In 2015, the Australian Commonwealth Government committed to reducing Australia’s carbon dioxide equivalent (CO2e) emissions by 26 to 28 per cent below 2005 levels by 2030. As the electricity sector accounts for around one-third of Australia’s emissions, efforts to reduce economy-wide emissions efficiently will inevitably involve reducing emissions in the electricity sector. This report examines three emissions reduction mechanisms that could be applied to the wholesale electricity generation sector to assist in the achievement of Australia’s 2030 emissions reduction target.

In this context, the Council of Australian Governments (COAG) Energy Council tasked the Senior Committee of Officials (SCO) with preparing advice to allow the COAG Energy Council to better understand the characteristics and potential impact of alternative emissions reduction policy mechanisms on the National Electricity Market (NEM). The Australian Energy Market Commission (AEMC or Commission) and the Australian Energy Market Operator (AEMO) have been asked to assist officials with this work.

 While the Commonwealth Government would determine the emissions reduction target for the electricity sector, the purpose of this advice is to enable the Energy Council to form a view on the features and impacts of alternative emissions reduction mechanisms that can achieve the emissions reduction target. This report examines three emissions reduction mechanisms that could be applied to the wholesale electricity generation sector to assist in the achievement of Australia’s 2030 emissions reduction target.

The Commission and AEMO were asked by the COAG Energy Council to provide a report to SCO by the end of 2016. This work was undertaken as two tasks:

• Task 1 required the AEMC to analyse three alternative emissions reduction mechanisms, including the economic impacts of each of these mechanisms and the ability of each mechanism to integrate with the NEM’s design and operation.

• Task 2 required AEMO to consider the outcomes from Task 1 – such as the location and type of new generation investment, retirements and dispatch, which follows from the choice of emissions reduction mechanism – to assess their impact limits and are stable and all persons are safe.

The assessment in this report is informed by both qualitative and quantitative indicators that seek to measure and understand costs, risk allocation, incentives, the impacts on wholesale and retail prices, and the ability of the alternative mechanisms to self-correct when the future turns out to be different from today’s expectations.

The Commission was asked to develop mechanisms to test the potential electricity sector outcomes resulting from alternative pathways for achieving an emissions reduction target of 28 per cent on 2005 levels by 2030. The three pathways specified to the Commission were: least-cost abatement, accelerated deployment of renewable energy, and staged generator exit.

There are a range of potential mechanisms that could be devised to assess the impacts under each of these alternative pathways. The Commission has developed the following three mechanisms, corresponding to each of the three alternative pathways towards the 28 per cent emissions reduction target:
1. Market-based: the establishment of an emissions intensity target (EIT) for the electricity sector, where generators with an emissions intensity above the target are liable to buy credits and those with an emissions intensity below the target create and sell credits. The emissions intensity target is defined as the amount of CO2e emissions divided by the amount of electricity generation, and is typically expressed as the number of tonnes of CO2e per MWh. The target is then applied to all generators in Australia’s wholesale electricity markets based on the emissions intensity of their output (in MWh). The emissions intensity target declines over time in a manner consistent with the emissions reduction target.

2. Technology subsidy: extension of the existing Large-scale Renewable Energy Target (LRET). The size of the existing target is 33,000 gigawatt hours (GWh) in 2020. In order to meet the emissions reduction target for 2030, and based on AEMO’s 2015-year forecasts for electricity consumption in 2030, this target is estimated to equal 86,000 GWh in 2030. That is, based on forecasts for future electricity consumption, the target would need to more than double to achieve the emissions reduction target.

3. Government regulation: on the presumption that centralised decision-makers are adept at determining which generators should exit and when, and also adept at implementing this ‘optimal closure schedule’, this schedule is implemented by government to force certain generators to close in order to meet the emissions reduction target. Regardless of the form and design of this regulation, the decision on which generators would be closed and when would need to be based on a set of expectations of the future; for example, expectations of future electricity demand.

In each case, the mechanism is specified to commence in 2020 and designed so that it is expected to meet the emissions reduction target.