If the UK is to achieve Net Zero, a carbon tax is not the silver bullet

Published: 4 February 2021

By Philip New, chief executive, Energy Systems Catapult

The Prime Minister and Chancellor have asked all departments to produce plans to “price” carbon across all areas of the economy. This could be a defining step on the UK’s journey to cut carbon emissions, building on the ambitious measures already announced in the Prime Minister’s 10-Point Plan for a Green Industrial Revolution.

But moves to simply apply a blanket carbon tax across the economy are unlikely to unlock the innovations we need to meet our ambitious targets and risk backfiring if not handled with care.

With only thirty years to go before we must reach Net Zero emissions, the incentives to reduce carbon across the economy are a mess. Where strong incentives are in place, they have helped drive coal off the electricity system and reduced waste going to landfill. In other areas, such as domestic heating, aviation, and agriculture we are effectively subsidising pollution.(CLICK ON IMAGE TO ENLARGE)

Figure 1. Effective carbon prices and emissions in the UK by sector. The average target price of £80/tCO2e is the central value for 2030 as used by BEIS for appraisal purposes; this target price has not been updated to align with the Net Zero emissions target.

Until we get the incentives right – across the whole economy – the UK will be decarbonising with one hand tied behind its back. The UK’s often poorly insulated homes provide a case in point. Our current approach tilts the balance in favour of gas boilers over cleaner alternatives because there is no price on the carbon emissions boilers emit. This stifles any incentive for innovators to create cleaner technologies. If you were a plumber, why would you bother retraining to develop the skills to install heat pumps and energy efficiency well, if you knew the market for your new skills would be limited to well-heeled green enthusiasts? Green altruism will not get you very far. We need to shift 20,000 homes to low carbon heating a week to meet our targets. Right now, we manage around 30,000 a year.

Agriculture is another area where polluters are currently rewarded for emitting carbon, despite the sector contributing 10% of the UK’s emissions. Defra has rightly proposed a fundamental shift in this subsidy system now we have left the European Union’s Common Agricultural Policy. There are opportunities for innovative land-use practices that can prevent floods and absorb carbon – these are the things farmers should be rewarded for.

So when faced with this mish-mash of incentives, why not reach for a simple, unified carbon tax across the economy? International experience suggests we must tread carefully. From Canada to France, Australia to South Africa – imposing a pure carbon tax is fraught with compromises and political revolt, neither of which allow for a carbon tax high enough to achieve much of anything, let alone Net Zero. Gilet Jaunes a l’Angleterre, anyone?

Carbon taxes can work well in some parts of the economy but are not always the right mechanism. A much better way forward is to design policies that recognise the different challenges facing each major emitting sector, including international competitiveness.

This may mean regulation or standards, subsidies or greater access to finance. This mixed approach has already seen success in UK power sector, where subsidies, taxes, and regulation have all played their part in the sector’s rapid decarbonisation since 2010.

Taking into account the sectoral sensitivities means you can achieve the same outcome – cutting carbon – while providing greater confidence to those businesses coming up with innovative goods and services.

Carbon taxes are often vulnerable to the vagaries of political will – just look at road transport where fuel duty has been frozen year on year. As a result, the sector remains the largest polluter and emissions are creeping upwards. Businesses making investments are understandably sceptical of how long taxes will be in place.

In the medium term, you can link sectoral carbon policies by allowing trading of properly validated carbon credits. This can provide revenue for new businesses that can safely capture and store carbon. In future, we might see airlines buying carbon credits that fund new aviation fuel providers, or sustainable forestry schemes to soak up any remaining emissions. The UK’s post-Brexit Emissions Trading System could provide the backbone of this new framework.

A sectoral approach is also likely to be far more successful (and publicly acceptable) for heavy-emitting areas like industrial decarbonisation. If the UK is to lead in low carbon innovation in hard-to-decarbonise-sectors like cement and chemicals, there is no point simply offshoring all of our industrial base. And domestic steps must be aligned with like-minded countries, potentially through a carbon border adjustment mechanism to ensure countries who are doing the right thing are not punishing their domestic manufacturing and heavy industries. Such a move could help cement the UK’s international climate leadership in the year we host the international climate negotiations.

The debate about an economy-wide, perhaps global-wide, carbon tax will rumble on. It should be part of any Government’s armoury, but, on its own, it is not a silver bullet.