UCL ENERGY INSTITUTE Climate Change Working Group Book Launch Professor Paul Ekins (UCL) Presents Carbon-Energy Taxation: Lessons From Europe With a response from Frank Convery

UCL ENERGY INSTITUTE Carbon-Energy Taxation: Lessons from Europe A presentation by Paul Ekins Professor of Energy and Environment Policy UCL Energy Institute, University College London Institute for International and European Affairs Dublin October 14 th 2009

UCL ENERGY INSTITUTE Book based on the outputs of COMETR COMpetitiveness effects of Environmental Tax Reforms COMETR was a Specific Targeted Research Project (STREP) of the ‘Scientific Support to Policies’ initiative under the EU’s Sixth Framework Programme for Research (FP6)

UCL ENERGY INSTITUTE COMETR partners Cambridge Econometrics Economic and Social Research Institute, Dublin Institute for Economic and Environmental Policy, Prague Policy Studies Institute, London Vienna Institute for International Economics NERI, Aarhus University (coordinator) 4

UCL ENERGY INSTITUTE COMETR: a range of methods and research techniques *Panel-regression analysis of price-setting power in the international market *Panel-regression analysis of unit energy costs in relation to GVA Industrial indicators at subsector level *Extension of E3ME –empirical time-series estimated, disaggregated econometric Energy-Environment-Economy model of EU-25 Case-studies of energy-intensive sectors and subsectors 5

UCL ENERGY INSTITUTE Structure of Presentation Definitions of competitiveness Evolution of ETRs in Europe –EC 1993, Chapter 10: “An insufficient use of labour resources and an excessive use of environmental resources”, leading to the conclusion “If the twin challenge of unemployment/environmental pollution is to be addressed, a trade-off can be envisaged between lower labour costs higher pollution charges”. Differences in tax rates Sectoral results Macroeconometric modelling of ETRs and results Conclusions 6

UCL ENERGY INSTITUTE Definitions of Competitiveness l Difference between national, sectoral and firm competitiveness l Firm: ability to sell its products in competitive markets (output growth, profitability, market share), price and non-price competitiveness l Sector: different firms of different competitiveness (share of international markets), different responses to regulation/taxation (European Foundation results) l Country: European Commission: “a sustained rise in the standards of living of a nation and as low a level of involuntary unemployment as possible”; OECD: ‘the degree to which a country can, under free and fair market conditions, produce goods and services which meet the test of international markets, while simultaneously maintaining and expanding the real incomes of its people over the longer term.’ Exchange rate adjustments. NB Rise in real wages is both an indicator of competitiveness and undermines it! 7

UCL ENERGY INSTITUTE ETR and Competitiveness Ceteris paribus l Rise in environmental tax(es): may be expected to reduce competitiveness l Compensating reduction in other tax(es): may be expected to increase competitiveness l Possible increase in employment/output: if reduced taxes are employment taxes, and there is involuntary unemployment l Improvement in efficiency of resource use: may be expected to increase competitiveness (and economic security) l Improvement in environmental quality: may be expected to increase competitiveness (if local) l Stimulation of environmental industries: may lead to new industries/exports (if other countries also seek environmental improvement) 8

UCL ENERGY INSTITUTE Indicators of competitiveness Costs (compare via exchange rates): –Unit costs –Labour costs (but high incomes desirable) –Energy costs (might decline if greater efficiency) –Energy prices Market share (sectoral) Trend productivity Real exchange rate value Non-price factors (firms): productivity growth, delivery times, quality, after-sales service, financial arrangements, technological innovation, investment, institutional/structural environment 9

UCL ENERGY INSTITUTE ETRs in Europe l Since 1990 significant ETRs in Denmark, Finland, Germany, Netherlands, Sweden and UK Different tax base (energy, CO2, sectors), tax rates, revenue recycling, exemptions l Environmental tax to GDP ratio increased in Denmark, Finland, Germany, Netherlands; Sweden increase in env. tax to total tax ratio; UK no increase in ratios l All countries have special arrangements for selected industrial sectors (actual rates very different from nominal rates): l With regard to the energy product (e.g. coal in Germany) l The setting of tax rates (reduced rates, exemption, refunds, lower rate for high energy users) l Tax-free allowances l Ekins & Speck 2007: “Although the underlying reasons for implementing ETRs in EU member states are alike, the design of these tax shifting programmes differs greatly between countries, varying in terms of the affected economic sectors as well as adopted recycling mechanism. However, the various reform processes all have the twin political objectives of environmental improvement and support for employment.” 10

UCL ENERGY INSTITUTE Denmark Phase – 1998 (targeting the household sector): tax shift 2.3% of GDP; reduced income taxes; taxes on energy, water, wastewater, plastic and paper bags Phase – 2000 (targeting mainly industry): tax shift 0.2% GDP; reduction in employers’ SSCs and energy efficiency subsidies; taxes on energy SO2; complex incidence of energy tax (heating and process distinction) Phase – 2002: tax shift 0.3% GDP; reduction in income and pension taxes; mainly energy taxes (industry only affected for heating) 11

UCL ENERGY INSTITUTE Finland Industry and households Phase : tax shift 0.2% GDP; overall tax reduction; reduction in income tax, SSCs; increase in CO2 tax and landfill tax Phase : tax shift 0.5% GDP; further reduction of labour taxes; increased environmental taxes and corporate profit tax 12

UCL ENERGY INSTITUTE Germany Phase – 2003: tax shift 0.9% GDP; reduction in employers’ and employees’ SSCs increase in existing energy taxes and introduction of an electricity tax; disproportionately favourable treatment of industry Phase : increasing heating fuel taxes on natural gas and on heavy fuel oil; removal of environmentally damaging subsidies abandoned because of political opposition. 13

UCL ENERGY INSTITUTE Netherlands ETR in 1998: tax shift 0.7% of GDP; revenues recycled back to households (reduction in income tax and increase in allowances) and industry (reduction in SSCs) Tax differentiated according to ‘bands’ of consumption (lowest rate for highest consumption) Importance of voluntary agreements 14

UCL ENERGY INSTITUTE Sweden First ETR in 1991 (first major ETR in Europe): tax shift 4.6% GDP; reduction in personal income taxes and taxes overall; VAT on energy purchases and introduction of SO2 and CO2 tax Second ETR : tax shift around 0.4% GDP; reduction in taxes paid by low and medium wage earners and in taxes overall; increased environmental taxes 15

UCL ENERGY INSTITUTE United Kingdom Three relatively modest ETRs (affecting businesses not households): 1996 landfill tax, tax shift 0.05% GDP; 2001 Climate Change Levy, tax shift 0.06% GDP, 2002 aggregates tax, tax shift 0.02% GDP; reduction in employers’ SSCs; winners and losers Climate Change Agreements (CCAs) with CCL: energy efficiency improvement targets, 80% tax rate discount for energy-intensive firms 16

UCL ENERGY INSTITUTE Differences in energy costs, energy prices Exchange rates Energy import prices Tariffication Energy tax rates Evolution of energy tax rates Focus on natural gas and electricity Consideration of tax exemption for industries 17

UCL ENERGY INSTITUTE Evolution of energy tax rates levied on natural gas (unit: EUR per GJ in 1995 prices)

UCL ENERGY INSTITUTE Evolution of energy tax rates levied on natural gas consumed by industry (unit: EUR per GJ in 1995 prices)

UCL ENERGY INSTITUTE Evolution of electricity tax rates (unit: EUR per GJ in 1995 prices)

UCL ENERGY INSTITUTE Evolution of electricity tax rates consumed by industry (unit: EUR per GJ in 1995 prices)

UCL ENERGY INSTITUTE Issues for sectoral competititiveness in addition to those mentioned earlier Energy tax rates Carbon/energy intensity Trade intensity Competitive international markets (price setter or price taker?) 22

UCL ENERGY INSTITUTE Price taker or price setter ?

UCL ENERGY INSTITUTE Panel regression analysis of 56 industry sectors ( ) unit energy costs –1 per cent increase in real energy price leads to 0,77 per cent increase in unit energy costs –1 per cent increase in real energy tax leads to 0,03 per cent increase in unit energy costs unit labour costs –wage-unit labour cost relation more inelastic than tax-price to unit energy cost relation economic output –1 per cent increase in unit input costs leads to 0,3 per cent decline in output 24

UCL ENERGY INSTITUTE Conclusions on Sectoral Competitiveness l Energy/electricity taxes determine relatively small part of prices of energy l Country variations in ex-tax price of energy are larger than difference in energy taxes; these have not led to discernible difference in competitiveness l Industrial energy taxes are a small proportion of ‘nominal’ headline rates because of special arrangements; major source of economic inefficiency l No country most energy efficient l No evidence of even likely major impact on competitiveness – misplaced effort, complexity, and efficiency in seeking to mitigate it 25

UCL ENERGY INSTITUTE Macroeconometric modelling of ETRs with European model, E3ME 26 Two main scenarios Baseline (B): endogenous for including environmental tax reform : ex-post analysis : ex-ante analysis Reference (R): counterfactual, without ETR Difference between R and B is effect of ETR

UCL ENERGY INSTITUTE COMETR Results (1) 27

UCL ENERGY INSTITUTE COMETR Results (2) 28

UCL ENERGY INSTITUTE COMETR Results (3) 29

UCL ENERGY INSTITUTE COMETR Results (4) 30

UCL ENERGY INSTITUTE COMETR Results (6) 31

UCL ENERGY INSTITUTE COMETR Results (8) 32

UCL ENERGY INSTITUTE COMETR Results (9) 33

UCL ENERGY INSTITUTE Conclusions on macroeconomic modelling Fuel use and greenhouse gas emissions (GHGs): reductions in all six countries Taxes and revenues: tax shift relatively small (1.25% GDP max.) GDP and employment: quite small increase in both Impacts on prices: depends on method of revenue recycling, but no need for an increase in the price 34

Thank You

UCL ENERGY INSTITUTE Future Events: Launch Of IIEA’s latest publication: Greenprint For a National Energy Retrofit Programme Presentation of SEI/MCKinsey Greenhouse gas abatement cost curve for Ireland Patrick Birley (CEO ECX) on European carbon markets