5/18/23, 9:00 AM Budget 2023’s clean economy initiatives need greater future clarity and certainty

ENVIRONMENT | SCIENCE & TECH

Budget 2023’s clean economy initiatives need greater

future clarity and certainty
To join the global race for market share, companies need to be able to rely on the trajectory of
carbon pricing and other initiatives to reach federal climate change goals.

by Rachel Samson
April 6, 2023

(Version française disponible ici)

Budget 2023 presented a “made-in-Canada” clean economy plan to compete with the U.S. Inflation
Reduction Act (IRA) and accelerate investment in Canada to achieve climate-change goals. It provides
around $18 billion over five years for a range of new and expanded investment tax credits and
spending as part of a larger package of around $83 billion over the next decade.

Is it enough? The total envelope of funding may be, but further clarity is needed on big initiatives like
the $15-billion Canada Growth Fund and “carbon contracts for difference” (which guarantee a certain
carbon or product price for companies). If that clarity doesn’t come fast enough, Canada will continue
to lose investment, and Canadian companies, to the United States.

Investment tax credits vs. production tax credits

The federal government went all-in on investment tax credits, which allow businesses to deduct a
certain percentage of eligible capital costs from their taxes. There are investment tax credits for clean
electricity (15 per cent), clean hydrogen (15 to 40 per cent), clean technology adoption (30 per cent),
clean technology manufacturing (30 per cent) and carbon capture and storage (dependent on project
details).

These tax credits are a major step forward in offering an attractive investment environment. However,
investment tax credits – even if they are more generous than those in the U.S. – may not be as
attractive to investors as the production tax credits used in the IRA. These production tax credits offer
a payment-per-unit produced, which can help offset the market uncertainty associated with early-

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stage technologies and allow enough time for them to reach a return on investment. This is
particularly true in areas such as hydrogen, clean fuels and sustainable aviation fuels, but it may also
affect certain manufacturing and critical-minerals projects.

If the U.S. draws investment away from Canada, it will limit Canada’s ability to leverage the private-
sector investment needed to establish a foothold in markets that will be important drivers of economic
growth in the coming decades.

The scale of investment

The U.S. IRA is estimated to cost $US392 billion over 10 years, with $US121 billion in direct spending
and $US271 billion in tax credits. However, a recent Brookings paper suggested the cost of tax credits
could be much higher, reaching $US780 billion by 2031.

At the lower amount, Canada’s $83 billion (roughly $US59 billion) is competitive. At the higher end,
Canada falls short, given the relative size of our economy compared to the United States.

The scale of direct spending also matters, since unbalanced investment draws Canadian companies
away to the United States. For example, Li-Cycle, a Canadian-based electric-vehicle battery recycling
company, received a conditional $US375-million loan from the U.S. Department of Energy’s Loan
Programs Office to help finance the construction of a lithium-ion battery resource recovery facility in
New York state.

Both the Canada Growth Fund and the newly promised “broad-based approach to contracts for
difference” could close the gap.

The Canada Growth Fund

The Canada Growth Fund was first announced in the 2022 budget, with further elaboration in the Fall
Economic Statement. In this year’s budget, it was announced that the fund will be managed by the
Public Sector Pension Investment Board (PSP Investments).

Choosing PSP makes sense in terms of moving quickly. A well-established investment team can hit the
ground running, with the promise that investment will begin in the first half of 2023.

However, pension funds are not known for their ability to support the type of risky, new technologies
where a competitive edge is needed. They tend to invest in safe, large-scale, proven projects and
companies with clear long-run returns.

If the Canada Growth Fund is to close the gap with the U.S., PSP Investments may need to bring in
some additional expertise with knowledge of earlier-stage clean energy and technology. The funding
will have the greatest long-term impact if it operates in the space where investment and technology
risk is too high for private debt and equity. That line will shift over time, so PSP investments will need
to stay on top of rapidly evolving markets. Potential models to learn from include the U.S. Department
of Energy’s Loan Programs Office, Australia’s Clean Energy Finance Corporation and Quebec’s
Investissement Quebec.

Contracts for difference

Contracts for difference also have the potential to capitalize on a big advantage Canada has relative to
the U.S. – carbon pricing. Canada’s carbon price is scheduled to rise to $170/tonne by 2030. The
carbon price acts as a signal to the market, generating value for investments in low-carbon energy,
technologies and products. However, if a future government rolls back Canada’s carbon price, the
market value of low-carbon energy and products could plummet. The risk of policy reversal can deter
investors.

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Contracts for difference, where the government guarantees a certain carbon price into the future, can
help unlock private investment. The Canada Growth Fund will have the ability to sign contracts for
difference, but this year’s budget also announced that it will consult on a broad-based approach to
carbon contracts for difference.

In theory, contracts for difference are a low-cost approach to accelerate private investment. If the
carbon-price trajectory remains in place, the government will not have to pay anything. The potential
liability for the government in the event of a reduction in carbon price would be substantial, however.

A future government – potentially led by Pierre Poilievre – would face a difficult choice if broad-based
contracts for difference were in place: Roll back carbon pricing and pay out billions of taxpayer dollars
to companies or keep the carbon-price trajectory intact (at least for relevant sectors). And while the
idea is that the contracts could tie the hands of a Poilievre government, it is important to note that the
Conservative government in Ontario scrapped renewable energy contracts despite the financial cost.

Complications
Federal contracts for difference that guarantee a certain carbon price get complicated in provinces
and territories that have their own carbon pricing policies. It doesn’t make sense for the federal
government to guarantee a price that a provincial or territorial government could change. Provincial
and territorial governments with their own carbon pricing systems will need to develop their own
contract for difference programs.

Contracts for difference are also be more challenging for Quebec, where there is a cap-and-trade
program linked to California. With a cap-and-trade system, prices rise and fall depending on the
demand and supply of allowances in the market. To date, carbon prices are below those in other
provinces. A project in Quebec would be disadvantaged compared with a project in another province
or territory where a proponent secures a contract for difference based on the higher federal carbon-
price trajectory.

From the author: Just transition or smart transition?

Down to the last barrel?

Governments at all levels, and entities such as PSP Investments, could also use contracts for difference
to guarantee product prices, such as hydrogen prices, or input prices such as electricity rates. Those
contracts carry a higher risk of payout since they depend on market fluctuations.

To limit costs, reverse auctions could be used, where a fixed amount of money is set aside, and
companies submit bids for the guaranteed price they need for their project to move forward.
Government entities select the cheapest bids (that meet certain quality criteria) and structure the
contracts accordingly. The U.K. uses reverse auctions for its renewable contracts for difference.

Contracts are also often designed to require companies to pay the government when product prices
are higher than the guaranteed price. The Alberta government made over $100 million from its
renewable support agreements between 2016 and October 2022. This allows a government entity to
have a balanced, lower-risk portfolio across a number of different markets, like hydrogen and biofuels.

Figuring it out ASAP

Despite complexity, the federal government – and partners such as PSP Investments – should aim to
provide clarity as soon as possible on eligibility, investment instruments, criteria, terms and timelines.
If Canada is going to be a player in the global race for market share in the future clean economy, it
needs to find a way to catch up with those who were first out of the starting gates.

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5/18/23, 9:00 AM Budget 2023’s clean economy initiatives need greater future clarity and certainty

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Rachel Samson You are welcome to republish this Policy Options

article online or in print periodicals, under a Creative
Rachel Samson is the vice president of research at Commons/No Derivatives licence.
the Institute for Research on Public Policy. Previous to
her current role, she was clean growth research
director at the Canadian Climate Institute. Rachel also REPUBLISH THIS ARTICLE
spent 15 years as an economist and executive with
the federal government, and five years as an MORE LIKE THIS
independent consultant. Twitter @rachel_e_samson
CARBON PRICING CLIMATE CHANGE
View all by this author FOSSIL FUELS RENEWABLE ENERGY

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