Thursday, July 7, 2022

Carbon farming will shape the future

The concept of ‘carbon farming’ has been around for a long time. I recall carbon farming discussions with my colleagues at University of Queensland back in the early 1990s, but the industry has taken a long time to finally arrive. Well, it is now here. And it has the potential to overwhelm not only the sheep and beef industries, but also have big impacts on the timber industry.

The concept of ‘carbon farming’ has been around for a long time. I recall carbon farming discussions with my colleagues at University of Queensland back in the early 1990s, but the industry has taken a long time to finally arrive. Well, it is now here. And it has the potential to overwhelm not only the sheep and beef industries, but also have big impacts on the timber industry.

It is only six weeks since I wrote an article setting out that carbon farming is now considerably more attractive than sheep and beef on the hard North Island hill country. Then two weeks later, I extended that analysis to the easier hill country. In a more recent article focusing on the Emission Trading Scheme (ETS), I mentioned that the same conclusion could be drawn for considerable parts of the South Island. All of those can be found archived at my own site https://keithwoodford.wordpress.com in the forestry category.

I undertook those analyses using a carbon price of $48, which was then the market price. As I now write this article on September 8, the price is $62 and has been moving up each day.

Futures contracts for 2026 are now available above $71. That means that anyone who knows they will have carbon NZUs available to sell at that time can right now lock in a price above $71.

There is talk that, given current settings within the ETS, the price could soon rise to more than $100. The Government’s current advice is that a price as high as $110.15 would be acceptable in 2026, with the Government’s cost-containment reserve only being activated at that point.

Given that this year’s cost-containment reserve is already exhausted, there is considerable speculation as to what will happen as soon as the next auction on December 1. The Government will need to find some more firepower if it wants to put a lid on current prices. At last week’s auction, they were totally outgunned by the commercial investors, who sucked up all of the 2021 reserve and still the Government could not hold the supposed maximum price to $50.

I have just rerun some forestry calculations using $60 as the carbon price. At that price, and if financial returns are to be the key criteria, I can confirm that carbon farming is clearly the highest and best use across most of the existing sheep and beef land. However, note the caveat about financial returns being the criteria for that finding.

There is also no doubt that if financial returns are the criteria, then it has to be exotic forests. Natives grow much more slowly and are more challenging to establish. 

In contrast, if amenity values and perhaps biological diversity are the criteria, then native forests can indeed be the solution in some specific situations. But if the criterion is either dollars or carbon sequestration, then it has to be exotics.

Those exotics don’t necessarily have to be the Pinus radiata that we refer to as pine trees. It might be eucalypts, it might be redwood or, in some cases, Douglas Fir. But let there be no doubt, it won’t be native forests if dollar returns and carbon sequestration are what counts.

Until recently, the timber industry has been rather keen on carbon farming as an adjunct to production forests. Once the carbon averaging system is introduced next year, the risk associated with claiming carbon credits for first-rotation forests will have been greatly reduced.

As long as carbon credits were valued at $20, $30 or even $40, then for first-rotation forests it looked like a nice little income earner alongside the main business of timber production. However, foresters are now realising that carbon farming has the potential to totally outrun production forests in relation to these first-rotation forests.

From a land-owner perspective, in many situations it is now looking better to collect credits for the carbon, not just for the first 16 or so years under the new averaging system for production forests, but to let those credits run on, initially to 50 years, but then beyond for another 30 or so years to full maturity at perhaps 80 years. Forget about the harvest.

Note that this situation pertains to new forests on land that has most recently been in pasture. Carbon credits are not available for any land that was in forest immediately preceding 1990. There are also major limits in regard to those first-rotation forests planted after 1989 that are now reaching maturity. In general, but with exceptions, those forests will remain as production forests.

One of the major exceptions will be post-1989 forests, where the owners registered their forests in the ETS and collected the associated carbon credits. The key issue is whether or not these credits were cashed-in or are still held as NZUs. If the NZUs were cashed in, then at least some of those NZUs will need to be repaid at the now much higher carbon price.

Hence, there are some nasty situations coming up for some landowners, with the only escape being to now convert these forests to permanent-forest status. But the details are too complex to get into right now. It must wait for another article. 

James Shaw in his role as Minister of Climate Change has been explicit that the ETS is operating much along the lines he had hoped and he is not at all upset that the carbon price is now rising rapidly. His perspective has been that the carbon price needed to be at least $50 per tonne before emitters would start significantly changing their behaviours. Similarly, he has indicated that he can see the price of carbon rising considerably higher and he is comfortable with that occurring.

So, let’s look at what would happen if the price of carbon, with ‘carbon’ being the shorthand for ‘carbon dioxide’, reached $100. It would mean that the carbon tax on petrol would be about 24 cents per litre, given that a litre of petrol releases approximately 2.4kg of carbon dioxide. This change would undoubtedly be an issue of annoyance to many motorists, but it would not greatly change petrol-buying behaviours. 

In contrast, a carbon price of $100 per tonne would mean that carbon farming would blow away all significant agricultural land-uses apart from dairy and horticulture.

One of the problems with carbon farming becoming dominant is that carbon returns are received in New Zealand dollars. As currently structured within the ETS, they are transfer payments within the NZ economy. In contrast, the agricultural industries earn export dollars and it is export dollars that underpin the NZ economy.

According to the Ministry for Primary Industries in their most recent State of the Primary Industries document, NZ’s primary industries earned 83% of NZ’s export income in the most recent year. They also state that this percentage has been increasing for the past 10 years. Sheep and beef currently earn about $10 billion of foreign exchange each year.

Another issue is that land converted to carbon forestry is locked up permanently. Given the associated carbon liabilities attached to the land, there is unlikely to ever be a pathway for future generations back to agriculture.

I have been writing regularly about forestry for more than two years. There are now 15 articles focusing on forestry archived at my own website, amongst the more than 60 articles on many topics that I have written during that period. 

Back in June 2019, I wrote that the “equilibrium price of carbon needed to ensure that emitters change their behaviour is much bigger than the price required to make carbon forestry profitable”. That insight remains the reason that carbon farming now has the potential to blow away the sheep and beef industries.

When I first made that statement, it was heard in Wellington. Someone with considerable influence rang me and we talked about it for well over an hour. But we were not on the same wavelength. I was politely told that NZ’s focus had to be on planting a lot more trees given our international obligations. The implication was that collateral damage to sheep and beef was just the way things were.

As for solutions, that gets real tricky. Unscrambling the egg is not easy and I will have more to say on that. But the first step is to get acceptance that we have already headed into dangerous territory.

Keith Woodford was Professor of farm management and agribusiness at Lincoln University for 15 years through to 2015. He is now principal consultant at AgriFood Systems Ltd. He can be contacted at kbwoodford@gmail.com. Previous articles can be found at https://keithwoodford.wordpress.com

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