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Clarky's Comment - October 2009, Who will do the new planting?

Although still subject to Select Committee review and final legislation, the Maori Party support for National's ETS amendments has provided a clear incentive for the planting of new forests. Our calculations suggest a strong domestic demand for forestry credits after 2012, which cannot be met from existing post-1989 forests, even in the unlikely event that all post-1989 forest owners did enter the scheme. But who will plant new forests?

At PF Olsen, we get the impression that NZ industrial emitters are awaiting the outcome of the legislation and focusing on CP1 commitments rather than looking forward to when the 50% commitment phases out at the end of 2012. They have the option of meeting these short-term commitments by purchasing pre-1990 (free allocation/partial compensation) forestry NZUs that will become available or simply paying the $25/unit cap for the 50% commitment. Therefore new forestry planting from that source in 2010 appears to be limited at this stage.

The major emitters facing the biggest obligations are the thermal electricity generators, and the liquid fuels producers. But these firms can pass on any costs associated with meeting carbon emissions. Will they be motivated to invest capital in new forest planting?

Pastoral farmers own most of the suitable land for planting of new forests. This land is generally generating low returns under drystock farming (around 1% - 3% real). Returns from well-run carbon/timber forestry on that same land should easily exceed 10% real. Returns would be even higher if land value is discounted to its economic worth under drystock farming, excluding the capital gain expectation that underpins current land market values.

But our impression is that farmers are not yet motivated to plant new forests. Firstly, it takes cash - a rare commodity amongst drystock farmers. Secondly, do farmers really believe they will face any obligations under the ETS? Although the amendment has them coming in from 2015, the Minister retains discretion to review both time of entry (based on what Australia decides) and the rate of phase in. Along with the processor being the point of obligation, and the change to intensity-based emissions, the overriding message to the agriculture sector appears to be that the taxpayer will continue to subsidise most of its emissions and there is no compelling driver to plant forests as offsets.

That leaves investors interested in making money from the production and sale of forestry credits and in some cases timber as well. Such firms exist and some are very well resourced. The major constraint to investors planting new forests will be access to suitable land at the right price. The government has suggested a target of 50,000 ha/annum. That is a reasonable target. We used to plant that much each year during the 1990s. But since then pastoral hill country land values have doubled and there appears to be little appetite for farmers to exit or lease that land. Under these circumstances any attempt to secure 50,000 ha/year over the next decade will simply result in further escalation of land values. It will not take much of a land value increase to chase the carbon/timber forestry investors away.

The Afforestation Grant Scheme (AGS) has been successful in getting trees in the ground, albeit dominated by Regional Councils themselves investing on behalf of ratepayers, rather than private landowners investing. But this scheme deals with about 3,500 ha/annum, well short of the 50,000 ha target. An extension of this scheme would cause more planting, but in the end such subsidies simply flow through to land value, making it even harder for private investors to participate.

In my view it is not until the pastoral farmers feel compelled to plant trees as offsets, or to exit farming if they cannot meet costs imposed by the ETS, that we will see anything like 50,000 ha of new planting per annum.