The buying and selling of New Zealand Units (NZUs) under the Emissions Trading Scheme (ETS) is set to become regulated somewhat similarly to financial products under the Financial Markets Conduct Act 2013 (FMC Act), if options preferred by the Ministry for the Environment - Manatū Mō Te Taio are adopted.

The Ministry’s discussion document Market governance of the New Zealand Emissions Trading Scheme references previous consultation that identified some stakeholder concerns about risks and support for further regulation. On this basis, the Ministry proposes to address perceived market governance risks, similar to that in place in Australia.

In this article we outline the Ministry’s preferred options and the likelihood that the Financial Markets Authority (FMA) would take on the role of ETS market governance enforcer.

Governance risks and regulatory response

The discussion document identifies a number of misconduct risks relating to the trading of NZUs, including those relating to poor advice, transparency and general misconduct, such as insider trading and market manipulation.

The Ministry’s preferred options to address the objectives that respond to those risks are:

Objective	Preferred Option
To ensure the NZU market trades with integrity, functions efficiently, promotes confidence and addresses the risks of misconduct. To ensure all NZU market users have the same material information relating to NZUs.	Regulate NZU market based on how financial markets prohibit insider trading and market manipulation, and require persons who operate an NZU exchange to hold a licence to operate. Inside information limited to non-public information on government policy. Optional centralised exchange being considered (and a request for information process is also underway in relation to this proposal). Other financial product regulation not applied eg, no product disclosure statements. FMA as regulator.
To ensure all persons who interact with the markets where NZUs are traded have access to quality advice about buying and selling NZUs. To ensure services relating to NZUs are provided with appropriate levels of care, diligence and skill.	Regulate NZU financial advice (in the same way as financial advice is regulated for current financial advice products), ie requiring a licence. Investment activity wholesale investor threshold may be adjusted (under the present definition, a person who had more than $1 million of NZUs in the last two years would be treated as wholesale - which might inappropriately apply to a number of small forestry participants). Considering regulating transactional and/or custodial services (as a client money and property service).
To increase transparency in the NZU market and address information asymmetry currently seen in the market.	Require the following additional fields for all NZU trades: Price/total value Whether trade is with someone else, or own accounts Primary reason for holding an account The Environmental Protection Authority could publish reports, including end of day price, number of transactions and volume, types of NZUs
To better communicate how the Anti-Money Laundering and Countering Financing of Terrorism Act 2009 Act (AML/CFT Act) captures activities of interest within the NZU market to deter money laundering and financing of terrorism.	No new law. Discussion material treated as an opportunity to educate on where the AML/CFT Act could already be relevant to NZU transaction.

A New ETS Enforcer?

The discussion document states that previous consultation showed stakeholders as favouring the appointment of a skilled regulator, with market design and market compliance powers, to oversee the NZU market. In all of the regulatory proposals above, the Financial Markets Authority (FMA) would be the regulator. Certainly, the FMA is the best-placed to take this on, given that the proposed regulatory settings would leverage the FMC Act, which it oversees.

Consultation Submissions

If you have a perspective on the risks, objectives and proposed solutions for NZU market governance, you have until 24 December 2022 to make a submission. Our Climate Change practice group includes team members who are very experienced both with NZU trades and financial markets. We would be happy to discuss the proposals with you.