We assess the implications of the Spring Budget 2020 on the Energy sector as we approach COP26.
The Budget was dominated by the Government’s response to the Coronavirus outbreak.
Nevertheless, buried in the detail of the Treasury ‘Red Book’ were some important developments relevant for the energy sector.
Prime Minister Boris Johnson has said that achieving ‘Net Zero’ carbon emissions will be one of the “six guarantees” delivered by this Government.
The Budget did contain a number of important measures aimed at decarbonising the energy system (see below). However, much work remains to be done if the UK is to have a coherent and credible plan on how to reach its legally-binding targets on Net Zero in time for the COP26 Climate Change Conference in Glasgow in November.
As the Climate Change Committee (CCC) have pointed out, the UK is not currently on track to hit its 4th and 5th Carbon Budgets (which were set to achieve an 80 percent reduction in emissions by 2050), let alone getting to Net Zero (see chart 1).
In the Budget, the Chancellor emphasised the importance of the “levelling up” agenda, bringing jobs and investment to all regions of the UK.
The energy infrastructure needed to deliver Net Zero can also support this “levelling up” agenda. Investments in onshore and offshore wind, carbon capture and storage, nuclear, low carbon heat and energy efficiency will bring significant investment and jobs to all parts of the UK.
In that context, it was disappointing to the see the Government once again delay the National Infrastructure Strategy (NIS), which is expected to set out these plans in more detail, until after the Budget. Much now rests on what detail emerges in the NIS, the forthcoming Energy White Paper, Transport decarbonisation plan and Heat Roadmap, which are all due out by July.
Carbon Capture and Storage (CCS)
The Chancellor made a big play in his speech of the Government support for CCS as a good example of the Government’s green credentials.
However, potential investors in these projects may be left thinking whether there is going to be enough money to go round. The Conservative Manifesto promised £800m for “the first” CCS cluster. Today, the Chancellor announced that same sum would be spread around “two or more” CCS projects, with one developed by 2025 and the second by 2030. Previously, the Coalition Government had allocated £ 1billion to CCS and even that amount was insufficient to get two projects developed. So it seems likely that the Spending Review will have to increase the amount allocated if the UK is really to lead the way on CCS, which is the Government’s stated aim.
The Treasury also confirmed its support for some form of Contract-for-Difference (CfD) for post-combustion CCS power projects, such as those being planned on Teeside or the Humber. BEIS are currently consulting on how this might work.
The UK needs a robust carbon price if it is to give the right signals for investment in the low carbon infrastructure needed to reach Net Zero.
The Government confirmed in the Budget that:
However, the Government gave no indication of the level of future carbon pricing beyond these short-term measures. Much, of course, depends on the outcome of the Brexit negotiations. The Government has previously indicated that its preferred approach post-Brexit is to create a UK Emissions Trading Scheme, linked to the EU Emissions Trading Scheme, starting in 2021. The Government also said that it plans for this new arrangement to be “at least as ambitious” as the current EU ETS.
Whilst this gives investors some indication of the short-term levels for carbon pricing, it also leaves a good deal of uncertainty about the long-term direction for carbon pricing in the UK. Given energy investments typically have a 20-30 year time horizon (with some, like nuclear, more like 60 years), this leaves a lot of risk with investors to guess what might happen to carbon prices over the lifetime of their assets.
There were some notable developments in the Budget on the decarbonisation of heat.
The Chancellor announced a new support scheme for biomethane deployment funded by a new “Green Gas Levy”.
This levy will sit on energy bills, and will start to close the price differential between electricity and gas, but will be relatively small, only adding about £5 to average bills in 2025.
The Budget also included a new “Low Carbon Heat Support Scheme”, which is expected to be a grant scheme to support the deployment of heat pumps and biomass boilers, to sit alongside the Renewable Heat Incentive (RHI), which was extended for another year to 2022.
What was missing was any clear policy framework for the deployment of low carbon forms of heating over the medium and longer term. This will need to be rectified in the Heat Roadmap in order to unlock private sector investment in other solutions, like hydrogen.
The Chancellor highlighted the support being given to the deployment of electric vehicles, including:
The Chancellor decided not to increase fuel duty, continuing the freeze in rates that has been in place since 2010, despite the recent sharp fall in the oil price.
However, he did make some important changes on Red diesel, with plans to abolish the tax rebate for red diesel from 1 April 2022 for all but certain users. Vehicles used to perform certain functions (e.g. tractors, gritters, off-road vehicles and mobile cranes) are able to purchase and use marked gas oil (commonly called red diesel due to the pigment added in the UK). The current duty rate is 11.14p per litre whereas the main rate of fuel duty is 57.95p. This measure is estimated to raise £5 billion between 2022 and 2025. The Chancellor recognised that businesses would need time to prepare for the change with the measure not taking effect for two years. The relief will remain in place for the agriculture, rail, domestic heating and fishing industries.
Improving air quality
The Government has launched a consultation on allowing a new type of petrol, which contains 10 percent bioethanol (E10) to be supplied at UK pumps. E10 is already widely used in Europe, but won’t be suitable for some older vehicles. This will help reduce emissions, taking the equivalent of 350,000 cars off the road, according to the Department for Transport.
The Budget also included £304 million of extra funding for local authorities aimed at reducing local air quality issues, particularly nitrogen dioxide.
The Budget announced that the size of the Energy Innovation Programme will “double” over the next Spending Review period to £1 billion. Further details are expected in the Spending Review.
On the tax front, enhanced tax incentives for capital investment and innovation were also announced, including:
There were no further details on the Manifesto pledge of £9 billion of public spending earmarked for improvements in energy efficiency. These are due to be targeted on social housing and public buildings, like schools and hospitals. Further details on this are now expected in the Energy White Paper and Spending Review.
Oil and gas sector deal
One other omission from today’s announcements was confirmation of the oil and gas sector deal that had been promised in the Conservative Manifesto, and reconfirmed as a commitment for this parliament just last month. We wait to see if the Government’s future plan for the oil and gas sector is included within the Energy White Paper.
The Budget provides further evidence that the Government is now taking some of the decisions needed to deliver on its “guarantee” of achieving Net Zero carbon emissions by 2050. The Chancellor himself has made clear his commitment to the green agenda in today’s Budget and through a number of recent statements.
However, the Government has a long way to go to provide a coherent overall plan for decarbonising the whole economy. We can but hope that further details emerge soon in the forthcoming Energy White Paper, Transport decarbonisation plan, Spending Review and Heat Roadmap. Without those details, any claim by the UK Government in the run up to COP26 to be leading the way in delivering on Net Zero will lack much credibility.
© 2020 KPMG LLP, a UK limited liability partnership, and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity. All rights reserved.
KPMG International Cooperative (“KPMG International”) is a Swiss entity. Member firms of the KPMG network of independent firms are affiliated with KPMG International. KPMG International provides no client services. No member firm has any authority to obligate or bind KPMG International or any other member firm vis-à-vis third parties, nor does KPMG International have any such authority to obligate or bind any member firm.