Why the Australian Government’s Economic Modelling of Greenhouse Abatement is Flawed - the Advantages of Emission Permits

The Federal Australian Government has used the results of computer modelling by ABARE, which predict supposedly major economic costs from reducing greenhouse gas emissions, to justify its international stance arguing for the right for Australia to continue increasing emissions. Attempts to challenge this modelling have been hampered by the lack of detail given over the assumptions within the model. However, one crucial assumption made in this modelling is that the policy tool for emission reductions is a non-recycled carbon tax – i.e. the tax receipts are only used to reduce government debt, rather than to provide subsidies for further emission reductions. This paper discusses the assumptions and results of the ABARE modelling, and suggests that at least some of the apparently absurd results may actually be realistic given their chosen policy tool. It is then argued that emission permits on competing energy retail companies would be a far more effective way of encouraging emission reductions. By applying incentives for emission reductions without necessarily increasing the price of energy, and by effectively exploiting the advantages of carbon tax recycling, it is argued that the price rises required to reduce emissions to 10% below 1992 levels by 2020 would be at least 10 times less than suggested by ABARE when using a carbon tax. Thus real prices would rise by no more than 0.34% per year, and economic growth would be reduced by no more than 0.01% absolute. A politically expedient way of setting emission permits would be to set them at the industry-average emissions-per-customer, thus allowing competition for over-permit fees and under-permit rebates to drive down the permit level. These advantages of permits do not, however, justify calls for international tradeable permits.