Time for Treasury to move the net zero debate forward

By Dr Jonathan Marshall, Head of Analysis @JMarshall_ECIU

Published:27 April 2021

All the targets are set, for the next five years at least. Now is the small case of actually cutting carbon, a task currently overshadowed by an argument over the ‘true cost of net zero’.

The impending Treasury Net Zero Review is a chance to tackle this head on, dispelling some of the greatest myths about a ‘crippling’ cost of decarbonising, and setting a precedent that can lead to all of government swinging in behind net zero.

Models

Her Majesty’s Treasury operates in the same way to an oil tanker. Years of ingrained thinking means things are slow to turn around. Once pointing in the right direction, though, there’s no stopping it.

Initial signs that the review heralds a change of tune are positive. The interim net zero review, released late 2020, stressed that the effect of taking action on economic growth would be small, and that the cost of inaction dwarfs that associated with ditching fossil fuels.

On total costs, Treasury itself says that macro-level estimates are highly uncertain, extremely speculative and based on a large number of assumptions. It also says that addressing market failures and underpinning a consistent policy environment can ensure the transition takes place as cheaply as possible.

Any models run by HMT to estimate this ‘total cost’ will be subject to its own disclaimers on accuracy. Economy-wide models have long underestimated the pace of technological change, with recent research from UCL highlighting that the benefits of cumulative innovation, as well as those from investing early, are absent from the spreadsheets that spit out big and scary ‘total cost’ numbers.

This isn’t to say that HMT won’t have a go, albeit with the proviso that cost projections are just that.

An impact assessment released alongside legislation for the sixth carbon budget found that the outlay for emission abatement technologies was £651 billion. It also found that the overall cost of a 78% cut on emissions was a £266bn saving, more than compensating for climate spending, for what it’s worth.

Gaps

The Chancellor is reported to have taken a leading role at a recent meeting of the government's climate cabinet. Image: HM Treasury
The Chancellor is reported to have taken a leading role at a recent meeting of the government's climate cabinet. Image: HM Treasury

Poring over the costs should also be matched by equal scrutiny of the benefits. After all, cutting carbon isn’t an endeavour without reason.

Treasury, unfortunately, deemed quantitative assessment of the benefits of climate action out of scope of the review. Lower health costs from cleaner air and warmer homes and wellbeing improvements from less time sitting in a car in traffic and from more green space – and crucially how to share these fairly across the nation – will not be interrogated to the same extent as the pounds and pence needed to make net zero a reality.

In a similar vein, an assessment of the costs of inaction is likely to be found wanting. Just last week insurance giant Swiss:Re found that continued warming could cut global GDP by 18%, yet the impacts in both the UK and its regions continues to be overlooked by HMT.

Full support

An engaged finance ministry – the suggestion from a recent feature on HMT – can pave the way for government using its full suite of tools to get to net zero.

Outlined succinctly by former BEIS supremo Tim Lord, government can pull five levers to cut carbon: risk-bearing, changing taxes, regulation, supporting innovation and raising public awareness.

Currently, it is hard to think of a single sector where all these mechanisms are used effectively.

De-risking power sector investments have seen renewable costs fall, but a number of regulations still hold back a truly flexible grid; clean heat could be boosted by supporting innovation to see heat pump costs tumble and communications campaigns could spread the word across society; regulations will see petrol and diesel cars banned from 2030 but company car taxes aren’t used effectively to ensure fleets are electric today.

Using these tools in tandem with each other is the key to a smooth transition, and to making sure costs are even further below current primitive projections.

Another lever that HMT has its eye on pulling is effective emissions pricing, believed by many to be wildly underused and seen by government as the key to mobilising the billions of pounds in private investment to drive forward the UK’s net zero push.

The political risks and impracticalities of an economy-wide carbon price are well known, but if carefully designed and well-targeted, HMT hope that carbon pricing can be used to overcome a number of market failures impeding the UK’s path to net zero.

With government edging towards backing a carbon border tax – part of which involves ending free Emission Trading System (ETS) allocations at home and rousing international support at the G7 in June – keen eyes will be trained for clues on the future of emissions pricing in the net zero review.

Filling the gaps

Will Treasury throw its weight behind a sustainable alternative to fuel duty?
Will Treasury throw its weight behind a sustainable alternative to fuel duty?

Current government coffers take in more than £35bn per year via five ‘pollution taxes’, all of which will, in theory, tend toward zero as pollution does.

Replacing these is likely to be near the top of priorities, preventing another gap opening up in the already well stretched state balance sheet.

Tinkering with fuel duty, by far the largest source of pollution revenue, has joined house prices and pensions in recent years as something government is unwilling to touch. But as the electric vehicle revolution gains pace, this £28bn per year take could dwindle rapidly.

Acknowledging this is a minimum for the review. It could go much further, of course, suggesting replacements (road pricing?) and carrying out the underlying number-crunching to turn a currently highly regressive tax into something that both alleviates costs currently unfairly borne by low-income households and deters the relentless increase in miles driven in the UK each year.

Of course, by spanning the entirety of net zero, the HMT review will cover more than just these. Targeted action to avoid costs falling unfairly on different demographics and in different regions and embedding net zero into future fiscal events should also be in the mix.

Get the above right, though, and net zero could really start getting somewhere.

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