Energy Poverty - An opportunity, surely?

I’ve hesitated for some time to post this but a couple of comments on the site have prompted me to let it into the open.

The British press has been full of self-righteous anger about energy prices.  And last weekend Prince Philip added his view that wind turbines are “completely useless”. Alongside them, government politicians have piled in, heaping opprobrium on the energy companies – EDF, nPower etc. – accusing them of price-gouging and of manipulation. “Hard-pressed families” have been made to suffer by these rapacious companies and more and more families are falling into “energy poverty”, when more than 10% of household income is spent on domestic gas and electricity. Indeed, an examination of the Crown’s accounts show that even the Queen is on the brink of falling into the camp of those in “energy poverty”.

Rather predictably the usual commentators like Christopher Booker have leapt onto the bandwagon accusing the Energy minister Chris Huhne of feckless disregard of his duty, and being in cahoots with the climate alarmists. Huhne, apparently, “fails to see the light”.

What is rather tragic is that here are a series of clear price signals – the market -  giving us good warning of where the UK’s best interest lies in the long term.  Yet the fact that they have a direct impact on individuals – particularly emotive groups like the elderly and low-income families – means  that the newspapers and pretty well every politician in the House is using this issue to seek short term advantage rather than trying to find long-term solutions.

As always no one is standing back and asking strategic questions about the UK’s future. No one seems to be asking where the energy the UK consumes is coming from and what the long-term issues might be. The answer isn’t exactly a profound revelation.  EU data suggest that oil and gas contribute about 73% of the UK’s primary energy needs. Crucially, the UK became a net energy importer in 2004 and production from the North Sea continues to fall. What we see is a steady increase in imports. So long as these come from Norway, whose interests are largely aligned with ours, there’s not so much of problem (other than making the UK rather vulnerable to fluctuations in currency exchange rates). But as with the rest of Europe we are ever more dependent on Russia to supply us with gas. Relations with Putin – now resurgent after forcing his puppet Medvedev aside – have been pretty patchy over the years, and we have seen how Russia has had little hesitation in cutting off countries in the middle of winter. It would be incredibly foolish for the UK to put itself in such a vulnerable position, espcially at a time when budgetary constraints are rapidly diminishing the UK’s influence abroad.

While there is no doubt that prices have risen in the past couple of years, the UK’s Office for National Statistics  has some rather intriguing data about energy use tucked away in its recent Factsheet on Domestic Energy Consumption: that UK energy per unit of income has dropped by about 50% since 1970.  In Britain we have enjoyed almost 40 years during which energy prices dropped as a proportion of our income. This isn’t much of a surprise – when I first visited the UK in the late 1970′s I remember people talking proudly about their new central heating – “gas fired”, they would add in restrained tones. But mostly I remember being cold, and there were coin-operated gas and electricity meters in our bedsit. We’ve come a long way since then. So if people are falling into energy poverty that is in part because our energy use has risen, though wat is interesting is that data from DECC/ONS shows that over 30 years our incomes have risen faster – we work about half as long per kWh as we did in 1970.

You may argue that I sound like Marie Antoinette suggesting that the poor just get on with it and buy expensive renewable brioches. I’m not. Quite the opposite. I am very worried that were energy prices to spike at a time of real economic hardship, the consequences for social stability could be very serious. And having grown up, just like the politicians, over half a century of extraordinarily low energy prices and general stability, it’s hard to imagine things going pear-shaped. Surely not here?

But the price of oil and gas is unlikely to drop very far in the medium term and there are Cassandras out there suggesting that instability in the Middle East – especially Iran – could cause prices per barrel to reach $200 a barrel. Are we ready for such a scenario? What proportion of the UK would end up in energy poverty then?

My point is that energy prices are an opportunity. They are telling us that if we value our independence and freedom of action we need to act decisively now. It is an issue like the pensions, easy to kick into the long grass, but that is going to stay with us, ticking away inexorably. Even if, like Delingpole and Booker, you think climate change is a sham, energy security is not. It’s very real. And energy prices are critical to social stability and cohesion.

To me the foundation stone of any long term energy policy has got to be efficiency and conservation – making sure that we don’t just disperse energy away without maximizing our return on the money we pay for it. And the only way to incentivise people to do this is to provide them with crucial domestic data so that they know just where their energy is going. Secondly, this has to be accompanied by pricing that reflects, if not all the externalities (good luck!) but at least aligns prices with our long term interests.

I have argued before that the way domestic energy is priced in essence rewards frivolous use, by having a high initial charge and then a price for higher usages that is about 2/3 lower than that. In other words, there is little incentive to use less electricity and gas. Should we then be surprised to discover that in spite of all the brave talk we should find consumption rising steadily? As the Energy Saving Trust has pointed out recently, we keep buying appliances and gadgets paying no attention to their long term energy costs. And the reason is that running costs are low enough that we don’t think about them. That doesn’t apply to cars, however, where, at least in Europe, miles per gallon are an important part of purchasing decisions.

The problem is that energy is quite different from other goods like pins, T-shirts and yogurt. Energy has got to be treated differently and pricing policy has to reflect this.  If we want to protect the poor from energy poverty then one way is to shift pricing is to reduce the cost of electricity to a low level for the first 2000 kWh, say – that’s almost two thirds of the annual domestic electricity consumption – and then raise it in a series of progressive bands beyond that. Similar considerations should apply to gas. The aim would be to make the change largely revenue neutral for the energy supply companies, and effectively neutral for low users. High users, however, would see a significant change and be incentivized to reduce their consumption. Thus gas and electricity would become like petrol where the more you use the more you pay, with no discount (unless you spend more than £60 at a nameless supermarket).

It can be argued that this means there is a cross-subsidy, since at these levels, the basic administrative cost of installation and delivery would not be covered. But since when is cross-subsidy taboo? Insurance policies are precisely that – we all pay into the fund and the unlucky few end up dipping into it. Is that cross-subsidy? Or should be just leave it all to the market and leave the elderly, the sick, and the burgled to the mercy of fate?

At the same time, not only should George Osborne not impose the 3p tax on petrol that he is wavering over, but he should reinstate the fuel escalator that was shamefully removed by Gordon Brown as his popularity waned. Yup. Prices should ratchet upwards. It would be wildly unpopular. But a small marginal tax could be used  to help fix the deficit – ironically, the UK government’s primary deficit is much worse than Italy’s, even though the national debt, at some 70% of GDP, is only two thirds that of the Italian.

In the end, price is the only thing that will determine our choices. What the popular press and some politicians want to do is to ignore the big externalities, and ignoring the fact that not taking energy policy seriously is going to significantly affect our freedoms in the medium term, either thorugh climate change or through social and political instability. The whole point of the Stern Review was to suggest that we should act now because it will be cheaper, in the same way as we should start saving for a pension as early as we can. To continue to ignore the issue will cost us dear.

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