Price paid to cut carbon emissions varies by up to £700/tCO2 in UK

Published: 18 June 2018

The price paid by consumers and taxpayers for cutting carbon emissions varies by as much as £700 per tonne of CO2 in different parts of the UK economy, according to a new project by the Energy Systems Catapult called Rethinking Decarbonisation Incentives.

Bringing together a group of leading thinkers from government, business and academia, the ESC is seeking to explore options and expand the debate around incentivising the most cost-effective ways to cut carbon across the UK economy.

The projects have released an initial scoping study: Current Economic Signals for Decarbonisation in the UK.

Energy System Catapult Head of Markets, Policy and Regulation, George Day, said: “The government’s Clean Growth Strategy sets out to ‘cut emissions, increase efficiency and help lower the cost of energy’.

“Innovation is vital to achieving these goals, but the return when investing in innovative ways of cutting emissions is strongly related to the ‘effective carbon price’ – which can vary widely in different parts of the economy.

“The “Rethinking Decarbonisation Incentives” project is taking a fresh look at how the UK could improve incentives to cut emissions efficiently across the economy at best value for consumers, business and taxpayers while helping to unleash innovation that will transform the energy system and drive economic growth.

“The first phase of the study has highlighted the unintended consequences of a range of policies introduced over the years, that have produced ‘effective carbon prices’ in different parts of the economy that vary by as much as £700/tCO2.

“This is the result of a complex combination of taxes, subsidies, contracts and regulations, many not explicitly introduced with climate change policy goals in mind, but the effect has been that we are paying different prices to cut carbon emissions in different sectors of the economy, even though the harm in terms of climate change doesn’t discriminate by sector.

“This initial report scopes this current landscape and the pattern of economic signals in the UK for decarbonisation in different economic sectors and activities. This provides a baseline from which to assess in more detail the different sector drivers and longer-term options to improve market incentives.

“The aim is to inform debate about options to improve the feasibility and cost-effectiveness of meeting deep decarbonisation targets, as part of an effective industrial strategy, that also improves UK competitiveness and balances competing policy objectives in different sectors.” 

The project has launched with an initial scoping study, delving into the economic signals for decarbonisation across different sectors, including both: the taxes and subsidies explicitly applied with climate change policy goals in mind (e.g. renewable energy subsidies in power generation), and those in place for other reasons (e.g. reduced VAT rates on domestic electricity and gas consumption).

The study looked at the ‘effective carbon prices’ for both upstream (i.e. electricity generation and oil/gas production) and downstream activities (i.e. transport, business/residential, agriculture and waste) and compared them against the level calculated by Government as being required by 2030 to keep the UK on track to achieve 2050 decarbonisation targets – a carbon price target range of between £40‑£119/tCO2.

The study found that the price paid to cut a tonne of carbon varies widely between sectors (and takes into account the range of opinions/assumptions about which taxes and subsidies should be included):

  • Subsidies for rail transport effectively price carbon at a rate between £139/tCO2 and £568/tCO2, (if we view their objective as being to reduce emissions from road transport)
  • The rewards for Solar PV closely straddle the BEIS target range, between £45 and £130/tCO2
  • Nearly half of all current carbon emissions (48%), including gas usage and agriculture, face effective carbon prices which are clearly too low to meet legally binding carbon targets.
    • Gas use in residential homes has a low effective carbon price, between -£33/tCO2 and £4/tCO2 due to reduced VAT rates and the “taxes” on low-carbon electric heating alternatives
    • Farm subsidies result in negative effective carbon prices of up to -£45 /tCO2.

Energy System Catapult Head of Markets, Policy and Regulation, George Day, said: “Positive ‘effective carbon prices’ arise either from taxes on emitting activities, such as fuel use in road transport or from subsidies to low-carbon alternatives, such as rail. Conversely, negative carbon prices arise either from subsidies for emitting activities[1], or taxes on low-carbon alternatives.

“Clarity on carbon price, or putting a value on low carbon, will be critical to unlocking the innovation that the energy system transition.

“For investors, the rewards for investing to reduce emissions depends on future policy decisions which are difficult for anyone to predict. This means that we end up paying a higher overall price to cut emissions, because we are buying emissions reductions that are not necessarily the cheapest available, and because we are paying investors to bear unpredictable policy risks.

“The project will build on a ‘whole system analysis’ of decarbonisation, but within a policy context by developing credible approaches to market and incentivise design for system-wide emissions reduction.”

The RDI is working with a number of project collaborators and advisers, which include:

[1] Tax rates that are below general rates for the economy as a whole are also treated as subsidies and indicate a negative implicit carbon price.