Resource and industrial businesses face 4.9% annual emissions reductions

Are you ready for emissions regulation? 5 min read

The Australian Government has provided further clarity on its proposed reforms to the Safeguard Mechanism, imposing declining emissions caps on Australia's largest greenhouse gas emitters from 1 July 2023.

In a position paper published on 10 January 2023, the Government set out the detailed policy design behind its plan to impose tough emissions caps on the resources and industrial sector. Introduced in 2016, the Safeguard Mechanism, a core component of Australia's climate change policy, prescribes site-specific emissions baselines for the highest emitting facilities in the resources and industrial sectors.

An Allens Insight article published in August 2022 looked into the initial proposed reforms to the Safeguard Mechanism. In the wake of an extensive consultation process and the introduction of the Safeguard Mechanism (Crediting) Amendment Bill 2022 into Parliament in November 2022, the publication of the January 2023 position paper and accompanying draft subordinate legislation represent the next step towards proposed reforms the Government plans to have in effect from 1 July 2023.

The policy design put forward in the position paper is broadly in keeping with the initial proposed reforms, and otherwise bolsters the reform framework with greater detail on the manner in which the emissions baselines will be first calculated and then ratcheted down over time.

This Insight provides an update on the following key topics:

• the methodology for calculating emissions baselines for new and existing facilities;
• revamped emissions credit and offset mechanisms;
• concessional treatment for trade exposed entities; and
• possible future reforms to support the Safeguard Mechanism.

How emissions baselines will be set

The Government has provided clarity on three key aspects of the methodology for calculating emissions baselines from 1 July 2023.

• Existing facilities: emissions baselines for existing facilities will be set through a 'hybrid model', calculated at first using site-specific emission levels before transitioning to industry average levels by 2030. The Government's proposal aims to give businesses time to adjust to the reforms while gradually moving toward a level playing field. The reforms have retained the existing production-adjusted framework to mitigate the risk of carbon leakage overseas by the reduction of domestic production.
• New facilities: emissions baselines for new facilities will be calculated using 'international best practice' emissions-intensity benchmarks, adapted for an Australian context. The Government will develop the framework for determining international best practice prior to the implementation of the reforms in July 2023. Critically, this approach will also apply to existing facilities if the facility begins producing new products (for instance, by investing in new plant or equipment resulting in the use of a new production variable).
• Rate of decline for baselines: a rate of decline of 4.9% will be applied uniformly to emissions baselines each year until 2030. To maintain progress towards the Government's net zero goal, annual decline rates would be set for 2030 to 2050 (subject to periodic review and adjustment as necessary). Concessions are available for Emissions Intensive, Trade Exposed businesses, which is discussed further below.

Notably, the Government has also removed the 'inherent emissions variability' baseline calculation methodology, which had been introduced to provide optionality for entities in the mining and oil and gas sectors to reset their site-specific emission levels once before 1 July 2025.

The introduction of a new tradeable carbon credit

The Safeguard Mechanism reforms introduce a new form of tradeable carbon credit known as Safeguard Mechanism Credits (SMCs), to be administered by the Clean Energy Regulator.

Eligible entities will earn SMCs if their annual emissions are less than their baseline. The rationale behind the introduction of SMCs is to provide further incentive to facilities with a low cost of emissions abatement to over-perform their individual emissions target. Facilities with high abatement costs can then purchase SMCs if it is cheaper than reducing site-specific emissions or offsetting excess emissions using Australian Carbon Credit Units (ACCUs).

To avoid double counting, facilities covered by the Safeguard Mechanism will no longer be eligible to produce ACCUs. Transitional arrangements will be implemented for existing Emissions Reduction Fund projects and government purchase contracts. However, the introduction of SMCs does not change access to ACCUs outside the Safeguard Mechanism scheme so as not to close off another avenue for cost-effective emissions abatement (for instance, through forestry offset projects).

There were widespread concerns that the introduction of SMCs (and accompanying supply shortage of ACCUs) would lead to a price spike in the market for ACCUs. To address these concerns, the Government will implement a cost containment measure under which it will sell its own ACCUs to Safeguard facilities for compliance purposes at a set price of $75 per tonne CO₂-e (carbon dioxide equivalent), acting as an effective price cap. The price will increase with the CPI plus 2% each year, to be reviewed in 2026-27.

Concessions for trade-exposed facilities

Recognising the risk that the revitalised Safeguard Mechanism will create a competitive disadvantage for facilities which are uniquely exposed to overseas markets, the Government has established two categories of emissions-intensive, trade-exposed (EITE) facilities:

Though the Government's initial proposal mooted the implementation of the trade exposure methodology used in Australia's Renewable Energy Target, it concluded this approach was not suited to the Safeguard Mechanism as the RET activity list was both out of date and included emissions coverage which is not the purview of the Mechanism (for instance, exposure to electricity costs).

Is there more to come?

In a sign of potential further reforms to come, the Government signalled its willingness to review two further policy options as the Safeguard Mechanism is phased in.

• Carbon Border Adjustment Mechanism (CBAM): the consultation process revealed significant stakeholder support amongst community and environment groups for the Government to adopt a European-style CBAM—effectively an import tariff or export rebate when trading with countries without equivalent carbon constraints—to address the risk of carbon leakage overseas.
• International carbon offsets: a number of Safeguard entities expressed support for international carbon offsets to be included as an additional compliance mechanism. While remaining cool on the prospect of admitting international carbon credits, driven by a concern that the approach would hinder the domestic carbon market, the Government has left the door open to the possibility of allowing 'high integrity' international carbon offsets at a future time.

Next steps

Submissions on the proposed reform design and draft subordinate legislation conclude on 24 February 2023.

The Government intends to finalise the reforms by April 2023, to be implemented by 1 July 2023.

Should you have any concerns as to how this will affect you, please don't hesitate to contact us below.