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The Safeguard Mechanism 2.0 is not ‘safe’​ for heavy emitters anymore…

When the Safeguard Mechanism (SGM) was initially designed by the LNP coalition and legislated by the Clean Energy Regulator (CER) with the support of Nick Xenophon in 2015 it was mooted as a policy to ‘stop rogue emitters’, and to eventually ‘ratchet down emissions’ over time. Unfortunately, the SGM has failed to do any such thing. The ALP have vowed to change this by 1 July 2023 and as the SGM has become the centrepiece of their domestic climate policy – it’s time to unpack the following:

  1. What it is
  2. Why it has failed to date and what needs to change
  3. What challenges will be presented to policy makers in the coming months
  4. What business should do now

What is the Safeguard Mechanism and what has it delivered?

In it’s simplest form, the SGM provides a baseline for facilities that represents their BAU scope 1 – or direct – emissions. Around 250 facilities are currently covered under the SGM as they emit over 100,000 tonnes of carbon dioxide equivalents (tCO2-e) each year. For context, a medium car travelling 5,000 kms will emit around 1tCO2-e. If the facility exceeds the annual baseline by increasing output or emissions intensity, then theoretically it has to make good, or ‘net out’ it’s position by purchasing and surrendering Australian Carbon Credit Units, or ACCUs. ACCUs are currently trading at around $35 a unit. So, if my facility has a baseline of 110,000 tCO2-e and I emit 115,000 tCO2-e I will need to purchase 5,000 ACCUs at a cost of around $175,000. Sounds like a decent deterrent – particularly when ACCUs were worth more than $50 a unit which was the case just a few months back, but that’s another story…

Aside from a brief hiatus for transport emissions that decreased during COVID, every single source of direct emissions under the SGM has actually risen.

What about emissions from electricity generation? These have decreased due to the Renewable Energy Target (or RET), not the SGM. Further, the RET is essentially neutered now as the 20% by 2020 target has now been met, although state commitments and voluntary action are generally propping up new developments to a degree. Further, electricity generator emissions are effectively excluded from the SGM under it’s current design. In short, our nation has become a bunch of ‘rogue emitters’, even though business has followed the legislative requirements to the letter. To add insult to injury, based on our current trajectories, we are not on target to hit the LNPs Paris target of 26-28% reduction by 2030, let alone the ALP’s target of 43% by 2030. For more details, view our economy wide emissions data and progress towards the Paris target in our quarterly Tracking 2 degree reports.

Why has the SGM failed and what needs to change?

So with the SGM implemented as a deterrent, why have direct emissions continued to increase since the policy was implemented? Under the SGM there have been a myriad of amendments over time that make it very difficult to end up in an excess emissions position where you are required to make good via the purchase of ACCUs. We’ve explored one of the amendments in another article – the multi-year monitoring period amendment. However the main reason the SGM is not slowing down our direct emissions is due to the introduction of production adjusted baselines (PABs). At its simplest, your unit/s of production are allocated an emissions intensity, and every unit you produce is multiplied by the intensity of said unit and this becomes your baseline. It’s pretty hard to exceed this and if you do, there are a number of other options that can be relied upon to ensure you reduce, or completely negate, any obligations to make good.

So, for the SGM to actually reduce direct emissions, the intensity of each production unit will need to be ratcheted down by the Clean Energy Regulator, which will decrease the PAB and force industry to reduce the emissions intensity of each unit they produce, or buy ACCUs. This sounds relatively straight forward, however it’s going to be incredibly difficult to calibrate and will be subject to intense negotiations and lobbying by industry bodies whose members will need to actively decarbonise or face significant new costs. ALP Climate Change Minister Chris Bowen stated that the SGM will be used to start reducing emissions beginning 1 July 2023 – so the next 12 months will be a busy time for business and policy makers alike.

The Safeguard Mechanism Policy challenge

Here lies the policy challenge. If the SGM is reduced too rapidly, the demand spike for already scarce ACCUs will see the prices sky rocket, or supply is simply exhausted and the emitters will not be able to comply. Neither of these outcomes are desirable. Industry needs to decarbonise and do so quickly, I’m the first to argue this, but we can’t turn off the lights tomorrow and destroy business value. What happens if ACCUs reach $100, $200 or even $500 a unit? The outcry from business will be deafening. If the trajectory is reduced too slowly however, we won’t make our Paris commitments and the ALP’s climate policy will be deemed a failure.

The 2020 King Review presented the idea of introducing Safeguard Mechanism credits, where if you come under your baseline, you could trade those ‘spare’ credits to a facility that exceeds their baseline. Although this will add another layer of complexity to the policy landscape, it may be a useful transitional tool to allow Regulators to calibrate an appropriate reduction trajectory (either at sectoral or whole of economy level). It will also buy some time for ACCU supply to increase via activities such as self-generated carbon offset projects such as environmental plantings which are becoming more and more attractive to industry as ACCU prices rise. Unfortunately, ACCUs aren’t created overnight and there does not appear to be a huge influx of supply coming in the near term.

So what should business do now?

Businesses need to develop a robust emissions reduction strategy and do so quickly, and not only those covered by the Safeguard Mechanism emitting over 100,000 tCO2-e. There is every chance the SGM threshold could be reduced to 25,000tCO2-e, which would be a better policy outcome and will cover many, many more businesses. It will share the load, drive R&D across more sectors, activities and emissions reducing technologies and allow smart, organised and nimble businesses to thrive – particularly when many domestic activities may soon be impacted by the EUs Carbon Border Adjustment Mechanism (CBAM).

A well thought out emissions reduction strategy will cover; energy efficiency, fuel switching (including electrification, biomass, renewable gas and green hydrogen). It will consider the optimal timing of activities and the lowest cost of abatement, overlayed with commercial readiness and scale. Businesses should also actively investigate how they can create their own offsets (ACCUs) via industrial emissions reductions and/or land-based activities. Companies like Orica are providing real leadership in this area. Creating your own ACCUs will decrease reliance on the secondary market and allow for some price and supply certainty where the hard to abate emissions simply cannot be reduced and need to be offset. Be warned however, ACCU creation is complex and administratively burdensome – do your homework first and look for scale.

Aside from ACCUs, there are other state based schemes that can help subsidies emissions reduction activities and low interest funding is provided by the many lenders for low carbon investment activities. You must understand these and build them into your business case wherever possible.

Business should be investing in low emissions technology and doing so in a hurry. One way some progressive businesses are actioning this is by applying an internal carbon price and extricating those funds into a pool to fund the low emissions activities. This is not a new concept, however few of the ASX 200 would actually be implementing this approach.

For a while now I’ve been advocating for an R&D tax concession stream that favourably treats low carbon R&D activities that meet certain criteria. I would encourage businesses, industry associations and government relations professionals to give this idea some thought as a means to help business transition and encourage more investment in low emissions solutions.

In closing, a few things are certain.

Climate policy in this country is about to become even more complex. Emissions reductions and offset creation takes time and R&D needs to ramp up across the economy. The Safeguard Mechanism will no longer be ‘safe’ for those who can’t or won’t reduce their emissions, and you only have a little over a year to be ready for Safeguard 2.0.

How we can help

Carbon is the currency of climate change and at Ndevr Environmental we’ve been helping our clients measure and reduce their carbon emissions for over 12 years. Please reach out to us if you’d like to discuss how we can help environment@ndevr.com.au or call 03 7035 1740

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