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Senate Select Committee on the Scrutiny of New Taxes
Carbon tax pricing mechanisms

THOMPSON, Mr Kenneth John, Executive General Manager, Loy Yang Marketing Management Company Pty Ltd, Loy Yang Power

VANDERZALM, Mr Simon Paul, Manager, Strategy and Development, Loy Yang Marketing Management Company Pty Ltd, Loy Yang Power


CHAIR: I welcome representatives of the Loy Yang Marketing Management Company. Thank you for making yourselves available at short notice. I invite you to make an opening statement.

Mr Thompson : I would like to thank the Senate committee for the opportunity to present on behalf of Loy Yang Power. I would also like to apologise for the absence of our Chief Executive, Mr Ian Nethercote, who is overseas on business this week. Loy Yang Power is located in the Latrobe Valley, the region that has been the heart of the Victorian power industry for nearly 100 years. Today Latrobe Valley brown coal supplies around 85 per cent of Victoria's energy needs and employs around 3,000 people. The industry's direct contribution to the economic output of the region has been estimated at more than 20 per cent of local GDP, which is higher than any other industry sector. Given the economic and environmental impact of the Latrobe Valley brown coal industry, there is no doubt that the proposed carbon scheme will place significant pressures on this industry and our community. It is clear that the Latrobe Valley will need special assistance due to the dislocation likely to be caused by the transformation to a low-carbon economy.

Loy Yang Power owns the largest power station in Victoria, which is the 2,200 megawatt brown coal generator, and it provides one-third of Victoria's electricity demand. The Loy Yang mine produces approximately 30 million tonnes of coal a year and supplies the nearby 1,000 megawatt Loy Yang B Power Station, which is owned by International Power GDF Suez and Mitsui. This means that the Loy Yang Power mine is the fuel source for approximately 50 per cent of Victoria's energy needs.

Loy Yang Power has taken very seriously the issue of greenhouse emissions and climate change for well over a decade and has committed significant capital investment on plant efficiency programs, which have increased the generation output by about 10 per cent, 200 megawatts, while reducing the amount of carbon produced per unit of energy. We have also supported a range of research and development projects that could significantly reduce CO2 emissions from brown coal, while opening up new opportunities for the use and export of the vast brown coal resources which exist. At the current usage rates, there is approximately 500 years of brown coal available in the Latrobe Valley. We believe it is vital for our region and the nation that we continue to harness the brown coal resources of the Latrobe Valley into the future in a responsible and sustainable manner. Certainly, new technology will be critical to the future utilisation of brown coal.

Before commenting on the specific aspects of the Clean Energy Bill, I would like to emphasise that Loy Yang Power is seeking the establishment of a well-designed and well-implemented carbon-pricing mechanism to transition Australia to a carbon constrained future whilst maintaining investor confidence and security of supply. In particular, I note that the introduction of this scheme will place pressure on our cash flows, make our refinancing of existing debt more difficult, may cause compliance problems with financial services licences and may lower the creditworthiness of the company. We have, therefore, consistently stated that the scheme must be designed in such a way so that, firstly, there is appropriate transitional assistance for affected generators to recognise the impact on business value and to ensure a smooth and orderly transition to alternatives or new technologies; secondly, that our future working capital requirements are recognised; thirdly, that it provides investment certainty for us to continue investing in our maintenance and capital programs to ensure baseload reliability of supply; and, finally, that the scheme provides efficient carbon price signals. I will speak about the first two points. The latter points are covered off in the written submission that was sent yesterday.

Our view is that the Clean Energy Future does include positive policy mechanisms but significant risks remain. Whist the scheme will ensure energy security in the short term, it falls short of appropriately compensating generators for business value losses. The inclusion of assistance for the brown coal sector recognises that this critical industry will be hardest hit from the introduction of the carbon scheme. Given the high carbon intensity of brown coal electricity generation, such generators will not be able to pass on their full costs of emissions. As currently proposed the transition arrangements will not sufficiently compensate brown coal generators for the significant cost increases that will be incurred. Over its whole-of-life performance, our modelling shows that Loy Yang Power suffers a significant deterioration in business value, which may impact on the operations of the business in the medium to long term. We are, therefore, seeking further assistance but, in the event that the level of assistance remains unchanged, consideration should be given to removing the taxation of the assistance and remedying the working capital challenge for the industry.

I want to speak in particular about the working capital issue. The lack of deferred settlement arrangements for permit purchase is the most significant concern that Loy Yang Power has with the legislation, as it has wide-ranging impacts on individual generators and on the sector as a whole. Deferred settlement on government auctions of emission permits is fundamental to the forward hedging of electricity prices and that underpins the viability of the wholesale electricity market, the retail businesses and the end users of electricity. The purchase of carbon permits will be a significant cost for the stationary energy sector. Based on a carbon price of $23 a tonne Loy Yang Power will be required to purchase $450 million in carbon permits each year to generate at its current output. But in addition to that, Loy Yang Power also needs to purchase future vintages of carbon permits in order to transact forward hedging arrangements. The working capital requirements for Loy Yang Power will be in the hundreds of millions and, despite the current level of compensation being offered, will, according to our modelling, be in the order of $1 billion by 2025. Clearly this is a significant challenge for the business as it will be for many other generators.

In fact, the Investment Reference Group estimated that about $10 billion in additional working capital will be required under the current proposal. This matter alone may change the dynamics of the hedging market and as a consequence the price of electricity. ACIL Tasman recently completed a modelling exercise on this issue for the Electricity Supply Association of Australia and its findings were that without deferred settlement there could be less hedging of electricity resulting in higher prices and increased volatility. According to ACIL even a five per cent reduction in electricity contracting could result in at least a 10 per cent increase in retail prices in a single year for households and small businesses, and up to 15 per cent for large users.

The lack of deferred settlement arrangements for permit purchases is a significant concern. We would like to see this incorporated into the policy with commencement from 2013 to provide certainty for the industry. It is acknowledged that the government has attempted to solve this matter through the provision of government loans. However, it is suggested that many generators will be unable to increase their indebtedness due to existing loan covenants and therefore are unable to access such loans and participate in government permit auctions without deferred settlement. It should be noted also that the previously proposed CPRS had included a deferred settlement mechanism, and it is clear that the market and electricity consumers would benefit if this feature were restored.

In summary, forcing generators, who will already be heavily impacted by the carbon price, to pay for future permits upfront will be a massive impost on these companies and an added risk to energy affordability. We urge the government to consider amending the legislation to ensure permits are paid for by generators when they actually need them.

There are a range of other matters which are of concern and these were outlined in a written submission forwarded earlier. In summary, those included the need for a greater volume of permits to be made available at auction; further clarity on the payment of the first cash instalment of the proposed compensation; concerns about the price floor on international permits; and, lastly, the need to adjust taxation of permits such that it is consistent with normal taxation arrangements. Thank you for listening. I am happy to take questions.

CHAIR: Thank you very much. You said in your press release on 10 July that $450 million per annum would be your carbon tax liability with only a portion likely to be recovered via increased electricity prices. How much would you be getting back by way of transitional assistance? How much are you expecting that you can pass on through increased electricity prices? How much do think is going to be the net hit?

Mr Thompson : There are three questions in there. In regard to the assistance, our estimation is we will be getting half of the liability covered over the first five years, but that is it. After that we are on our own. So whether that assistance is used as a subsidy for our operation or whether that is to recognise the loss of value that the owners get, there is some difficulty. We are about to enter a refinancing on debt tranche and I am sure our lenders, who have got significant exposure to our business, will also be entering into some dialogue in regard to what happens with that assistance and how it is treated.

In regard to how much we could recoup from the market, this is somewhat a commercially sensitive area and it is not really measurable or knowable. But our estimations are that the market may achieve a pass-through of about 90 per cent or 0.9 tonnes per megawatt hour. Our intensity is, in round numbers, 1.25. So we will be missing out on about—what?—a third.

Mr Vanderzalm : We will be missing out on 0.35 tonnes per megawatt hour of electricity that we send out to the network.

CHAIR: You said that the transitional assistance was inadequate as it currently stands. If the legislation goes through as it currently stands, does that mean it would put your viability at risk?

Mr Thompson : Not in the short term. Some of these things are not readily knowable because, whilst the compensation, as we say, is inadequate compared to what was the enterprise value expected under a no carbon scenario, as you would appreciate, we operate in a highly competitive market where our revenues are not fixed in any sense and so there is a whole range of modelling outcomes that could determine what that value will be. Our viability will depend on what happens, particularly with gas prices and black coal prices, over the medium to long term. There is a lot of talk about the LNG export and the impact it will have on domestic gas prices and how that will change but, equally, it is the predominance of wind and also hydro, which has got lower carbon intensity, so there is quite a lot of difficulty in really coming to a fixed view on what those outcomes will be.

CHAIR: So you are a brown coal electricity generator and you say that transitional arrangements are inadequate for you?

Mr Thompson : Yes.

CHAIR: But nearly all of the transitional assistance for coal fired power stations goes to brown coal operators, does it not?

Mr Thompson : Correct.

CHAIR: If you are having difficulties as a brown coal operator who is getting nearly all of the—not you individually but—

Mr Thompson : Yes, our sector.

CHAIR: You are part of a sector that is getting nearly all of the transitional assistance. How much worse off would black coal fired power generators be, who actually are comparatively more environmentally efficient?

Mr Thompson : Our view is—and you might expect us to say this—we have done some modelling, obviously, to work out how we think the market will play out in the short term. Our view is that the black coal generators will generally be out around the average intensity of the market, so they should be able to recoup most, if not all, of their costs whereas brown coal, with a much higher intensity, will not be able to do that. I think that has been recognised by the government and that is why the compensation has fallen the way it has.

CHAIR: When you say 'recoup most of the costs', what you are saying is to pass it on through increased electricity prices.

Mr Thompson : Correct. Yes, we would think that the black coal intensity is around 0.8, 0.9. I can tell you at the moment that the forward market is trading at a carbon intensity around 0.9 and there are two products that are trading at the moment—a fixed carbon intensity of 0.9 and a floating carbon intensity where the market operator will work it out.

CHAIR: But everything that you are saying is right for those suppliers in the national electricity market but it does not actually apply to Western Australia, does it?

Mr Thompson : No, and they are not a part of our market.

CHAIR: But the thing is, though, that black coal fired generators in Western Australia get impacted the same and they do not get any transitional assistance and they cannot recoup it the way you have just described.

Mr Thompson : I am not really qualified to talk about the Western Australian market. We do not trade in that market.

CHAIR: Fair enough. Just quickly, the final question from me: what is the increase? When you say that you will seek to pass on or recover a portion of that $450 million per annum that you will have to pay to purchase a carbon permit, what is that going to mean in percentage terms? What is going to be the percentage increase in the cost of supplying electricity that you will be able to charge to the marketplace?

Mr Thompson : We would have thought—and we will not be the price setter, although we may be; it depends on what happens with all the other fuel sources—about a 30 per cent increase in wholesale prices.

Mr Vanderzalm : Thirty per cent?

Mr Thompson : It is what we expect. But of course wholesale prices are only—

CHAIR: This is 30 per cent increase in the wholesale price?

Mr Thompson : But wholesale electricity is only a component of the total bill, yes.

CHAIR: Okay, Senator Cameron?

Senator CAMERON: Mr Thompson, how long has Loy Yang Power been discussing the impost of a carbon price on the company?

Mr Thompson : In a serious way, I think probably since 2006 or 2007. I cannot really be sure but, under the proposed CPRS, we established a separate emissions trading implementation team to start working on that in a serious way.

Senator CAMERON: So before 2006 or 2007, you were not serious about it, is that correct?

Mr Thompson : In preparation for an emissions trading scheme, probably not. But in terms of our understanding of the need to improve our environmental footprint, that goes back to probably the late 90s. It was certainly 2000 when we were involved in a number of voluntary programs.

Senator CAMERON: Improving the environmental footprint is a different matter. The issue I am asking you about is whether the company is seriously dealing with the need to reduce its carbon pollution and actually taking issues to the board and making decisions about that. What did you do when the Shergold report came out?

Mr Thompson : When was that?

Senator CAMERON: During the Howard government.

Mr Vanderzalm : I think that was 2007. That was about the time we established our—

Senator CAMERON: Not 2007, that was when the Labor government was elected. Can you take that on notice?

Mr Thompson : I cannot recall—

Senator CAMERON: I will tell you why I am asking these questions. We have got a company now saying, 'Look, our future is in jeopardy because of the imposition of a carbon price,' but you have known that a carbon price has been coming for over a decade and it is only in the last four years that you have been seriously addressing the issue. Would I be in turn to say that is a failure of governance by the board of Loy Yang?

Mr Thompson : No, I do not think that is fair, and there are a number of things that I would probably say in response to that. Firstly, the Loy Yang plant is 1970s technology. There is a limit to what you can do with the existing technology—you cannot get significant reductions in emissions from that type of plant without spending probably billions of dollars. But on top of that, Loy Yang Power has been involved in a number of R&D exercises over the past decade, and that would include the mechanical thermal expression. We had a pilot plant at Loy Yang Power and we were involved in investing in that. We have currently got a carbon capture pilot plant at Loy Yang Power, and our company has been associated with CSIRO and a number of other research organisations.

Our shareholders have not been making significant profits out of the generation industry from day one. There might be a whole range of reasons for that, but I think they have shown a lot of good faith in forgoing some dividends to invest in those type of activities. So I think there is a fair bit of evidence on the record that Loy Yang has been pretty good.

Senator CAMERON: Well, maybe if you want to provide more detail about the board discussions, that would be helpful.

Mr Thompson : Happy to take that on notice.

Senator FIFIELD: As long as the government releases—Sorry, I will not interject. I will resist.

Senator CAMERON: You just have.

Senator FIFIELD: I will not continue to.

Senator CAMERON: You just have. Mr Thompson, are you aware of the coalition's direct action policy?

Mr Thompson : Yes, I am.

Senator CAMERON: Have you studied that direct action policy?

Mr Thompson : Not very much.

Senator CAMERON: So you do not treat it seriously?

Mr Thompson : I understand where you are going—

Senator CAMERON: Do you?

Mr Thompson : Well, maybe not. I will not be so presumptuous. Our view is that is kind of a transition—

Senator CAMERON: I will just be quiet and you just answer the questions, then.

Mr Thompson : It is kind of a transitionary tool and Loy Yang, we would say, is the most efficient of the brown coal generators in the Latrobe Valley. We do not qualify even for the current contact for closure. Our emissions are lower than the threshold. So, for us, we have always taken the view that we have probably got the best plant of the brown coal that is in Victoria, and we are probably here for the long haul. Alcoa recognised that when they did a deal with us out to 2036.

Senator CAMERON: Yes, I have got really limited time. I am asking you about your knowledge of the coalition's direct action policy.

Mr Thompson : Yes, we have not spent a lot of time on it.

Senator CAMERON: You have not spent a lot of time on it, so you would not understand its implications then, for the company?

Mr Thompson : No, they have not been in government. We generally deal with the government of the day and the policies that are likely to get up, and that is the prudent approach I would have thought. We have got limited resources and we focus on what has to be done.

Senator CAMERON: I see. Part of the direct action policy is to propose $50 million towards a $360 million pilot for brown coal drying and post combustion carbon dioxide carbon capture and storage. Has the coalition spoke to you about this?

Mr Thompson : They would not have spoken to me. It is a pity our chief executive is not here today. I am not too sure whether he knows.

Senator CAMERON: Has the coalition spoke to anyone in the company in relation to this proposal for carbon capture and storage? It seems to me that $50 million is not just a big investment in carbon capture and storage—it is a huge investment.

Mr Thompson : It is an important investment, but yes, you are right. It probably would need more.

Senator CAMERON: Could you provide details of any discussions you have had with the coalition in terms of their direct action policy? You could take that on notice—if you have had any discussions and what those discussions are about?

CHAIR: Senator Fifield?

Senator CAMERON: You should actually let me finish the question when I am on my last question. You should actually show just a little bit of courtesy. You are the worst chair I have ever had to work with.

CHAIR: And I am really happy that I could make you feel better by letting you say this.

Senator CAMERON: And you are just getting worse as the time goes on.

CHAIR: Senator Fifield.

Senator FIFIELD: At least Senator Cameron always speaks with a smile on his face.

Senator CAMERON: And don't you start because you are not much better.

CHAIR: Senator Fifield, let us focus on the questions. There is limited time. This is an important policy.

Senator CAMERON: I am happy to take his turn—

CHAIR: Senator Fifield.

Senator CAMERON: I am happy to take five minutes. I am having an argument with Senator Fifield.

CHAIR: You are out of order, Senator Cameron.

Senator CAMERON: So either he shuts up and gets on with it or I am happy to have a go.

CHAIR: Senator Cameron, you are out of order. Senator Fifield?

Senator CAMERON: I am happy to have a go if he wants a go.

Senator FIFIELD: No. Senator Cameron is always tongue-in-cheek, I know.

Senator CAMERON: Yes, yes.

CHAIR: Senator Fifield.

Senator CAMERON: Happy to do it.

CHAIR: You are running down the clock for Senator Thistlethwaite.

Senator CAMERON: You might as well be quiet and let him ask the questions.

Senator BOSWELL: Take this time off Labor.

CHAIR: Senator Fifield.

Senator FIFIELD: Mr Thompson, I wonder, through the chair, if your opening statement you might be able to table a copy of that for the committee.

Mr Thompson : Absolutely. I brought a spare.

CHAIR: Can we get that now?

Senator FIFIELD: Terrific, thank you very much for that. Just one point in your opening statement: you said that 50 per cent of Victoria's energy needs were provided. Was that by Loy Yang mines and power generation or were you talking about the Latrobe Valley as a whole?

Mr Thompson : No. At Loy Yang, we have the Loy Yang A power station, which is owned by Loy Yang Power, and it produces 2,200 megawatts and next door to us is Loy Yang B, which is owned by International Power and Mitsui, and it produces 1,000 megawatts. So you have a total of 3,200 megawatts on the site but the Loy Yang B power station is supplied by our mine, which was part of the old State Electricity Commission arrangement because it built Loy Yang B and then privatised Loy Yang B first but you would be silly to build another mine for that station, given it is adjacent to us. Our mine and our company provides 50 per cent of Victoria's needs from that fuel source.

Senator FIFIELD: Sorry, I think you want to interpose?

Senator BOSWELL: I was just going to ask where Hazelwood fits in?

Mr Thompson : Hazelwood has its own mine. Hazelwood is 10 or 15 kilometres to the west and then you have the Yallourn power station, which is a little bit farther.

Senator FIFIELD: Thank you. I just thought that was a point worth emphasising. It is a phenomenal percentage. Now, your company directly employs, I think, in the Loy Yang operation, 550 people, is that right?

Mr Thompson : Thereabouts.

Senator FIFIELD: Okay. Do you have a handle on the indirect employment as a result of your operations?

Mr Thompson : There are probably about another 500 at peak times, I think. Those numbers do vary from time to time because I think if you said there was 500 each at Yallourn, Hazelwood and ours—there is probably a couple of hundred at each site—and we have approximately 3,000 across the rest of the industry—

Senator FIFIELD: Okay, thank you for that. Have you done any work as to the employment implications of the various scenarios under the carbon tax? I think you said that you were not eligible to submit a bid for closure but in the other scenarios as to how your operators might be affected or how you may choose to respond to the carbon tax legislation, have you looked at the employment implications of each of those scenarios?

Mr Thompson : On our company?

Senator FIFIELD: On your company, yes.

Mr Thompson : Not specifically but I would have to say we have been under significant pressure over the last two or three years. Electricity prices on the spot market averaged $27 for the last 12 months. We are trading forward prices at the same price as we were trading in 1998 and yet our costs are nothing like what they were in 1998, so the company has had to look at a whole range of efficiencies and cost reductions just to survive at the current time. We have gone through a redundancy program just recently and, in some respects, you might say, 'Well, we are starting to right size the business and we might be not seeing too much more.' It just depends how much pain we go through. The other thing I would like to say about the closure is that certainly there will be some pressure on the community to absorb job losses if there were closures at, say, Hazelwood Power Station or Energy Brix. I think that recognition should be given to perhaps some of our older people being able to be pensioned out and us taking on the younger personnel from other companies. The government could help facilitate those sorts of outcomes. Both of us lived through the privatisation of the State Electricity Commission and saw the effect that had on the community. I would not want to see a repeat of that.

Senator FIFIELD: It was put to you earlier that a price on carbon had been coming for 10 years and that surely you should have planned so you could be ready to roll, but there has not been a definitive and definite proposal for how to price carbon for 10 years, has there? It has been such a variable policy environment in relation to a carbon tax that that must have made it very difficult for you to plan.

Mr Thompson : I guess the first response to that is that the most critical issue is what shareholders do when they invest. Loy Yang power was privatised in 1997 and we have a legacy of a balance sheet. Those owners left $1.2 billion behind and the Victorian government and the taxpayers were the beneficiaries of that when Jeff Kennett—rightly or wrongly—sold the industry. Our next shareholders, which we have currently got, came in in 2003. In fact, the sale concluded in April 2004. If you know anything about economics, and I do not know a lot, when you put the NPV models together your early cash flows are vital to what the net present value of your investment might be. If you were trying to guess five or 10 years when a carbon price might come in, in the absence of any firm policy—and we have seen what has happened under the previous Howard government and then what happened under the Rudd government—that then got ditched and now we are where we are today. Already those decisions are sunk, as far as what our investment from our shareholders is, and that is a key driver. The other aspect is what efforts can you make to reduce your emissions and, as I said, we have been doing a lot of work on that. In fact, the arrangement we have with Alcoa requires us to produce a carbon abatement plan. We produced the first one of those to their satisfaction in May last year and that is a plan that we have to update annually. There is a whole range of activities and projects that have been identified and the business has been working in this space at least since 2000.

Senator MADIGAN: In recent times in the media I have seen a few articles that allude to the fact that we may experience times in the community where—at peak load—the power generation capabilities have not kept up with the increases of people and demand. Have you seen those reports and what veracity do you place on them? May we see general people in the community getting cut off because we have not got the power capacity to supply them? Is it going to be regional Victoria, or regional New South Wales, or people living in Broadmeadows because we do not have enough power to supply them at peak times in the depths of winter or the really hot days.

Mr Thompson : My view is that most of the work that is done by institutions generally take a conservative view on those matters, probably because they report to governments and governments are acutely aware of the importance of keeping the lights on. From the market's perspective, and I am thinking in particular of Victoria because South Australia is slightly different where they have extreme temperatures in summer—particularly around Adelaide—you are not seeing electricity prices signalling any need for much new investment in generation and, in most times of the year, we are still seeing a fair bit of surplus generation available to the market. We have a fair bit of interconnection. We have Mortlake Power Station being built by Origin, which is going through commissioning now. It is another 550 megawatts. I guess it is a leap of faith as to whether the market will deliver the capacity required on time, but most of the new entrant capacity that has come in Victoria over the last 10 years other than wind has been gas fired peak generation to cover those kind of events. Now, you cannot cover every eventuality, particularly if there are a network failures or bushfires and those sorts of things, but I think for the short to medium term, the outlook is still pretty robust as far as security of supply.

Mr Vanderzalm : The Australian Energy Market Operator recently released its electricity statement of opportunities and it predicted no shortfalls at least for the next couple of years in most regions around the national electricity market. So despite the fact there is not a lot of committed projects identified in the statement of opportunities, AEMO has no concerns about reliability of supply, at least for the foreseeable future.

Senator MADIGAN: And when you produce power you tend to supply into the grid or whatever. Do you get paid less per unit of power than wind power?

Mr Thompson : What we have is a pool, a spot market for electricity and the last generator required to satisfy demand sets the price for the whole of the market, so everybody gets the same spot price. If the price right now is $23, then wind will be getting $23 a megawatt hour and so will Loy Yang Power and every other generator being dispatched, times the volume that each is putting in. Of course, because you cannot store electricity, that price changes every five minutes.

Senator MADIGAN: Right. But does wind get a subsidy?

Mr Thompson : Yes, well wind has a renewable energy certificate attached to it which is trading in about—

Mr Vanderzalm : $40.

Mr Thompson : So every time we generate a megawatt hour of electricity from wind, it also earns one renewable energy certificate which is worth around $40. And that is a subsidy which we will pay for through our electricity bills.

Senator MADIGAN: You get how much per unit yourself?

Mr Thompson : We would only get what the electricity spot market is, which would be—

Senator MADIGAN: And that is approximately.

Mr Thompson : Yes, and for the last 12 months that average in Victoria has been $27.

Senator MADIGAN: You get $20. You all get $27, but they get an extra $40 on top.

Mr Thompson : Correct.

Senator MADIGAN: So the wind power costs us $67-odd and the coal fired costs us $27.

Mr Thompson : Yes. Well, our costs are different to that, but that is all we receive.

Senator MADIGAN: Yes.

Senator THISTLETHWAITE: Mr Thompson, you said in your opening remarks that you supported a carbon pricing mechanism, yet you went through some of the issues that you have with some of the details of the scheme. But am I right in saying that it is Loy Yang's view that the best approach to deal with tackling climate change is through a market based mechanism rather than a subsidy based mechanism?

Mr Thompson : We would probably say that is correct. We think the market would probably find the least cost abatement, provided there was no external tampering.

Senator THISTLETHWAITE: Yes, yes. And I am assuming that your organisation is going to be relying heavily on the purchase of abatement permits?

Mr Thompson : Correct—if we can.

Senator THISTLETHWAITE: And you will be seeking to purchase those permits internationally as well?

Mr Thompson : We will, yes. In the fullness of time, I am not too sure whether we will start in that space.

Senator THISTLETHWAITE: The department of climate change gave evidence this morning that they had done a study or that Treasury had done a study which demonstrates that if businesses like yours are not able to access international permits on the international market once the carbon trading scheme begins in Australia, it will substantially push up costs.

Mr Thompson : Correct.

Senator THISTLETHWAITE: That is a view that you share as well, is it?

Mr Thompson : Yes, absolutely. Australia is not a large carbon market and Australia would be a price taker on carbon, if international permits are allowed, depending on what constraints are put around that. And the beneficiaries of that will be the Australian community.

Senator THISTLETHWAITE: Yes. There have been some questions regarding baseload power and certainty. There have been some commentators who have said the reason where there has not been further investment in base load power is that there is not that certainty at the moment in terms of carbon pricing and the capital costs associated with investing in baseload. Is it your view that with carbon pricing mechanism that there will be greater certainty for the industry?

Mr Thompson : I do not share the premise of the question. The scale we have seen built by the states and the power station that we work at are large capital investments and therefore you do require such certainty, whereas a lot of the plant we have been seeing built is more your open cycle gas turbines which are a much lower investment and are able to be built much more quickly. The other reason we have not seen a lot of baseload being built is that we do not need it. Originally the states had an oversupply of baseload and what was needed in the market was more intermediate and peaking generation.

Senator THISTLETHWAITE: With the carbon price do those open cycle gas turbines become more price competitive as a baseload option.

Mr Thompson : The short answer is yes, because their carbon intensity is around 0.4 for gas. Depending on what the carbon price is, all the planets line up and you have gas, black coal and brown coal starting to meet. Then as carbon prices go higher of course brown coal starts to suffer at the expense of the lower emission plant.

Senator THISTLETHWAITE: As a final question can I ask what Loy Yang's view of the energy security fund is?

Mr Thompson : As I said in my opening address, it is welcome but it is still short of where we believe it needs to be. We need to trade as a private company in a financial services market and I think the first five years is welcome but we face significant pressures after that. I do not want to concede that the compensation cannot be increased but the working capital issue is just horrendous. The deferred settlement is one of the key features that we are pursuing without fear or favour.

Senator THISTLETHWAITE: Thank you.

CHAIR: Thank you very much for your contribution to the committee today. We really appreciate it.

Committee adjourned at 11:12