Southerly by David Haywood


A Tale of Two Iceblocks: Part 2 (Or A Hopefully Helpful Pointer For Politicians & Policy Makers Who Wish to Reduce Greenhouse Gas Emissions)

In Part 1 of this post, I used the example of iceblocks to explain how well-intentioned efforts to reduce New Zealand’s ‘official’ dirty energy* emissions can actually increase the global total of greenhouse gases emitted to the atmosphere. I concluded that an approach to discouraging dirty energy in New Zealand must satisfy three criteria:

  1. Any disincentive must be applied to the embodied dirty energy for goods and services imported into New Zealand.

  2. Any disincentive must also be applied to goods and services within New Zealand.

  3. Any disincentive must be removed from goods and services exported from New Zealand.

In this second part, I’ll explain a possible approach that meets these criteria. I’m not a tax expert and a proper ready-to-implement scheme would obviously require extensive analysis and modelling. My intention here is simply to demonstrate the basic ingredients needed for an approach to New Zealand’s dirty energy that would genuinely reduce global greenhouse gas emissions—and to give a ballpark analysis showing that the numbers are probably feasible.

As soon as the subject of a carbon tax is raised, many people will say something like: “New Zealand doesn’t need any new taxes”. Good news for those people—I’m not suggesting a new tax. My demonstration proposal relies on the fact that the cost of energy ‘flows’ through the whole economy, i.e. since every good and service requires energy, then any cost applied to the production or importation of energy will flow through to the final price of any good or service.

To explain this in terms of the “ingredients” in bringing an iceblock to your local dairy (this is not an exhaustive list):

  • Energy embodied in the raw sugar cane arriving at the border

  • Coal and electricity required to refine the sugar

  • Diesel required to transport the sugar to the iceblock factory

  • Diesel and electricity required to manufacture the stick

  • Diesel and electricity and sundry petroleum products required to manufacture the wrapper

  • Electricity required to process water and deliver it (via the water network) to the iceblock factory

  • Electricity required to transport and mix the ingredients in the iceblock factory

  • Electricity required to provide lighting, heating, etc. in the iceblock factory

  • Electricity required to cool the iceblock mixture

  • Electricity required to store the finished iceblock

  • Electricity and transport fuels required to run the office and administrative services at the iceblock factory

  • Transport fuels required to deliver the workers to the factory (indirectly priced in via wages)

  • Energy required to feed and house the workers (indirectly priced in via wages)

  • Electricity and transport energy, etc. required to run the advertising company

  • Diesel required to deliver (and keep cool) the iceblock to the dairy

  • Electricity required to run the freezer at the dairy

  • Etc., etc., etc.

… the cost of all this energy is added up along the way and is a component in the final price of the iceblock in your dairy.

Those familiar with the horrors of GST returns will recognize this as being very similar to the way that GST accumulates onto the final price of a product. An obvious solution—and the one that I’ll use as my demonstration proposal here—is to replace GST with a consumption tax on dirty energy that will similarly flow through to the final price of good and services, i.e. to transform GST into PGST (Polluting Goods & Services Tax).

This would involve dirty energy (and possibly some greenhouse gas contributors arising from clean energy) being taxed on a per-kilogram-of-carbon-dioxide-equivalent** basis at point of production or importation. In comparison to GST, a PGST would therefore greatly reduce the administrative burden on most New Zealand businesses (who currently act as unpaid tax collectors for the IRD) by shifting the tax collection point onto comparatively few energy producers, importers, and exporters.

A PGST (as with the current GST) would then meet our criteria for discouraging the production of dirty energy in New Zealand:

  1. PGST would be applied to all dirty energy imports (including embodied dirty energy) as they cross the border into New Zealand.

  2. PGST would be applied to dirty energy originating within New Zealand at the point of production.

  3. PGST would be refunded on dirty energy exports (including embodied dirty energy) as they cross the border out of New Zealand.

Let’s look at each step in more detail:

1. Dirty Energy Imports

The carbon dioxide equivalent values of ‘straight’ dirty energy imports such as oil, coal, and gas are well known (not forgetting that these products also have additional embodied dirty energy from their production). But very few manufacturers of other goods and services can provide documentation showing the dirty energy embodied in their products.

These products must therefore be categorized, and dirty energy emissions estimated from typical values for each category. Happily the techniques to perform these calculations are already available (for example, from the input–output tables produced by Statistics New Zealand, the energy datafile, and the greenhouse gas inventory), which would then allows these goods to have PGST applied on a per-kilogram-of-carbon-dioxide-equivalent basis.

PGST could be collected through the current administrative systems already used for duties (such as the synthetic greenhouse gas (goods) levy, which would no longer be necessary, of course) on products entering New Zealand. It is important to note, however, that PGST is not an ‘import duty’ since—as with the GST that it would replace—it is also applied to goods and services produced within New Zealand.

We can calculate some ballpark numbers on the PGST that could be collected from dirty energy embodied in our imports. Taking our raw data from 2010 (the most convenient year in terms of aligning data sources), we can employ an approach based on the monetary value of the world’s final goods and services (i.e. world GDP) at US$63,048,823,000,000 and the world’s total greenhouse gas emissions (carbon dioxide equivalent) at 42,669,720,000,000 kilograms to give an average ‘carbon-dioxide-equivalent intensity’ for the world’s goods and services of 0.677 kg/US$.

Ahead of time I’ve worked out that a suitable PGST rate for our calculation year would be US$0.40/kg. In 2010 the value of our non-fossil fuel imports was roughly US$24,256,000,000 (based on this data) giving estimated embodied dirty energy of 16,416,000,000 kilograms carbon dioxide equivalent, and therefore raising US$6,566,000,000 of PGST at our chosen rate.

(It should be noted that the numbers above only cover embodied dirty energy imports. For ease of calculation the PGST on imported fuels burnt in New Zealand will be estimated as part of the next section.)

2. Dirty Energy Originating Within New Zealand

Emissions from dirty energy originating within New Zealand occur in three main forms: carbon dioxide (e.g. from transport, electricity generation, and industrial processes such as cement manufacture), nitrous oxide (e.g. due to fertilizer use in agriculture), and methane (e,g. from ruminant animals and landfill decomposition). From an energy engineering perspective, we view nitrous oxide as a by-product of the conversion of solar energy into chemical potential energy in food; and methane as a by-product of the conversion of solar energy into chemical potential energy specifically in the form of ruminant animal meat.

In all cases, the PGST can be applied at comparatively few source points. For example: fossil fuel producers and importers, cement manufacturers, fertilizer manufacturers, and landfill operators. Theoretically it could also be collected for agricultural methane emissions on a per kilogram basis applied to ruminant animal meat produced in abattoirs, and similarly on milk solids.

A PGST scheme could also, in principle, be used via a tax refund to encourage negative emissions, e.g. atmospheric carbon dioxide sequestered as carbon in forests. Various counter-productive results might be possible with such an approach, however, and careful analysis would be required prior to implementation.

In terms of ballpark calculations, I’m only going to take into account carbon dioxide emissions from the energy sector’ (as defined by the Ministry for the Environment) in order to provide a lower bound on the PGST that could be collected. Fertilizer production and agricultural emissions are outside my field of expertise, and would require detailed investigation to assess an appropriate rate per kilogram of fertilizer or ruminant animal meat.

Given the above assumptions we can use data for New Zealand’s total internal greenhouse gas emissions for 2010 at 71,270,000,000 kg (carbon dioxide equivalent) along with an approximate proportion originating from the energy sector (40 per cent) to give PGST of US$11,318,000,000 collected at our chosen rate.

(As mentioned previously this includes imported fossil fuels burnt in New Zealand that were excluded in the ballpark calculations for PGST on dirty energy imports.)

3. Dirty Energy Exports

In theory, the refund of PGST on exports could be calculated via a system of documentation that shows the accumulated dirty energy for any good or service (in the long term this may well be the approach taken internationally). However this would impose a considerable administrative burden on New Zealand businesses.

A simpler system—and one that has added advantages in terms of incentivizing a reduction in dirty energy consumption by exporters—is to refund the PGST collected from each industry category on a per export dollar basis.

Let’s use our iceblocks to illustrate how this would work in practice:

Imagine that there are two iceblock manufacturers in New Zealand: Mackenzie Country Clean Iceblocks manufactured using predominantly clean energy, and Huntly Emissions Iceblocks manufactured using entirely dirty energy.

During manufacture and transport to the border, Mackenzie Country Clean accumulates $5,000 worth of PGST on $100,000 worth of iceblocks. In contrast, the dirty energy Huntly Emissions accumulates $15,000 worth of PGST on $100,000 worth of iceblocks.

When the IRD totals the exports in the industry category of ‘iceblock’ it therefore obtains a figure of $200,000. Given the typical carbon-dioxide-equivalent intensity in the ‘iceblock’ category of, say, 0.167 kg/$ the IRD then calculates a category refund of $20,000 at the official PGST rate. They then refund $10,000 PGST to each Mackenzie Country Clean and Huntly Emissions.

Eagle-eyed readers will note that in actuality Mackenzie Country Clean paid $5,000 PGST but was refunded $10,000—since they consume less dirty energy to manufacture their iceblocks than the typical manufacturer in their industry category. In contrast, Huntly Emissions paid $15,000 worth of PGST for the same refund of $10,000, due to their higher consumption of dirty energy than industry average.

The PGST refund means that, on average, New Zealand iceblock exporters are placed at no economic disadvantage compared to countries that do not put an internal price on greenhouse gas emissions. But simultaneously, the New Zealand iceblock manufacturers that produce more dirty energy emissions than their competitors are punished by getting a smaller slice of the PGST industry category refund.

In other words, the very fact that Mackenzie Country Clean could sell $100,000 worth of iceblocks (while consuming less dirty energy than its competitor) proves that reducing dirty energy consumption in this industry category is possible—and therefore its competitor is incentivized to emulate this in an attempt to claim a bigger portion of the PGST refund for themselves.

In terms of our ballpark calculations, we can employ the data for New Zealand’s total greenhouse gas emissions of 71,270,000,000 kg, and—in a similar manner to the calculations used for our ‘dirty energy imports’—estimate an average ‘carbon-dioxide-equivalent intensity’ for New Zealand’s goods and services at 0.563 kg/US$ (this figure is lower than the world average as a consequence of our greater-than-average use of clean energy).

Then taking New Zealand’s total exports for 2010 (including fossil fuels) at US$29,350,000,000 we obtain PGST of US$6,605,000,000 refunded at our chosen rate.

A potential problem with this approach to dirty energy exports is the possibility of transport of goods and services via New Zealand to take advantage of the PGST system, e.g. a manufacturer sells a product to a New Zealand importer significantly below cost, who then exports it back to the manufacturer at true cost, and thereby collects an undeserved PGST refund. Obviously the tax laws would need to be modified to prohibit this type of rort.

4. Reality Check Using Our Ballpark Numbers

So how much PGST have we collected in comparison to the GST that it replaces? Adding together our ballpark figures for PGST on dirty energy imports plus dirty energy originating within New Zealand minus PGST refunded on dirty energy exports gives a total PGST of US$11,279,000,000.

In comparison, the current GST collected (adjusted to US dollars at the 2010 rate) is US$11,266,000,000. So we can see that—in terms of ballpark figures—our demonstration proposal of PGST appears entirely capable of producing the same revenue as the GST that it replaces.

What about the final price of products with high dirty energy content? Would PGST make them unaffordably expensive? We can do some approximate calculations:

  • Petrol (approx. 2.4 kilograms carbon-dioxide-equivalent per litre) would go from NZ$2.00 to NZ$3.07 per litre after tax (note that since PGST would be collected at source then the illogicality of paying GST on fuel excise tax would be avoided).

  • Concrete (approx. 200 kilograms carbon-dioxide-equivalent per cubic metre) would go from NZ$250 to NZ$330 per cubic metre after tax.

It’s worth noting that while the above products would increase in price, other goods and services (such as renewable electricity and some wood products) would experience a relative drop in price when moving from GST to PGST.

We can also look at PGST in terms of an equivalent sales tax on total goods and services sold in New Zealand:

  • goods solely imported into New Zealand: an equivalent of 27 per cent sales tax.

  • goods solely manufactured in New Zealand: an equivalent of 12 per cent sales tax.

The difference in these equivalent percentages reflect the fact that New Zealand exploits more clean energy than the world average. Of course, most good and services sold in New Zealand are a mix of both imported and locally-manufactured products, and these equivalent percentages are average values (depending on dirty energy emissions from any particular product the proportion of PGST may be greater or less than the average value).

We should also remind ourselves that these ballpark calculations are... well, just ballpark calculations based on average values for emissions on good and services. It’s entirely possible that large numbers of products exported or imported into New Zealand may have very non-average values, which would lead to a significant change in the numbers estimated here.

Having emphasized the limitations to our ballpark analysis conclusions, it’s probably worth discussing the obvious way that PGST can be avoided in comparison to GST.

Dealing With The Effect of Tax Avoidance Via Reduced Use of Dirty Energy

But won’t people simply avoid PGST by using less dirty energy? Yes, exactly—this is the main point of this demonstration proposal! However, it does raise the issue of diminishing tax collection as less dirty energy is used in New Zealand.

Leaving aside the revenue split between income tax and consumption tax (I’d personally favour collecting more government revenue via income tax) it becomes obvious that the rate of PGST would have to be varied over time as the economy responds to price signals and moves away from dirty energy. Any change of tax rate in our current GST system does, of course, impose a major administrative cost on the economy, since nearly every business in New Zealand is required to modify their accountancy systems. In contrast, however, because PGST would be applied at comparatively few points in the economy—energy producers, importers, and exporters—then changing the PGST rate is a relatively trivial issue. It can quite easily be raised to provide increasing revenue (and increasing disincentive) as dirty energy consumption diminishes over time.

Furthermore, being able to easily change the rate of consumption tax offers an additional economic benefit. We can imagine the government being allowed to set a base rate, and then the Reserve Bank being allowed to vary that rate by a percentage point or two. This would give the Reserve Bank a very useful tool (i.e. in addition to the OCR) in order to effect change in the economy.

Needless to say that the PGST rate could (and probably should) also be used as part of a cap system. Given that New Zealand has signed various agreements to reduce our greenhouse gas emissions, then it is not a stupid idea to have a year-by-year plan in order to reach the desired end point. Our PGST rate could therefore be varied in order to move the economy towards a target reduction in greenhouse gas emissions for any particular year.

As with any consumption tax, there are valid issues of inequity with my demonstration proposal for PGST. It’s certainly true that wealthy people would be able to avoid PGST by—for example—purchasing electric vehicles or low energy appliances. But viewed from another perspective these same wealthy people would be the early adopters who would bring this technology into the mainstream, and who would effectively subsidize the capital investment for the rest of New Zealand.

Also in comparison to GST—which the very poor (e.g. homeless people) pay on 100 per cent of their post-income-tax earnings—it would be possible for those with low incomes to avoid PGST. Many basic foodstuffs, for example, consume minimal amounts of dirty energy in their production. Buying most of your protein as legumes rather than beef could have a significant impact on your grocery bill.

Being taxed at only a few points in the economy means that PGST would also be more difficult to evade than either GST or income tax, e.g. no more builders offering their labour half-on and half-off the books. Viewed cynically, this also addresses an inequity issue with GST—in that small business owners (and those who can afford their services) have endless opportunities for GST evasion under the current system in comparison to low-income wage earners.

Final Comments

As I said at the beginning of this discussion: I am not a tax expert. This is not a ready-to-implement scheme. It is merely a demonstration proposal showing the necessary ingredients for an approach that would genuinely reduce New Zealand’s dirty energy emissions (while also reducing total emissions for the world as a whole).

Obviously the best solution to the world’s greenhouse gas emissions would be a binding global agreement for reduction. Also—quite obviously—there is no sign that this will happen in the near future. The next best thing, therefore, is to reduce emissions on a country-by-country basis, while ensuring that our solution doesn’t have the counter-productive effect of causing an increase in emissions from the rest of the world (as happens with our current ETS and the currently proposed alternatives).

Reducing New Zealand’s consumption of dirty energy also has benefits in terms of our balance of trade, economic productivity, and even health costs (dirty energy in transport imposes a huge health burden on the economy). And, of course, reducing our own greenhouse gas emissions doesn’t mean that we should stop working towards a global binding agreement to tackle the problem at an international level.

This has been a very long discussion—anyone who has read this far deserves a reward. You now have my permission (in my medical capacity as a doctor) to cast aside all dietary restrictions and treat yourself to an iceblock. Clean energy products preferred, of course.

Dr David Haywood is an energy engineer who is happy to offer pro bono advice on energy policy to any political party.

*An as energy engineer, I’d see greenhouse gases as being released due to energy consumption in three main ways:

  1. In conversion of energy from a useless form to a useful form, for example:
     Carbon dioxide emitted when the chemical potential energy of petrol is converted into kinetic energy in a motor vehicle.
     Methane emitted when solar energy is converted into chemical potential energy in cow’s milk (via chemical potential energy in grass).

  1. When energy is used to convert materials from a useless form to a useful form (this includes energy used to dispose of materials at the end of their life), for example:
     Carbon dioxide when energy is consumed to convert limestone into cement
     Perfluorocarbons when energy is consumed to convert aluminium oxide into aluminium

  2. Greenhouse gases emitted as a consequence of emissions due to energy consumption in the above two categories, for example:
     Methane released from permafrost due to climate change (which itself occurs as a result of energy-related greenhouse gas emissions).

This essentially covers all aspects of human activity in terms of greenhouse gas emissions.


** Carbon-dioxide-equivalent values refer to the global warming potential (GWP) of other gases in comparison to carbon dioxide over a given time period. For example, the GWP100 value for methane is 34, because methane has 34 times the global warming effect of carbon dioxide over a time period of 100 years.

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