A strong carbon price to help the UK get to net-zero

Carbon pricing could form the policy bedrock for a net-zero target, argues Josh Burke

Inaction on climate change puts the world in grave danger. Action must, therefore, be accelerated. This is as much the case in the United Kingdom as anywhere, even though the UK’s greenhouse gas emissions have fallen substantially since 1990.

Across stakeholders and political parties in the UK, consensus is growing on the need for greenhouse gas emissions to fall to ‘net-zero’. This means balancing carbon emissions with carbon removal. In May the government’s independent advisory body, the Committee on Climate Change (CCC), provided a compelling and comprehensive assessment of how the target can be met. And last week, Prime Minister Theresa May agreed to legislate for a net-zero target, thereby strengthening the existing target of an 80 per cent cut on 1990 levels by 2050, which was part of the 2008 Climate Change Act.

However, strengthening the target is meaningless without a credible policy framework in place. And, we argue, a strong carbon price should be at the core of this framework.

Why carbon pricing?

It will be very hard to achieve net-zero emissions in the UK without a proper price on carbon. Pricing carbon encourages emissions to be reduced where it is cheapest to do so and sends a clear signal that the polluter must pay. But there is no doubt that carbon pricing works better if it is accompanied by complementary policies that address additional market or policy failures.

For example, to encourage the uptake of electric cars there can be a lower carbon price if complementary policies have removed potential constraints such as an insufficient vehicle recharging infrastructure. Carbon pricing and other interventions are therefore complements. Each plays its role in addressing a particular market failure – the climate change externality in the case of carbon pricing, and the removal of associated barriers in the case of complementary policies.

The welcome decision to move towards net-zero presents an opportunity to reinforce the rationale for carbon pricing. The importance of a strong, predictable carbon price is worth reiterating in light of recent government statements. In its plans for a no-deal Brexit, the government indicated that it “will seek to reduce the [Carbon Price Support] rate if the Total Carbon Price remains high”. While defining ‘high’ remains an arbitrary exercise, subject to political wrangling, the statement suggests a potential disconnect between the government’s Brexit plans and its net-zero ambitions.

The recent consultation on the UK’s preferred approach to carbon pricing following Brexit further highlights this disconnect. Despite stating that any “future approach will be at least as ambitious as the current EU Emissions Trading System (EU ETS)”, the consultation suggests that the price mechanism that could be used to ensure price continuity may have a price range between £4.70 and £13.70. This would be the minimum price range for which allowances can be sold and is referred to as the Auction Reserve Price (ARP). However, this is much lower than the current price, which is about £22.

The methodology behind the ARP also lacks a clear objective. It is important to question the objective of the policy: meeting carbon budgets, maintaining competitiveness or increasing coal to gas switching? This is not clear. The risk of this approach is that if the objectives are unclear, then it is almost impossible to arrive at an optimal set of policy solutions, and the risk of inefficiency or unintended outcomes is high.

Carbon pricing could also lose some of its political legitimacy given that the phase-out of coal in the UK is now pledged for completion by 2025. A key objective of existing pricing schemes has been to discourage coal. However, we reiterate the case for carbon pricing as an essential policy tool and stress the need for clear long-term visibility over the level of the price, its purpose and its interaction with other policy interventions.

Reaching net-zero will require some greenhouse gas removal and the pricing of ‘negative emissions’

While every effort needs to be made to reduce greenhouse gas emissions in all sectors, the new net-zero target will require some greenhouse gas removal: that is, ‘negative emissions’. For example, while aviation and industry have the capacity to reduce most of the emissions they produce, complete elimination is either too expensive or impossible, so residual emissions will remain.

The CCC considers that even in its ‘Further Ambition’ scenario – its pathway to net-zero – there will be around 90 million tonnes of carbon dioxide-equivalent a year of residual emissions that negative emission technologies will have to remove. Yet the development of negative emissions technologies in the UK is in its infancy, and there is a paucity of substantial research and development or regulatory support in this area.

To incentivise their production, negative emissions need to have an economic value. Carbon pricing can play an important role in this respect, as an economic enabler to create markets, drive deployment and generate revenues linked to technologies that remove and store greenhouse gases.

However, a penalty on positive emissions alone is not enough. A complementary price mechanism must be set up to encourage the development and use of negative emissions technology. There are two ways in which negative emissions may be incentivised:

  1. A government-led procurement mechanism

Under a government-led public procurement scheme, the government is the main source of UK demand for negative emissions. Based on an understanding of the efficacy of low-carbon policies, the government would purchase negative emissions in proportion to the residual carbon output that its policies have not succeeded in avoiding.

Particularly in the early years, an important objective would be to stimulate learning and reduce the costs of greenhouse gas removal technologies. In this respect the government can draw on the successful experience of promoting renewable energy sources like offshore wind. To encourage nascent technologies, the government may, for example, choose to separate negative emissions technologies into different pots based on maturity, and ring-fence options that are considered to be strategically important. Funding for auctions could come in part through the recycling of carbon price revenues or from general taxation.

  1. A private but regulated market

The second possible mechanism is a private but regulated offset market, in which market participants would buy negative emissions in place of paying the carbon price. Sectors with significant residual emissions – such as aviation – that require these offsets would then effectively fund technologies producing negative emissions. Sectors that can produce genuine net negative emissions should be allowed to sell offsets to any other sector to enhance overall economic efficiency. This may include trade within sectors such as agriculture that are capable of producing negative emissions but that have residual emissions of their own.

We present these two options as alternatives but they could also be implemented in sequence, with an auctioning mechanism used initially to drive down costs before a private market is established.

Negative emissions technologies raise considerable risks, however. Environmental integrity needs to be ensured in both the capture and storage of greenhouse gases to make certain that emissions reductions are genuine and permanent. Greenhouse gas removal therefore raises important considerations for regulation and temporal governance in relation to monitoring, reporting and evaluation. For a market in negative emissions to be credible it would have to be carefully regulated, with a governance system that ensures environmental integrity and provides absolute legal clarity over potential liabilities.

Net-zero must come with a credible policy framework 

The Committee on Climate Change has outlined one of the most ambitious emissions reduction targets in the world to date, and now the government has accepted the recommendations. But to be  credible the new target must be accompanied by an equally rigorous and stringent policy framework. We argue that a strong carbon price should be at the core of this framework.

 

The full policy report ‘How to price carbon to reach net-zero emissions in the UK’ by Josh Burke, Rebecca Byrnes and Sam Fankhauser, is available to download here.  

A version of this commentary was first published in Business Green.