Current situation and some alternatives
We are immersed in a climate crisis that warns of the terrible future scenarios for humanity if we do not manage to take the bull by the horns. At the same time, due to various causes (Peak oil, Ukraine, energy dependence, the threat of climate change, etc.) that are intertwined and reinforcing each other, fossil fuel and electricity prices have soared in recent months and are not expected to fall significantly in the near future.
Never before, or at least not since the 1973 crisis, had we seen European governments so eagerly asking their citizens to save energy by changing their daily habits. Suddenly, measures that were previously only advocated by climate activists are now being promoted and defended by the European Commission or the International Energy Agency itself.
EU has shown a will to lead the energy transition. It has committed to achieving climate neutrality by 2050 and a significant reduction in greenhouse gas emissions by 2030 (Fit55). It has also taken other important measures aimed at increasing energy efficiency and mass deployment of green energy. But the window of opportunity to keep the temperature below 1.5°C is extremely small. The latest IPCC report alerted us that the maximum CO2 peak must be reached by 2025 at the latest in order not to exceed that temperature. This involves an immediate implementation of all measures to reduce greenhouse gases, bearing in mind that the rich countries, those initially responsible for the problem which have already exceeded their carbon budget (as shown in the graph below), should make a greater effort to reduce fossil energy consumption beyond the reductions obtained through process efficiency.
The true dimension of this transformation is colossal, since the drastic reduction in energy consumption would entail a change in the economic model, and that would meant playing in another league that Europe has not even wanted to lean out for the time being. Perhaps it will have no choice but to enter that league if it really wants to lead the fight against climate change.
The real risk of insufficient power supply due to Russian pressure has led the EU to urgently approve the REPowerEU plan to avoid energy dependence on Russia in record time.
The council has just agreed to urgent 15% reductions in gas consumption. Although many of the measures in the REPowerEU plan can help us with the climate objective, not all decisions taken recently are consistent with this objective such as the inclusion of natural gas in the European green taxonomy or the granting of free emission allowances to large polluters.
In this and subsequent articles, we summarise the most commonly used energy/climate policy instruments and discuss a possible way of introducing the economic changes needed to make EU emission reductions effective and fully coherent, so that the more than likely declines in GDP growth that may result are accommodated by the economic system without increasing inequalities.
Energy-climate policy instruments
There are different instruments for reducing greenhouse gases or fossil energy consumption. The most widely used have been those that set certain standards for certain technologies or processes, such as the limitation of CO2 generation in internal combustion engines or the recent limitation of temperatures in air conditioning. All of them have an impact limited to the areas they regulate.
Instruments that can have a much more general and ambitious scope are energy taxes or systems based on emission caps:
Limits on energy consumption/ CO2 generation : adjustment via prices or via quantities
1st Adjustment via prices: The taxation route that we already know.
One of the most effective measures to achieve behavioural changes in citizens is high carbon taxes. But high taxes mean high prices, which is tantamount to probable social unrest. We must also add to this challenge, the current price hikes that oil, gas and electricity are already suffering, and which have dragged the entire economy to inflation levels harmful to society. Who would dare to raise carbon taxes at this time? No ruler who wants to stay in office would do such a thing. If in less economically stressful times, governments have been so timid in introducing such taxes or removing permits from the emissions trading market to force their reduction by the companies subject to this market, what can we expect in a situation like the current one in which, to make matters worse, we are seeing such environmentally counterproductive measures being approved as subsidising the price of gasoline for everyone or the recent decision of the European Parliament not to extend the market for emission rights to such polluting sectors as transport and construction?
It is true that making fossil fuels more expensive acts in the same way as a high carbon tax, but with a clear difference. A carbon tax allows the state to raise revenues that can then be returned to society in a thousand ways, while the benefits of higher fuel prices go into the pockets of private companies or energy producing countries while the rest are impoverished.
The theory says that raising the price of carbon tax will reduce the consumption of fossil fuels and non-renewable electricity. But carbon tax has major drawbacks:
- The first is that it does not affect everyone equally because it is an indirect tax. These taxes are considered regressive because they affect those who have less, much more. People with lower purchasing power will suffer more because they devote more of their income to current energy spending without having much room for maneuver to implement energy efficiency improvements in their homes which would help them lower their bills and the amount of the tax (many households live on rents of limited duration and therefore cannot easily make energy efficiency or renewable energy improvements profitable).
- The second drawback is the low elasticity of demand for energy products: the demand for oil is extremely rigid, as it is a basic necessity for many production processes and means of transport. In the current circumstances and without well-planned alternatives, most citizens are forced to continue using fossil fuels no matter how much they become more expensive, because they have no other ways out such as access to good public transport, resources to rehabilitate their homes energetically or to install photovoltaic panels on their roofs.
- The third: it produces inflation, since the price of fuels affects the entire value chain. Fourth and basic: the carbon tax does not directly set any cap on greenhouse gas emissions. Experience in the application of this tax shows that in order to achieve the cap that the climate reality requires, we would have to raise carbon taxes so much that society would most likely rebel against them.
- Fourth and basic: the carbon tax does not directly set any cap on greenhouse gas emissions. Experience in the application of this tax shows that in order to achieve the cap that the climate reality requires, we would have to rise carbon taxes so much that society would most likely rebel against them.
To solve the inequity problems, the solutions proposed by experts and advocates of the measure are the pay back of the tax collection to society according to different formulas, from total or partial monetary compensation, direct and selective to social sectors with lower income, to paying back everybody equally through the delivery of an amount wether as dividend (as a basic income) or as compensation in the form of aid, subsidies for renewable energy, energy rehabilitation, etc…
2nd Adjustment via quantities: The way of setting a cap on emissions which is already being applied in Europe through the emissions trading market, but with a very improbable ambition and scope, since currently only a reduced list of sectors representing only half of the emissions we generate are subject to this mechanism. Furthermore, the cap on emission permits that are distributed or auctioned among the companies subject to this market, although it has been reduced in recent years, is not directly linked to the carbon budget (i.e. the quantitative limit of greenhouse gases that we can emit), but is modulated according to the needs of the companies and the price reached in the permit auctions.
There are other ways to change consumer habits that can be less harmful to everyone and much more effective. The time has come to talk about them.
Outside the economic mainstream, other measures are being proposed that can be very powerful in accelerating the transition to a carbon-free economy. Some of them have been presented and discussed in some European parliaments (UK), but governments have not been up to the task of implementing them. We are going to summarise what they basically consist of in order to detail them in subsequent articles.
New proposals based on emissions caps
We refer mainly to two innovative mechanisms: the first called “Cap and Dividend”. The 2nd called “Trade Energy Quotas” (TEQs)“. The two proposals are based on determining a maximum annual emissions cap for the whole of society that will be gradually reduced until reaching zero emissions in 2050. This annual emissions cap translates into an amount of emission permits or fossil energy quotas (equivalent to emission permits) issued each year by a Public Agency. This permits are distributed free and equitably among all citizens in the case of TEQs, or they are auctioned among fossil fuel producing companies and the benefits of such auction are distributed equitably among citizens, in the case of “Cap and Dividend”.
Both mechanisms make all citizens co-responsible for the generation of emissions in an equitable and transparent manner. Both are consistent with the objective of the Paris agreement. The basic difference is that TEQs distributes fossil energy quotas (equivalent to emission permits) equally among citizens, while “Cap and Dividend” distributes money equally and for free. That difference will have implications for the price of goods and services.
We will explain the implications and operation of each of these innovative proposals in more detail in future articles.