Towards a true price for energy
Monday, 11 June 2007
Samuel Brittan
THE British government published early this month a policy document entitled "Meeting the Energy Challenge". It was followed by a slimmer but much more readable volume, Out of the Energy Labyrinth, by Lord Howell, a former UK energy secretary, and Carole Nakhle, an energy economist. They cover similar ground: the security and environmental threats and the profitable -- as well as socially desirable -- opportunities to be found in alternative energy sources.
I cannot agree with everything in the Howell-Nakhle book, in particular the hint that the west should negotiate with the Organisation of the Petroleum Exporting Countries (Opec), the oil producers' cartel. The proper reply to threats from the Opec secretary-general against the development of biofuels is to tell him to take a running jump.
Nevertheless, there is one way in which The Energy Labyrinth scores over nearly every other study. The authors distinguish between the immediate need "for greater energy security worldwide" and the "search for a low-carbon future", with the former taking priority. As they explain: "The oil balance between supply and demand is so precarious that a new shock, which could happen any minute, could send the price leaping further skyways." It does not help that western Europe is headed towards 60 per cent reliance on Russian pipeline gas.
The most difficult question to answer in the energy debate is: why should politicians, bureaucrats, economists or commentators have a better idea of energy threats and opportunities than businesses whose own money is at stake?
The answer lies in that overworked word, "externalities". If widget manufacturers underestimate the demand for widgets there will be a temporary "widget problem", but the economy will carry on.
A miscalculation on the energy front will, however, have a pervasive effect, irrespective of whether it comes through as sky-high prices or physical shortages. If a global slump is induced, the main harm will be felt far outside the energy industries.
Could not the same be said of food? No. The lead time for planting new crops is far less than that required for installing a refinery, let alone commissioning an atomic power station. Moreover, despite the idiocies of farm support policies, the world food market is not nearly as much at risk from the vagaries of Russian power politics or terrorist threats as are oil and gas supplies.
Both the government document and the Energy Labyrinth are full of specific ideas for reducing reliance on fossil fuels. I cannot pretend to evaluate them; but nor, I suspect, can many of the officials nominally in charge. Is there not some way of using the price mechanism to create the right incentives to which individuals and companies could react, making the maximum use of dispersed information? The European Union carbon-trading scheme is indeed such a mechanism. But it is more relevant to long-term worries about global warming than to coping with an early energy crisis.
During the last years of the Bretton Woods system, when countries tried to avoid devaluing, governments and their economic advisers experimented with "shadow" exchange rates that put a premium price on foreign currency to discourage its use. The most extensive example was the British temporary import surcharge imposed by the Harold Wilson government in 1964. It was withdrawn because of international pressure, and was succeeded in 1967 by devaluation.
Interestingly enough, there have been since 2001 the elements of a shadow price for energy in the form of the UK climate change levy, which is really an energy tax with many exceptions. Since then other countries have introduced similar schemes. Rates have been stable since 2001, but from next year are to be raised in line with inflation. The duties are specific ones on the business use of electricity, gas and coal. An idea of its incidence can be obtained by the fact that it was more than offset by a 0.3 percentage point cut in employers' national insurance contributions. Not only are domestic consumers exempt but so are passenger transport and, of course, that sacred cow, exports. Exemptions are also provided for companies that agree to use "less-polluting alternative energy sources". The Treasury estimates that the CCL will have reduced energy demand by almost 3.0 per cent by 2010.
An enhanced CCL could be the basis for a genuine shadow price for energy, which could become the basis for energy policy and replace the mind-boggling variety of specific schemes now in place. But for this to happen the consumer exemptions would have to go, and the levy first increased and then raised each year by more than inflation. An approach along these lines would be a contribution to an international effort to reduce dependence on imported and polluting fuels; but it would also benefit any particular country taking this route. And if Opec made disapproving noises we would know that we were really on to something.
........................................
FT Syndication Service
THE British government published early this month a policy document entitled "Meeting the Energy Challenge". It was followed by a slimmer but much more readable volume, Out of the Energy Labyrinth, by Lord Howell, a former UK energy secretary, and Carole Nakhle, an energy economist. They cover similar ground: the security and environmental threats and the profitable -- as well as socially desirable -- opportunities to be found in alternative energy sources.
I cannot agree with everything in the Howell-Nakhle book, in particular the hint that the west should negotiate with the Organisation of the Petroleum Exporting Countries (Opec), the oil producers' cartel. The proper reply to threats from the Opec secretary-general against the development of biofuels is to tell him to take a running jump.
Nevertheless, there is one way in which The Energy Labyrinth scores over nearly every other study. The authors distinguish between the immediate need "for greater energy security worldwide" and the "search for a low-carbon future", with the former taking priority. As they explain: "The oil balance between supply and demand is so precarious that a new shock, which could happen any minute, could send the price leaping further skyways." It does not help that western Europe is headed towards 60 per cent reliance on Russian pipeline gas.
The most difficult question to answer in the energy debate is: why should politicians, bureaucrats, economists or commentators have a better idea of energy threats and opportunities than businesses whose own money is at stake?
The answer lies in that overworked word, "externalities". If widget manufacturers underestimate the demand for widgets there will be a temporary "widget problem", but the economy will carry on.
A miscalculation on the energy front will, however, have a pervasive effect, irrespective of whether it comes through as sky-high prices or physical shortages. If a global slump is induced, the main harm will be felt far outside the energy industries.
Could not the same be said of food? No. The lead time for planting new crops is far less than that required for installing a refinery, let alone commissioning an atomic power station. Moreover, despite the idiocies of farm support policies, the world food market is not nearly as much at risk from the vagaries of Russian power politics or terrorist threats as are oil and gas supplies.
Both the government document and the Energy Labyrinth are full of specific ideas for reducing reliance on fossil fuels. I cannot pretend to evaluate them; but nor, I suspect, can many of the officials nominally in charge. Is there not some way of using the price mechanism to create the right incentives to which individuals and companies could react, making the maximum use of dispersed information? The European Union carbon-trading scheme is indeed such a mechanism. But it is more relevant to long-term worries about global warming than to coping with an early energy crisis.
During the last years of the Bretton Woods system, when countries tried to avoid devaluing, governments and their economic advisers experimented with "shadow" exchange rates that put a premium price on foreign currency to discourage its use. The most extensive example was the British temporary import surcharge imposed by the Harold Wilson government in 1964. It was withdrawn because of international pressure, and was succeeded in 1967 by devaluation.
Interestingly enough, there have been since 2001 the elements of a shadow price for energy in the form of the UK climate change levy, which is really an energy tax with many exceptions. Since then other countries have introduced similar schemes. Rates have been stable since 2001, but from next year are to be raised in line with inflation. The duties are specific ones on the business use of electricity, gas and coal. An idea of its incidence can be obtained by the fact that it was more than offset by a 0.3 percentage point cut in employers' national insurance contributions. Not only are domestic consumers exempt but so are passenger transport and, of course, that sacred cow, exports. Exemptions are also provided for companies that agree to use "less-polluting alternative energy sources". The Treasury estimates that the CCL will have reduced energy demand by almost 3.0 per cent by 2010.
An enhanced CCL could be the basis for a genuine shadow price for energy, which could become the basis for energy policy and replace the mind-boggling variety of specific schemes now in place. But for this to happen the consumer exemptions would have to go, and the levy first increased and then raised each year by more than inflation. An approach along these lines would be a contribution to an international effort to reduce dependence on imported and polluting fuels; but it would also benefit any particular country taking this route. And if Opec made disapproving noises we would know that we were really on to something.
........................................
FT Syndication Service