Energy bills: What can the UK government do to avoid a cost of living crisis?

LONDON, UNITED KINGDOM - 2021/11/26: Protesters march with a Fuel Poverty Action banner during the demonstration in Parliament Square. Protesters gathered outside the Houses of Parliament and marched to Downing Street to deliver a letter to Boris Johnson, demanding action on excess winter deaths. Tens of thousands of people, particularly the oldest and poorest, die each year due to cold homes and the inability to afford heating. (Photo by Vuk Valcic/SOPA Images/LightRocket via Getty Images)

Protesters demand action on fuel poverty in London in November 2021

Vuk Valcic/SOPA Images/LightRocket via Getty Images

The shock of rising energy bills due to sky-high wholesale gas prices has already squeezed UK household budgets, disrupted industrial plants and triggered the collapse of 28 energy suppliers including Bulb. Now the issue is on the brink of escalating into a major cost of living crisis.

By 7 February, Ofgem, the energy regulator for England, Scotland and Wales, will announce a new level for a regulated price cap that protects 15 million customers. When it takes effect in April, the average annual dual fuel energy bill could rise to £1925, a phenomenal 50 per cent jump, according to analysts Cornwall Insight.

The consequences of an unmitigated rise that steep will be “an avalanche” of people falling into debt or rationing heating, says Adam Scorer at fuel poverty charity National Energy Action. For those who cut down on heating, “it’s damp, it’s cold, you will get ill, your children won’t be able to do home schooling, you won’t be productive if you’re trying to work from home”, he says.

The size of the overnight increase is likely to ripple well beyond vulnerable customers to affect the wider economy into next year, says Emma Pinchbeck of trade body Energy UK.

That is why the UK government is talking to the energy industry about short-term ways to mitigate the increase. Energy minister Kwasi Kwarteng met industry figures on 5 January, but the government has been silent on its plans. There is little debate it has to act – the question is how.

Cutting the 5 per cent VAT on energy bills has garnered a lot of attention, as it has been pushed by both the opposition Labour party and Conservative MPs. There are two downsides beyond a lower tax take. The first is it is a blunt instrument, helping the rich as well as the poor. The bigger issue, says Scorer, is it is only a modest saving, estimated at about £90 a year.

By contrast, the government providing direct financial support to some households could reduce the average annual bill by £500. “That is probably the big ticket one,” says Craig Lowrey at Cornwall Insight. The support could be delivered by widening eligibility for an existing scheme for vulnerable customers, the £140 warm home discount, increasing the money on offer and ensuring everyone who is already eligible gets it, says Scorer.

Some MPs have called for environmental levies, which support wind farms and other green measures, to be suspended, but the government will want to avoid being seen as anti-green. Instead, the levy could be shifted off energy bills and onto general taxation. That would save about £160 a year for the 15 million customers covered by the price cap. The option holds attraction because it has been discussed before, and paying for the measures through energy bills is regressive. “The thinking has already been done. That one definitely has potential,” says Lowrey.

Other options being considered include a windfall tax on North Sea oil and gas producers, though that is unlikely to be popular within government. A more likely prospect is using loans to defer recouping the costs of failed suppliers.

But Pinchbeck says while options such as a VAT cut or shifting levies would be welcomed by the energy industry, an intervention is needed on the wholesale cost of energy. That’s because £1030 of a future £1925 bill will be wholesale prices. “You have to do something on the wholesale cost,” says Pinchbeck.

One idea from supplier Octopus Energy is to smooth out wholesale cost increases using £20 billion of government loans, so suppliers could stagger price rises over time. An alternative idea is to mimic the “contracts for difference” mechanism used to support renewable energy to agree a wholesale price, above which suppliers receive money from government and below which they return money.

But interfering with wholesale prices could have unintended consequences, such as deterring investors and companies that are ploughing billions of pounds into power stations to help the UK reach net zero emissions, says Lowrey. That is why any intervention on wholesale costs needs to be time-limited, says Pinchbeck.

Whatever options stick, most only push financial pain down the road. “These are sums of money that have to be recovered somewhere, somehow,” says Lowrey. He says there is probably no single “silver bullet” option, but there may be a “silver buckshot” of several measures implemented.

However, these are only short-term ways to soften a staggering price rise. What are the longer-term options to ensure the country isn’t back in this position when the cap is revisited in August, and for years to come? Producing more gas in the UK won’t make a difference because it is a global commodity, but considering more gas storage is worth exploring, says Pinchbeck.

“The long-term solutions are obvious,” she says. “More energy efficiency, reducing methane gas in homes [switching away from gas boilers], and diversifying our power sector so we are less reliant on geopolitics and the gas market and more reliant on lovely offshore wind and nuclear and hydrogen.”

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