would need to be adjusted for taxes to broadly reflect the real resource costs of supply. In addition, although emissions from transport are covered under the CPRS, the Federal Government will offset carbon costs on fuel combustion by adjusting fuel excise and customs duties for at least three years following the commencement of the CPRS. The fuel tax regime operates through a system of credits and the final burden of fuel taxes falls at the point of consumption, rather than on intermediary businesses. Therefore, the CPRS will not directly influence price-related behaviour until the carbon price exemptions are lifted. Ideally, the cost-effectiveness analysis of programs that aim to save fuel would start at the date that price exemptions are lifted.

However, no NSW mitigation programs were subject to a cost-effectiveness assessment involving fuel efficiency.

IPART considers it appropriate to employ the data from Federal Treasury modelling to determine the benchmark cost of fuel. As an indication of the fuel prices that would form the basis of a cost-effectiveness assessment, the results of modelling undertaken by the CSIRO and the Bureau of Infrastructure, Transport and Regional Economics (BITRE) for the Federal Treasury are shown in Table 4.1. The modelling reflects the Federal Government’s decision to exempt the road transport sector from emission pricing for at least three years.



Similar to the case in electricity, there are difficulties associated with calculating the CPRS benchmarks. Consistent with the approach taken in that case, the future carbon-inclusive, tax-exclusive cost of petrol could be estimated by adding the increases modelled by CSIRO & BITRE to the petrol price less fuel tax/subsidy adjustment. In practice, predicting the petrol price at the starting date of the CPRS will be difficult given the variability of fuel prices. Estimates should be made based on the best available information with a suitable sensitivity test range (eg, 25 per cent and 50 per cent).

Table 4.1 Indicative impact of carbon pricing on petrol prices

Emissions permit price $/tCO2-e

Addition to petrol price c/l

2013 CPRS -5 25 6.2

CPRS -15 34 8.5

2050 CPRS -5 115a 29.2

CPRS -15 158 39.5 a The CSIRO &BITRE report states that the permit price is $117 in 2050. This is inconsistent with Federal Treasury modelling data. Treasury modelling data is used for consistency.

Source: CSIRO & BITRE, Modelling the Road Transport Sector, Appendix to Australia’s Low Pollution Future, The Economics of Climate Change Mitigation, October 2008, p 26.

Calculating the benchmark cost for programs that aim to produce low-emissions energy

For programs that aim to encourage new low-emissions energy the relevant cost benchmark would be the future carbon-inclusive wholesale price of energy. For electricity generation, the benchmark would be the carbon-inclusive wholesale price of electricity which would be used to value the future flow of electricity and carbon generated in response to the program. For transport fuel, the benchmark would be the carbon-inclusive wholesale price of fuel (most likely petrol or diesel), net of government taxes and subsidies. No NSW mitigation programs were subject to a cost-effectiveness assessment involving low-emissions energy generation.

4.7.4 An illustrative example of how cost-effectiveness was assessed by IPART

Table 4.2 is an illustrative example of how the cost-effectiveness methodology should be applied in the case of a program that saves on GHG emissions and electricity for ten years. Not all the years are shown because the three-year program generates abatement that extends for 12 years from the start of the first year of the program until ten years after it finishes.

The example makes four assumptions, as follows:

That the savings in emissions and energy (which may be termed ‘mitigation benefits’ for short) occur as a result of a program that targets NSW households.

That the program (or administrative) and compliance (or implementation) costs are assumed to be $20 million a year for three years (in 2010/11 dollars).



That the mitigation benefits from each $20 million investment are assumed to be 17,000 tonnes of CO2-e or 19,101 MWhs.68

That the annual savings continue for 10 years.

Table 4.2 Illustration of the cost-effectiveness methodology (selected years)

2010/11 2011/12 2012/13 2013/14 2021/22Total program & compliance costs 2010/11 prices $m 20.0 20.0 20.0

1. NPV at mid-2010 of Total Costs 2010/11 prices $m 52.5

Annual CO2-e abated tonnes 17,000 34,000 51,000 51,000 17,000

2. NPV at mid-2010 of abatement tonnes 335,280

Levelised cost /tonne (1./2.) $/tonne 156.5$

Annual MWh saved MWhs 19,101 38,202 57,303 57,303 19,101

3. NPV mid-2010 of MWHs saved MWhs 376,719

Levelised cost /MWH (1./3.) $/MWh 139.32$

Benchmark Under CPRS-5

Residential retail electricity price $/MWh 165.6 171.8 178.3 185.0 248.3

Value of MWHs saved $ 3,162,617 6,563,483 10,216,060 10,600,864 4,742,205

4. NPV of MWHs saved 2010/11 prices $ 75,371,023

Levelised cost (4./3.) $/MWh 200.07$

Under CPRS-15

Residential retail electricity price $/MWh 166.2 173.0 180.2 187.6 258.4

Value of MWHs saved $ 3,173,881 6,610,321 10,325,611 10,752,704 4,935,916

5. NPV of MWHs saved 2010/11 prices $ 77,121,614

Levelised cost (5./3.) $/MWh 204.72$

On the basis of these assumptions, the future flows of costs and mitigation benefits are discounted at 7 per cent to bring them to their present values. This results in:

Present value of administration and implementation costs is $52.5 million (item 1 in the table).

Present value of mitigation benefits can be, and are, expressed either as 335,280 tonnes of CO2-e or as 376,719 MWhs (items 2. and 3. in the table).

Dividing $52.5 million by 376,719 MWhs produces the levelised cost of the program of $139.32 per MWh.

68 Tonnes of CO2-e are converted into MWhs by multiplying the tonnes by 1.124 as per National

Greenhouse Accounts Factors, DCC, November 2008.



Having derived the levelised cost of the program, the value of the mitigation benefits it delivers is now assessed (in the second half of the table) under the CPRS. Under the CPRS, the value of the mitigation benefits of a program is determined by the volume of those benefits and the carbon-inclusive residential retail price of electricity. Since there are two CPRS scenarios (for the purpose of this illustration), there are two sets of calculations.

Under CPRS-5:

The volume of mitigation benefits is the annual MWh saved that were already calculated in the top half of the table.

The carbon-inclusive residential retail price of electricity is $165.60 per MWh in 2010/11, rising thereafter with the residential price path in Figure 4.4 above.

The present value of the mitigation benefits is $75.4 million (item 4. in the table).

Dividing $75.4 million by 376,719 MWhs produces the levelised value of the mitigation benefits under the CPRS of $200 per MWh.

The same calculations are also made under CPRS-15, except that the relevant residential retail electricity price commences slightly higher at $166.20 per MWh and rises in accordance with the IPART electricity price projections that apply under CPRS-15. Because electricity prices are expected to be higher under CPRS-15, the levelised value of the mitigation benefits at $77.1 million and their levelised value of $205 per MWh are also higher.

Since the levelised cost of the program at $139 per MWh is much less than the value of the same mitigation benefits when they are valued under the CPRS regime, the program in the example can be considered cost-effective by a comfortable margin.

Two sensitivity tests should be applied. The first varies the discount rate using as alternatives four and 10 per cent. The second varies electricity prices by 15 per cent. The results of the first test will be noted in the text and the results of the second presented in tabular form in Volume 2 (of which Table 4.3 is an example). Neither test, in the present example, alters the conclusion that the program is cost-effective.

Table 4.3 Levelised costs, 2010/11 dollars per MWh, under three electricity price assumptions

Cost of program Value underCPRS-5

Value under CPRS-15

Base case $139.32 $200.07 $204.72

Sensitivity to change in electricity prices

15% higher $230.08 $235.43

15% lower $170.06 $174.01



4.7.5 Conclusion

The cost-effectiveness methodology illustrated above was applied to 10 of the 26 NSW mitigation programs. Other programs were not amenable to its application, either because of the nature of the program in which abatement could not be reasonably estimated (eg, Energy Efficiency Community Awareness Program) or because the estimates were considered to be insufficiently reliable. Those to whom it was formally applied, and the electricity price series used in the assessment, are:

Residential prices - BASIX, BASIX cogeneration demonstration project, Residential Rebate Program (hot water system rebate), Low Income Household Refit Program.

Commercial prices - Schools Energy Efficiency Program, Public Facilities Program, Small Business Energy Efficiency Program, Sustainability Policy.

Industrial prices - Green Business Program, expanding Sustainability Advantage Program (Energy Saver Program).

4.8 How accurate are the cost-effectiveness assessments?

The data upon which the cost-effectiveness assessments were based were supplied by the NSW Government agencies responsible for the programs. For some programs the information was extensive (such as BASIX); for others the information was more speculative, in part because the program itself had either not yet commenced or had only been operating for a short time (this includes programs under the NSW Energy Efficiency Strategy).

The agencies therefore provided to IPART their best estimates of the likely costs and effectiveness of the programs in terms of tonnes of CO2-e expected to be abated over time, the value of energy (power or fuel) likely to be saved over time and any other benefits that could be quantified.

IPART is concerned that the mitigation benefits expected from some of the programs will not materialise. It has examined some evidence on actual abatement achieved from studies unrelated to the 26 NSW programs. These studies indicate that actual abatement achieved may be less than expected, for at least two reasons:

Projects first designated as low-cost abatement opportunities turn out not to be low-cost after all, once a closer inspection of them has been made.

Projects assume abatement takes place from actions that turn out to result in lower actual abatement than was expected.



An example of the first kind of project is the ‘St George study’ in the Sutherland and St George regions of Sydney.69 In 2004, 125 commercial and industrial customer sites were visited in order to identify opportunities for electricity demand reduction, and provide initial indicative estimates of their size and cost. In 2005, the 338 opportunities found in the original study were re-examined. Of these, 186 or 55 per cent were not going to be implemented. Observers Watt and Crossley concluded:

It appears that over-optimistic conclusions were drawn in the [original] investigations with respect to the technical practicality and financial viability of the identified opportunities. In the [second] investigations, estimates of the size of potential demand reductions were, on average, only 39% of those claimed in the [original] investigations. Estimates of implementation costs in the [second] investigations were, on average, more than twice those in the [original] investigations and only about one-half of the opportunities originally identified were actually attractive in terms of the payback period being less than four years.

An example of the second kind of project is lightbulb replacement programs undertaken as part of the NSW Greenhouse Gas Abatement Scheme. In 2006, the Greenhouse Gas Scheme Administrator examined the rate of installations for products given away or sold under the Default Abatement Factors method of the Demand-Side Abatement Rule and found that only 46 per cent of the compact fluorescent lamps given away had been installed.70

More broadly, the Productivity Commission has noted several ways in which the cost-effectiveness of energy efficiency activities may be overstated, including:

use of truncated measures of cost-effectiveness (eg, a simple payback period)

use of a social discount rate rather than (higher) private discount rates

very conservative estimates of business-as-usual energy efficiency gains

underestimating the costs associated with making efficiency improvements

extrapolating audit and best-practice study results to a whole sector

using unrepresentative simulated producers and consumers.71

It is not clear to IPART to what extent any similar cost-overruns or abatement shortfalls might occur under some of the existing NSW programs. The size of the shortfalls in the two examples mentioned above (the ‘St George’ study and GGAS) is serious because it would endanger the conclusions that IPART has reached in Volume 2 on the cost-effectiveness of some of the NSW programs.

69 Greg Watt and David Crossley, Case Study: Organizational Decision Making on Energy Efficiency,

20 November 2006, available at Energy Futures Australia website. Total annual energy consumption of the sites was 348,200 MWhs.

70 At www.greenhousegas.nsw.gov.au/documents/Pres_DAF_11Aug06.pdf on the GGAS website under ‘What’s new’. As a result of the findings, the Minister for Energy re-set the relevant Installation Discount Factors.

71 The Private Cost Effectiveness of Improving Energy Efficiency Report No. 36, 2005, p 67ff. For similar US experience See also K. Gillingham, R. Newell and K. Palmer ‘The Effectiveness and Cost of Energy Efficiency Programs’ in Resources, Fall 2004, p 22-26 available at www.rff.org.



For example, if abatement achieved were to be around half of the abatement currently expected, that would double the cost of the program in the illustrative example from $139 per MWh to $278 per MWh. The value of the reduced abatement under the CPRS would still be the same per MWh so that the program would then be deemed to be cost-ineffective.

Of the NSW programs assessed by IPART that rely on expected abatement data, some were comfortably cost-effective such that even a halving of their abatement gains would not alter that assessment. This was the case with the Low Income Household Refit Program and BASIX. However, others do not exhibit that quality. In these cases, IPART’s assessment that they are cost-effective would be endangered if abatement were to fall short by any considerable margin.

Table 4.4 indicates by what percentage the cost of selected programs that are assessed in Volume 2 would have to rise because of an abatement shortfall before it exceeded the value of the gains, as assessed under scenarios CPRS-5 and CPRS-15.

Table 4.4 Cost-effectiveness of selected NSW programs, 2010/11 dollars per MWh

% rise in cost of program to make it cost-ineffective

Cost ofprogram

Value under

CPRS-5

Value under CPRS-15

UnderCPRS-5

Under CPRS-15

Residential Rebate 180 $193 $197 8 10

Energy Efficiency Small Business 115 159 163 38 42

Expansion of Sustainability Advantage 67 84 86 25 28

Green Business Round 1 56 87 89 55 59

Public facilities 116 162 166 40 43

Sustainability Policy – building energy use at:

- $40m investment p.a. 117 182 188 55 61

- $50m investment p.a. 146 182 188 24 29

Note: Calculations may not tally due to rounding.

In the light of these considerations, IPART recommends that future evaluations of any mitigation program recognise the possibility that programs may not deliver the results expected of them, either as to cost, emissions abated or energy (power of fuel) saved/generated. The programs that are retained, and any new programs that are introduced, should be reviewed within three years of start-up (transitional programs that have a life of less than this period may need to be reviewed earlier). This will enable any divergences between expected and actual outcomes to be analysed and the programs redesigned on a sounder basis using the framework of assessment adopted in this review. IPART sees advantages in such reviews being undertaken by



an independent party, including impartiality in the conduct of the review and, where necessary, the opportunity to obtain external advice.

An important pre-requisite for the design of programs and their assessment is that all the data relevant to a program, and the processes to collect it and monitor the program, are available. The collection of such data and monitoring processes should be included as part of the program design.

Recommendations

2 That NSW mitigation programs be reviewed for actual outcomes relative to expectations after three years from program start-up and regularly thereafter; and that targets be adjusted and the programs re-evaluated in the light of these reviews. The reviews should preferably be done by an independent body.

3 That all future NSW mitigation programs specify in their program design a means of data collection and monitoring that enables effective regular reviews of the program.

Further analysis of the effectiveness of each program is reported within the program assessment presented in Volume 2 of this report.

5 IPART’s assessment of nominated NSW mitigation programs



Using the analytical framework set out in Chapter 4, IPART has assessed each of the nominated NSW mitigation programs to determine whether they should be retained in their current form, retained but redesigned, retained during the transition to the CPRS only, or terminated because they do not satisfactorily meet the criteria for complementarity set out in this framework.

To apply the framework, IPART first grouped the programs into three broad categories according to their primary mitigation purpose: energy efficiency low-emissions energy generation, and direct emissions reduction.

Then for each program, IPART identified which in-principle criterion (or criteria) the program could potentially meet based on its primary mitigation purpose and the information provided about its objectives and target group. The first and the fourth of these were the relevant criteria for the majority of the programs. That is, the majority of the programs are aimed at addressing one or more market failures that are not adequately addressed by the CRPS and/or have one or more non-abatement objectives.

Next, IPART determined whether the program met (or had the capacity to meet) at least one of the relevant criteria. If not, it concluded the program should be terminated. If so, it assessed whether the program also met the best-regulatory-practice principles. Where data were available, the assessment included applying the methodology for measuring cost-effectiveness outlined in Chapter 4, sections 4.6-4.7.

IPART has made recommendations on whether each program should be retained in its current form, retained but redesigned, retained for the transition period only, or terminated in line with the findings discussed above. In addition, where appropriate, IPART has made recommendations about streamlining some programs and reallocating funds from poorer-performing to better-performing programs while maintaining the state’s overall effort in energy efficiency. IPART has also made recommendations about when and how programs should be redesigned or terminated, where applicable.

The sections below summarise IPART’s findings and recommendations on the programs in each category. Table 5.1 summarises IPART’s assessment and recommendations. The specific recommendations are in Chapter 1 above. Volume 2 contains IPART’s assessment and recommendations for each program in detail.

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Table 5.1 Summary of IPART’s assessment of nominated NSW mitigation programs

Targeted sector/group

Name of program Primary impact or purpose Size /cost Recommendation Comments

ENERGY EFFICIENCY

Energy Efficiency - General

1 NSW economy

NSW Energy Efficiency Target (not yet set)

Economy-wide ‘aspirational’ target

State-wide Terminate The proposed energy efficiency target does not address any specific market failures or barriers. There is a risk that an ‘aspirational’ energy efficiency target will limit the ability of those subject to the CPRS to choose the most cost-effective forms of abatement.

The economy-wide benchmark for assessing the merit of additional abatement programs should be the CPRS, not an energy efficiency target.

2 General community

Energy Efficiency Community Awareness Program

Community information $15m over 3 years Retain -

Transitional measure

Likely to assist in better informing the community about ways to improve efficiency of energy use.

The cost of the ‘black balloons’ campaign ($9m over three years) campaign is high compared to some other campaigns and warrants re-consideration.

3 Tertiary education sector, businesses

Energy Efficiency Skills Development Program

'Green' skills development $20m over 5 years Retain -

Transitional measure

Likely to be effective in assisting transition to a low-carbon economy.

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Energy Efficiency –Energy Sector

4 Electricity retailers and users

Energy Savings Scheme (ESS)

Mandatory electricity savings target

State-wide Retain Seeks to correct market failures not adequately addressed by the CPRS.

The qualifying criteria for projects against which ESS certificates may be created should be reviewed regularly to ensure that those projects are additional to that which would be undertaken anyway post-CPRS.

5 Gas suppliers and users

Gas Supply Act - Clause 4 of Supplier's Authorisation

Reduction of emissions from supply and use of gas

Nil cost, as ‘dormant’ regulation

Terminate Does not address market failures. Condition not complied with or enforced since 2002/03.

Energy Efficiency – Residential Planning

6 Residential buildings (planning laws)

BASIX Energy efficiency for new residential buildings

Annual $64m implementation costs, $400,000 administration costs

Retain Addresses market failures and is currently cost-effective. BASIX should, in time, be integrated with any national scheme that establishes standards that are at least equivalent to those under BASIX.

The NSW Government should reassess the target for energy savings and the basket of savings options making up the target to ensure that the savings options are additional to that which would be undertaken anyway post-CPRS.

7 One-off project BASIX co-gen demonstration project

Residential demonstration project.

$400,000 Retain Cost-effective.

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Energy Efficiency - Households

8 Households - general

Residential Rebate Program (hot water systems)

Assist transition in light of higher energy prices

$3.3m in 2007/08 Retain, but redesign, as a transitional assistance measure

Hot water rebates likely to assist transition to the CPRS. In light of the Federal Government subsidies for energy-efficient hot water systems (RECs and rebate), the NSW Government should reduce the amount of funding provided under the Residential Rebate Program to ensure that households are not over-compensated for costs.

9 Households – low income

Low Income Household Refit Program

Equity/transitional assistance program

$63m over 5 years targeting 220,000 low-income households

Retain as a transitional assistance measure

Likely to help low-income households to transition to the CPRS.

Supported, subject to there being no duplication with Federal Government programs.

Energy Efficiency – Businesses

10 Businesses - small

Energy Efficiency for Small Business Program

Transition assistance (subsidised audit and fit-out assistance)

$15m over 2.5 years


Program likely to address information barriers and capital constraints. Supported, subject to there being no duplication with Federal Government programs.

11 Businesses – medium to large

Expansion of the Sustainability Advantage Program (Energy Saver Program)

Education and assistance (subsidised audit and advice)

$20m over 5 years (targets 1000 firms)


Program likely to be effective in addressing information problems. Is strongly supported by stakeholders. Subsidies for energy audits should be provided as transitional assistance and cease at the end of five years.

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12 Businesses – medium to large

Green Business program Grants for energy and water saving projects (Direct Measures stream) and for projects promoting structural change in the market (Market Transformation stream)

$30m over 5 years Terminate Direct Measures stream.

Retain Market Transformation stream and incorporate in the Sustainability Advantage program

The Direct Measures stream of the program does not effectively address market failures/ barriers to the take-up of energy efficiency. DECC has advised IPART that it will propose the discontinuation of this stream.

The Market Transformation stream is likely to be effective in addressing market failures/barriers. It is recommended that this stream be incorporated into the Sustainability Advantage Program.

IPART’s recommendations are only in relation to the energy savings component of the program.

13 Businesses – large

Mandated actions under Energy Savings Action Plans

Make compulsory implementation of energy efficiency projects.

Not able to reliably estimate

Terminate No case found for mandating the implementation of energy savings actions that have been identified by businesses.

14 Private businesses and local govt

FleetWise Partnership Reduce emissions from vehicle fleets

$720,000 administrative costs over 4 years.


Incorporate in the Sustainability Advantage Program

The program provides tailored information and tools to businesses to help them reduce fleet emissions. It should be retained as a transitional measure only, as the CPRS is expected to drive changes in the transport sector in the long term. IPART agrees with DECC’s intention to incorporate FleetWise into the Sustainability Advantage Program.

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Energy Efficiency - State Government

15 Govt and not-for profit organisations

Public Facilities Program Educate public via energy and water savings projects

$30m over 5 years Terminate Demonstration stream

Redesign Community Savers stream and retain as a transitional assistance measure

Demonstration stream does not appear, on the whole, to effectively address market failures (in particular, information failures).

Community Savers stream will assist transition to a carbon-constrained environment but should be more clearly framed as an assistance measure.

IPART’s recommendations are only in relation to the energy savings component of the program.

16 Budget-dependent agencies

NSW Government Sustainability Policy - "umbrella" policy

Improve environmental performance across govt operations

$40-50m pa to generate energy savings in buildings

Retain It is crucial that only projects with a 12 per cent IRR be undertaken. An explicit review process should be introduced into the Policy, with reviews preferably undertaken by an independent party.


NSW Government Sustainability Policy - Energy Performance Contracts

Funding conduit for large energy efficiency projects

Projects over $500,000.

Retain Effective in encouraging implementation of cost-effective energy savings projects by government agencies.


NSW Government Sustainability Policy - Energy and Water Efficiency Investment Program

Funding conduit for small energy efficiency projects

Projects between $10,000 and $500,000.

Retain Effective in encouraging implementation of cost-effective energy savings projects by government agencies.

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NSW Government Sustainability Policy - Cleaner Government Fleet Program

Reduce emissions from government fleet.

Applies to all government agencies.

Retain but redesign, as a transitional measure

Program effective to date. Should be retained as a transitional measure but redesigned to provide agencies with the flexibility to depart from the program’s environmental directives where compliance is not cost-effective or inappropriate in light of operational requirements.

20 NSW Government schools

NSW Government Sustainability Policy -Schools Energy Efficiency Program

Energy savings and student education

$25m over 5 years Terminate Lighting Retrofit stream

Retain Climate Clever Energy Savers stream

The lighting retrofit stream of the program is not a cost-effective way of saving energy and reducing GHG emissions.

The Climate Clever Energy Savers stream effectively provides information about energy efficiency to school students and links with NSW’s key environmental education policy.

LOW-EMISSION GENERATION

Low-Emission Generation – Power

21 General – electricity retailers and customers

GGAS* Reduce emissions from electricity generation

State-wide Terminate as planned

GGAS should be terminated when the CPRS starts, as planned.

22 General – electricity retailers and residential customers

Clause 45B of the Electricity Supply (General) Regulation (“the licence condition”).

Promote voluntary purchase of renewable energy

No reliable cost estimates

Pre-CPRS retain but redesign.

Terminate when CPRS starts.

The promotion of voluntary renewable energy purchases does not correct a significant market failure. It is not likely to reduce abatement costs.

Pre-CPRS, the part of the licence condition that requires suppliers to

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offer 10 per cent renewable energy should be removed as it appears to be no longer necessary.

23 Businesses Renewable Energy Development Program

Support commercialisation of renewable energy technologies

$40 million over 5 years

Retain, but redesign.

Given mitigation policies at the national level, the program should be re-designed to target projects that aim to lower abatement costs and that are better aligned with NSW’s strengths and interests.

DECC has indicated that the focus of the program may change to industry attraction in light of the Federal initiatives. If the program’s focus changes to become primarily an industry attraction program, it should no longer be funded from the Climate Change Fund.

Low-Emission Generation – Transport

24 Petrol and diesel sellers and consumers

Biofuel (Ethanol Content) Act 2007

To be renamed the Biofuels Act 2007 when the Biofuel (Ethanol Content) Amendment Act 2009 commences.

Reduce emissions from conventional fuels by mandating the use of biofuels.

No cost estimates Commission independent economic appraisal of the Act, as amended.

The mandating of minimum levels of biofuel content in regular petrol and diesel fuel is not likely to be justified on abatement grounds.

The Department of Lands was not able to justify the minimum content requirements on other policy grounds, including regional development and energy security. The weight of evidence in other public assessments of first generation biofuels indicates that government support could result in a net cost to the community and

59 Review

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economy.

The legislation should be repealed unless an independent economic appraisal shows that the mandating of biofuels in NSW will produce a net benefit for the economy.

DIRECT EMISSION REDUCTION

25 Govt and businesses in coal sector

Clean Coal Fund Reduce emissions from coal sector and assist transition

$100 million Retain The Clean Coal Fund targets R&D spillovers. If clean coal technologies can be proven commercially viable, they have significant mitigation potential as well as potential to reduce the costs of adjusting to a carbon-constrained environment.

26 Budget dependent agencies

Carbon Neutral Government (offsets policy only)

Demonstrate leadership Cost of program (offsets) not quantified.

Terminate Offsetting emissions is not necessary under the CPRS and unlikely to reduce the costs of reaching emissions targets.

*See footnote 71 regarding the classification of GGAS.



5.1 Summary of findings on energy efficiency programs by recommended future status

Twenty of the 26 nominated NSW mitigation programs aim to reduce emissions by increasing energy efficiency. Based on IPART’s assessment of whether an individual measure satisfactorily meets at least one of the in-principle criteria and the best-regulatory-practice principles, IPART found that:

Six energy efficiency programs should be retained in full in their current form. These include:

– the Energy Saving Scheme

– BASIX

– the BASIX co-generation demonstration project, and

– the overarching (‘umbrella’) NSW Government Sustainability Policy

– Energy Performance Contracts component of the NSW Government Sustainability Policy

– the Government Energy and Water Efficiency Investment Program component of the NSW Government Sustainability Policy.

Two energy efficiency programs should be retained in part:

– the Green Business Program’s Market Transformation stream should be retained and incorporated in the Sustainability Advantage Program

– the Schools Energy Efficiency Program’s Climate Clever Energy Savers stream should be retained and consideration given to its redesign.

Six energy efficiency programs should be retained in full in their current form during the transition period only:

– the Energy Efficiency Community Awareness Program should be retained and consideration be given to revising funding levels

– the Energy Efficiency Skills Development Program

– the Low Income Household Refit Program

– the Energy Efficiency for Small Business Program

– the proposed Energy Saver Program (an expansion of the Sustainability Advantage Program), and

– the FleetWise Partnership program (to be incorporated into the Sustainability Advantage Program).

Two energy efficiency programs should be redesigned and retained during the transition period only:

– the Residential Rebate Program (hot water rebates)

– the Cleaner Government Fleet Program component of the NSW Government Sustainability Policy.



One energy efficiency measure should be retained in part during the transition period only: the Public Facilities Program’s Community Savers stream.

Three energy efficiency programs should be terminated in part:

– the Green Business Program’s Direct Measures stream

– the Public Facilities Program’s Demonstration stream, and

– the Schools Energy Efficiency Program’s Lighting Retrofit stream.

Three energy efficiency programs should be terminated in full:

– the NSW Energy Efficiency Target

– Clause 4 of the Suppliers Authorisation under the Gas Supply Act, and

– the proposed mandating of actions under Energy Savings Plans.

In general, IPART found that a number of the energy efficiency programs serve a similar purpose and target group. There is also a degree of duplication with Federal Government programs. This indicates there is an opportunity for some rationalisation of programs.

For example, the Energy Saver component of the Sustainability Advantage Program, the Market Transformation stream of the Green Business Program and the FleetWise Partnership all aim to improve energy efficiency and build capacity in medium to large businesses. These programs could be streamlined and better designed to ensure that they better meet the needs of the target group and minimise red tape and administration costs.

There are six programs that specifically target NSW Government operations or facilities. These programs could be better integrated to meet the Government’s objectives more cost-effectively. For example, the Schools Energy Efficiency Program comes under the umbrella of the Climate Change Fund and is also a component of the NSW Government Sustainability Policy. IPART found that the Lighting Retro-fit stream of this program is not cost-effective. Energy efficiency projects in schools may be more cost-effective if they are subject to the funding rules of the Sustainability Policy, rather than the Climate Change Fund. Chapter 6 contains further comment on the Sustainability Policy and the Climate Change Fund.

The market-based NSW Energy Savings Scheme (ESS) is intended to be the primary measure for realising low-cost energy savings (above and beyond that targeted by other policies) particularly in the household sector and the built environment. IPART considers that the ESS is well founded in principle. However, the scope for such savings is narrowing due to, amongst other things, the creation of new energy efficiency policies at both the state and national levels. The qualifying criteria against which ESS certificates may be created will need to be regularly reviewed to ensure that the savings achieved are cost-effective and additional to that which would be achieved anyway post-CPRS.



IPART notes that several other programs have similar objectives as the ESS, albeit targeted at a particular group – for example, the Low Income Household Refit Program and the Energy Efficiency for Small Business Program. IPART considers that these programs are primarily justified because of their non-abatement objectives, which include assisting individuals and organisations adjust during the transition to a carbon-constrained environment.

Once an energy efficiency market has been established, separate measures whose primary purpose is to encourage energy savings in the areas covered by the ESS will not be justified.

IPART considers that all programs primarily justified because they help energy users adjust to the CPRS should have a clear end date and be terminated at that date. Programs that will assist transition include, in addition to those listed above, the Energy Efficiency Community Awareness Program and the Energy Efficiency Skills Development Program.

IPART found that several programs will overlap with, or be superseded by, the CPRS and other national mitigation policies, or are not effective and efficient means of achieving their objectives. These include Clause 4 of Suppliers’ Authorisation under the Gas Supply Act 1996, the mandating of actions under Energy Savings Action Plans, the Direct Measures stream of the Green Business program, the Demonstration stream of the Public Facilities Program and the Lighting Retro-fit stream of the Schools Energy Efficiency Program.

In addition, IPART does not consider the proposed NSW Energy Efficiency Target to be complementary to the CPRS. It was not clear how a state energy efficiency target that is not to be binding would be complementary to the CPRS since it does not in itself appear to address any specific market failures or barriers, assist in the transition to a carbon constrained environment or achieve non-mitigation objectives. To the extent that the target is proposed as a benchmark against which the merit of energy efficiency measures might be assessed, IPART notes that the economy-wide benchmark is the CPRS.

IPART found that BASIX has been successful in driving cost-effective energy savings in the residential building sector. However, it also found that the NSW Government should consider re-setting the basket of options for energy savings and/or the size of the target given developments since introduction of the scheme in 2004. BASIX should, in time, be integrated with any national scheme that establishes standards at least equivalent to those under the BASIX scheme.

Where IPART has made recommendations to change energy efficiency programs, this will not involve a reallocation of funds to non-energy-efficiency programs. IPART understands that states and territories have made a commitment to maintain existing energy efficiency funding levels and to re-direct state funding for any programs superseded by the Federal Government’s Energy Efficient Homes program



(which mainly provided ceiling insulation) to home energy advice programs, particularly for the most disadvantaged households.72

5.2 Summary of findings on low-emissions generation programs by recommended future status

Four of the nominated NSW mitigation programs aim to encourage low-emissions generation. In relation to these programs, IPART found that:

Clause 45B of the Electricity Supply (General) Regulation should be retained and redesigned during the transition period only. IPART considers that promoting the voluntary take-up of renewable energy does not address a significant market failure and is unlikely to reduce the costs of meeting emission reduction targets.

The Renewable Energy Development Fund should be redesigned given the range of federal programs that have the same or similar purpose as the Fund. The fund should explicitly support projects that aim to lower greenhouse gas abatement costs and that are better aligned with NSW’s strengths and interests.

The Biofuel (Ethanol Content) Act 2007 (as amended) should be subject to an economic appraisal by an appropriately qualified, independent party. The mandating of minimum levels of biofuel content in regular petrol and diesel fuel is not likely to be justified on abatement grounds. The Department of Lands was unable to provide sufficient information to justify the legislation on other policy grounds, such as regional development and energy security. The weight of evidence in other public assessments of first generation biofuels indicates that government support could result in a net cost to the community and economy. The Biofuel (Ethanol Content) Act 2007 (as amended) should be repealed unless the independent appraisal shows that the legislation will produce a net economic benefit.

GGAS73 should be terminated in full once the CPRS is established, as planned. The market failures this scheme is designed to address will be adequately addressed by the CPRS.

72 COAG Communiqué, 30 April 2009, p 8. 73 GGAS allows abatement certificates to be generated from a number of activities, including low-

emission generation of electricity or improvements in the emissions-intensity of existing generation activities; activities that result in reduced consumption of electricity; activities carried out by elective participants that reduce on-site emissions that are not directly related to emission reduction; and the capture of CO2 from the atmosphere in forests. Therefore, GGAS could technically fall into any or all of the three categories used by IPART to group NSW programs. As abatement certificates created from low-emission generation make up the majority of NSW Greenhouse Abatement Certificates and the energy efficiency component of GGAS will be incorporated into the new Energy Savings Scheme, IPART has classified GGAS, for convenience, as a low-emission generation program.



5.3 Summary of findings on direct emissions reduction programs by recommended future status

Two of the nominated NSW mitigation programs aim to encourage direct emissions reduction: the Clean Coal Fund and the commitment by the NSW Government to become ‘carbon neutral’ by offsetting unavoidable GHG emissions by 2020. In relation to these programs, IPART found that:

The Clean Coal Fund should be retained in full in its current form, on the grounds that it addresses well-recognised market failures that will not be adequately addressed by the CPRS and other national initiatives (ie, ‘spillovers’ associated with the research and development of new technologies). In addition, IPART considers that government intervention is justified at both the state and national level to address barriers to the development and deployment of clean coal technologies. This is because NSW may place a higher priority on particular means for reducing emissions from coal use than other states and, if successful, these technologies have the capacity to make an enormous contribution to climate change mitigation. In addition, they focus on a sector of the economy that is important to both NSW’s and Australia’s strategic economic interests.

The offsets policy of the Carbon Neutral Government policy should be terminated, and the NSW Government should not pursue the goal of carbon neutrality. IPART does not consider that the carbon neutrality policy is consistent with the purpose of the CPRS – which is to drive emissions to the level of the set caps, rather than to eliminate emissions, and to do so at least cost to the economy. IPART also notes that the value of being ‘carbon neutral’ under the CPRS will be different compared to the case at present. Under a global cap on emissions, offsetting unavoidable emissions will not lead to additional environmental benefit. Furthermore, it is likely to increase the costs of meeting Australia’s emission reduction targets.

6 Associated findings and recommendations



IPART notes that past state and territory action on climate change mitigation provided significant impetus for the development of a national approach to reducing GHG emissions. For example, the states and territories’ National Emissions Trading Task Force (NETT), chaired by NSW, produced in 2007 a report on the possible design of a national emissions trading system. States and territories also commissioned the Garnaut Review, which was later joined by the current Federal Government. The work of the NETT and the Garnaut Review contributed significantly to the design of the CPRS. In NSW, the Greenhouse Gas Reduction Scheme was world-leading at the time of its introduction in 2003 and demonstrated how market-based mechanisms for reducing GHG emissions could work.

Notwithstanding these achievements, the effectiveness of state and territory climate change policies has been limited, largely because they were developed in an environment without a clear strategic approach to climate change mitigation. IPART considers that had they been developed within a clear national policy framework, NSW mitigation measures would have been more coherent and effective.

As Chapter 5 discussed, based on its assessment of the 26 nominated existing NSW programs, IPART found there is scope to better target and rationalise these programs to take into account the introduction of the CPRS and policies at the national level. IPART also found there is scope to make these programs more cost-effective in the light of recommendations made by IPART.

In addition, IPART found that there is scope to improve NSW’s overarching or ‘umbrella’ mitigation policies and the NSW GHG emissions reduction target. These policies and target guide the state’s mitigation effort, and set the rules for administering many of the 26 programs IPART was asked to assess. While IPART was not specifically asked to review two of the umbrella policies or the state emission reduction target, it has made several findings and recommendations in relation to them that flow directly from its review.

Further, IPART notes that its assessment of the 26 nominated programs takes into account known national policies and measures at the time of writing. These policies and measures are still evolving, and decision making in the future will need to take this into account. IPART has made several additional findings and recommendations on future policies in the light of this changing environment in the course of its review.



The sections below briefly discuss these additional findings and recommendations.

6.1 Findings and recommendation on NSW ‘umbrella’ policies

IPART considers that there is a need to clarify and streamline the objectives and rules of the NSW Government’s three ‘umbrella’ mitigation-related policies. These policies include:

the Climate Change Fund

the NSW Energy Efficiency Strategy (funded through the Climate Change Fund), and

the NSW Government Sustainability Policy.

Of these, only the NSW Government Sustainability Policy was nominated for assessment by IPART as part of this review (see Chapter 16 of Volume 2 of this report.) A brief outline of the Climate Chapter Fund and the NSW Energy Efficiency Strategy is provided in Box 6.1 below.

IPART notes that all of the energy efficiency programs nominated for review are grouped under one of these three umbrella policies. As noted in Chapter 5, many of these programs target a similar group of energy users or have similar or overlapping purposes. Some programs or components of programs could be undertaken equally or with some modification under an alternate stream, or are undertaken under more than one stream. However, the specific objectives of each of the umbrella policies are somewhat different, as are the rules for allocating or spending funds and/or performance requirements. IPART considers this has affected the effectiveness and efficiency of some programs and creates unnecessary complexity.

For example, the Schools Efficiency Program sits under both the Climate Change Fund and the NSW Government Sustainability Policy. As noted in Chapter 5, IPART found the Lighting Retro-fit stream of this program to cost-ineffective, and considers that the application of funding rules under the Sustainability Policy, rather than those of the Fund, would have helped to ensure that energy efficiency measures in schools are cost-effective.



Box 6.1 Climate Change Fund

Climate Change Fund

The Climate Change Fund (the Fund) was created in July 2007 under the Energy and Utilities Administration Act 1987 (the Act). Its purpose is to provide funding to:

a) reduce GHG emissions and the impacts of climate change associated with water andenergy activities

b) encourage water and energy savings and the recycling of water

c) reduce the demand for water and energy, including addressing peak demand for energy

d) stimulate investment in innovative water and energy savings measures

e) increase public awareness and acceptance of the importance of climate change andwater and energy savings measures

f) contribute funds for the purposes of national energy regulation.

It seeks to achieve these objectives through funding a range of programs including: climate change programs ($340 million) announced in 2007, which include residential

rebates, schools programs and contestable grants for business, public facilities and renewable energy development

energy efficiency programs ($137.5 million) announced in 2008 under the NSW Energy Efficiency Strategy (see below),and

previous and ongoing commitments from the former Water and Energy Savings Funds.

The main source of funding is levies on State water and electricity providers which is passed onto customers. The climate change-relevant programs under the Fund include: the ResidentialRebate Program for hot water systems; the NSW Green Business Program; the Public Facilities Program; the Schools Energy Efficiency Program, and the Renewable Energy DevelopmentProgram.

NSW Energy Efficiency Strategy

The NSW Energy Efficiency Strategy was part of the state's response to the 2007 Owen Inquiry into Electricity Supply. The objectives of the Strategy are to: reduce GHG emissions from energy consumption in NSW reduce the impact of rising energy prices on businesses and the community by lowering

energy consumption delay the need to construct additional energy generation and distribution infrastructure in

NSW, achieving a cost-saving for the state economy.

Programs under the Strategy include the Low-income Household Refit Program; Small Business Energy Efficiency Program; Expansion of the Sustainability Advantage Program; and the Energy Efficiency Community Awareness Program.

The Clean Coal Fund is also to be funded via the imposition of levies on electricity distributors.

Source: http://www.environment.nsw.gov.au/grants/ccfund.htm; NSW Climate Change Fund Annual Report 2007/08, p 3.



As another example, IPART found that several of the nominated programs that fit under the Climate Change Fund were not wholly consistent with the purpose of this fund, even if their underlying objective had merit (such as assisting transition to a carbon-constrained environment under the CPRS). This may reflect, in part, that the Climate Change Fund (or, more particularly, its historical component parts – the Energy Savings Fund and Water Savings Fund) precedes the CPRS and related policy changes.

More of the component programs under the NSW Energy Efficiency Strategy are better targeted at market failures and barriers that are likely to exist post-CPRS, but the establishment of this Strategy does not appear to have led to a refining of programs under the Climate Change Fund.

Given these findings, IPART recommends that the umbrella policies covering energy efficiency programs in NSW be reviewed to ensure that:

they are consistent with IPART’s recommended framework for assessing climate change mitigation measures

where programs are linked under separate policies, they operate to shared purposes

monitoring and performance arrangements are suitable and consistent with IPART’s recommendations on data collection and the monitoring of programs, and

they minimise compliance and administration costs.

Whilst IPART has recommended the streamlining of some programs, it considers that a review of the umbrella policies would assist to ensure that the Government’s policy objectives are adequately met through the current suite of programs and these programs are administered as efficiently as possible. It further considers that this will better position the Government to make decisions in future about changes to current programs and need for any new programs.

Recommendation

4 That the NSW Government review ‘umbrella’ mitigation policies, including the Climate Change Fund, the NSW Energy Efficiency Strategy and the NSW Government Sustainability Policy to ensure that these policies are consistent with IPART’s recommended framework for assessing and reviewing climate change mitigation measures.

6.2 Findings on NSW emissions reduction target

NSW climate change policies are presently driven by state-wide targets to reduce GHG emissions to year 2000 levels by 2025, and to reduce these emissions by 60 per cent on year 2000 levels by 2050.



Given the setting of a national emissions target based on Australia’s international obligations and a national global cap on emissions, IPART considers that state-wide GHG emission reduction targets are no longer required. State-based emission reduction targets are inconsistent with these national measures, and may distort the composition of abatement by directing emissions reduction activities away from where they would be undertaken most efficiently (whether in Australia or elsewhere in the world as permitted under international agreement) to the state concerned. This would undermine the operation of the CPRS, which will establish a national price for abatement and is designed to ensure the take-up of least-cost emissions reduction opportunities, wherever they occur.

An important feature of emissions trading schemes is that they provide more opportunity than other policy responses to respond in a flexible manner to market conditions. For example, the market can re-adjust should more efficient ways of dealing with emissions present themselves. The Federal Treasury’s modelling report notes that it is impossible to predict what mix of changes in supply and demand across sectors (ie, emission reduction opportunities) will be the most cost-effective over time.74 This underscores the importance of policies that create incentives broadly across the economy but do not prescribe where mitigation should occur. IPART is of the view that the policy target of reducing NSW emissions by 60 per cent by 2050 should be removed.

The NSW GHG emissions reduction target (and, indeed, the proposed NSW Energy Efficiency Target) contrasts with the specific energy saving ‘targets’ under BASIX or that which is envisaged to apply under the proposed Energy Savings Scheme (ESS). The BASIX and ESS targets are constructed or intended to be constructed on the basis of cost-effective energy savings measures targeting specific market failures. IPART has emphasised the importance of ensuring that the basket of measures under these programs and associated targets are regularly reviewed to assess whether they are needed, particularly in the light of increasing energy prices, evolving policy environment and sectoral changes driven by the CPRS.

IPART notes that the NSW Government is currently reviewing the NSW Greenhouse Plan established in November 2005, in the light of the national developments in climate change mitigation policy. It understands that the objective of this review is to develop a new climate change action plan for the state, and the findings IPART’s review will inform the development of the new plan.

IPART finding

1 That the current NSW target for reducing GHG emissions is not consistent with the national approach to climate change mitigation.

74 Commonwealth of Australia, Australia’s Low Pollution Future: The Economics of Climate Change

Mitigation, Summary, October 2008, p 40.



6.3 Findings and recommendations in relation to future policy developments at the national level

In applying the assessment framework to the nominated 26 mitigation programs as part of this review, IPART took into account known policies at the time of the review. The NSW Government’s decision-making in the future will need to take into account any further policy developments that have occurred at the national level.

IPART notes that states and territories are working cooperatively with the Federal Government to ensure coordination/consultation on implementation of the expanded Renewable Energy Target, energy efficiency strategies and clean coal through COAG and other inter-governmental forums.

COAG has agreed to develop a National Strategy for Energy Efficiency by July 2009 to accelerate energy efficiency efforts and to help households and businesses prepare for the introduction of the CPRS. To support the efficient roll-out of this strategy, the roles and responsibilities for each level of government in respect of energy efficiency policies will be streamlined. COAG will consider the inter-governmental agreement on energy efficiency, including any financial arrangements at its next meeting in July 2009.75

Given the likelihood of a national approach to improving energy efficiency in certain areas (eg, energy efficiency in buildings and the approach to public information campaigns), and the need for greater coordination in other areas, IPART considers that the state programs assessed as part of this review may need to be further refined or rationalised once the National Strategy for Energy Efficiency is in place.

In addition, as the national mitigation policies evolve, IPART considers that:

If more ambitious long-term national emissions reduction targets are adopted, there is a case for programs that will assist individuals and organisations to adjust to more stringent emissions constraints, such as support for R&D of lower emissions technologies that could substantially reduce future abatement costs.

It is desirable that governments minimise policy and regulatory uncertainty, where possible.

As there is some interaction between mitigation and non-mitigation policies, governments should consider the potential for non-mitigation policies to help or hinder the CPRS to achieve least-cost abatement.

75 COAG Communiqué, 30 April 2009, pp 7-8.



6.3.1 More ambitious long-term emissions reduction targets would strengthen the case for transitional measures

Meeting the current long-term national emissions reduction target of 60 per cent below 2000 levels by 2050 is expected to require major changes to Australia’s economy. The possibility of more stringent national targets in the medium term and the long term suggest, amongst the various cases for additional government action, a relatively stronger case for targeted and well-designed programs that assist adjustment to future emissions constraints.

These include support for R&D of low-emissions technologies that have the potential to shape future economic activities and thereby lower marginal abatement costs. Given the activity in this area, both nationally and globally, and resource limits, IPART considers that NSW R&D effort should be targeted to areas in which NSW has particular expertise or strengths or a strategic economic interest. There is also a case for well-targeted programs to help people to adjust to tighter future emissions constraints and make choices that will maximise their welfare.

6.3.2 Governments should minimise uncertainty where possible

For individuals and businesses to adequately prepare for emissions constraints, they need to have policy certainty. As the Productivity Commission has noted, establishing the credibility of the carbon permit market and forward emissions prices is widely seen to be of central importance to the cost-effectiveness of mitigation policy.76 Investment in long-lived capital goods and the development of low-emissions technologies will be influenced by expectations about the carbon price. The IPCC has noted if the carbon price signal is effective, significant mitigation potential could be realised in all sectors.77

It is important that additional policies not distort the carbon price signal, as this will influence decisions on the scale and pace of investment. It is also desirable that governments minimise policy and regulatory uncertainty.

The climate change policy environment is changing rapidly, and governments have signalled that additional policy announcements will be made (eg, by COAG). IPART notes that the NSW Government is working cooperatively with other governments on national measures, but considers that it should make a clear policy statement, based on IPART’s assessment framework, on the circumstances in which it will introduce new mitigation policies.

76 Productivity Commission, What Role for Policies to Supplement an Emissions Trading Scheme?:

Productivity Commission submission to the Garnaut Climate Change Review, May 2008, p 11. 77 IPCC Fourth Assessment Report, Working Group III, Summary for Policymakers, p 28.



6.3.3 Governments should consider the potential for non-mitigation policies to help or hinder the CPRS

IPART notes that the introduction of the CPRS will necessitate substantial structural change in the economy. Therefore, there is potential for governments’ broader non-mitigation-related policy settings to help or hinder the CPRS in achieving least-cost abatement. The regulation of energy prices is one of the most important examples, but a wide range of other government policies may be important in facilitating necessary structural change.

The Garnaut Review noted:78

For the emissions trading scheme to have the desired effect of driving new consumption behaviour and investment decisions, it must be well integrated within the broader economy. Barriers to change must be removed or minimised in order that there may be an efficient economic response to the ever diminishing supply of permits.

Importantly, the effectiveness of broader policies in supporting the CPRS and national mitigation policy goals could also affect the scope for tighter emissions reduction targets in future.

There are currently in train reviews of broader policy settings, including the Australian Energy Market Commission’s review of rules and regulations in the energy market in light of national climate change policies.

Although broader policy settings are outside of the scope of this review, IPART considers it would be prudent for the NSW government to consider the potential for such policies to help or hinder the ability of the CPRS to achieve least-cost abatement.

Recommendations

5 That the NSW Government make a clear policy statement, based on IPART’s assessment framework, regarding the circumstances in which it will introduce new mitigation policies.

6 Given the interaction between mitigation and non-mitigation policies, that the NSW Government consider the potential for its non-mitigation policies to help or hinder the ability of the CPRS to achieve least-cost abatement.

78 The Garnaut Climate Change Review, Final Report, September 2008, pp 317-318.



Appendices



A Terms of Reference



NSW REVIEW OF CLIMATE CHANGE MITIGATION MEASURES TERMS OF REFERENCE

I, Nathan Rees, Premier of NSW, under section 9 of the Independent Pricing and Regulatory Tribunal Act 1992, approve the Independent Pricing and Regulatory Tribunal (IPART) entering into an arrangement with the Department of Premier and Cabinet to provide assistance to the Department by conducting a review with the following terms of reference. Scope of the Review The Review is to encompass a list of specific NSW programs and policies provided to IPART by the Department by December 2008. Tasks for the Review In conducting the review, IPART is to: 1. Identify the objectives of each of the programs or policies nominated for review. 2. Recommend a framework for the assessment of any NSW climate change

mitigation measures, to ensure their ongoing efficiency, effectiveness and complementarity to the Commonwealth’s proposed Carbon Pollution Reduction Scheme (CPRS). The framework should address any complementarity principles agreed by COAG, and be able to be applied in future to climate change policy measures retained or proposed by the NSW Government.

3. Use this framework to assess each of the measures nominated for review. 4. Based on this assessment and the range of objectives of each measure, identify

options and make recommendations for the future treatment of any measures which, in IPART’s view, should be:

terminated;

transitional in nature;

redesigned to better complement the CPRS; or

continued as they are complementary to the CPRS and/or an effective means of achieving other objectives of government.



In undertaking the Review, IPART is to have regard to:

the Document of Shared Understanding, including complementarity principles, agreed by COAG in November 2008;

the Commonwealth Government’s Green Paper on the CPRS, and any further related material (such as the expected White Paper) as it becomes available;

the scale and materiality of the measure in question;

any objectives a measure may have in addition to climate change mitigation;

any complementary measures being implemented by the Commonwealth which may interact or overlap with the operation of NSW measures;

transition arrangements if measures are recommended for termination, having regard to the design of the CPRS (including emissions caps and medium to long term targets);

where applicable, options for the redesign of policies and programs to make them complementary to, or more efficient and effective in the context of, the CPRS; and

where available, any analytical frameworks employed by other jurisdictions, and the findings of other jurisdictions’ complementarity reviews.

IPART should undertake consultation with key stakeholders (including NSW Government agencies) in performing the review tasks, to understand views and inform analysis. At a minimum, this should include IPART making a presentation to the NSW Climate Change CEOs Group and the Climate Change Council, and keeping the Government updated as to the progress of the review through the Interdepartmental Reference Group, as set out below. Joint inter-jurisdictional reviews It is possible that the NSW Government may opt to participate with other jurisdictions in joint complementarity reviews of measures that are shared or similar across those jurisdictions. Should this occur, IPART may be asked to participate in the joint review on behalf of NSW (where appropriate, in conjunction with other NSW agencies), and include any findings of these joint reviews in its final report on the NSW Review. The Department will keep IPART informed about the likelihood of any such joint reviews through the Interdepartmental Reference Group described below. Timeframes IPART should provide its final report to the Premier by 30 May 2009. IPART is requested to provide early advice to the Department as to the analytical approach it will adopt in undertaking the Review. This could form part of an issues paper produced by IPART. Given the centrality of the design of the CPRS to the question of complementary measures, it is appropriate that IPART release its issues



paper once the scheme design has been confirmed in the Commonwealth White Paper. Interdepartmental Reference Group An Interdepartmental Reference Group will be formed, consisting of senior officers of the Department of Premier and Cabinet (chair), Department of Environment and Climate Change, Department of Water and Energy, Department of Primary Industries and NSW Treasury. Representatives of other departments may join the Reference Group at the discretion of the Chair. IPART is to meet with this group at least monthly to provide updates on the progress of the review, and to receive ongoing information from the Government, for example in relation to the COAG process and other jurisdictions’ reviews. Background The NSW Government recognises that the national emissions trading scheme, the Carbon Pollution Reduction Scheme (CPRS), will be the principal national policy measure to mitigate climate change by reducing domestic GHG emissions.

The objective of this review is assist the NSW Government to arrive at a streamlined suite of climate change mitigation measures within NSW, that are complementary to the CPRS, and effective and efficient in the context of the national scheme.

B Complementarity principles



Box B.1 COAG complementarity principles

Additional measures should be assessed against the following principles:

1. The measures are targeted at a market failure that is not expected to be adequately addressed by the CPRS or that impinges on its effectiveness in driving emissions reductions

Measures should adhere to the principles of efficiency, effectiveness, equity andadministrative simplicity and be kept under review. They may include:

a) measures targeted at a market failure in a sector that is not covered by the CPRS

b) measures for where the price signals provided by the CPRS are insufficient to overcomeother market failures that prevent the take-up of otherwise cost-effective abatement measures

c) measures targeted at sectors of the economy where price signals may not be assignificant a driver of decision making (eg, land use and planning)

d) some measures in (a) or (b) may only need to be transitional depending on expected changes in coverage or movements in the carbon price.

2. Measures should be tightly targeted to the market failure identified in the above criteriathat are amenable to government intervention. Where the measures are regulatory theyshould meet best practice regulatory principles, including that the benefits of anygovernment intervention should outweigh the costs.

3. Measures may also be targeted to manage the impacts of the CPRS on particular sectors ofthe economy (eg, to address equity or regional development concerns). Where this is the case, in line with regulatory best practice, the non-abatement objective should be clearly identified and it should be established that the measure is the best method of attaining theobjective.

4. Where measures meet the above criteria, they should generally be implemented by thelevel of government that is best able to deliver the measure. In determining this,consideration should be given to which level of government has responsibility as definedby the Constitution or convention/practice, the regulatory and compliance costs that will beimposed on the community, and how the delivery of the measure is best coordinated ormanaged across jurisdictions.

Source: COAG, Communiqué, 29 November 2008.



Box B.2 Wilkins Review - Principles for Complementary Policies

Principle 1: (mitigation) The Government should rely on the emissions trading scheme (ETS) toachieve least cost abatement and only take action in addition to the scheme where there is a demonstrable and compelling case that the market is not working efficiently and thatgovernment action will not distort or undermine the scheme.

Principle 2: (adaptation) The Government’s key role in adaptation should be to facilitate informed decision making across the economy.

Principle 3: (other policy priorities) The Government should take into account the potential forits non-climate change policies to compromise or enhance the ability of the ETS to achieveleast cost abatement.

Principle 4: (roles and responsibilities) The Commonwealth should be primarily responsible formitigation policy and all jurisdictions should contribute to a nationally coordinated approachto adaptation.

Principle 5: (good policy design) As in all areas of policy, climate change measures should conform to best practice policy design, including the need for an evidence-based assessment of options and rigorous evaluation.

Source: Strategic Review of Australian Government Climate Change Programs, Final Report, 31 July 2008, p 22.

C List of Submissions and Roundtable Participants



Submissions

Name of submitter Organisation

Kirsty Norris AGL

Gwen Andrews Alstom Limited Australia

Paul Thomas ANZ Bank (Confidential)

Spike Boydell Asia Pacific Centre for Complex Real Property Rights

Rob Murray-Leach Australasian Energy Performance Contracting Association

Andrew Doig Australian Environment Business Network

Emma Watts Australian Industry Green Network

Roger Sharp Australian Industry Group

Murray Brown Australian Institute of Architects

Belinda Robinson Australian Petroleum Production & Exploration Association Limited

Tom Belsham Big Switch Projects

Andrew Purvis BlueScope Steel (Confidential)

Richard Strauch Boral Limited

Monica Barone City of Sydney Council

Rob Jackson Clean Energy Council

Natalie Lindsay Country Energy

Martin Jones CSR Limited

Simon Smith Department of Environment & Climate Change

Rod Hislop Energeering Pty Ltd

Greg Pritchard Energy Developments

Ron Hardwick Energy Markets Reform Forum

Cameron O'Reilly Energy Retailers Association of Australia Inc.

Clare Savage Energy Supply Association of Australia

Mike Bailey EnergyAustralia

Garry Smith ENSR Australia Pty Ltd

Jeff Rice Envirogen Pty Limited



Name of submitter Organisation

Fiona Wain Environment Business Australia

Robert Ghanem Environmental Defender's Office (NSW)

David Duncan Facility Management Association of Australia

David Eckstein Individual

William Gray Individual

Lyndall McCormack Individual

Brian Phillips Individual

Alex Portnoy Individual

Murray Scott Individual

Vince Graham Integral Energy

Brett Maple LMS Generation

Amy Lovesey Local Government Association of NSW and Shires Association of NSW

David Johnston Model Farms High School

David Johnston Model Farms High School (Confidential)

John Boshier National Generation Forum

Paul Orton NSW Business Chamber

Nicole Williams NSW Minerals Council Ltd

Tim O'Grady Origin Energy

Margaret Donnan Plastics & Chemicals Industries Association

Angus Nardi Property Council of Australia

Gareth Jennings Rheem Australia Pty Ltd

Kaye Herald Royal Institute of Chartered Surveyors

Michael Kachka Sustainability Today

Kerry Schott Sydney Water

Peter Szental Szencorp Sustainable Development

Richard Denniss The Australia Institute

Jeff Angel Total Environment Centre

David McAloon TRU Energy



List of attendees at roundtable

Name Surname Organisation

Michael Keating IPART

James Cox IPART

Sibylle Krieger IPART

Steve Lyndon IPART

Eric Groom IPART

Angela Woo IPART

Dennis Mahoney IPART

Jean-Marc Kutschukian IPART

Letitia Watson-Ley IPART

Other attendees

Michael Scott Alstom Limited Australia

Simon James Australasian Energy Performance Contracting Association (Representing)

Andrew de Montemas

Australian Industry Group

Caroline Pidcock Australian Institute of Architects

Michael Hitchens Australian Industry Green Network

Maria Atkinson Climate Change Council

Lorraine Stephenson Climate Change Council

Simon Smith Department of Environment & Climate Change

John Hudson Department of Planning

Brad Mullard Department of Primary Industries

David Hemming Department of Water & Energy

Alistair Phillips Energy Retailers Association of Australia Inc.

Chris Dunstan Institute for Sustainable Futures

Genia McCaffery Local Government Association of NSW and Shires Association of NSW

Sue-Ern Tan NSW Minerals Council Ltd

Angus Nardi Property Council of Australia

Tony Ceapa Szencorp Sustainable Development

Jeff Angel Total Environment Centre

D Carbon Pollution Reduction Scheme



The economic costs of GHG emissions are not currently reflected in the costs of businesses or in the price of goods and services. Because those who emit do not face costs from increasing emissions, GHG emissions are higher than socially optimal levels. This imposes costs on society as a whole, rather than only the firms and individuals producing the GHG emissions. Such costs are known as ‘negative externalities’.

GHG emissions are a particularly complex type of negative externality, because they have global and inter-generational effects. Further, climate change is caused by GHG emissions accumulating in the atmosphere over time, rather than by the quantity of GHG emissions produced in any given year (although this quantity contributes to the accumulation). As GHG emissions can remain in the atmosphere for up to 100 years, producing GHG emissions now can have a long-term influence on climate change.79 The CPRS is aimed at redressing this negative externality.

Cap and trade scheme

The CPRS will be a ‘cap and trade’ scheme.80 The cap will set a limit on aggregate emissions from all firms in the sectors covered by the scheme. The Federal Government will set annual caps and reduce the level of caps over time, increasing the abatement that must occur. The government will issue permits that entitle the holder to emit GHG emissions. The total number of permits available will be equal to the scheme cap. Entities in the sectors covered by the CPRS will be required to acquire and surrender a permit for each tonne of GHG emissions they produce during a year.

Setting a cap on GHG emissions means that the right to emit will become scarce and therefore valuable. This scarcity creates a price for GHG emissions or a ‘carbon price’,81 which is represented by the price of permits. Trading in permits will ensure that permits go to firms that value them most highly – ie, those that face higher relative costs from reducing their GHG emissions. The market will determine how or where emissions are reduced, and the price of permits (ie, the carbon price).

79 Stern Review, The Economics of Climate Change, October 2006, p 25. 80 DCC, White Paper, December 2008, p 5-8. 81 GHG emissions are predominantly carbon-based. In line with the convention adopted by policy

makers, all references to carbon emissions or carbon price in this issues paper have the same meaning as GHG emissions and price.



Creating a carbon price increases the relative prices of goods and services that have the most GHG emissions associated with their production and use. This is expected to provide incentives for people and firms to reduce GHG emissions, choose less emissions-intensive goods, technologies and processes, and invest in low-emissions technologies.

The carbon price will reflect the market’s best estimates of the current and future costs of reducing emissions in accordance with the scheme cap.82 The trading of permits will establish a forward path for emission prices (ie, an indication of what emissions prices are likely to be in the future). Scheme caps will be set to facilitate a national emissions trajectory that is consistent with the Federal Government’s medium-term target range of 5 to 15 per cent below 2000 levels by 2020.

CPRS will have maximum coverage

The CPRS will cover all six GHGs listed under the Kyoto Protocol.83

The scheme will have maximum coverage of industry sectors, to the extent that this is practical.84 Broad scheme coverage will lower the overall cost of the CPRS, as it will increase the number of opportunities for abatement. It will also improve the effectiveness of the scheme because not including some sectors may mean that relatively low-cost abatement opportunities in those sectors are not captured.

The CPRS will initially cover five of the seven sectors accounted for under the Kyoto Protocol: the stationary energy, transport, fugitive emissions, industrial processes and waste sectors.85 Figure D.1 sets out those seven sectors, and the proportion of GHG emissions they are responsible for in Australia.

82 DCC, White Paper, December 2008, p 8-29. 83 These gases are Carbon Dioxide, Methane, Nitrous Oxide, Hydrofluorocarbons, Perfluoro-

carbons and Sulphur Hexafluoride: DCC, White Paper, December 2008, p 6-4. 84 DCC, White Paper, December 2008, p 6-1. 85 DCC, White Paper, December 2008, pp 6-9, 6-12, 6-30, 6-32 & 6-34 – 6-39.



Figure D.1 Australia’s GHG emissions by sector in 2006

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

Stationaryenergy

Transport Fugitiveemissions

Industrialprocesses

Agriculture Waste Land use,land usechange

andforestry

Sector

Perc

enta

ge

Share of emissions in 2006

Source: Australian Government, Department of Climate Change, National Greenhouse Gas Inventory 2006, June 2008, pp 1, 6 -15.

The CPRS aims to cover around 75 per cent of emissions at the commencement of the scheme. The aim is to include remaining sectors when practicable. A decision on including or excluding agriculture will be made in 2013.86 The waste sector will be included in the CPRS, but “legacy” emissions will be excluded until 2018.87

As the CPRS will not cover all sources of emissions, the scheme cap and Australia’s total national emissions target will be different. The Federal Government proposes to reconcile the difference by notionally allocating permits for sources of emissions not covered by the scheme and retiring these each year on behalf of the uncovered sectors.88

Scheme will allow international linkages

The CPRS is designed to link with international emissions trading markets and schemes, both in view of the importance of coordinated action to reduce the risks of climate change and the role that access to other markets could play in reducing the overall costs of Australia’s (and other countries’) mitigation efforts.

The Federal government envisages that international linkages will reduce the overall scheme cost, through broadening the range of available abatement opportunities. If international abatement opportunities are cheaper than domestic opportunities, entities can pursue the less expensive opportunities first. The global environmental outcome is unchanged.89 Enabling international linkages will mean that the

86 DCC, White Paper, December 2008, p 6-46. 87 DCC, White Paper, December 2008, p 6-34. 88 DCC, White Paper, December 2008, p 10-18. 89 DCC, White Paper, December 2008, p 11-3.



Australian permit price will be influenced by the demand and supply conditions in international carbon markets.90

Measures will be developed to help businesses and households adjust to impacts of the scheme

The Federal Government will provide assistance to firms operating in emissions-intensive industries that operate in competitive international markets.91 This will take the form of allocating free permits to the most emissions-intensive trade-exposed activities.

The government will also introduce a number of measures which limit the impact of the CPRS, especially in its initial stages. The key aim of these measures is to assist firms and individuals with the transition to a fully functioning CPRS. These include:

Changes to the tax and transfer systems and energy efficiency measures to assist households (particularly low and middle income households) adjust to the impact of carbon prices and to help them reduce their emissions.92

Offsetting the CPRS’ impact on fuel prices for three years by reducing fuel taxes.93

A $2.15 billion Climate Change Action Fund will be set up to assist businesses, community organisations, workers, and communities adjust to a lower emissions economy.94 Types of activities which may be funded include provision of information about the CPRS and how to manage its impacts, investment in energy efficiency projects and new low-emissions processes, and structural adjustment assistance for people and sectors significantly affected by the scheme.95

Assistance will be provided to firms in strongly affected industries, including coal-fired electricity generators, to help them make structural adjustments.96

The Federal Government will set a fixed price of $10 for permits in 2011/1297 and place a cap on the price of permits from 2012/13 to 2014/15, which will reduce the up-side price risk for individual firms and cap the costs of the scheme overall.98 It is aiming to set the price cap above the estimated market price for permits, so that it is only used in exceptional circumstances. As the estimated carbon price at scheme start99 is between $23 – $32 per tonne of GHG emissions (t/CO2-e) in nominal terms, the government has decided to set a price cap for five years of $40/tCO2-e in nominal terms at scheme commencement, rising in real terms by five per cent a year.100

90 Ibid. 91 DCC, White Paper, December 2008, p 12-1. 92 DCC, White Paper, December 2008, pp 17-9 & 17-19. 93 DCC, White Paper, December 2008, p 17-16. 94 DCC, White Paper, December 2008, p 18-3 95 DCC, White Paper, December 2008, p 18-14. 96 DCC, White Paper, December 2008, p 13-6. 97 DCC, Deferral of Mandatory Obligations under the Carbon Pollution Reduction Scheme, 4 May 2009. 98 DCC, White Paper, December 2008, p 8-34. 99 Previously mid 2010. 100 DCC, White Paper, December 2008, pp 8-37 – 8-38.

E Future Electricity Prices



E.1 Federal Treasury’s series on future electricity prices

Estimates of future carbon-inclusive electricity prices were made available to IPART by the Federal Treasury whose consultant MMA had modelled the effects of the CPRS and other policies on the electricity sector in Australia.101

MMA projected increases in wholesale and retail electricity prices for NSW and Australia under various assumptions about the size of targeted reductions in carbon emissions under the CPRS. It also modelled how prices would change under a “business-as-usual” (BAU) scenario, which MMA called its reference case. The reference case assumed all existing policy measures remain, namely the Queensland Gas Electricity Generation Target, the NSW and ACT GGAS Reduction Scheme and a renewable energy target was limited to the existing MRET and VRET schemes.

The CPRS scenarios include the expanded 45,000 GWh RET which is reached in 2020, remains constant until 2024, then is phased out by 2035. Queensland Gas Scheme and Green Power remain. All other policy measures cease once the CPRS starts.102

MMA’s retail price series assume the increased wholesale energy costs it projected, a real rise in network charges of around 5 per cent per annum until 2024 and a downward adjustment to demand in response to higher electricity prices.

As Figure E1 indicates, there is a large gap between the retail prices that MMA projects under its BAU case. In the BAU case emissions continue to grow. Under the CPRS the level of emissions fall as a result of a combination of a rising carbon price, the expanded RET and other emissions-curtailing structural changes.

If the higher carbon price were to pass through fully to retail prices (as MMA assumes), in 2020 it would account for about 95 per cent of the price rise under

101 MMA, Impacts of the Carbon Pollution Reduction Scheme on Australia's Electricity Markets - Report to

Treasury, 11 December 2008. 102 MMA Report to Treasury, 11 December 2008, p 18 and Australia's Low Pollution Future: The

Economics of Climate Change, p 231.



CPRS-5 relative to BAU and for more than all the price rise relative to BU under CPRS-15.103

Figure E.1 MMA’s retail price projections (in mid-2007 dollars)

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100

120

140

160

180

200

220

240

2009/10 2014/15 2019/20 2024/25 2029/30 2034/35 2039/40 2044/45 2049/50

Reference case

CPRS-5

CPRS-15

$/MWh

Source: Federal Treasury, IPART.

The increases in retail prices relative to the reference case are shown in Table E1. The increases are marginally larger in NSW under the CPRS, reflecting the fact that NSW wholesale electricity prices are amongst the lowest in Australia.

Table E.1 MMA retail price changes relative to reference case

CPRS-5 CPRS-15

2010-2020 2021-2030 2031-2050 2010-2020 2021-2030 2031-2050

NSW

$/MWh rise 32 56 66 34 61 83

% rise 32 50 54 34 55 68

Australia

$/MWh rise 29 53 65 30 57 76

% rise 28 45 52 29 49 62

Source: MMA Report to Federal Treasury, Impacts of the Carbon Pollution Reduction Scheme on Australia’s Electricity Markets, 11 December 2008, p 49 for the NSW numbers and IPART calculations for the Australia numbers.

103 To see this, in Chapter 4 compare the carbon prices in Figure 3.3 with the retail prices in Figure

3.4, noting that the former are in 2005 dollars per tonne of CO2-e and the latter in 2007 dollars per MWh. Adjusting both to 2005 dollars in tCO2-e, by 2020 the carbon price is $35 under CPRS-5 and the retail price has risen above BAU by $37. Under CPRS-15 the carbon price by 2020 is $50 but the retail price has only risen by $38 above the BAU case.



The advantage of the MMA projected increases is that MMA’s post-CPRS estimates of electricity prices are based on three major planks of the Federal Government’s mitigation policy (CPRS, expanded MRET and clean coal) and the wind-up of GGAS. MMA has therefore produced a superior set of estimates of the potential impact of mitigation policies on electricity prices than a current-electricity-price-plus-carbon-price approach could do.

Even if the MMA estimates prove inaccurate, they are more consistent in that both carbon prices and electricity prices are being forecast within the same analytical framework and on the same underlying assumptions. The modelling cannot reflect the effect of programs recently announced, such as the energy efficiency policies announced by the Federal Government in March and by COAG in April 2009.

IPART has chosen to use MMA’s price series as the best available for its purposes, subject to two important amendments.104

E.2 Prices relevant to NSW customer groups

The MMA retail price series is based on a basket of retail prices, both regulated and negotiated. From related research done by MMA, IPART has identified that the basket comprises three prices which MMA labelled ‘Residential’, ‘Commercial’ and ‘Industrial’.105 Since IPART is assessing NSW mitigation programs that apply to households, small and large businesses and government agencies, it must decompose the MMA price projections into estimates for each user category since the resources required to supply energy to each group is different, as reflected in the different prices charged to them by the electricity sector.

MMA distinguished between ‘Commercial’ and ‘Industrial” on the basis of industry classification. Under ‘Commercial’ are retail and wholesale trade, construction, public utilities, financial services and other commercial buildings. Under ‘Industrial’ are agriculture, mining, wood, paper and printing, petroleum, coal, chemicals, non-metallic mineral products, metals and other industries not covered in ‘Commercial’.106

104 IPART was not able to obtain the annual data underlying the retail price projections for NSW.

However, the price increases are broadly similar between NSW and Australia in Table E.1, so the MMA Australian series are taken to be the best available guide to NSW price projections.

105 The weights in the basket reflect the shares of each sector in NSW electricity consumption – expected to be 32 per cent, 26 per cent and 42 per cent respectively in 2010. Source: MMA Benefits and Costs of an Energy Efficiency Program for the NSW Energy Sector, Report to DECC, December 2008, p 6.

106 DECC, private communication to IPART, 6 May 2009.



The MMA average price paid in 2009/10 was $54/MWh for ‘Industrial’ users, $98/MWh for ‘Commercial’ users and $122 for ‘Residential’.107 The Residential price series would seem to be directly applicable to the NSW mitigation programs that save emissions and energy in NSW households. The large average price difference between ‘Industrial’ and ‘Commercial’ may reflect the fact that the largest energy users, who pay the lowest electricity tariffs, dominate the ‘Industrial’ sector and are sparse in the ‘Commercial’ sector.

The dividing line between ‘small’ and ‘large’ can be usefully considered as occurring at 160 kWh per annum. The Electricity Supply Act 1995 provides for IPART to set regulated retail prices for “small retail” customers that are not supplied under a negotiated contract. The class of customer is defined as those using less than 160 MWh of electricity per year, equivalent to an annual bill of around $20,000 in 2008/09, implying an average bill per MWh of $125.108

For NSW government agencies whose electricity bills exceed 160 MWh per annum, they may enter into contracts with EnergyAustralia under State Contract 777.109 This contract delivers fixed-price electricity for large sites, street lighting and traffic signals. Energy prices for the contract period 1 July 2006 to 30 June 2009 were disclosed to IPART on a confidential basis.110 The gap between the prices paid per MWh by small and large users was considerable.

Ideally, in order to accurately assess the cost-effectiveness of NSW mitigation programs that involve NSW Government agencies, the electricity tariffs faced by those agencies should be the ones used to value the savings in emissions and energy made by agencies under the CPRS. However, to specify the size of the gap that exists between the electricity tariffs paid by small and large agencies may breach commercial confidentiality for the large agencies. IPART has therefore applied the ‘Commercial’ rate to all agencies regardless of size, accepting that it is understating the electricity prices faced by the small agencies and therefore understating the cost-effectiveness of the programs involving them.

Of the government-related programs, only Sustainability Policy has been subject to formal cost-effectiveness calculations. That policy covers both small and large NSW Government agencies.

107 MMA, Benefits and Costs of an Energy Efficiency Program for the NSW Energy Sector, Report to

DECC, December 2008, p 43. 108 It may be objected that IPART is using a regulated rate as a reference point to an MMA tariff

that is a mix of regulated and contract rates. IPART acknowledges this but also notes that the majority of customers using less than 160 MWh remain on regulated rates. As at 30 June 2006, 58 per cent, 71 per cent and 95 per cent of customers in the EnergyAustralia, Integral Energy and Country Energy standard supply areas respectively were on a regulated tariff. Source: IPART, Promoting retail competition and investment in the NSW electricity industry: Regulated electricity retail tariffs and charges for small customers 2007 to 2010, June 2007, p 29.

109 Contract 777 can also be utilised by non-profit organisations, universities and local councils which meet the contract’s qualifying criteria.

110 NSW Department of Commerce confidential private communication with IPART, 12 May 2009.



Of the business-related programs that relate to non-government entities, five have been subject to formal cost-effectiveness assessments in Volume 2. They are Schools Energy Efficiency, Public Facilities, Small Business Energy Efficiency, Green Business and expanding Sustainability Advantage. It is likely that small (sub-160 kWh) energy users would characterise the first three programs while larger (160+ kWh) energy users would predominate in the latter two. To the former IPART has applied the ‘Commercial’ rate and to the latter the ‘Industrial’ rate

IPART recognises that it is highly likely that ‘Commercial’ is a blended rate that includes some large energy users, such as shopping centres. Using this rate for small business users is therefore likely to understate the electricity prices they face and thus understate the value under a CPRS of the emissions and energy they save. This means that the cost-effectiveness of the NSW mitigation programs for small businesses would also be understated as well.

In sum, in the absence of better evidence, IPART has used MMA prices for ‘Commercial’ as a proxy for prices paid by small business and government agencies, MMA prices for ‘Industrial’ as a proxy for the prices paid by large businesses and ‘Residential’ as the proxy for prices paid by NSW households. All prices have been inflated into 2010/11 dollars.

Despite the data limitations and their applicability to the categories of energy users assisted by the NSW programs, IPART believes that this approach was preferable to using the one MMA aggregate price series as a proxy for the electricity prices faced by the households, businesses and government agencies in NSW on the ground that the different prices reflect the different resource costs of supplying electricity to the different classes of energy user.

For future NSW mitigation programs the electricity price to be used should be as close as possible to the prices actually paid by the energy users affected (on the key assumption that those prices reflect the real resource costs to the economy of supplying the electricity to those users).

E.3 Electricity prices that capture the major increase of 2009/10

When it released its report, MMA was unaware of pricing determinations under consideration by the Australian Energy Regulator (AER) and IPART for NSW for 2009/10 and beyond. For example, MMA had assumed that network tariffs would rise at a steady five per cent per annum in real terms. Instead, the AER’s recent draft transmission and distribution price determinations indicate that there will be a large flow-through of network tariffs into retail prices in 2009/10.

IPART’s recent retail pricing determination indicates that at least half of the price increase in 2009/10 is driven by network prices.111 Further, many of the negotiated

111 IPART, Market-based electricity purchase cost allowance – 2009 review: Regulated electricity retail

tariffs and charges for small customers 2007 to 2010 - Final Report, May 2009, p 2.



prices agreed between users and retailers are related to regulated prices (if they exist) and changes in regulated prices appear to impact quite closely on negotiated prices.

Therefore, it seems highly likely to IPART that some of the imminent retail price increases are a bringing forward of the increases factored later into MMA’s forecasts. To apply the MMA trajectory for retail prices to the 2009/10 regulatory retail price levels in NSW would result in double-counting.

To minimise the risk of double-counting, IPART has increased MMA’s 2009/10 starting prices by the expected rise in NSW regulated retail prices of around 20.6 per cent112 and has then converged the price path to the MMA price projections by 2017/18. This assumes that network price pass-throughs would be fully captured in the MMA projections by that year.

Figure E.2 present the final retail price projections used by IPART for assessing residential mitigation programs under the CPRS-5. A similar three series have been generated for use under CPRS-15.

The starting prices are MMA’s 2009/10 prices inflated to 2010/11 dollars and increased by a real retail price rise of 20.6 per cent. The 2009/10 starting prices converge to the MMA prices as at 2017/18.

Figure E.2 IPART’s electricity price projections under CPRS-5

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260

300

2009/10 2012/13 2015/16 2018/19 2021/22 2024/25 2027/28 2030/31 2033/34 2036/37 2039/40 2042/43 2010/46 2048/49

Commercial

Residential

$/MWh Retail Price Projections

Industrial


112 Calculated by weighting the average percentage increase in each standard retailer’s regulated

prices by its regulated customer numbers in 2005/06. Source: IPART Promoting retail competition and investment in the NSW electricity industry: Regulated electricity retail tariffs and charges for small customers 2007 to 2010, Final Report and Final Determination, June 2007, Table 4.1, p 42.



E.4 Electricity price projections compared: MMA, ACIL-Tasman and CRAI

In its report to the Business Council of Australia (BCA), Port Jackson Partners summarised the electricity price projections made to 2020 by the two other major studies into the effects of a CPRS/MRET on the Australian economy.113 The two studies, by ACIL-Tasman and CRA International, generated the price projections reproduced in Figure E.3.

Figure E.3 Wholesale electricity price projections by ACIL-Tasman and CRA, $/MWh in 2007 dollars

Source: Port Jackson Partners, Report prepared for the BCA 21 August 2008, Exhibit 4.3, p 103.

Wholesale prices. ACIL-Tasman’s wholesale prices rise $25 or 43 per cent above its base case by 2020. CRA’s wholesale price projections rise $43 or 85 per cent above its base case. Comparable MMA whole price projections rise $42 or 125 per cent above its reference case. The absolute MMA increase is about the same size as the rise in CRA’s. The percentage rise is much higher, but this is because MMA’s reference case projects wholesale prices to decline to 2020 (see Figure E.4).

In terms of levels of wholesale prices in 2020, MMA projects that prices will be around $80/MWh in 2007 dollars, which is similar to ACIL-Tasman’s projected level and somewhat lower than CRA’s.

113 The Report by Port Jackson Partners is entitled Bringing specific company economic perspectives to

bear on the ETS design 21 August 2008 and it is contained within the BCA publication How Emissions Trading Can Work for the Environment and the Economy which is available on the BCA website.



Figure E.4 Wholesale electricity price projections by MMA, $/MWh in 2007 dollars

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40

50

60

70

80

90

2008/09 2009/10 2010/11 2011/12 2012/13 2013/14 2014/15 2015/16 2016/17 2017/18 2018/19 2019/20

Reference case

CPRS-5

CPRS-15

reproducing MMA Fig 4.2 as in MMA report to

$42/MWh, or 112% increase from reference case

$2007, $/MWh


Retail prices. In Figure E.5, ACIL-Tasman projects that retail prices will increase by 3.5 c/kWh (which is $35/MWh) or 24 per cent rise over its base case by 2020. CRAI shows a $49 or 37 per cent rise over its base case. By comparison the MMA retail price projections increase by $44 or 40 per cent over its reference case which places the absolute size of the rise midway between the CRAI and ACIL-Tasman outcomes and larger than both in percentage terms.

Figure E.5 Retail price projections by ACIL-Tasman and CRA, c/kWh

Source: Port Jackson Partners, Report prepared for the BCA 21 August 2008, Exhibit 4.5, p 105.



More importantly, the level of the retail price by 2020 is lowest for the MMA projections, $158/MWh compared to $178/MWh in ACIL-Tasman’s projections and $180/MWh in CRAI’s projections. That is, despite differences in modelling, rate of increase and break-up between wholesale and retail prices, the MMA retail prices are lower than either the ACIL-Tasman or CRA retail prices by 2020.

IPART’s use of the MMA price projections is therefore defensible and that, on the basis of the available information, it will not be “over-pricing” the abatement expected from the 26 NSW programs under a CPRS. Indeed, the lower MMA prices mean that the comparison between the cost of abatement under the NSW programs and under the CPRS will be less favourable to the programs than if higher post-CPRS prices were used.

Documents

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