Carbon Floor Price is wobbly – but provides some assurance for low-carbon investors

It is widely agreed that the current EU-ETS price is inadequate to divert investment from fossil fuel to low-carbon energy, risking expensive, high-carbon technological lock-in and reducing our chance of meeting demanding emission reduction targets by mid-century. In response, the UK is introducing a ‘Carbon Price Floor’ (CPF) for the electricity sector from the 1st April 2013, to underpin the EU-ETS and the weak price signal it provides, as part of a raft of ‘Electricity Market Reform’ measures aimed at encouraging the deployment of renewable and nuclear electricity.

The Climate Change Levy (CCL), which taxes the consumption coal, natural gas and LPG, currently provides an exemption for these fuels (and others) when used for the generation of electricity (although the subsequent consumption of this electricity is taxed). The CPF will remove this exemption and require generators to pay a ‘Carbon Price Support Rate’ (CPSR) on their fossil fuel consumption. This rate will be in addition to EU-ETS obligations, with a target CPF (CPSR plus the EU-ETS price) of £16/tCO2 in 2013, rising to £30/tCO2 in 2020. This is expected to lead to an additional £6.1 billion of low-carbon electricity investment by 2030, according to government projections.

The initial CPSR will be £4.92/tCO2. This rate was announced in 2011, when the EU-ETS was trading at around €15/tCO2. Since then, the value has plummeted to around €5/tCO2, leading to a likely CPF of around £10/tCO2 in April 2013 – over a third less than the stated target. As part of the 2013 UK Budget announced on 20th March, the CPSR for 2015/16 will be £18.08/tCO2, rather than £12.06/tCO2 set in Budget 2012 – itself an increase from £9.86/tCO2 announced in 2011 for this period.  This lack of short-term responsiveness of the CPSR (a two-year lag is required to give adequate time for consultation), undermines the certainty of achieving the target floor price in a given year, but still provides a mechanism to strengthen the currently wholly inadequate investment signal of the EU-ETS price. Even at its relatively low introductory rate this April, the CPSR is likely to be higher than the EU-ETS price, and in the absence of strong EU action to reduce the number of EU-ETS permits, this is likely to remain the case in future years.

There are powerful arguments for extending the CPF idea to EU27 in order to stimulate low-carbon investment across the EU and prevent intra-EU effects on competitiveness. However, the unanimity requirement for EU-wide taxation measures makes such an extension extremely unlikely.

This article was originally produced for Green Budget Europe Newsletter, March 27 2013, http://www.foes.de/publikationen/studien/

                                                                                                                                                                           

Paul Drummond is a Research Associate and Prof Paul Ekins is Director of the UCL Institute for Sustainable Resources