House of Commons - Environmental Audit

Select Committee on Environmental Audit Tenth Report

Introduction

1. Since its inception in 1997, the Environmental Audit Committee has regularly reviewed the progress made by the Treasury in placing environmental objectives at the heart of its fiscal policies.[1] In doing so, we have taken as one of our reference points the Statement of Intent on Environmental Taxation, which the Treasury itself released in July 1997 and which stated that the Government would "over time...reform the tax system to increase incentives to reduce environmental damage."[2]

2. In our report last year on the Budget, Budget 2003 and Aviation,[3] we focussed specifically on the environmental costs and impacts of aviation in the light of the discussion document, Aviation and the Environment: Using Economic Instruments, published by the Treasury and the Department for Transport (DfT) in March 2003. We did so in the context of the DfT's airports consultation and the concerns felt by many over the huge projected increase in air traffic.

3. Following the publication of the Government's Pre-Budget Report on 10 December 2003 and the aviation White Paper, The Future of Air Transport, on 16 December 2003, we took evidence on environmental policy issues in relation to both these documents. As the function of the Pre-Budget is to set out the Treasury's strategy, including its environmental tax strategy, we would normally have used our own review of it to examine the extent to which the Treasury was taking forward the agenda set out in the Statement of Intent. However, in view of the seriousness with which we view the growing environmental impacts of aviation, we focused our review exclusively on aviation.[4]

4. In this report, therefore, we aim to cover environmental issues relating to the December 2003 Pre-Budget Report, together with recent measures announced in March 2004 in the Budget. Some of the evidence we draw on has already been published along with our follow-up report on aviation. This included various memoranda commenting on a variety of fiscal issues, and oral evidence from John Healey MP (the Economic Secretary for the Treasury), the Association for the Conservation of Energy, the Energy Saving Trust, and the Carbon Trust.[5] Since then, we have taken further evidence from the Economic Secretary and from the two Trusts, and evidence from the Government's Chief Scientist—Sir David King, all of which is published with this report.[6] We would like to express our thanks to all those individuals and organisations who have contributed to our inquiry.

5. To the extent that combating climate change is of overriding importance, we have focused this report on the role of fiscal instruments in relation to energy and transport policy. Our report is not intended to be a comprehensive analysis, but rather to highlight some of the concerns we have which the Government may wish to take into account in the various related reviews which it is about to undertake.

Pre-Budget 2003 and Budget 2004

New environmental measures

6. The 2003 Pre-Budget Report (PBR 2003) introduced several new proposals or measures of national significance:[7]

an Alternative Fuels Framework to underpin the duty regime for alternative fuels, including a commitment to provide rolling three-year certainty on duty differentials for all alternative fuels. As part of this, the PBR signalled a gradual increase in duty rates for Liquid Petroleum Gas (LPG), while differentials for Natural Gas (NG) would be held constant;
an extension of the 80% rebate from the Climate Change Levy, subject to agreeing targets for energy efficiency (ie Climate Change Agreements), to energy intensive industries which were previously considered ineligible;
a proposal to allow installations to maintain their 80% rebate from the Climate Change Levy if they enter the EU Emissions Trading System as an alternative to maintaining their Climate Change Agreements;
a commitment to consult on options to tackle diffuse pollution in early 2004, including a consideration of the pros and cons of a role for economic instruments; and
proposals for recycling landfill tax revenues to businesses.

7. In addition, PBR 2003 announced that coal mine methane exemption had now been introduced from 1 November 2003 following the original announcement in Pre-Budget 2002 and success in obtaining state aid clearance. Noticeable by their absence from PBR 2003 were any specific measures or proposals on domestic energy efficiency—despite two previous Treasury consultations on this topic—or on aviation, which we have not discussed here in the light of our two recent reports on this subject. We also experienced a sense of déjà vu in relation to the proposed consultation on options to tackle diffuse pollution, given the work the DETR carried out on this in 1997-98.[8]

8. Budget 2004 re-affirmed some of the proposals included in PBR 2003 and contained a few additional ones. In the area of domestic energy efficiency, it included:

a reduced rate of VAT for the domestic installation of ground source heat pumps;
a landlord's energy saving allowance, which provides individual private landlords with upfront relief on capital expenditure for installations of loft and cavity wall insulation in rented accommodation; and
a commitment to a reduced rate of VAT on micro-CHP from 2005, subject to the emerging findings of field trials.

Overview of progress

9. In commenting on both the 2001 and 2002 Pre-Budget Reports, we concluded that the initiative of "shifting the burden"—set out in the Statement of Intent in 1997—was in danger of stalling. Whilst we acknowledged the major steps the Government had taken in its first term, we felt that there was in this second term perceptibly less enthusiasm for radical new environmental fiscal initiatives. The key policy instruments which the Government regularly points to as evidence of its environmental tax strategy—the Climate Change Levy, the UK Emissions Trading System, and the Aggregates Levy—all stemmed from proposals dating back to 1998-99. We have seen little further development of fiscal policy instruments in this Parliament.

10. Indeed, data published by the Office for National Statistics (ONS) shows that—notwithstanding the introduction of these flagship measures since 2000—the revenues from environmental taxes, as a proportion of total taxes and social security payments, have recently been at their lowest level since 1993.[9] The following graph, based on data in the latest set of Environmental Accounts, shows the relative contribution from environmental taxes.

Source: Office of National Statistics

11. While there has been some increase in the last two years, this largely relates to fuel duty and Vehicle Excise Duty, though the introduction of the Aggregates Levy and the Climate Change Levy have also played a part. Moreover, some of the proposals in this budgetary round will result in slight decreases in revenue. The freeze in the rate of the Climate Change Levy, for example, together with the extension of eligibility for Climate Change Agreements, will alone result in a decrease of £50 million a year. Yet the appraisal table appended to chapter 7 of the PBR and Budget reports entirely fails to include these impacts or quantify their effect in terms of carbon emissions.[10]

12. We asked the Economic Secretary whether the Treasury could really be said to have an environmental tax strategy and whether—in the light of our concerns on this score—he envisaged that in the years ahead a shift in the burden of taxation would still take place.[11] We were surprised that he was unaware of the percentage revenue raised from environmental taxes and that he claimed such a shift had been happening. On the question of a strategy, he admitted that the Treasury's document amounted to a "framework and a set of principles for how we, as the Treasury at the centre of government, would approach the policy question of whether or not for any specific environmental purposes and ends we would consider the use of economic instruments including tax to achieve those …. and so, in that sense, it is a strategy and framework for making the sort of decisions in particular policy areas that we have to make." In other words, it is a framework for making decisions rather than a strategy as such.

13. The Energy Saving Trust provided a particularly apt description of the Treasury's approach:

"I have to say that from our perspective, what we are seeing is a highly tactical set of responses to individual audiences. Some work very effectively and some do not. What we would like to see is a very much clearer statement of what that strategy amounts to".[12]

14. As a percentage of total tax, the revenues from environmental taxes have recently been at their lowest level since 1993. The latest Pre-Budget and Budget Reports contain few significant new measures, and fail to take forward the Treasury's strategy of shifting the burden of taxation from "goods" to "bads". Indeed, the Economic Secretary for the Treasury admitted that the Treasury's environmental tax strategy was a framework for taking decisions rather than a strategy as such.

The Climate Change Strategy

15. In our report on the 2002 Pre-Budget, we concluded that the Government's Climate Change strategy was seriously off-course and recommended that current progress and future projections should be reviewed as a matter of urgency. The Treasury hit back, claiming that "factual inaccuracies" in the report masked the government's environmental successes, and that data published shortly after our report was agreed showed a 3.5 per cent fall in UK carbon dioxide emissions in 2002 putting the UK firmly on course to meet climate change targets.[13]

16. Since then, further information has vindicated our claim that the Government is struggling to get anywhere near its 20% carbon reduction target by 2010. Provisional emissions data for 2003 show that carbon emissions increased to about 152.7 MtC, largely due to the continuing increased use of coal for electricity generation.[14] Although this figure is still significantly lower than the 1990 baseline (164.6 MtC), much of the reduction was due to the "dash for gas" in the 1990s and further savings will be harder to achieve. For the Government to achieve the 20% carbon reduction target it has set for 2010, emissions would need to fall from their current level to 132 MtC. A further reduction to 110 MtC would be required by 2020 if the UK is to remain on course for achieving the 60% carbon reduction target for 2050.

17. The following graph demonstrates forcibly that the policy instruments the Government has put in place have yet to make a significant impact on the UK carbon emissions trajectory.

Source: DTI / EAC[15]

18. The Energy White Paper endorsed the vision that renewables and energy efficiency would be at the heart of future energy policy and would make up for the gap caused by the decline in coal and nuclear; and stated that current policies (including all the measures set out in the White Paper) would enable the 20% carbon reduction target to be met. The position is complicated by the delay on the part of the Government in finalising and publishing its energy projection forecasts, an issue we comment on below. But a recent DTI working paper on energy projections suggests that coal will provide a much more important component of the electricity mix than previously envisaged, and that emissions in 2010 will amount to 140 MtC, taking account of all policy measures both current and proposed.[16] Over the last year, therefore, we have seen Government forecasts of performance against the 20% target fall to around 15%.[17] This amounts to a substantial 'carbon gap' of some 8 MtC—a forecast of 140 MtC against a target of 132 MtC.

19. Even this projection assumes that the forecast emission reductions arising from these policy measures will actually be delivered. We have significant concerns on this score. The Energy White Paper endorsed the vision that renewables and energy efficiency would be at the heart of future energy policy and would make up for the gap caused by the decline in coal and nuclear. With regard to energy efficiency, the Government acknowledges that the rate of improvement, which has remained at about 2% per annum for many years, will need to double even to achieve the 140 MtC level of emissions forecast for 2010.[18] But we have seen no evidence so far of a step-change in this respect.

20. The other main plank of the Government's policy is to promote renewable energy. Yet it is increasingly clear that the Renewables Obligation will not provide sufficient stimulus to technologies other than wind power, and that without this there is little chance that the 10.4% renewables target can be achieved by 2010. We have updated the graph we have produced for the last two years, and it shows no evidence of a step change in deployment so far.[19] In view of the time lags involved in bringing on-stream renewable energy projects, the window of opportunity for achieving the target is gradually closing.

Source: EAC / DTI Energy Trends, June 2004

Note: The data for all renewables is calculated on the basis of the percentage of electricity generated. It also includes types of renewables which are not eligible for the Renewables Obligation (eg most large-scale hydro). By contrast, the data for Renewables Obligation (RO) eligible electricity is calculated on the basis of the percentage of electricity sold. The two sets of data are therefore not directly comparable with each other.

21. Recent data supports our contention that the Climate Change Strategy is seriously off course. The policy instruments the Government has put in place have yet to make a significant impact on the UK carbon emissions trajectory. The Government's latest forecasts indicate that carbon emissions will fall only to around 140 MtC by 2010—some 8 MtC more than the target. This carbon gap could be much greater if the policy instruments in place and planned fail to deliver the reductions envisaged.

22. In view of its central coordinating role, the Treasury will need to play a significant part in the review of the Climate Change Strategy and in exploring with other departments the scope for introducing further policy measures to promote both renewable energy and energy efficiency. A more imaginative and radical strategy which might involve the use of fiscal instruments—in particular for transport and domestic energy efficiency—is called for.

1 First Report of the Environmental Audit Committee, Session 1997-98, The Pre-Budget Report, HC 547.

Third Report, 1997-98, The Pre-Budget Report: Government response and follow-up, HC 985.

Fourth Report, 1998-99, The Pre-Budget Report 1998, HC 93.

Eighth Report, 1998-99, The Budget 1999: Environmental Implications, HC 326.

Fourth Report, 1999-2000, The Pre-Budget Report 1999: Pesticides, Aggregates and the Climate Change Levy, HC 76.

Sixth Report, 1999-2000, Budget 2000 and the Environment, HC 404.

Second Report, 2000-01, The Pre-Budget Report 2000: Fuelling the Debate, HC 71.

Minutes of Evidence, 14 March 2001, Budget 2001, HC 333 of Session 2000-01.

Second Report, 2001-02, Pre-Budget Report 2001:A New Agenda?, HC 363.

Fourth Report, 2002-03, Pre-Budget Report 2002, HC 167.

Ninth Report, 2002-03, Budget 2003 and Aviation, HC 672 Back

2 The Statement of Intent on Environmental Taxation was issued in July 1997 as an annex to one of the Budget press releases. It is reprinted at Appendix II (p xx) in the Third Report from the Environmental Audit Committee, Session 1997-98, The Pre-Budget Report: Government response and follow-up, HC 985. Back