Yesterday our new report, Who’s the Real Cheat Here?, revealed New Zealand Steel as one of the ‘Dirty Dozen’ – the 12 companies that bought the most fraudulent foreign carbon credits to cover their emissions. NZ Steel has already been in the news recently, complaining about moves to strengthen the Emissions Trading Scheme (ETS). In its submission to the Government, the company threatened that changes to the ETS could lead them to completely shut up shop, and asked to be completely exempted from the scheme. Are these claims credible, or was this a hollow and self-serving threat?
NZ Steel hasn’t responded to our approaches on this issue, so we’ve done some analysis ourselves using publicly available data. Based on this, we believe NZ Steel has some serious questions to answer. From the picture we have assembled, we cannot see how NZ Steel is under any immediate threat from the changes to the ETS or higher carbon prices. On the contrary, it would seem that NZ Steel has done extremely well out of the ETS over the last few years. It looks to have either pocketed tens of millions in profits, or covered its future exposure to the scheme for more than 10 years out; all for well under $1 million.
Let’s step through our reasoning.
How exposed is NZ Steel to the Emissions Trading Scheme?
Under the ETS, companies must hand over emissions units (or ‘carbon credits’) to the Government to cover the emissions they produce. Each year, the Government hands out a free allocation of New Zealand Units (NZUs) to a few companies like NZ Steel for activities that qualify as ‘emissions-intensive and trade-exposed’. The rationale is to shelter them from loss of competitiveness against companies in other countries that aren’t yet pricing carbon.
NZ Steel receives more of these free units than any other company in the country (see here). It is currently allowed free NZUs to cover 90% of its emissions liability. Furthermore, under the one-for-two subsidy introduced by the National Government in 2009, companies only have to surrender carbon credits to cover half of their emissions. All up this means that NZ Steel is (supposedly) exposed to just 5% of its total emissions at present. When the one-for-two subsidy is finally phased out by 2019, this exposure will double to 10%. However, the Government currently has no plans for phasing out that remaining 90% subsidy, after freezing the free allocation rates back in 2009.
In its submission, NZ Steel claims that its current exposure is around 120,000 tonnes of CO2 – i.e. they would need to buy a further 120,000 units themselves to cover all their costs under the ETS. We’d like to see the working, because by our calculations the number is 90,000 tonnes and NZ Steel is actually receiving a 92% free allocation – higher than what it is supposed to. Nonetheless, we will take their figure at face value for now. At the current NZU price of around $18, that translates to a cost for NZ Steel of about $2.2 million per year. With the removal of the one-for-two subsidy, this will double.
Reading this, NZ Steel’s concerns about the ETS might seem understandable, but we haven’t got to the real story yet. Featuring in a lead role once again, it’s – you guessed it – those dodgy carbon credits from Ukraine and Russia.
Dodgy credits – the investment of a lifetime
As explained in our reports, companies receiving free NZUs all profited from the unfettered trade in dirt cheap Emissions Reduction Units (ERUs), which were beset by fraud and corruption. From late-2012 until New Zealand was finally cut off from buying them in mid-2015, these dodgy units traded at a heavy discount to NZUs, reflecting the fact that NZUs have no expiry date. The companies getting free NZUs either banked them for future use or sold them, while buying ERUs to cover their ETS obligations.
In NZ Steel’s case, the publicly available records show it had more than enough of those thoroughly dodgy ERUs in its account in 2013 and 2014 to completely meet its annual ETS obligations for those years. It appears that the company did what was in its rational self-interest and met its obligation entirely with the cheapest units money could buy.
Another key piece of data, from the 2014 ETS Facts and Figures report produced by the EPA, is the total number of NZUs cashed in by all companies to meet their obligations in the years up to 2014. Helpfully, this report differentiates between the NZUs issued to foresters for carbon absorption (which they can then sell to emitters) and those given out to emitters as free allocations. We find that from 2012-14, a total of 773,115 freely allocated NZUs were used in the ETS by all companies combined. Over this same time period, NZ Steel received 3,106,571 free units from the Government.
What appears certain, then, is that NZ Steel has either banked or sold somewhere between 2.3 and 3.1 million NZUs since 2012. The lower (and highly unlikely) bound assumes that all of the freely allocated NZUs used in the ETS were from NZ Steel. At the current NZU price of about $18, the value of that many units is between $42 and $56 million.
We don’t know how many of these units NZ Steel has banked and how many it sold, so let’s look at two extreme scenarios.
First, what if NZ Steel had sold all of those NZUs along the way? The outcome depends on when the units were sold – for simplicity we’ve assumed December of the year in question. From this we estimate NZ Steel would have pocketed somewhere between $9 and $12 million. Meanwhile, the cost of the ERUs needed to meet its ETS obligations (also assuming these were all purchased in December) would have been in the ballpark of $400,000 to $600,000. So in this conservative scenario NZ Steel would have netted a rough profit of $8.5 to $11.5 million. The numbers here are only indicative but give a good sense of the magnitude of potential profit.
Second – and we believe more likely if NZ Steel is a shrewd financial operator – what if it banked all those NZUs to cover its future obligations?
Remember that NZ Steel claims its current exposure to the ETS is 120,000 units per year. With the removal of the one-for-two subsidy, which will be phased out by 2019, this exposure will double. All other factors remaining roughly the same, we estimate that NZ Steel’s potential stockpile (2.3 to 3.1 million units) would completely cover its exposure to the ETS until at least 2026, and as late as 2029. If we are correct that NZ Steel’s exposure is actually only around 90,000 units per unit, the company would be covered until at least 2029, and as late as 2033.
The upshot is this: for the price of less than $600,000 to buy dodgy, environmentally worthless ERUs, NZ Steel could have paid off all its future ETS costs for at least a decade, and potentially much longer.
Whichever scenario is closer to the truth, it looks like the New Zealand public – not to mention the climate – are being played for suckers.
Playing us for fools?
Based on the above analysis, we cannot take seriously NZ Steel’s claim that it is under threat from the removal of the one-for-two subsidy or other potential changes to the ETS. Rather, it appears the company has played the ETS very well over the last few years; either reaping tens of millions in profits, or insulating itself from future costs for at least a decade. To then be arguing for an even sweeter deal at the taxpayers’ expense is beyond the pale – even obscene. The NZ public certainly deserves some transparency here from the company that has received more free NZUs than any other, and complained so publicly.
Finally, all of this profiteering (and NZ Steel was far from the only company in on this action) has been made possible by the Government’s gross mismanagement of the ETS. Ultimately, the problem was the lax rules that allowed companies like NZ Steel to pig out on cheap carbon credits that all involved knew were very dodgy. Having created these problems, the Government needs to do everything in its power to put things right.
First, the Government needs to ‘dump the junk’; not carry forward the huge stash of credits we hold as a country past 2020. The only reason we have that stash is because we’ve traded heavily in fraudulent foreign credits in the past. Second, we’ve also previously suggested that free allocations to the likes of NZ Steel could be skipped for one year to help burn through their bank of stockpiled NZUs. And third, as the Parliamentary Commissioner for the Environment has also recommended, the Government must implement a timetable for phasing out the free allocations. To transition to a zero carbon economy, businesses need to know that the taxpayer will not keep writing them cheques to pollute forever.
Thanks to Simon Johnson for the blog post that put us onto this issue.
 This includes not just the emissions NZ Steel is directly responsible for from its coal and gas use, but also the increase in cost of the electricity it uses.
 We have used historic NZU price data obtained from MfE and ERU price data from Intercontinental Exchange via quandl.com and Carbon Forest Services.