TEM’s response to the New Zealand Ministry for the Environment
Executive Summary
In response to the New Zealand Ministry for the Environment’s discussion paper on market governance of the New Zealand Emissions Trading Scheme[1], TEM welcomes the introduction of measures to seek to mitigate market manipulation and market risk and proposes some considerations below.
Regarding topic 1, TEM proposes that the insider trading prohibitions provide clarity on the definition of confidential information. Further information would also be welcomed on the implications for an individual compared to an organisation, and the duration of market participation exclusion in the event that confidential information is made available to an individual or organisation.
Regarding topic 2, TEM highlights a number of potential challenges that the proposal could create. We suggest that the New Zealand and Australian governments pursue an approach of mutually recognising the other country’s regulatory framework to avoid regulatory burden and overlap.
Regarding topic 3, we support increased transaction transparency in the NZU market on a confidential basis.
TEM welcomes the opportunity to provide further context to our submission as required.
Response to Discussion Paper
Topic 1: Regulating the market based on financial legislation
TEM welcomes efforts to limit market manipulation by regulating NZUs as financial products. Below a number of suggestions are detailed to support this market development.
Additional clarity required
Regarding the proposed insider trading prohibition, more clarity would be welcomed on the definition of a licensed market. For example, it is unclear whether the insider trading prohibitions would only relate to carbon units traded on a licensed exchange, or whether it would also apply to units traded through other means (e.g., over the counter).
Clarification is also required on whether the prohibition would apply only to NZUs, or to all carbon credit products traded in New Zealand.
The definition of insider information
If the definition of insider information is limited to information relating to government policy, TEM proposes that the definition of policy intel should pertain to any government-led decision that could be seen to have the potential to materially impact market dynamics, including supply, demand and price.
If a government-led industry consultation intends to disclose confidential policy-related information that could subject a market participant to insider trading, this should be clearly stated in advance of the consultation to allow for participants to exclude themselves if necessary. If appropriate, the participants should be given the flexibility to remove themselves for only the relevant part of the consultation if they wish to. The same should be true for other types of meetings where a participant may become privy to confidential information.
Treatment of individuals and organisations, and exclusion periods
TEM proposes that it be made clear how individuals would be treated compared to organisations if they are made aware of insider information. For example, it is not clear whether an individual within an organisation obtaining access to confidential information would exclude the entire organisation from trading for a specified period. Further clarity is also required regarding the time period that the exclusion for market participation would last.
Topic 2: Regulating NZU financial advice, transactional and/or custodial services
Four key issues are highlighted in this section. These relate to: regulatory overlap; consumer redress and complaints; and thresholds for the definition of a wholesale client.
Below we also propose a solution to these: the mutual recognition of cross-border regulation.
Regulatory overlap
As mentioned in the discussion document, previous industry consultations have highlighted the importance of avoiding regulatory overlap (“submitters also wanted to ensure double regulation was avoided for complementary frameworks such as the Forests Act 1949”). This should consider regulatory overlap both within New Zealand and across international borders.
Within New Zealand, the proposed industry code of conduct and dispute resolution requirements could be governed by the same body to streamline governance and reduce unnecessary fees for participants. The discussion paper indicates that these would be governed by separate bodies, which may not be practical or cost-efficient.
Given the cross-border nature of carbon markets, there is a strong impetus to seek to align governance and regulation between countries where possible and appropriate to do so. In Australia, carbon units that are currently recognised as financial products (ACCUs[2] and CERs[3]) are regulated by the Australian Securities and Investments Commission (ASIC). If NZUs were to be recognised as financial products in New Zealand, they would presumably also be regulated as financial products by ASIC. Australian Financial Services Licensees are also required to join the Australian Financial Complaints Authority (AFCA), which also administers a number of financial services codes of conduct[4] to regulate the industry.
Organisations such as TEM that transact a number of unit types, including ACCUs and NZUs across various jurisdictions would be subject to significant and overlapping regulatory burden if the proposed amendments are introduced.
Introducing considerable additional regulatory requirements could deter market participation and stifle market access for clients wanting to transact NZUs. A possible solution is for the mutual recognition of regulatory frameworks across international borders (‘mutual recognition’), explained further below.
Regarding consumer redress and complaints
In addition to existing regulatory requirements, a voluntary carbon industry Code of Conduct[5] exists in Australia. This voluntary code of best practice is supported by project proponents and carbon service providers representing the vast majority of carbon credits transacted in Australia. It requires signatories to comply with Australian Financial Services Licence (AFSL) obligations, and to inform their clients of whether or not they hold an AFSL and the implications of whether or not they hold one. Failure to comply with these (and other) requirements can result in significant penalties which could inhibit market participation for a non-complying organisation.
Australia’s Code of Conduct is well-reputed in the industry as a complement to existing legal and regulatory requirements. Signatories are required to submit annual reports detailing their compliance, they are audited and can be penalised for failing to meet requirements. Alongside ASIC and the Clean Energy Regulator, the Code of Conduct includes a consumer redress and dispute resolution mechanism for carbon market participants.
It has been suggested in previous consultations on the topic of New Zealand market governance that, given the cross-border nature of carbon markets, there could be an opportunity to expand or model the Australian Code of Conduct to apply to New Zealand’s carbon service providers. This could be done in a manner that would limit regulatory and reporting requirements for participants and scheme administrators, and provide a unified approach to dispute resolution.
Streamlining a cross-border code of practice and dispute resolution body could also be beneficial in strengthening institutional knowledge, which would ultimately result in a market that is more effectively and efficiently regulated. Additionally, streamlining these between Australia and New Zealand would reduce unnecessary fees for market participants, therefore encouraging rather than limiting overall carbon market participation.
However, we recognise that this alone would not regulate NZUs as financial products. The opportunity to avoid overlap of regulation of carbon units across jurisdictions is detailed later in this response.
Wholesale thresholds
The thresholds classifying a client as ‘wholesale’ in New Zealand are considerably high, particularly compared to the wholesale client thresholds defined in Australia. A comparison of these is provided in the table below. This provides an indication of the level of regulatory burden proposed for New Zealand’s carbon market, as a higher proportion of clients would likely be classified as retail in New Zealand given the current definitions.
| Australia | New Zealand | Comment |
| The financial product, or financial service, is provided for use in connection with a business that is not a “small business”; (a “small business” is a business which has less than 20, or, if it is a manufacturing business, has less than 100, employees). | Investment business: A person who is, for example, a principal business investing in financial products, a registered bank, a financial adviser or issuer of derivatives. | This is a significantly higher threshold in New Zealand.
Most clients in Australia’s carbon market meet the wholesale client classification based on this criterion. |
| The price for the provision of the financial product, or the value of the financial product to which the financial service relates, equals or exceeds $500,000 | Investment activity criteria: A person who has, within the previous two years, owned a portfolio of (or carried out one or more transactions to acquire) specified financial products of a value of (or where the amount payable under those transactions was) at least $1 million (in aggregate). | This proposal would not capture clients that purchase units but never actually own them (e.g., if the units are retired on behalf of the client).
Inserting a provision to reference the value of the transactions, not just ownership, would be preferential. |
| The client is a “professional investor” (with many possible indicators, including e.g., having gross assets of at least $10 million) | A ‘large person’: A person who (including entities controlled by the person and, as relevant, on a consolidated basis) had net assets in excess of $5 million as at the last day of each of the two most recently completed financial years. | N/A |
The proposed regulatory requirements for retail client service provision risk stifling market access for retail clients in New Zealand. Additional licensing and FSPR registration requirements, and custodial handling obligations, may deter market participants from dealing with retail clients in the NZU market altogether.
Given the differentiation in retail client thresholds between Australia and New Zealand, organisations that meet the Australian wholesale definition but not the New Zealand wholesale definition could be deterred from transacting NZUs. This could lead organisations that have operations across Australia and New Zealand to default to purchasing ACCUs or unregulated carbon units instead of NZUs.
Due to this and given the cross-jurisdictional nature of carbon market participation, mutual recognition of regulation between Australia and New Zealand would be beneficial.
Cross-border regulatory mutual recognition
Recognition of an overseas regulatory regime may be unilateral or through a mutual recognition arrangement. The International Organisation of Securities Commissions (IOSCO)[6] and Futures Industry Association (FIA)[7] both recognise and support cross-border regulatory regimes, including through ‘mutual recognition’. In the absence of a single regulatory international body to regulate financial carbon credit products, New Zealand and Australia should seek to align in their treatment of carbon units as financial products. New Zealand and Australia could both adopt a mutual recognition approach, whereby they would each recognise the other’s regulatory framework as fit for the purpose of mitigating risk to consumers.
In practice, this could allow for the following to be mutually recognised across borders:
- Financial services licenses
- The New Zealand financial services codes of conduct and the Australian Financial Markets Association (AFMA) code of conduct
- Respective dispute resolution bodies
- Recognition in New Zealand of the Australian Carbon Industry Code of Conduct, and/or expansion or duplication of the Code of Conduct into New Zealand.
ASIC provides conditional relief from certain Australian regulatory requirements to foreign providers, and seeks similar relief from foreign requirements for Australian providers where possible. Australia and New Zealand have an existing mutual recognition of securities offerings.[8] This sets a precedent for possible mutual recognition of the regulation of carbon units.
Under Australia’s Corporations Act (2001), ASIC recognises ‘sufficiently equivalent’ overseas regulatory regimes which may allow for a foreign financial services provider (FFSP) to apply for a modified AFSL, with certain conditions. ASIC has regard to the degree of investor protection, market integrity and reduction of systemic risk that the other scheme achieves. A streamlined application process applies to applications for a foreign AFS licence.
ASIC recognises schemes regulated by governments such as Canada, France, Germany, Hong Kong, Singapore, the UK and the US. It is possible that this could be extended to New Zealand to limit regulatory duplication.
A mutual recognition approach would address each of the challenges outlined above (regulatory overlap, governance inefficiencies, cost burden, and varying wholesale client thresholds). As carbon markets in both Australia and New Zealand continue to expand and mature, aligning frameworks, regulation, governance oversight, and standards of practice will be increasingly beneficial to all market participants, including regulators.
Topic 3: Improved transaction reporting
TEM supports the proposed option (option 2) to allow for increased transaction transparency in the NZU market only on a confidential basis.
TEM welcomes the opportunity to provide further context to our submission as required.
[2] Australian Carbon Credit Units
[3] Certified Emissions Reductions
[4] Codes of practice | Australian Financial Complaints Authority (afca.org.au)
[5] Code of Conduct – Carbon Market Institute
[8] Regulatory Guide RG 54 Principles for cross-border financial regulation (asic.gov.au).