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Professor Dieter Helm during an interview in 2015
Professor Dieter Helm during an interview in 2015. Credit: BIEE.
UK POLICY
27 October 2017 7:54

Reaction: Dieter Helm’s ‘least cost’ ideas for meeting the UK’s climate targets

Jocelyn Timperley

Jocelyn Timperley

27.10.2017 | 7:54am
UK policyReaction: Dieter Helm’s ‘least cost’ ideas for meeting the UK’s climate targets

Prof Dieter Helm has published his much-anticipated review of the “cost of energy”, which the UK government commissioned in August following a manifesto pledge to do so.

The 242-page report sets out in detail how the economist and energy-industry consultant believes the UK should establish a “long-term framework for the electricity industry which will provide a stable and least cost way to achieve the twin goals of meeting the Climate Change Act (CCA) and security of supply”.

As Carbon Brief explained in an in-depth preview article in August, Helm faced a number of challenges, not least the limited terms of reference and scope of the review, as determined by the Department for Business, Energy & Industrial Strategy (BEIS).

Helm is also someone with long-held, sometimes controversial views about energy policy and he stresses at the start of his review that the “analyses and recommendations are mine alone”. It is not, he says in the introduction, a “comprehensive summary of the views” of other experts.

The review contains 67 recommendations, according to the thinktank Green Alliance. Many of them are specific suggestions for reforming the electricity market, but Carbon Brief has focused below on summarising his related ideas for how the UK can best meet its climate targets at the least cost.

1. Universal carbon price

According to Helm, the most efficient way to meet the Climate Change Act’s 2050 target and its nearer term carbon budgets is to implement a new universal carbon price across the entire economy.

The price would be varied so as to meet the carbon targets, but would be significantly lower than the cost of the current multiple interventions, he claims.

Glossary
Carbon Price Floor: The UK's top-up carbon tax, applied to power stations and designed to supplement inadequate prices on EU markets. When implemented in 2013, the floor was set to rise gradually to £74/tCO2 in… Read More

Helm recommends that the Treasury should analyse two possible generalised carbon prices – a generalisation of the fuel duty to all three fossil fuels (coal, oil and gas); and a generalisation of the carbon price floor (CPF) to the whole economy. (The Treasury is due to unveil its future plans for the carbon price floor in the Autumn budget next month).

Helm identifies seven main taxes on energy and carbon (though he notes these depend on how taxation is defined). Several of these are “of mind-numbing complexity”, he says, due, in particular, to the many exemptions they include. He contrasts this with his proposed simple uniform carbon price.

The explicit and implicit taxes on energy and carbon in the UK. Cost of Energy Review, Dieter Helm, 2017.

Helm argues that avoiding detailed intervention is a key to keeping down the cost of energy. It is important not to try to pick winners, he says, and to focus on “the framework within which the private sector brings new ideas, new technologies and new products to the end-user”.

Helm calls for BEIS to undertake a review of carbon policy, arguing the detailed mass of interventions is beyond the capacity of officials, regulators and companies to comprehend. He says:

“The scale of the multiple interventions in the electricity market is now so great that few if any could even list them all, and their interactions are poorly understood. … It should be a central aim of government to radically simplify the interventions, and to get government back out of many of its current detailed roles.”

The proposal attracted a mixed reaction. Bob Ward, policy and communications director at the Grantham Research Institute at LSE, says Helm’s idea would confront fossil fuels with their real costs and help to correct the distortions in the electricity market. But Dr Jonathan Marshall, energy analyst at the Energy and Climate Change Intelligence Unit (ECIU), argues that while Helm is right that a more uniform and systematic carbon tax would be a good idea, introducing one has proven politically difficult in a number of countries.

Sam Hall, senior research fellow at “liberal conservative” thinktank Bright Blue, argues an economy-wide carbon price is a volatile and uncertain price signal for investors, subject to short-term political and economic forces, that would struggle on its own to drive the required investment in the low carbon economy.

2. Revamped capacity auction

Helm proposes that a new “unified equivalent firm power (EFP) capacity auction” should be put in place to merge Feed-in Tariffs (FiTs) and other low-carbon Contracts for Differences (CfDs).

Under this new auction, generators would be responsible for their own balancing, meaning  variable generators would need to make contracts with demand side, storage and back-up plants – or else invest in these themselves – to manage the costs of variable output.

Bob Ward of the Grantham Research Institute says this would require, for instance, the owners of offshore wind farms to enter into arrangements to provide power to the network from alternative sources when wind speeds are too low to do so. “This would be likely to create unnecessary additional costs, however, as balancing costs arise at a system level rather than for individual wind farms,” he explains.

Michael Grubb, professor of international energy and climate change policy at UCL, also says such a system risks making the system less efficient, since backup should come from the cheapest source and only as much as the system overall needs.

Sam Hall at Bright Blue warns the EFP auction would risk creating inefficiencies and added costs for consumers: “Instead, the grid should continue to be balanced at the system level rather than for individual projects, in order to optimise the use of all existing generation and storage assets.

Chris Hewett, the Solar Trade Association’s head of policy, notes that Helm does not mention the system costs of technology inflexibility.

3. Legacy bank

Helm argues that so-called “legacy costs” of low-carbon power should be separated out, ring-fenced and charged explicitly on customer bills.

These legacy costs refer to the “out of the market” costs of current and future support mechanisms, such as Renewables Obligation Certificates (ROCs), FiTs and low-carbon CfD which will contribute to electricity bills going forward.

Helm’s point is that these should be clearly separated from the underlying prices of future renewables, which he says are likely to be much lower, and able to compete with the conventional fossil fuels without support mechanisms if carbon costs are factored in.

These legacy contracts should be grouped into what Helm calls a ”legacy bank”. This would help to distinguish between the competitive price of electricity going forward and what is, in effect, a tax on customers, he says. Here Helm uses as an analogy of the out-of-the-market loans included in “bad banks” after the 2008/08 financial crash.

Helm also recommends that FiTs be brought to a gradual end as a long-run framework is established.

Helm estimates such legacy costs will amount to well over £100bn by 2030. He says more decarbonisation could have been achieved for less. (Note the review takes CfDs, FiTs and ROCs which already have formal contracts as “given”.)

He also argues carbon budgets have previously been addressed in an inefficient way, including through a failure to move against coal earlier. (Helm says the government should still consider whether a “mandatory” coal closure programme would be more cost-effective than the various schemes, costs and regulations currently affecting the coal power stations. The UK has already pledged to phase out unabated coal power by 2025.)

Helm points, in particular, to the EU Renewables Directive, which requires the EU to fulfil at least 20% of its total energy needs with renewables by 2020.

Its particular definition of renewables, which excludes nuclear but includes biomass, has been a “major contributor to raising the costs” above what was necessary to reduce carbon emissions and meet the Climate Change Act, says Helm.

This is despite the fact that large-scale biomass can lead, Helm says, to significantly higher-carbon pollution than nuclear.

However, post-Brexit, the UK will have the scope to come up with a “better definition” of renewables, Helm says, as well as what qualifies for FiT and low-carbon CfD support. This new definition would be a temporary measure for the transition towards subsidy-free renewables, he adds.

There was a mixed reaction to this idea of a “legacy bank”. Green Alliance, the environmental thinktank, supported the idea of separating “legacy” nuclear and renewables costs from decisions on future bills.

However, Chris Hewett at the Solar Trade Association took issue with the pigeonholing of these costs. He says:

“Helm describes [deployment driven by government and consumer support mechanisms] as a ‘legacy cost’, when many economists would describe it as a very effective long term investment.

Today most of the costs of solar in the UK are in the installation, grid connection and other costs, rather than the panels themselves. Going forwards, the great majority of cost reductions are expected to come from these sources, highlighting the importance of national frameworks.”

Meanwhile, John Constable, the energy editor at the Global Warming Policy Forum, a climate sceptic lobby group, describes Helm’s review as “sweeping and brilliant” in an article for the Times. In the Daily Telegraph, Diego Zuluaga from the Institute of Economic Affairs, a free-market thinktank, says that Helm’s review “corroborates” that “onerous regulation” is the “culprit” when it comes to “rising energy prices”.

4. Border adjustment

Helm’s review also recommends the introduction of a border carbon price.

This would be needed to address the consequences of the UK adopting a unilateral carbon production target, says Helm, since this would be a tax on production rather than consumption and, therefore, would disadvantage UK industry.

The Treasury should also consider the general future of the Climate Change Levy, which taxes industrial energy, in the context of such a border carbon price, says Helm.

However, responding to this idea, Dr Jonathan Marshall at the ECIU, said it is “simply not credible, especially now that the government is engaged on a quest to tie up free trade deals around the world”.

Controversially, Helm also argues that industrial customers should be exempt from these legacy costs, as well as from number of other complex mechanisms which have “built up in the energy taxes and levies that industry pays”.

However, Helm is clear he is not advocating for industry to be exempt from paying the cost of carbon, arguing a “harmonised” carbon price should still be applied domestically and at the border. UK industries, such as the steel sector, have long argued their electricity prices, which are among the highest in Europe, are too high, although it’s worth noting that electricity makes up a tiny share of steel production costs.

The idea that industry, but not households, could be exempted from paying for cleaner energy provoked concern. According to Green Alliance, supporting industry to become more energy and resource efficient would be a better way of keeping the UK’s energy-intensive businesses productive.

Overall, Helm advocates that the “simplest and most competitive framework” for industrial customers would consist of: a uniform UK carbon price; exemption from the legacy costs; the gradual closure of the Climate Change Levy (CCL) and other specific taxes and measures; and a border carbon price.

“Anything else is second-best and raises the cost of energy for any competitive benchmark,” he says.

5. Agriculture and transport

A common carbon price across the whole economy would also help to minimise the costs of meeting the UK’s climate targets between sectors, suggests Helm.

He argues that the “overwhelming focus” on decarbonising electricity to the exclusion of other areas such as agriculture, buildings and transport has added to the overall cost of achieving carbon targets.

While the decarbonisation of electricity is essential, he says, the contribution of other sectors will impact on the trajectory for the electricity sector in the carbon budgets up to 2050.

The costs of reducing agriculture emissions, in particular, are much lower than many of the chosen options, he argues. Agriculture contributes 10% of the UK’s greenhouse gas emissions, but comprises just 0.7% of its GDP, with at least half its output uneconomic in the absence of subsidies, says Helm.

This means the economic consequences of a loss of output in agriculture are small compared with other sectors, he argues, adding that agriculture also has considerable sequestration options. He says:

“At the margin, this would probably be a lowest-cost sector for reducing the overall costs of meeting the carbon budgets. The CCC [Committee on Climate Change] should consider in more detail greater contributions from agriculture, and these should be integrated into the 25 Year Environment Plan.”

On transport, Helm notes that electrification is happening faster than the CCC and others expected, which he says could accelerate its potential to contribute more to the carbon budgets. He advocates a transition from fuel duty to a more explicit carbon component in transport taxation, arguing that the government’s Industrial Strategy should set out a regulatory framework for the charging of electric vehicles.

Update 31/10/2017: The CCC’s head of carbon budgets, Mike Thompson, today responded to the Helm review with a list of five “early reflections” on the report. He pointed out the CCC commissioned one of the first assessments of opportunities to reduce emissions from agriculture and has “consistently emphasised” the need for a stronger set of policies in this area. Similarly, he noted the CCC has been consistently ambitious on transport, with electric vehicles having accounted for 60% of new car and van sales in 2030 in its “central scenario” figure since 2010. Thompson also called Helm’s conclusion that energy bills are higher than they need to be a “high level summary of a complicated picture”, pointing out that whilst energy prices have risen, energy bills are actually down since the Climate Change Act was passed in 2008.

6. Research

The need to invest in more research and development (R&D) to improve low-carbon technologies has been a clarion call for Helm over the years. The review reflects this.

He advises that the government conducts a fundamental review of energy research funding and its institutional organisations in the UK as part of its Industrial Strategy. This should consider as one option the possibility of some amalgamation and mergers to form a new UK Energy Research Laboratory, he says, which would then build links with the existing research centres.

Meanwhile, innovation policy should focus on the key market failures specific to the innovation process, he says. In particular, capital grants and special tax regimes could support the construction and project development costs which come before any electricity is generated.

The government should carry out a comprehensive review by BEIS of its statistical, scenario and forecasting activities, he adds, citing its failure to properly factor in the falling cost of gas over recent years.

However, Chris Hewitt at the Solar Trade Association says Helm’s characterisation of solar as requiring R&D is “an unfortunate distraction”. He explains:

“Many commercial solar companies are leading R&D lab breakthroughs. … Solar is already providing the most cost-effective source of energy in many parts of the world. These cost reductions, which Helm rightly praises, are in large part due to the deployment driven by government and consumer support mechanisms.”

Conclusion

Helm’s review has two main findings: the cost of energy is higher than needed to be in line with the Climate Change Act and ensure security of supply; and energy policy, regulation and market design are “not fit for the purposes” of the emerging low-carbon energy market.

He believes the government should streamline and simplify the array of low-carbon policies into one universal carbon tax, arguing that the inability of the market participants to grasp all the different interventions is, in itself, likely to increase the cost of energy.

Helm also presents a wide range of proposals for reforming the electricity market. These include giving the transmission and distribution price reviews another look, the introduction of a new default tariff to replace the Standard Variable Tariff (SVT). and reforming the FiTs to capture refinancing gains (after existing commitments have been met). Energy efficiency should be addressed primarily through standards and other non-tax and non-levy measures, he says.

It’s worth noting again that Helm has been setting forth his by now well known opinions on UK energy policy from carbon pricing to picking winners for decades. Many of these appear to have formed the backbone of the review – hardly surprising since he had only 30 days to write it.

Meanwhile, his own declaration of interest notes he has advised “most of the companies in the energy sector”. But there is not enough transparency about who his clients are, according to Caroline Lucas, the Green Party’s MP, who has been tabling a series of questions in Parliament.

BEIS has said it will now “carefully consider his findings” and “will shortly be seeking the views of industry, businesses, academics and consumer groups” to the review.

With so many recommendations to consider, it remains to be seen which, if any, the government will adopt. Furthermore, the government has already published its long-awaited “clean growth strategy”, setting out how it hopes to meet the nation’s legally binding climate goals up to 2032, although large policy gaps remain.

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