The role of price controls in the NZ ETS

The NZ ETS has price controls to help manage the risk of unacceptably high or low NZU prices. This page will help you understand the role of price controls in the NZ ETS and how they relate to New Zealand's emission reduction targets.

Price controls aim to keep emissions prices in line with emissions budgets

Price controls act as safety valves to manage the risk of the New Zealand emission unit (NZU) price at auction being out of line with what is considered necessary to meet our emission budgets.

The level of the price controls signal the bounds of expected and acceptable prices in the NZ ETS, but should not be the key driver for the market price. The market price is determined by NZU supply and demand at a point in time.

The price controls allow investors to plan for future emissions costs and assess the potential revenue from emissions removals. Businesses can use the price controls to calculate the likely minimum and maximum costs of NZ ETS compliance, and to assess potential investments in low-emissions technologies or practices.

All international emissions trading schemes currently include some price control features. The NZ ETS has an auction price floor and a cost containment reserve.

The auction price floor

The price floor is the minimum price that NZUs will be sold for at auction. This price floor does not prevent market participants from trading NZUs in the secondary marke for a lower price if they choose to. It sends a signal that the Government considers the long-term value of NZUs to be higher than this price.

The secondary market is distinct from the primary market and does not involve the Crown.

The published auction price floor is distinct from the confidential reserve price.

The confidential reserve price prevents the sale of units at auction significantly below prevailing secondary market prices. The confidential reserve price is calculated for each auction using a confidential methodology based on recent secondary market price(s) and taking into account market volatility. Both the methodology and resulting reserve prices are kept confidential so the confidential reserve price doesn’t become the target of strategic bidding behaviour.

The cost containment reserve

The cost containment reserve is a reserve of NZUs which are available for sale only if a trigger price is reached in the auction. Making these extra NZUs available at auction eases demand for emissions units.

The effectiveness of the cost containment reserve in dampening the overall NZU auction price is dependent on the volume of units available and the demand for them.

Cost containment reserve units need to be backed by the Government

If any NZUs are sold from the cost containment reserve, causing the emissions budget to be exceeded, then the NZUs need to be backed by the Government. This means the Government would need to procure equivalent emissions reductions, for example by purchasing international units or funding activities that reduce emissions domestically.

What the Minister must consider when determining price control settings

The Minister must consider the following, along with other things, when determining the price control settings:

  • projected emission trends
  • how the NZ ETS is functioning
  • international obligations and possible access to overseas mitigation
  • estimates of domestic abatement costs
  • the impact of emissions prices on households and the economy:
  • the level and trajectory of international emissions prices (including price controls in linked markets)
  • recommendations of the Climate Change Commission.

See Section 30 GC of the Climate Change Response Act 2002 [New Zealand Legislation website].

The cost containment reserve replaces the fixed price option

Since 2009, the NZ ETS has had a de facto price ceiling known as the fixed price option (FPO).

The FPO allows NZ ETS participants to pay $35 to the Government instead of purchasing units from the secondary market. This provides participants with a guaranteed maximum compliance cost.

NZ ETS participants can only use the FPO when they have a surrender or repayment obligation. The FPO does not create NZUs that can be traded in the market, and there is no limit on the number that can be purchased. When FPO units are purchased, it indirectly adds to the supply of NZUs in the market because its use means that other NZUs will not be surrendered.

Replacing the fixed price option with the cost containment reserve provides the Government with more control over the number of NZUs available to the market, as there is a limit on NZUs available through the reserve. This limit is part of the overall limit on NZUs supplied into the scheme.

The fixed price option (FPO) can be used to meet surrender obligations up to the 2020 calendar year.