Can accounting help solve the political problems of energy and climate change?

Australia is facing a significant political challenge. On the one hand, we need to find ways to reliably generate more energy at a lower cost. At the same time, new energy sources need to fit into both our short and longer-term global climate change commitments. Josh Frydenberg, Minister for the Environment and Energy, was a recent guest lecturer at QUT. He pointed out that as national problems require national solutions, the federal government is taking the lead in trying to resolve Australia’s emerging energy security and affordability crisis.

However, energy problems cannot be separated from issues around climate change and Australia’s political class does not have a good record in overcoming the politics of climate change. Solutions to date have been underpinned by political, scientific, social, economic and most recently, engineering intellectual methodologies. Accounting, always the poor cousin to these more highly-lauded disciplines, has so far played a minor role in understanding the problem; but perhaps the time has come for accounting and its sibling - accountability - to offer some practical tools to help us resolve these complex political problems. Drawing on the recent Finkel Review we apply some accounting techniques of costing and budgeting to the recommendations outlined and suggest these may be useful in overcoming some of the political problems surrounding energy and climate change policy.

Financial cost

Accounting is very good at measuring financial costs, and all energy and climate change policies entail costs: cost to government, cost to business and cost to consumers. Cost and affordability was a key issue for the Finkel Review:

1. The COAG Energy Council asked the Finkel Review Panel to recommend enhancements to the National Electricity Market to optimise security and reliability, and to do so at lowest cost.

Currently, the lowest average cost source of energy (based on a measure known as LCOE) comes from super-critical coal-fired power stations, followed by gas-fired power stations (CCGT) then wind and solar (Finkel Review, Figure A1).

Source: Finkel Review 2017, p. 201

So why aren't businesses building low-cost generation?

The short answer is because of climate change policy and how it impacts on business case costings. The uncertainty around the carbon emission policies of future governments mean business cannot make the numbers add up for investing in long-term coal or gas-fired power (even lower emission) stations. Financial models set out all the costs and future income streams across the life of long-lived assets. The developer aims to balance the amount of debt and equity needed to finance the project, however project financiers (often banks) only want to lend on shorter terms (say three years) because of the risk that future carbon policies will impose more costs and hence reduce the revenues generated by the power station.

This is a key risk for the financiers – as higher future costs mean less cash to pay back the debt; and so no new coal/gas-fired power stations are being built. That leaves an energy market with a lot more higher-cost generation currently delivering electricity to consumers.

But something Finkel didn’t discuss was the national cost of these policies. The Parliamentary Budget Office suggested the 2015 climate change election commitments of Labor would cost $313 million and the Greens $6.4 billion, while the Coalition’s Emission Reduction Fund costs approximately $560 million a year. The national financial costs of climate change policies should be a much more important topic in discussing how we resolve the politics of climate change and energy.

The Finkel Review also recommends three supporting elements to resolve the problems in energy policy:

• • an orderly transition to lower emissions;
  • stronger governance; and
  • better system planning.

The concept of "carbon budgets" has the potential to support the longer-term focus of these recommendations while at the same time ensuring political accountability and transparency of energy and climate change policies.

Carbon budgets

The current energy/climate change policy that has proved to be inadequate is underpinned by the renewable energy target (the RET) which was agreed to in 2015.  It’s now 2017. Two years is even shorter than the average electoral cycle so clearly, we need a longer-term political perspective in Australian politics. This requires some kind of forward planning that continues over electoral cycles.

The government is currently reviewing its climate change policies to take stock of Australia’s progress in reducing emissions, and to ensure they remain effective in achieving Australia’s 2030 Paris Agreement commitments. The Finkel Review suggests that we need to look beyond this target and that investors need to see a smooth line post-2030. He recommends that the government needs to agree to an emissions reduction trajectory out to 2050, to give the electricity sector clarity about how we will meet our international commitments. The year 2050 is 33 years away; therefore, not only do we need to agree what percentage of our emissions will be reduced by that time but we also need a credible pathway that tracks our progress towards this. We need an effective monitoring mechanism that gives us feedback on how well our policies are working, and when and if changes are needed.

Borrowing a common monitoring technique from accounting leads us to the idea of carbon budgets. Carbon budgets break-up a long-term number into short-term (say five-yearly) increments of emission reductions. The UK has been using carbon budgets to monitor their progress towards a 2050 emission reduction target and this has allowed them to take early action when emissions are not reducing through changes to current programs and strategies. Australia must resolve the politics of energy and climate change. Accounting offers techniques for reducing political complexity to numbers which can provide accountability and transparency across political cycles. Energy policy involves significant government, business and consumer financial costs that cannot be ignored, and climate change will not be addressed without a long-term emission reduction plan that can be made manageable in the short-term.