30 June 2011 – The Green Building Council of Australia supports a carbon price but it’s going to hurt.

In a new report this week detailing the likely impacts of a carbon price and eventually an emissions trading system the GBCA has called for a range of complementary measures to ease the burden and to help with a transition it says will positive and more efficient in the long run.

In its report, Putting a price on pollution: what it means for Australia’s property and construction industry, it also points out that Australia is far from groundbreaking in this case and outlines emissions reductions measures under way in  Australia’s major trading partners.

In New Zealand there has been an emissions trading scheme since 2002 with no major fallout.

The report outlines the type of complementary measures adopted in New Zealand, which are similar to those called for in Australia.

GBCA chief executive Romilly Madew said an emissions trading scheme or other carbon pricing mechanism was “an opportunity for Australia to meet its international carbon reduction targets, while at the same time boosting investment in green technologies and stimulating new sectors of the economy, potentially leading to a global competitive advantage.”

The qualified support for a carbon price from the GBCA echoes the position outlined to The Fifth Estate earlier this year by Property Council of Australia chief executive officer Peter Verwer.

The PCA supportes a price on carbon, Mr Verwer said, but the property industry needed to identify and manage the impact on a range of industry functions from building materials costs to how to deal with leases where a high price for energy needed to be passed onto to tenants.

An industry source said he agreed with the general position of the GBCA’s report in terms of  calling for greater stimulation of research and investment in technologies that lower emissions. However, he said,  it was very difficult to know the impact of the price on carbon with a proposed price. A price of $40 a  tonne might create the cleanest country in the world but would be destructive for the economy, he said.

What the GBCA report did not mention was “the  elephant in the room” in terms of compensation.

“The government should not be compensating lower middle income earners or anyone in regard to this tax, much like a GST under a user pays system; no parties should be given compensation, the source said.

“Rather the funds raised should be used to encourage investment in lower emission technology and efficient infrastructure so that we get to a basis of competitive advantage… developing industries where we can export the innovations to generate further fiscal stimulus.”

Although the property and construction industry is unlikely to have direct obligations under a carbon scheme the GBCA report identifies the following indirect price impacts that are likely because of the industry’s consumption of carbon emitting building materials, products and electricity:

  • energy –  coal-fired power stations (which generate most of Australia’s electricity) will be more expensive to operate as they will need to acquire permits to cover emissions which will cause electricity prices to rise as these increased costs are passed on to customers
  • building products – the industrial processes sector will need to pass on price increases associated with creating emissions-intensive products such as bricks, cement, aluminium, glass and steel, although emissions-intensive, trade-exposed organisations will not be able to pass on costs in turn if they wish to qualify for free units or permits, and it will become more expensive to transport these building materials around the country
  • waste – building owners and operators will also be affected by the increased costs of waste disposal as landfill operators will have to pass on the costs of acquiring and surrendering permits to cover their greenhouse gas emissions
  • energy – buildings that generate their own electricity may fall within the stationary energy area to the extent that this generation results in emissions of greenhouse gases, especially where co-generation and trigeneration systems or other generators have been installed.

The GBCA says the price signals will drive the property and construction industry towards greater efficiency and greener material.

Rents
“If the price signals from the emissions trading scheme are strong enough, the property and construction industry can expect that rents in energy-efficient buildings will increase in response to higher demand from tenants.

Those buildings not so efficient may suffer.

“This means that the property and construction industry needs to be of the mindset that energy efficient buildings are worth the money because the higher the efficiency the lower the eventual cost of abatement – once a carbon price is introduced.”

“Even without an emissions trading scheme, the impact of energy efficiency on valuations can be demonstrated by comparing office buildings with Green Star and NABERS ratings,” the report says pointing to the recent IPD Green Property Investment Index, covered here.

The report urges that landlords and tenants consider potential impacts including:

  • rising running costs such as gas and electricity consumption for lighting, heating, ventilation and air conditioning systems, appliances and information technology, and operation of lifts and machinery waste disposal.
  • The extent to which a landlord or tenant will be liable for increased costs will be determined by the leasing arrangements. If the lease is a gross lease (which includes all outgoings and utilities) the tenant will be better protected and the landlord will be limited in its ability to pass through costs.
  • Landlords with gross leases should consider whether there is enough margin to absorb rising costs and whether rent re-negotiations can be triggered by events such as changes in law.
  • Alternatively, a net lease (which excludes utilities and outgoings) is much more flexible in terms of passing through rising costs to the tenant.

Builders and developers should consider:

  • checking contracts to ensure their rights and obligations are clear under the new laws, and that they are able to pass on rising costs. Without clauses which allow for pricing to be “re-opened” or renegotiated, certain types of contracts will fare better in the context of providing protection against rising costs.
  • For example, in a schedule of rates contract, where there are set rates for particular work, it could be difficult to adjust those rates for any increase in the costs of building materials.
  • Similarly, in lump sum contracts, it would be difficult for builders to pass on any increase in costs to a developer unless there was an express carbon or “change in law” pass-through clause.
  • In contrast, a “costs plus contract” might be more beneficial for a builder. With costs plus contracts, a principal pays the builder’s costs plus a margin. In this way, builders should be able to pass on any cost increases. As a result, the natural risk for an increase in the cost of material lies with the principal.

Suppliers

There will be new opportunities to innovate but participants should also consider their potential exposure and liability under a carbon trading scheme and the extent to which this liability will be affected by:

  • current contractual arrangements and the ability to pass through costs;
  • eligibility for discounted or free permits under an emissions trading scheme (once more detail is released) or whether there will be some other form of government protection; and
  • new “green” technologies to which you can switch or utilise that may save you money.

Complementary measures
A carbon price will only work effectively for the property industry if a range of complementary measures are also adopted, Ms Madew said.

“These complementary measures would include energy efficiency incentives such as tax breaks and white certificates, investment in research, development and commercialisation of low-emissions technologies, and mandatory disclosure.”

Ms Madew also called for strong collaboration between government, industry and non-government organisations required to overcome the current market failures and skills gaps.

“Now is the time for organisations within the property and construction industry to consider how a price on carbon will affect their operations and how they can take advantage of the new green economy,” she said.

The report says:

Although the details of the current proposal are still being developed and there is little information publicly available, the federal government has indicated that carbon price information will be tied in with:

  • the outcomes of the National Strategy on Energy Efficiency
  • the Prime Minister’s Task Group on Energy Efficiency outcomes (the ‘Task Group’)
  • the Commercial Building Disclosure scheme (mandatory disclosure by any other name
  • the Tax Breaks for Green Buildings program (delayed until 1 July 2012)

By linking the carbon price with a range of other policies and programs, the federal government has acknowledged the importance of an integrated and strategic approach to reducing emissions in the built environment.

Of particular importance to the property and construction industry is that the Task Group identified opportunities within the built environment, including the implementation of clean energy solutions such as energy generation through solar, photovoltaic, wind, cogeneration, trigeneration and biogas – all of which have been available for a number of years within Australia. This is a fundamental shift in policy and thinking which further supports the green building industry.

The initial period of the scheme will involve a fixed price for each permit, entitling the holder to emit a set amount of greenhouse gases. It is proposed that the fixed pricing will be converted to market- based pricing driven by regulated supply and demand for permits after three to five years, or once an international scheme is implemented.

The end result of market-based pricing is commonly referred to as a “cap-and-trade emissions trading scheme” which simply means that there is a cap on the amount of permits which can exist at any point in time and that the permits are tradeable instruments.

The benefit of the fixed price period is that it provides comfort and price certainty during the initial transition phase. It also allows price setters and price takers to adjust to the scheme and gives the Australian Government time to develop the systems and infrastructure necessary to eventually cope with a flexible market-based system which can be integrated into a more globalised solution.

The proposed climate change framework will make heavy emitters in the following sectors liable to surrender permits to offset their emission of greenhouse gases into the atmosphere:

  • stationary energy
  • transport
  • industrial processes
  • fugitive emissions (such as leaks and releases from industrial activities
  • emissions from non-legacy waste

Although the property and construction industry does not fall within the above sectors (other than a limited number of buildings which currently generate a proportion of their own electricity, or where buildings are the source of refrigerant gas leakage), it will need to adapt to price increases passed through from other sectors, such as the industrial processes sector which makes building products and materials, and the stationary energy sector which generates the electricity it uses.

The producers of building products and materials have been identified as heavy emitters of carbon emissions by the federal government.

These producers will most likely pass through any cost of carbon into the price of their materials, although emissions-intensive, trade-exposed organisations will not be able to pass on costs if they wish to qualify for free units or permits.

As a result, the property industry will be affected by increased prices of some materials as well as increased transport costs to move these products. The stationary energy sector is also likely to increase its prices to reflect the new cost of greenhouse gas emissions. This will most likely lead to increases in the costs of electricity used by the property industry as long as generation continues to rely heavily on coal.

What complementary measures might be considered?

Excerpts from the report include:

There is uncertainty as to what, if any, complementary measures the Australian Government might introduce as part of its climate change framework. The Rudd Government released the Carbon Pollution Reduction Scheme White Paper in 2008 which contained the following broad complementary measures:

  • maintaining the Renewable Energy Target, as it provides stimulus for developing renewable power sources;
  • supporting projects for capturing and storing carbon
  • developing energy efficiency measures which will assist with energy-related emissions.

The rationale behind these complementary measures was to cover the gaps where a purely market- based instrument would not be as efficient, effective or quick.

At the time, the National Strategy on Energy Efficiency was established to provide information and assistance to a transition to a low carbon economy. This was in recognition of the need to balance and support a carbon price with contemporary, informed and integrated complementary measures – which is only possible by bridging information gaps.

Beyond information, complementary measures should be used as both a “carrot and stick” to align interests (such of those not directly affected by a price on carbon), create both financial and structured incentives, and generally support the process of shifting to a low carbon economy.

As advocated by many of Australia’s leading industry bodies and associations, these complementary measures should specifically include energy efficiency incentives, greater investment in research and renewable energy production, development and commercialisation of low-emissions technologies, and white certificate and mandatory disclosure schemes.

Complementary measures must also go hand-in-hand with closer collaboration between industry, government and NGOs / industry associations in order to help address other key problems such as information asymmetries (where a lack of knowledge increases the fear of making an adverse selection), split incentives (where the costs and benefits of energy efficiency investments go to different parties), unpriced externalities (where the costs or benefits of an economic activity are born by a third party), bounded rationality (where too much information can lead to decisions being based on ‘micro’ factors rather than ‘macro’ gains), regulatory problems and the time lag which can occur between substantial investment in energy efficiency gains and the corresponding financial returns.

It is reasonable to assume that the measures discussed by the White Paper, at least in principle, will form part of the proposed climate change framework and that they could be funded by budget capacity already allocated for green initiatives and through funds raised by an emissions trading scheme.

The latest report produced by Ross Garnaut recommends that:

  • $400 million of the revenue generated by an emissions trading scheme should be spent on energy efficiency measures over the first four years of the scheme
  • the federal government should aim to eventually spend $2-3 billion per annum on research, development and commercialisation of low emissions technologies
  • the fuel excise be reduced to counter the expected rise in petrol prices

In practice, the property and construction industry might get the benefit of government support for energy efficient measures which may lead to reduced energy consumption, such as heat pumps, solar heating and high-efficiency appliances and lighting.