Banning new coal mines wouldn't cost the earth

If you want to shock and appal a politician, just suggest Australia join the United States and China in limiting the building of new coal mines.

Think of all the growth we'd be giving up, they protest. All the jobs that wouldn't be created. Some even argue we have a moral duty to sell more coal to the world. How else will the poor countries be able to develop their economies so they become as rich as we are?

Short answer: by relying more on other, less carbon-emitting forms of energy.

Surely the sooner we arrest global warming the better off we'll all be, rich and poor.

The goal of the moratorium on new mines is to hasten the process of decarbonising economic activity.

It's clear the world's growing commitment to action against climate change will see a decline in the demand for coal - the most emissions-intensive way to make electricity - so that much of our huge deposits of coal will stay in the ground.

It's true there's a lot more coal to be burnt before world demand dries up, but total consumption actually fell in 2014-15. Within that, China's consumption fell by 3.7 per cent.

The big fall in coal prices in recent years tells us the supply of coal now exceeds demand. With Australia accounting for 27 per cent of seaborne trade in coal, what happens if we expand our production capacity and start exporting more?

We push the world price down even further. Since the average cost of electricity from renewable sources is, as yet, higher than for coal-based power, this would worsen the comparison further, slowing the shift away from fossil-based electricity.

It would also lower the prices being received by our existing coal exporters, threatening employment in their mines. So a moratorium would benefit our pockets as well as the environment.

But how much would we lose by not building any more coal mines nor extending existing ones?

The Australia Institute set out to answer this question with help from modelling by Professor Philip Adams, of the Centre of Policy Studies at Victoria University, Melbourne.

The study found that, even with a ban on new mines, Australia's coal production would decline only gradually as existing mines reached the end of their economic lives. Existing mines and those already approved could still produce tens of millions of tonnes of coal into the 2040s, assuming other countries still wanted to buy them.

The modelling suggests the nation's economic growth would be barely affected, with the level of gross domestic product being just 0.6 per cent less than otherwise by 2040. Whether we did or we didn't, nominal GDP would roughly have doubled to $3 trillion by then.

Because coal mining is so capital intensive, the effect on national employment would be even smaller. By 2030, the level of employment would be 0.04 per cent lower than otherwise, but by 2040 this difference would have gone away.

Similarly, the value of our total exports of goods and services is projected to be only 1 per cent lower than otherwise by the final years of the period.

But our coal production is concentrated in NSW and Queensland, so the adverse effect on those state economies would be greater. By 2040, the level of gross state product would be, respectively, 1.3 per cent and 3.8 per cent less than otherwise, while the other states' GSP would be a little higher than otherwise.

Now, I trust that by now you've learnt to be cautious about accepting the results of modelling exercises, especially when they've been sponsored by outfits using the results to advance their cause, as is the case here.

The simple truth is that no-one knows what the future holds, and that's just as true for the econometric models economists construct.

Their models of the economy are more comprehensive and logically consistent than the model we hold in our heads. But relative to the intricacy and complexity of the actual economy, models are still quite primitive (this one doesn't have the official data to let it distinguish between steaming coal and coking coal, for instance).

Models are built on a host of assumptions, some based on economic theories about how the economy works and some about what will happen in the future.

The strength of this particular modelling exercise is that it's a lot franker about the model's limitations and about the specific assumptions.

It uses a dynamic "computable general equilibrium" model designed to capture the interrelationships between 79 industries, divided into states and regions.

The model takes account of "resource constraints" - it acknowledges that land, labour and capital are scarce; that everything you do has an opportunity cost.

This means that, unlike much "modelling" produced for the mining lobby, it doesn't assume that the skilled workers needed for a new mine just appear from nowhere rather than having to be attracted from jobs elsewhere, nor that when a new mine isn't built, all the labour and materials that could have been used sit around idle.

As is normal, the modelling starts by establishing a business-as-usual "baseline" projection out to 2040. For instance, real GDP is assumed to grow at an average annual rate of 3 per cent for the first five years, then 2.6 per cent for the remaining 20 years.

Once this baseline or "reference case" is established, the modellers impose the policy change (no new coal mines) and run the model again to see how this changes the baseline results.

That is, it's not a forecast, just an attempt to get an idea of the consequences of banning new coal mines.

The model's modest results make sense. The effects would be small because the coal industry is just a small part of the economy, because the phase-out would be gradual, and because other industries would expand to fill the vacuum it left.

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Innovative idea would fix brown coal problem

Tony Abbott's decision to put short-term popularity ahead of the nation's longer-term economic interests by abolishing the carbon tax has left Malcolm Turnbull with more than a few problems. Just one is the likelihood that less-polluting power stations will close while more-polluting ones keep pumping out greenhouse gases.

At the Paris summit late last year, our government was shamed into promising to step up our reduction of carbon dioxide emissions, even though, without the carbon tax, we lack an economic instrument strong enough to bring the promised reduction about.

But we could make some progress if we could find an acceptable way of taking out of production the worst of Victoria's brown coal (lignite) power plants. The emissions per unit from these plants are about 50 per cent higher than for black coal plants.

The problem is explained in a paper by Associate Professor Frank Jotzo, of the Crawford School of Public Policy at the Australian National University, and Salim Mazouz, of EcoPerspectives.

Thanks to our less wasteful use of electricity and the growth in sources of renewable energy, we now have excess capacity to produce coal-fired power. Sooner or later, some power stations will have to close.

Trouble is, the absence of a price on carbon means there's no guarantee it will be the more-polluting brown-coal plants that bite the dust.

That's because brown coal-fired electricity is significantly cheaper to produce than black coal-fired power.

Why? Because the brown coal power stations are right next to the brown coal mines, thus minimising the cost of shipping the coal to the station.

And the brown coal itself is cheaper because there's nothing else to do with the stuff, whereas black coal could be exported to foreign power plants, which would pay well for it. (Black has a higher "opportunity cost".)

The lower cost of brown coal-fired power (lower "short-run marginal cost", in the jargon) means the brown coal stations do well in the continuous auction to sell power into the national electricity grid.

This means that, though the decline in demand for power from the grid has caused the level of production capacity use to fall for all types of power plants, the brown coal plants are still operating at about 70 per cent of capacity, compared with black coal plants at about 50 per cent.

That's more reason to fear that, if the question is left to be resolved by the market, the plants that close won't be the high emitters.

If we had a decent carbon tax – or emissions trading scheme, they're much the same thing – it would add more to the cost of brown power than it would to black power, so to speak, because its impost varies according the emissions-intensity of the product being taxed.

So, provided the tax was sufficiently high, it would push the firms in the market in the direction that was most desirable from the perspective of tackling climate change. Which, of course, is the reason you have a carbon tax.

But although various power stations aren't making adequate profits, there's little sign that any of them is close to throwing in the towel.

Why not? Because each of the potential quitters is telling themselves that, if they can only hang in there longer than a couple of the others, they'll get their cut of the departing firms' market share, meaning they'll then be in better shape.

Such a Mexican standoff is known to economists as a "collective action problem". The firms in a market have got themselves into a situation where they realise that something they're each doing is damaging to themselves and everyone else, but no particular firm is willing to be the first to stop doing the crazy thing because they fear their rivals would take advantage of them.

Many economists give you the impression competition is an unalloyed benefit. Collective action problems are an example of the downside of competition.

Which means they're an instance of "market failure" – circumstances where problems can't be solved simply by leaving it to the market. (Another instance of market failure is, of course, the damage to the climate caused by greenhouse gas emissions.)

The existence of market failure establishes the case for government intervention in the market – provided you can be confident the intervention will make things better rather than worse.

Intervention by the government is pretty much the only solution to collective action problems. The government comes in over the top and imposes a solution equally on all the firms in the market, which go away pleased they no longer feel obliged to do the crazy thing.

Here's the point: Jotzo – an environmental economist of international stature – and his colleague have proposed an ingenious, innovative, agile solution to the brown coal problem, one that would cost the government and the taxpayers nothing.

You invite the four brown coal power producers to enter an auction by nominating the minimum amount they'd need to receive to be willing to close down. You'd pick the winner or winners according to the ones that offered the cheapest cost per unit of emissions reduced.

You'd be hoping the winners were Hazelwood, owned by GDF Suez, the oldest and most emissions-intensive generator, and Yallourn, owned by Energy Australia, the second oldest and second most emissions-intensive generator.

But the government wouldn't just hand over a cheque. Rather, it would recover the cost by imposing a levy on all the remaining black and brown power plants – those that would benefit from the closures – in proportion to their emissions.

It's true the remaining power stations would want to pass that extra cost on to their customers. But because distribution costs (poles and wires) are so great, the (higher) wholesale price is only a small part of the retail price, meaning the effect on households is likely to be small.

Not a bad idea.

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Banning new coal mines would leave us better off

With the success of the Paris agreement on climate change, it's clear Australia will have to lift its game if we're not to be seen as global bludgers. But with an early return to carbon pricing an embarrassment for the Coalition, what other approaches should we consider?

Take the campaign for a global moratorium on the construction of new coal mines. Is it just a misguided idea dreamt up by idealistic greenies who don't understand economics?

Jon Stanford, of Insight Economics, thinks so. He's a former senior econocrat and an avowed supporter of action to reduce carbon emissions. But in a long post on John Menadue's blog, Pearls and Irritations, he argues strongly against a moratorium.

He readily acknowledges that substantial "social costs" or "negative externalities" – such as the emission of climate-changing greenhouse gases – are imposed on the community by the use of coal.

"There is little doubt that the combustion of coal to produce electricity has made the greatest contribution to increasing carbon concentrations in the atmosphere," he says.

But the most economically efficient way to deal with climate change is to tax all carbon emissions by means of a carbon tax or an equivalent emissions trading scheme.

"Banning new coal mines would reflect an arbitrary approach to reducing emissions. On what basis should various fuels be permitted or banned? Why is coal to be singled out but other fuel with significant emissions such as oil and gas are not?"

So his first objection to a moratorium is that it seeks to reduce climate change in a way that doesn't minimise the resulting loss of efficiency in the allocation of resources.

His second objection is more practical: it wouldn't work, anyway. He says that, according to the International Energy Agency's latest World Energy Outlook, global demand for electricity will increase by 70 per cent between 2013 and 2040.

The agency's middle projection, based on the commitments to counter climate change that countries took to the Paris conference, sees coal's share of global power generation still at 30 per cent in 2040 (compared with 41 per cent in 2013), meaning growth of nearly 25 per cent in absolute terms.

Stanford says that "while the Australian coal industry is a very efficient producer it does not dominate the global market and could not be said to possess any significant market power".

Australia's coal reserves amount to less than 9 per cent of global reserves. As a producer of steaming (thermal) coal, we rank a distant sixth behind China, the US, India, Indonesia and South Africa, not far ahead of Russia and Kazakhstan.

These other countries are unlikely to agree to a global moratorium on new mines so, were Australia to impose a moratorium on itself, the investment in new mines displaced from Australia would merely take place in other countries. Malcolm Turnbull has used the same argument.

Sorry, but I'm not convinced. It's true that a global carbon price would be a more economically efficient solution than an arbitrary moratorium on new coal mines.

But with the problem worsening as each year passes, we don't have the luxury of waiting until a "first-best" solution can be agreed upon. In an emergency, second-best solutions are better than inaction.

As for the practicalities of a unilateral Australian moratorium, the facts are more complex than Stanford implies. The International Energy Agency's figure of a 70 per cent increase in global demand for electricity is an assumption, not an estimate.

All 25-year projections are just projections, and likely to be wrong, often because they're overtaken by events. The agency's projections don't take sufficient account of the fall in China's coal consumption over the past 18 months.

Projections that don't allow for further technological advances and price falls in renewables and energy storage, nor for countries to step up their efforts to reduce warming, over the next 25 years, are particularly unreliable.

Stanford's figures for global coal reserves and even global coal production aren't relevant. That's because not all coal is the same. Some is high quality – in terms of its ability to generate more electricity – some is low. Some can be extracted quite cheaply, some would be very expensive.

Coal is a low value commodity that's expensive to transport over long distances. This means a high proportion of coal deposits and domestic coal production is irrelevant in assessing Australia's market power and the likely effects of a unilateral moratorium.

What determines the world price is seaborne exports of thermal coal. A Reserve Bank analysis shows Indonesia's low-quality coal has 41 per cent of world exports, while we come second with 18 per cent.

Australia is a high quality, low-cost producer, which makes us a more powerful market player than the raw figures suggest.

World prices of steaming coal have fallen a long way since their peak in 2011, in response to a huge increase in supply (mainly by Indonesia and Australia) and flat world demand.

If our 52 proposals to build new coal mines or expand existing ones went ahead, this would eventually double our exports. Do you really think that would have no effect on the world price?

If it caused the world price to be lower than otherwise, this would hurt our existing coal mines, their lenders and their employees. It would also hurt existing and prospective renewable energy projects.

And it would cause the price to be even less reflective of the high social costs caused by carbon emissions, the adverse effect on miners' health and air pollution around coal-fired power stations (the latter a big part of China's reasons for turning against coal).

With the world coal price relatively low, it's not at all clear other, higher-cost producers would happily step in to take our place. If they could, why aren't they doing it already?

The future for coal is a lot more uncertain and less rosy than Stanford implies.

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