Treasury on ETS vs carbon tax

Treasury has produced an interesting paper on the pros and cons of a carbon tax vs an emissions trading scheme. Some people think there should be no cost added to carbon, but for those who think there should be, it is important to have the most efficient cost. Treasury's paper says:

Treasury does not support replacing the ETS with a carbon tax. We think the ETS is preferable to a carbon tax, because it can provide certainty about the level of domestic emissions. This fits well with our international obligations, which set a limit on total emissions. Emissions trading schemes are also easier to link with other countries, which helps ensure that the lowest cost abatement opportunities are taken between countries.

If further emissions reductions are needed, we recommend increasing prices in the ETS by introducing a price floor, removing the two-for-one rule for emitters, or reducing free allocations

They go into the specifics:

The main difference between the two approaches is that carbon taxes provide certainty about the price but leave total emissions uncertain, while trading schemes allow the price to adjust to deliver a certain level of total abatement. We think that certainty about total abatement levels is more important than price certainty, because our international obligations require us to achieve specific amounts of emissions reductions. ETS’s are well-placed to achieve these quantitative targets.

So a carbon tax is arguably better for businesses, as it gives them price certainty. However an ETS is better for a Government as a tool to deliver a certain level of abatement.

Emissions trading schemes can be easily linked internationally, giving access to cheaper abatement opportunities overseas. This allows the market to find the lowest cost mix of domestic and international abatement to achieve an abatement target. This is particularly important for New Zealand, given that we have limited low-cost domestic abatement opportunities.

The problem is though that the cheaper abatement opportunities overseas have meant that the ETS hasn’t actually provided any incentive to reduce emissions in NZ, and hence we have an expensive regulatory scheme that isn’t actually incentivising change.

Political commentator David Farrar posts at Kiwiblog.