Environmental, Social & Governance Discussions

Categories ESG DiscussionsPosted on

Chapter 2. The Evolution of ESG – PART III

 Introductory articles on emerging exposures, risk mitigation and
insurance risk transfer for clients of Omnisure.

 A compendium of introductory ESG articles on emerging exposures, risk mitigation and insurance risk
transfer for clients of Omnisure with claims examples.
Martin Birch – March 2022

Ch 2. The Evolution of ESG – PART III.

Carbon Pricing

Carbon Pricing is a key component of the Paris agreement. Corrs Chambers Westgarth  (“CCW”) explored the carbon pricing mechanisms including what they are, what they strive to achieve, how they can be imposed, and why these matter to Australian businesses 1. Carbon pricing is important because COP26 concluded in Glasgow with nearly 200 countries agreeing via the Glasgow Climate Pact to keep 1.50 C alive and finalise the outstanding elements of the Paris Agreement. The Paris Rulebook, the guidelines for how the Paris Agreement is delivered, was also completed at COP26 after six years of discussions. That will allow for the full delivery of the landmark accord, after agreement on a transparency process which will hold countries to account as they deliver on their targets. This includes Article 6, which establishes a robust framework for countries to exchange carbon credits through the UNFCCC Article 6 of the Paris Agreement.2  Article 6 envisages an international mechanism for pricing carbon.

Carbon pricing basics

CWG suggest the following key things you need to know regarding carbon pricing:

  • the number of carbon pricing schemes around the world continue to grow, and there are rising concerns about ‘carbon leakage’ (that is, shifting rather than avoiding overall emissions) and ways to prevent it, such as through levies on imports (so-called border adjustment mechanisms);
  • there are also concerns about the complexity and compatibility of a patchwork of unilateral pricing schemes in a global economy;
  • against this context, experts predict that it ‘seems inevitable that a price will be put on carbon around the world’;
  • the price on carbon may come to affect businesses around the world; and
  • Australian businesses should pay attention to this rapidly evolving issue and adopt appropriate risk mitigation measures having regard to their carbon exposure.

Australian Emissions Reduction Fund & Australian Carbon Credit Units

Australian climate policy has been a polarising political issue in Australia. The Australian Labour Party Government established a carbon pricing mechanism in 2012. This was repealed by the Abbott Government in 2014. Instead, the Emissions Reduction Fund (ERF) is now the centrepiece of the Australian Government’s current policies to limit greenhouse gas emissions. Under the ERF, the Government purchases greenhouse gas abatement, quantified by Australian Carbon Credit Units (“ACCUs”) through an auction process administered by the Clean Energy Regulator. Before a project can participate (or bid) in an ERF auction, it must be eligible and registered with the Clean Energy Regulator (“CER”) who issues ACCUs. Please refer to Ch 6 in our Foundation Document for a more detailed discussion including, most relevantly, the move to an exchanged traded market for ACCUs.

Carbon has a broad meaning

In climate related discussions, ‘carbon’ has broader meaning than just its elemental form and can mean different things in different contexts.  In a climate context ‘carbon’ is often a catch-all term for greenhouse gases which include, but are not limited to, carbon dioxide. This means that ‘carbon emissions’ is intended to capture all greenhouse gas emissions, and ‘embodied carbon’ means the greenhouse gas emissions associated with production of a particular item. With this in mind, ‘carbon price’ describes the price attributable to greenhouse gas emissions, determined by reference to carbon dioxide equivalence.

The world bank describes Carbon pricing as an instrument that captures the external costs of greenhouse gas (GHG) emissions—the costs of emissions that the public pays for, such as damage to crops, health care costs from heat waves and droughts, and loss of property from flooding and sea level rise—and ties them to their sources through a price, usually in the form of a price on the carbon dioxide (CO2) emitted 3.

Why should we price carbon?

The need for a carbon price has been justified in many ways. A fairly typical view is that we are paying a price for fossil fuels, but that price is not paid by those that burn the fossil fuels. A carbon price in contrast, means that those who cause the emissions also pay for them4.

With the number of countries and companies announcing net zero commitments continuing to grow, experts have observed that ‘it seems inevitable that a price will eventually be put on carbon around the world’ say CCW.  Please refer to our Foundation Document5 for a more comprehensive discussion.

A total of 64 carbon pricing instruments are now in operation around the world, covering over 20% of global greenhouse gas emissions and generating $53 billion in revenue. The two most common forms of carbon pricing in Australia are a carbon tax and emissions trading schemes. The call for an international carbon price has existed for some time driven by concerns about the complexity and compatibility of multiple independent pricing schemes in a global economy and about potential ‘carbon leakage’, such as when a company can ‘forum shop’ to reduce cost, by choosing to establish or relocate production to jurisdictions with low or no carbon ambitions where they do not need to ‘pay’ for their carbon emissions.

Please see our Foundation Document for a full discussion on Carbon Pricing, including commentary on why a carbon price matters.

The manifestation of heightened expectations of APRA-regulated companies to manage the financial risks of climate change can be found in new prudential guidelines issued by APRA, with ASIC and the Reserve Bank lending support to industries calls for action.  These are explored in our Foundation Document.

1 https://www.corrs.com.au/insights/anticipating-the-future-a-close-look-at-carbon-pricing
2 https://ukcop26.org/cop26-keeps-1-5c-alive-and-finalises-paris-agreement/
3 https://carbonpricingdashboard.worldbank.org/what-carbon-pricing
4 https://ourworldindata.org/carbon-price
5 Our Foundation Document is the original full text version of “ESG Discussions – Introductory articles on emerging exposures, risk mitigation & insurance risk transfer” for clients of Omnisure, compiled by Martin Birch. Register on our website for a full copy.
5 In addition to the 1.5 degree Celsius target, the Paris Agreement contains a series of strategies for reducing and limiting the impacts of climate change including the Nationally Determined Contributions (NDCs), provision for possible emissions trading mechanisms, as well as financing for transition in developing nations.

Please contact Martin Birch for a copy of the full-text Foundation Document at martin.birch@omnisure.com.au