3 Who will receive an allocation?
In this section we describe how activities will be looked at to see whether they are eligible for an allocation. First we describe what we mean by an ‘activity’. Firms do many things and are structured in different ways, but to ensure different firms are treated fairly and allocation is targeted only at the most emissions-intensive activities, the things they do that will be measured in order to determine eligibility need to be carefully specified. The concept of an activity does this.
We also describe the two tracks for defining eligibility for different activities: the New Zealand track and the Australian track.
What is an activity?
When we examine the vulnerability of firms to an emissions price, this vulnerability is defined in terms of a specific output. It is the output that is traded internationally, and it is the company’s inability to increase the price of that output sufficiently that reduces the company’s competitiveness in producing that output. Establishing the output is therefore the first step.
But the output does not produce the emissions: its manufacture does. So the basis for defining what is trade exposed and emissions intensive is the process that produces a trade-exposed output. This is called an ‘activity’.
The Act contains a number of matters that are used to define an activity and to determine whether it is eligible. These matters are outlined and explained in more detail in Box 1.
Box 1: Defining the boundaries of an activity
Under the Act, the Minister must have regard to the following matters when developing activity descriptions.
- The requirement to define each activity by reference to a physical, chemical or biological transformation of inputs into outputs.
The key idea here is that an activity is defined by specific inputs and outputs rather than the actual process. Processes change over time with improvements in technology and may vary between firms. Both inputs and outputs must be specific, particularly if producers make outputs with a range of varying grades or emissions intensities. This avoids awarding or penalising different approaches to producing an output, potentially leading to distorted incentives to change the output mix or specification after the activity definition, baseline and allocation are established.
- The undesirability of activities being defined by reference to the technology employed, the fuel used, the age of the plant, or the quality of the types of feedstock used when the activity is carried out.
Activity definitions are technology neutral because not all producers of an output are the same, and it is expected that, over time, producers will use improved technologies and processes with reduced emissions. This allows equitable treatment between firms producing the same output even if they have varying emissions intensities. It also ensures the activity definitions will be relevant in the long run. Because assistance is provided on an activity basis, firms have a strong incentive to use cleaner technology and reduce their specific emissions intensity without their level of assistance being reduced.
- The desirability of defining activities:
- consistently and equitably across industries
- in a way that takes into account the impact that definitions may have on business investment, geographical location, and the structure of activities
- in a way that takes into account the potential for intermediate inputs produced when the activity is carried out to be substituted for bought-in inputs.
This matter has three parts.
- The first part involves the consistent treatment of complementary activities that are not part of the activity. All parts of an activity must be ‘integral to and essential for’ the process being defined. Some examples of processes that would be excluded from all definitions would be the emissions from the transport of inputs, outputs or intermediate products; packaging; and the production of raw materials prior to the specific activity.
- The activity description should consider whether it creates perverse incentives, such as the restructuring or redesign of a business to improve the firm’s level of assistance. Firms with different structures and processes should be treated equally because they perform the same activity.
- The third part ensures each activity description is specific. Some firms may be vertically integrated – performing all the processes in the supply chain – while other firms may perform incremental steps within the supply chain. In the latter case, the inputs or outputs may be intermediate goods and the activity therefore forms a portion of the overall supply chain for a final product. The activity descriptions should specify the actual start and end of a process. It is possible that some firms will perform more than one emissions-intensive activity along the supply chain. In these cases, the activities are defined by specific inputs and outputs, which then become the inputs to the next defined activity. Although the intermediate good may not actually be traded in New Zealand, if the intermediate output has a commercial (saleable) value, the business could be rearranged to take advantage of this. This part of the principle prevents certain market and investment distortions.
- The desirability of there being no overlap between activity definitions.
It should not be possible for a firm to receive assistance more than once for a given process. This is more likely to be possible if wider activity descriptions are used; for example, if the an activity description included mining of the raw materials as an input to an industrial process, there could be double counting if mining was also an eligible activity.
- The desirability of activity definitions reflecting activity definitions used in Australia.
Because the moderated NZ ETS assistance scheme is consistent with the proposed Australian CPRS EITE assistance scheme, it is prudent for the activity definitions to be consistent. This avoids any impacts on cross-Tasman competitiveness and ensures both New Zealand and Australian producers have the same incentives for investment, production and emissions reduction.
- Any other matters that the Minister considers relevant.
Lastly, the legislation allows the Minister to take account of other matters considered relevant. This will assist with a smooth and effective implementation of the NZ ETS.
How activities are described
Key issues for describing activities are that they:
- are specified by the inputs and outputs of a process
- are technology neutral
- take account of the incentives for business investment, organisation and emissions reduction.
Each of these issues is now discussed in detail.
Inputs and outputs
The description of an activity needs to specify a start point and an end point. The end point is where the trade-exposed output has been produced. The start point is where a tradable commodity is input, usually as the main part of a transformation process. As an example, the Australian Government’s activity definition for aluminium smelting is the physical and chemical transformation of alumina (the starting point) into saleable aluminium metal (the end point).
To avoid ambiguity, when collecting data on emissions from an activity, activity descriptions will be accompanied by a number of clarifications about the emissions and electricity use to be included (‘inclusions’) and excluded (‘exclusions’) from calculations.
For example, the Australian Government’s definition of integrated iron and steel manufacturing has an end point of “crude carbon steel products and hot-rolled carbon steel products, where carbon steel is defined as a material which contains by mass more iron (Fe) than any other single element and has a carbon (C) content less than 2 per cent”, but clarifies that emissions and electricity use from “any finishing processes, including, but not limited to, cold-rolling, annealing, pickling or coating of steel products” are excluded from calculation of eligibility and allocative baselines. In New Zealand, the Act contains a typical, non-exhaustive list of exclusions.
Additional descriptions may be required for intermediary inputs. For example, the activity of urea production involves chemically transforming natural gas into ammonia, and then ammonia into urea. The process also requires the intermediate input of nitrogen, which is produced through a physical transformation using air and natural gas. Activity boundaries will need to be made clear, both vertically and horizontally, as illustrated in figure 2. In this example, the activity is defined to exclude the upstream transformation of natural gas into ammonia, but to include the production of nitrogen.
The concept of a tradable output used to define the end point is meant to define an output that would be considered to have a commercial value, but it is also used to define the simplest output (or the first output) that has a commercial value. This means the activity ends before there is further processing (eg, of pure metal into metal alloys).
Figure 2: Example of activity boundaries
View a text description of this figure
This diagram shows how activity boundaries might hypothetically be drawn around the processes involved in producing urea.
It shows that the chemical transformation of natural gas into ammonia is outside the activity boundary for the activity of producing urea but that the chemical transformation of ammonia and nitrogen into urea is inside the activity boundary. It also shows that the physical transformation of air and natural gas to create the nitrogen is also considered part of the activity.
Technology neutral
If different processes can be used to manufacture an output, the activity description should not treat the two processes as separate activities for which eligibility can be defined. Doing so might remove any incentives for firms to improve the efficiency of producing that output. For example, there are different ways to manufacture cement – a dry process and a wet process – with different energy and emission intensities, both of which are employed in New Zealand.
The intensity-based approach to allocation does not provide incentives for emission reductions by reducing production, but instead is intended to encourage improvements (reductions) in industrial emissions intensity. Having technology-specific activity definitions could mute these incentives if, for example, a more emissions-intensive technology received a greater level of allocation, reflecting higher historical emission rates.
Technology-neutral definitions also give greater longevity to activity definitions: technologies may change over time, more often than the inputs and outputs.
Accounting for incentive effects
This approach to activity descriptions takes account of the incentives for business investment, organisation and emissions reduction.
If an activity description is extended vertically, to include more steps in an industrial process, and this includes a traded output within an activity, there is a risk that a New Zealand-based firm might be either included or excluded as a result of undertaking only part of the process. For example, cement manufacture involves the transformation of limestone and other feedstocks into clinker, followed by the grinding (milling) of clinker to form cement. The Australian Government has defined clinker production as an activity, rather than the full process of cement manufacture. If cement manufacture was defined as an activity, a clinker manufacturer could be excluded.
Use of the narrower description enables the Government to concentrate its assistance on the most emissions-intensive parts of a business. There is an additional argument that including tradable product (eg, clinker) within the activity description risks a firm choosing to import that intermediate product if it was still able to be counted as eligible for an allocation. This might lead to significant emissions leakage.
Summary
Activity descriptions are used:
- in regulations, to enable activities that are eligible for assistance to be identified
- in Gazette notices that call for data from persons conducting the activity (under the New Zealand track only).
Activity descriptions cover:
- clear inputs and outputs (the outputs of an activity are relevant to calculating the revenue from the activity and levels of production for the purposes of determining eligibility)
- the physical or chemical transformation that takes place to transform the inputs into the outputs.
When activity descriptions appear in a Gazette notice they will be accompanied by inclusions and exclusions: lists of emission sources that clarify the boundaries of the activity. Included emissions are included in determining whether an activity is eligible and its allocative baseline, excluded emissions are emissions which are not to be included.
Activity descriptions in Gazette notices and in regulations will be accompanied by a definition of ‘product’ (the basis for allocation), which is the metric of production for the activity (this will usually be given in tonnes of saleable output).
Two routes to eligibility
The Act provides for two tracks by which an activity can be defined as eligible for an allocation:
- a New Zealand track, whereby activities not defined as eligible in Australia could be defined as eligible here
- an Australian track, whereby if an activity is defined as eligible in Australia it would be eligible in New Zealand.
The Government is not currently pursuing the Australian track to make regulations. Should the CPRS pass into law, the Government may choose to make activities eligible via the Australian track. In the meantime, the Government intends to press ahead with making activities eligible via the New Zealand track.
The New Zealand track
Activities can be considered for eligibility in New Zealand using the eligibility test in the Act. The eligibility test has two parts: trade exposure and emissions intensity.
Trade exposure test
Under the New Zealand track, all activities will be assumed to be trade exposed unless they are very obviously not. The trade exposure test contained in the Act is that activities cannot receive allocation where:
- the activity is electricity generation
- there is no international trade of the output across oceans, or it is not economically viable to import or export the output of the activity.
This is different from the proposed Australian test for trade exposure and may lead to additional activities being included in New Zealand that do not meet the more restrictive trade exposure requirements in Australia. The rationale for a trade exposure test is discussed in Annex 4.
Emissions intensity test
The Act contains two emissions intensity thresholds:
- a moderately emissions-intensive activity emits between 800 tonnes of CO2-e per 1 million New Zealand dollars of revenue and 1600 tonnes of CO2-e per 1 million New Zealand dollars of revenue
- a highly emissions-intensive activity emits more than 1600 tonnes of CO2-e per 1 million New Zealand dollars of revenue.
The amount of assistance an eligible activity receives depends on which of these thresholds it passes. Eligible activities that are moderately emissions intensive will initially receive assistance at the rate of 60 per cent of the relevant allocative baseline. Eligible activities that are highly emissions intensive will initially receive assistance at the rate of 90 per cent of the relevant allocative baseline.
The rationale for an emissions intensity test is discussed in Annex 4.
Measuring emissions intensity
The threshold test will be applied to the average emission intensity for an activity across the whole industry carrying out that activity. An individual firm conducting an activity will not receive assistance if the average emissions intensity for all firms conducting the activity does not meet the threshold, even if that particular firm meets the threshold.
When considering eligibility, the New Zealand track will include an assessment of emissions from the following sources:
- emissions from the direct use of coal, natural gas, waste and used oil combusted in carrying out the activity (including emissions associated with the use of steam generated from these fuels)
- emissions from geothermal steam used in carrying out the activity
- industrial process emissions from the industrial processes in Part 4 of Schedule 3 of the Act (iron and steel production, aluminium smelting, calcination of limestone or calcium carbonates, and the use of soda ash that are part of the activity)
- emissions from the generation of electricity used in the activity, employing an emission factor that represents an increase in electricity costs. However, rather than using a New Zealand-specific emission factor for electricity, the Australian factor (1 tonne of CO2-e per megawatt hour) of electricity is proposed. This is to ensure a degree of comparability between the two tracks (in Australia, activities are compared against thresholds on the basis of an electricity factor of 1 tonne of CO2-e per megawatt hour).
Applying for eligibility under the New Zealand track: Activities under consideration in Australia
At present, eight activities have been defined as eligible in Australia1 as part of work to develop the CPRS, and a further group are currently under consideration. Firms that conduct these activities in New Zealand (listed in tables 1 or 2) should make themselves known to the Ministry for the Environment by responding to the questions in this consultation document.
The current thinking of the Government is to assess whether activities under consideration for allocation under the proposed CPRS can be made eligible under the New Zealand track. As a result, this document seeks feedback on the proposed activity definitions, definition of product, inclusions and exclusions, and years for collection of data contained in Annex 1.
In taking this approach, the Government intends to keep open the option of using the Australian track for the activities in tables 1 and 2 should the CPRS pass into law.
For activities to progress via the New Zealand track the Minister for Climate Change Issues must have regard to the matters contained in Box 1. The activity definitions and associated inclusions and exclusions in Annex 1 are seen as consistent with the matters in Box 1 as similar considerations apply in Australia. However, feedback is welcome on the consistency of the definitions in Annex 1 with the matters contained in Box 1.
Table 1: Activities defined as eligible under the proposed Australian CPRS
| Activity | Eligibility results |
Emissions intensity |
|---|---|---|
Production of bulk flat glass |
2,100–2,199 |
High |
Production of methanol |
2,300–2,399 |
High |
Production of carbon black |
2,700–2,799 |
High |
Production of silicon |
6,000–6,099 |
High |
Smelting zinc |
8,000–8,0992 |
High |
Manufacture of newsprint |
3,700–3,799 |
High |
Production of glass containers |
1,200–1,299 |
Moderate |
Production of white titanium dioxide pigment |
1,000–1,099 |
Moderate |
Source: Australian Government. 2009. Establishing the Eligibility of Activities under the Emissions-intensive Trade-exposed Assistance Program.
Table 2: Activities defined for data collection under the proposed Australian CPRS
| Additional activities defined for collection of data but not yet eligible for allocation | ||
|---|---|---|
Alumina refining |
Fused alumina production |
Packaging and industrial paper manufacturing |
Question 1
- Are you conducting an activity or activities contained in Annex 1? If yes:
- What is the activity or activities you are conducting?
- Please list other persons you are aware of who are or may be undertaking the activity or activities in New Zealand.
- Do you have any comment on the activity descriptions, products, inclusions/exclusions and years for collecting data proposed in Annex 1?
- Do you have any comment on the consistency of the definition of activities in Annex 1 with the matters contained in Box 1?
Applying for eligibility under the New Zealand track: Other activities
For other activities an initial assessment will need to be made of the potential for activities to meet the eligibility tests in the Act on the basis of the preliminary data supplied in response to this document (see Question 2 below). If this information indicates that an activity is likely to pass the trade exposure and emissions intensity tests in the Act, the formal process of developing an activity description and requesting data under a Gazette notice would be initiated.
Those conducting an activity that they think would meet the eligibility tests in the Act should identify themselves to the Ministry for the Environment and provide preliminary data on emissions and revenue by responding to Question 2 below in their submission on this document. If it seems likely that an activity will be eligible, a decision will be taken to develop an activity description and a list of inclusions/exclusions for that activity, in consultation with stakeholders.
Gazette notices
Depending on the responses to this consultation document Gazette notices will be issued as follows:
- for activities listed in Annex 1, once feedback on this consultation document has been taken into account
- for other activities that have demonstrated the potential to meet the eligibility test in the Act, after the Government has developed an activity description and a list of inclusions/exclusions for that activity.
Gazette notices will formally request data in accordance with the relevant activity description, inclusions and exclusions. The data will be used to determine eligibility and develop a regulation that sets out the allocative baseline if the activity meets tests.
A Gazette notice will contain:
- a description of the activity in question
- a definition of ‘product’ (the basis for allocation), which is the metric of production for the activity (this will usually be given in tonnes of saleable output)
- emissions to be included in the determination of eligibility and allocative baselines
- emissions that are not to be included in the determination of eligibility and allocative baselines
- financial years for which information must be provided
- requirements (rules) for how data on emissions, output, revenue or other information must be prepared (see section 5 for the proposed data requirements).
If data cannot be obtained from all persons conducting an activity for which data are requested under a Gazette notice, or cannot be obtained within an acceptable timeframe, the Government may choose not to make regulations until satisfactory data are collected, or may choose to make regulations on the basis of data already submitted. Persons undertaking an activity for which data are collected who do not submit data will not be eligible for an allocation.
The proposed requirements that will govern the submission of product data, financial data and emissions data are set out in section 5.
Question 2
- Are you conducting an activity or activities that you think is/are emissions intensive and trade exposed and not listed in Annex 1? If yes, please include the following in your submission for each activity:
- A clear description of the activity (what inputs are being transformed into what outputs).
- A simplified process diagram.
- Your estimate of the revenue from the outputs of the activity in a typical year.
- Your estimate of the amount of coal, natural gas, or used or waste oil used in carrying out the activity in a typical year.
- Your estimate of the amount of greenhouse gas emissions resulting from carrying out the activity from the direct use of coal, natural gas, used or waste oil (including the use of steam generated from these fuels), geothermal fluid, and industrial processes listed in Part 4 of Schedule 3 of the Climate Change Response Act in a typical year.
- Your estimate of the electricity used in carrying out the activity in a typical year.
- Your understanding of whether the output(s) of the activity are internationally traded across oceans.
- Your understanding of whether the output(s) of the activity are economically viable to import to or export from New Zealand.
- Whether you are aware of any other people undertaking the activity in New Zealand, and who these people are.
- Whether or not you were conducting the activity in all of the (July to June) financial years 2006/07, 2007/08 and 2008/09.
Note that the Government’s decision to further investigate the case for eligibility of other activities via the New Zealand track will be influenced by the quality and transparency of the preliminary data provided in response to Question 2.
