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Simon Less: Low carbon and lower bills --- Can the circle be squared?

Less SimonSimon Less is Senior Consultant to Policy Exchange on Regulatory Policy.  Follow Simon on Twitter.

Can we have low carbon and lower bills?  It could be possible.  While many low carbon technologies are currently expensive, the future is unknown.  New discoveries and innovations will happen and are not predictable.  Some low carbon technologies could become very much cheaper.

As a result of this unpredictability, no-one can plan today how to decarbonise successfully.  And the design of policy needs to recognise this, if we are to lower carbon while keeping bills as low as possible.

Let’s recall the track record of predictions in the energy sector.  Remember when nuclear was going to be too cheap to meter?  The prospects of a dash for gas didn’t feature in the mid-1980s electricity policy debate, yet was its dominant feature by the early 1990s. Few if any were predicting six years ago how shale gas has now transformed the US energy market. And even more recently the UK Government has been caught out by steeply falling costs of solar energy. 

It’s hard to predict even a few years ahead, let alone over the time it will take to decarbonise – to 2030 and 2050. 

This is why it is so important that we have effective processes for discovering, adapting to new information, exploiting innovation, and moving resources rapidly from less promising to more promising avenues.  Markets have been proven as the most successful basis for such processes across the economy.  The challenge of reducing carbon makes market processes even more important in the energy sector.

The most important intervention we need in the energy market is a credible, long-term carbon price – ideally through a carbon cap as part of a stable overall policy framework – to ensure that carbon will be reduced, while allowing markets the flexibility to discover how.  We also need effective public support for research, development and demonstration of low carbon technologies, and for early stage deployment of technologies where markets will not take on the relevant risks, for example new nuclear and deep-water offshore wind.  But because it is very uncertain which low carbon techs will become cost competitive and major contributors to global carbon reduction, we must avoid committing a disproportionate share of finite public resources to any one technology.

This approach ought to find a way to secure low carbon and lower bills, if there is one.  The problem is that the current direction of policy does not look much like this.

Instead we have multiplying interventions by the UK and other national governments which are helping to depress the EU carbon price and to make it unbankable into future.  In place of an effective carbon price, a central planning approach is taking shape in the UK. This approach can be seen in technology deployment targets like 2020 renewable energy target, in the Energy Bill’s proposals to offer long-term government contracts for energy generation, and in calls for a 2030 electricity carbon intensity target.  Under this approach, the Government decides which sectors of the economy will decarbonise by how much, when, using which technologies, and at which prices.  This planning approach leads to disproportionate public resources for the predicted winners of the future (like offshore wind). It leaves little scope for the market to redirect resources between technologies, sectors, years and countries, in response to new information. The planning approach will lead to unnecessarily higher bills. 

However, the government claims its approach will lead to lower bills.  This claim is based on predictions of high future gas prices, much lower offshore wind costs, and the benefits from a low ‘cost of capital’. But the Government cannot know future prices or costs.  It is gambling – with large amounts of energy customers' money. And while the cost of capital can indeed be expected to fall if risk can be passed from investors to customers, that risk does not disappear.  Instead customers bear the risks of decisions about what generation to build, when and at what price. 

In terms of a better way forward, while we are part of the EU Emissions Trading System, we have to solve the policy problem – principally the carbon price - at the EU level. This is because (in tradable sectors) -national targets and deployment subsidies make no difference to emissions.  If UK has a target to cut its own electricity emissions faster, it depresses the carbon price and means the rest of the EU can cut emissions slower. 

There are real dangers in the planning approach that we are currently embarked on. Unnecessarily high bills mean carbon policies are less likely to be politically sustainable – and so less likely to deliver the long-term carbon reductions we need.  In particular, the planning approach risks allowing large misallocations of resources to perpetuate, unable to be corrected by markets forces. Remember for example the nuclear Advanced Gas-Cooled Reactors programme, which was kept going for decades by an ever-optimistic government central planner, and lost the country £50billion.

Policy needs to avoid the hubris that we know the future of the energy sector and best way to decarbonise. We will then have the best chance of securing both low carbon and lower bills.


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