Carbon pricing: incentivising outcomes for net zero

fumes escaping from industrial chimneys
© Anna Ivanova

Carbon pricing enables a monetary cost to be allocated to each tonne of CO₂, and equivalent greenhouse gases, emitted into the atmosphere

This can form the basis of a range of government measures to incentivise reductions in emissions from all sectors of the economy.

Carbon pricing mechanisms motivate emissions reduction measures and the revenue raised from carbon taxes can be used to accelerate investment in new technologies required to support the energy transition.

RES supports a policy of robust carbon pricing for every tonne of CO₂ emitted. This will catalyse the transition by incentivising actors: individuals, businesses and policy makers, to prioritise cheaper and less polluting options.

Incentivising outcomes for net zero

A selective approach to carbon pricing could better differentiate sectors based on the current ease, or difficulty of CO₂ abatement due to prevailing technologies. Such an approach would focus investment in critical new technologies whilst at the same time avoid an increase in costs for delivering improvements which would have been delivered anyway.

Reinvestment of carbon taxation in green technology and abatement that support a just transition to net zero, whilst balancing economic growth, is a critical priority for governments. There is a clear opportunity for an enhanced policy response. For example, coupled with a governmental backed green infrastructure fund, carbon taxes could be utilised as seed capital required to attract investment of private capital (for example through green bonds and direct equity investment) to fund the vital technological applications needed. Such examples include creating and storing “green” hydrogen as a repository of carbon-free energy for dispatch when energy demand is strongest. Alternatively, revenue raised from carbon taxes could be redeployed into other areas of government spending.

Carbon trading – incentivising a sectoral approach of cost-efficient solutions to mitigation

Carbon trading through an emissions trading scheme represents a market-based system to provide economic incentives to positively impact the environmental footprint by allowing participants to trade their emissions allocations. Governments can set the supply of allocations in 5 or 10 year forward looking tranches which allow a glidepath to net zero whilst balancing the objective of economic growth in each economy and allowing a degree of flexibility in future allocations as circumstances dictate. Currently, there are many emissions cap-and trade schemes globally and carbon markets and prices are not linked.

By assigning a price to damaging activity, this creates a financial incentive to encourage polluters to seek more efficient methods of production to reduce their emissions. In addition, the opportunity for a nuanced sector-by-sector approach allows for recognition of the varying challenges of abatement.

A transparent and auditable governance mechanism would avoid market abuse, for example price volatility driven by speculative opportunism in carbon trading.

Picture of a landcape with carbon emmisions coming out of a far off chimney - Carbon pricing
© Sasin Tipchai

Border charges

Carbon trading should go hand-in-hand with cross-border co-ordination in carbon pricing to avoid ‘offshoring’ of emissions. Cross-border adjustments should appropriately account for countries at different stages of economic development. Ultimately, an identical global taxonomy would ensure common green standards, therefore ongoing international co-ordination is imperative.

Article 6 of the Paris Agreement, which was up for discussion again at COP26, would create a new international carbon market, governed by a UN body, for the trading of emissions reductions created anywhere in the world by the public or private sector

Overall, carbon pricing can provide the basis and catalyst for a range of policy measures such as direct support mechanisms and carbon trading via emissions trading schemes. Together with incentivising emissions reduction, accredited voluntary offsets and removal of subsidies for fossil fuels, governments should seek to ensure these measures work in consort to accelerate actions to deliver CO₂ (and equivalent greenhouses gas) reductions to achieve net zero.

This article and information was provided by Chief Financial Officer of RES, Richard Russell.


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