UK could face carbon floor backlash – energy market sources

Katie Mcque

06-Mar-2013

UK energy market participants have told ICIS they expect the UK government to back-track on controversial plans to introduce a carbon floor price because the burden on the country’s already flailing economy will be too much to bear.

“The pressure to ditch could start as early as next month with the budget announcement,” said independent utilities analyst Lakis Athanasiou. “As soon as consumer groups get an understanding of the impact of this on domestic bills, there will be uproar.”

The carbon floor price is an emissions tax on the electricity generation sector set to be introduced by the UK from 1 April. It was announced in 2011, and carries the aim of deterring emissions by imposing a premium payment on top of the EU Emissions Trading System (ETS) allowance price.

The treasury has said the tax will be introduced at a rate of £4.94/tonne CO2 equivalent (tCO2e, €5.72/tCO2e). One tonne roughly accounts to the generation of one megawatt hour by coal-fired plants.

However the level is planned to increase in yearly increments. In 2014, the tax will be £9.55/tCO2e; in 2015 it will be £12.06/tCO2e. The tax is intended to climb to £30.00/tCO2e in 2020 – about £40.00/tCO2e in real money during that time – before reaching £70.00/tCO2e in 2030.

“The banks seem doubtful over whether the carbon floor price will be introduced,” said a UK power trader. “However, nobody is debating it in parliament because criticising it will make you look anti-green.”

Chancellor George Osborne has long stood by the policy. In a speech late last year he said it helps to create “a clear and stable investment regime, which allows investors to commit funds with confidence”.

“The carbon price floor provides a clear cost trajectory for gas and coal generators,” Osborne said.

Detriment

In 2011, Summer ’13 Baseload prices on the forward power curve gained £4.60/MWh, or 8%, in just three sessions after the carbon floor was announced (see EDEM 23 March 2011), sharpening the contango on seasonal contracts and offering the first indication of the effect on major energy users of price rises going forward.

But later that same year, evidence emerged that traders were betting against the government following through with the scheme as the contango on the far-curve was squeezed back (see EDEM 25 November 2011).

Several sources voiced concern that the carbon tax could be to the detriment of the economy, especially in the long term, after the level begins to rise.

“The 2013 price won’t be a deal breaker. The UK will start to look increasingly exposed as the years go on and [electricity] prices increase. It will become isolated from European markets,” said Peter Emery, chairman of the generators division of Energy UK, a trade association group.

“If you are worried about the competitiveness of UK industry, you might issue a backlash. Is there the political will to progress it to 2020 and beyond? Nobody knows how long it will last.”

Isolation

With implementation imminent, the carbon tax continues to incite impassioned debate among power traders.

Some have argued that the levy will price the UK out of the European markets, severely hampering cross-border trading. Many said they believe the UK will become increasingly exposed as the years progress and will become isolated from other European markets.

“The carbon tax will make the UK uncompetitive and we’ll end up exporting a load of jobs from heavy industry. I’m not sure the chancellor will find this palatable,” said one UK trader.

“How can we impose a tax on an economy that isn’t recovering? The right thing to do is to reduce emissions. However the issue is, if the rest of the EU isn’t willing to do it, why should we?” asked another trader. “Emissions allowance back-loading hasn’t been stamped because the EU doesn’t want to hurt [economic] recovery.”

The UK would have to import power heavily from France as a result of the carbon tax, he added.

“As a trader, I think the tax is too heavy to bear. Everybody is going to be paying for this.”

Profitable coal

Another trader commented that he was unconcerned by the short-term ramifications of the tax because coal prices were low, making power generation profit margins historically high (see graph).

“The average clean-dark spreads from the past five winters have been about £14.00/MWh. For Winter ’13 it is around £26.00MWh,” he pointed out. “The darks can come down quite a bit, even with the carbon floor.”

ICIS last calculated the front winter clean dark spread at £27.09/MWh on Tuesday.

The trader said he thought the clean-dark spread will only become unprofitable by Winter ’17, which would coincide with a flurry of biomass plants joining the gird. “If people were worried, they would have made more noise. There does not seem to be any panic,” he said.

Some analysts have highlighted that the utilities would have based investment decisions on the introduction of the carbon tax so any backtracking would harm investor confidence.

“Abandoning the tax now could have major legal implications and also clearly increase the risk that other energy-related legislation may be subject to change. This would be detrimental to the objective of encouraging energy investment,” said Robert Chantry, an analyst at Berenberg bank.

Stealth tax

There is also unease about how the revenues generated by the tax will be spent. Sources have pointed out that the government has not specified that the funds will be used to cultivate green technologies.

“The government clearly needs to raise taxes and the carbon floor is a good way to make money. There have been no assurances on where the money will be spent,” stressed Emery.

His comments were backed by environmental group Greenpeace, which said the tax could merely be a method of raising capital in an ailing economy. “The only real beneficiary of this plan is the chancellor’s balance sheet,” said Joss Garman, a political director at Greenpeace. Katie McQue

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