October 29th, 2018

Budget breakdown: what would a green chancellor have done?

8 minute read

by Dominic Hogg

 

Economists know that if markets fail to reflect the damages caused by pollution, or to reflect the benefits provided ‘for free’ by nature, then decisions regarding consumption and investment will be misguided.

Think of this in terms of having a finite number of chips to allocate across different activities to make the most money: the signals you currently get from the economy would lead you to decisions which are completely different from those you would make if the uncosted damages, and benefits, were reflected in prices. You’ll end up seriously misallocating your chips, and the activities you’ve backed might create problems no one has accounted for.

The Treasury is full of economists, who no doubt understand that one way to ensure that damages are factored into prices is to tax pollution. Today’s Budget is the obvious place where that should have happened – and there is no shortage of readily implemented measures that could have been adopted that would address problems as diverse as resource efficiency, air pollution and overuse of pesticides. Yet the only new environmental tax that Philip Hammond announced was a substitute tax for the existing EU Emissions Trading Scheme (ETS) if we fall out of it in 2019. Here’s my take on what the Chancellor said, and what he should have done.

 

Carbon copy

Let’s start with the taxes we already have. The UK is in the EU ETS and has a Carbon Price Support (CPS) mechanism in place. Both are partial, ETS in its sectoral coverage, and the CPS as a result of exemptions to various industries. The Chancellor froze the CPS on the basis that EU allowance prices had risen recently and threatened to reduce the CPS ‘if the total carbon price remains high’. This doesn’t bode well for the future.

It is time to consider a broad-based carbon tax, based on fuel inputs, to tackle emissions from all sectors. A recent Policy Exchange report raised the prospect of a UK Carbon Tax post Brexit: whatever the wider ramifications of the decision, Brexit would make it easier for the UK to adjust taxes to negate its effects on competitiveness (through so called ‘border tax adjustments’). Of course, as energy systems decarbonise, this revenue would diminish: the second phase – reflecting that a zero carbon, let alone a carbon-negative, scenario is unlikely without substantial improvements in energy efficiency – would target energy use.

So, imagine a tax with a carbon and an energy component: in the early years, the former rises, while the latter is low; over time, the carbon component stays constant whilst the energy component rises incrementally. This would deliver decarbonisation in the short-term; it would also incentivise energy efficiency, not just in the medium- to long-term, but – because of the clear signal sent – far earlier, as companies and households anticipate the benefits of investing in efficiency.

 

Air condition

We also have Vehicle Excise Duty (VED), which the Chancellor froze for 2019-20 for HGVs. He is considering the treatment of vans. Otherwise, VED will increase in line with the Retail Price Index. VED is linked to CO2 emissions, but air quality is also important: that should have been clear well before the diesel emissions scandal. Over the weekend, the World Health Organisation described air pollution as the ‘new tobacco’. Even if the UK’s system of taxes and charges were able to prevent exceedances of EU limit values for air quality, many feel they are set at too lax a level.

The Chancellor implemented Theresa May’s pledge to freeze fuel duty for a ninth consecutive year, in which time it has cost £46bn. The freeze also means that local government measures to address air quality will need to work harder to address transport-related pollution, not to mention, congestion. May’s justification of her decision based on its value to families seemed rather strange, when so many lives are blighted by air pollution, and the government is being dragged through the courts over poor air quality.

Giving air quality responsibilities to local government seems to have taken the focus away from point sources of pollution, the main conditions for which are set by central government: even if we were to capture CO2 from power generating facilities, for example, they would still emit pollutants harmful to health. A focus on transport means these “stationary sources” remain under-acknowledged contributors to air pollution: the untaxed externalities from industry and power generation related to, for example, NOx emissions may be of the order £8 billion per annum. A tax on them would be simple to implement, would cut emissions, and improve health. Yet no country applies a tax of more than around a tenth of the known value of air pollution damages.

 

Green shoot

When will see a Budget that shows green shoots? Photo: Traveller_40 (CC BY-NC-ND 2.0), via Flickr.

 

When it comes to waste, the UK taxes landfill but not incineration. Yet incineration produces non-trivial emissions of fossil fuel-derived CO2 and air-polluting NOx. Despite this, and the avowed intent to address the issue of managing plastic waste (which is the source of those fossil-derived CO2 emissions), the Chancellor deferred any such tax pending consideration of whether wider policies will deliver the government’s waste ambitions.

The other half of the equation is resources. The only resource we currently tax is aggregates. The tax rate is low, but the Chancellor saw a need to freeze this rather than maintain its value in real terms.

The closest thing to a show-stopper (environmentally) in the Budget was the announcement of a tax on the production and import of plastic packaging. The Budget report states that this will be introduced from April 2022. It adds that ‘Subject to consultation, this tax will apply to plastic packaging which does not contain at least 30% recycled plastic, to transform financial incentives for manufacturers to produce more sustainable packaging’. It seems that this will form part of a consultation covering reform of producer responsibility, including a deposit refund scheme. If the aim is to deliver a truly integrated package on packaging, then this might be welcome, but the details remain to be elaborated. The Chancellor also decided not to tax any other plastic items, such as disposable cups, but to ‘wait and see’ what industry achieves.

 

Farm fresh

The potential for reform of the Common Agricultural Policy offers a real opportunity to change the nature of the support that we offer to farmers, and land managers more generally. Whilst the planned shift to support the provision of public goods might be helpful, that still leaves the negative impact of pesticides untouched. A recent study on the health impacts of organophosphate pesticides is reported as having alarmingly similar findings to a government-funded study on the design of a pesticides tax I authored almost exactly twenty years ago. The tax was not introduced, supplanted by an industry voluntary agreement, whose effectiveness (or otherwise) was to have been the basis for deciding whether the tax should be introduced. Now, with incineration and disposable cups, it seems we’re heading down the same path.

In addition to these concerns, the costs of pesticide pollution in water courses are borne by water companies (and hence, you and me). It seems now would be a good time to introduce the kind of banded tax we considered back in 1998, versions of which have since been introduced in Denmark and Norway.

Finally, at a bare minimum we should get rid of subsidies that support the fossil fuel industry. According to a recent report, the UK is

“one of the few G20 countries that is increasing its fossil fuel subsidies while cutting back on support for… renewable energy investments. This is despite recent pledges by the UK government in support of the Friends of Fossil Fuel Subsidy Reform”.

Tax breaks are still offered to help boost declining North Sea oil production, and latterly, to support fracking: the latter looks like the apogee of resource misallocation, a completely unjustified form of support to an industry we cannot afford to want. Yet far from removing these subsidies, incredibly the Chancellor announced measures to “provide additional support” for investment in oil and gas.

I could go on – an announcement of ‘the largest ever strategic roads investment package worth £28.8 billion’, alongside the freeze in fuel duty, is hardly going to improve the health of the nation. The irony is that this is sold to us as a means to address declining productivity.

 

Product recall

The Government’s approach remains rooted in what Nobel prize winning economist Joseph Stiglitz calls ‘GDP fetishism’. Invented in the 1930s by Simon Kuznets, GDP was intended as a single metric that would rise in ‘good’ times and fall in ‘bad’. After the war, it became the accepted measure of economic performance.

When we talk – as the Government has done recently – of ‘green growth’, this can’t just mean growing ‘the environmental sector’. Rather, it ought to trigger questions about how we measure the health of an economy, and how we can influence prices so as to at least make whatever we do ‘less damaging’. ‘Greening’ is a process that has to colour all sectors, and all consumption. If exporting to others the things which help make us greener is the opportunity that we are told it is, that’s partly because the world is confronting major problems. In their face, we might just have to accept that we’re consuming too much stuff.

I live in hope that, before long, we’ll see a Budget from a Chancellor for whom the penny has dropped, and whose signals and incentives are conducive to the health of our citizens and the planet.

 

Dominic Hogg

 

 

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