PARRAMATTA residents face a rate increase or more expensive landfill fees because councils have been prevented from trading carbon credits.
Councils around the state have unsuccessfully lobbied the government to be allowed to trade carbon credits to help meet cost increases from the carbon price.
Local Government Minister Don Page said his department had judged the carbon trading scheme to be too risky for councils and ratepayers.
Mr Page said all carbon credits, including those issued by the federal government, would be treated as derivatives.
Councils were banned from trading in derivatives after the global financial crisis struck.
But the federal government is likely to challenge the state's decision.
A spokesman for the Climate Change Minister Greg Combet said the state government directive could not prevent councils complying with the Clean Energy Act.
President of Western Sydney Organisation of Councils Alison McLaren said unless the state and federal governments helped councils, residents would be slugged with more costs.
"There needs to be a two-prong approach," she said, "the federal government needs to pay compensation for emissions from landfill, which councils can't control.
"But the state government needs to come to the party as well and let us trade carbon credits."