Cutting green taxes won’t fix the UK’s energy cost problems

Cutting green taxes won’t fix the UK’s energy cost problems

Some of the UK’s green taxes are likely to be cut soon, but renewable energy may be the surprising beneficiary of the move.

After two months of formulating a response to the Labour Party’s popular proposal to freeze energy prices for twenty months, a consensus is forming within the Conservative-Liberal Democrat coalition to cut some of the green taxes that residential energy users pay. Although these green taxes fund a number of programmes, including renewable energy projects, only the portion that funds weatherizing the homes of low-income Britons is slated to be cut. So far, this programme has been largely unsuccessful, with only 400 households signing up to take part in it, making it an easy target.

According to the UK Department of Energy & Climate Change, these taxes make up 5% of the average bill, although the Government and the Big Six energy companies claim this move will cut bills by up to 7%. This move should be seen as a short-term fix to rising energy prices. Prime Minister David Cameron is picking the lowest-hanging fruit. Prices rise for a number of reasons, but the majority of them are from sources other than green programmes.

UK household energy bill

The green taxes on the chopping block are categorized as support for vulnerable & energy efficiency. Source: UK Department of Energy & Climate Change

Given the tight constraints David Cameron is working within to put together a proposal, it is not surprising that he does not push for any sort long-term structural changes to the energy system. On one hand, Cameron faces a political necessity to respond quickly with a policy that will cut bills, especially with elections a year and a half away and polls gradually looking worse for the Tories. On the other, his proposal has to win broad Tory backbencher support (especially after losing them on the Syria vote in August), meaning his scope for intervening in the market is limited.

It is a relief for the renewable energy industry that the clean energy portion of the green tax survived these cuts unscathed, but it also should see this proposal as being good for renewable energy development for other reasons as well. First, there is a purely political component in which the tense relations between the coalition partners will cement renewable energy funding in the future. Second, there is a purely economic component that will make renewable energy continue to look more attractive as an investment.

On the political side, if the green taxes get cut as they look like they will, the Liberal Democrats will be even more protective of the renewable energy funding in the future. The party leader and Deputy Prime Minister Nick Clegg was very vocal about a month ago that his party would not tolerate a cut in green taxes, and indeed the taxes were his party’s idea in the first place. As it became more apparent that they would be cut over his objections, he became more muted. Given the frustration coming from the junior coalition members and their traditional support for renewable energy, it is unlikely that the Liberal Democrats would endure another policy loss next fall.

This political calculus is predicated on the belief that there will be another rise in energy prices next year. Since the consensus treatment for lowering energy prices completely avoids addressing the driving forces behind the UK’s surging retail energy costs (which lie in fuel cost and infrastructure), there is no sign that next year’s price trend will be any different from this year’s.

That leads to the other good news for renewable energy: the rising cost of conventional energy. Although electricity from wind and solar sources is now cheaper than from conventional sources in a few areas of the world, renewable energy is still typically much more expensive. As the technology improves and production is scaled up, the price of renewables will drop and converge to that of conventional sources. With rising costs on those conventional sources, the convergence will come sooner.

Investors have also traditionally been more wary of renewables because of the uncertainty involved in predicting future profits of a new industry with high upfront costs, especially given the wildly fluctuating prices in the energy industry. With an upward trajectory on the costs of incumbent sources like coal and natural gas, some of the renewable energy projects that look only marginally profitable will start to look profitable enough to gain access to affordable financing.

It is rather strange that news of cuts to green taxes will be a boost to the renewable energy industry, especially since green energy is typically a sector that is hurt by political squabbles (see the United States’ wind industry when its tax credits were up in the air in 2012). But in the UK’s case, the short-sighted proposals to address rising energy prices while ignoring the structural causes could be a boon for the renewable energy industry.

About Author

Alex Christensen

Alex is an Editor at Global Risk Insights, who also currently works in investment research. His work on political risk and economic policy has appeared in many forums, including Business Insider, Seeking Alpha, & The Emerging Market Investors Association. He holds a Master’s in Economics from the London School of Economics and BA from Washington University in St. Louis.