Industry ecstatic after swallowing Brown's tax pill

"Think energy." This was the key message from one of the greenest budgets ever. Chancellor Gordon Brown unveiled a major plank in the government's strategy for meeting climate change targets, writes Jason Palmer.

The budget ushered in a new energy tax for industry, to come into effect in April 2001. This "climate change levy" will apply to all electricity, gas and coal.

The government is using the tax to cut greenhouse gases, in line with its Kyoto commitment of a 12·5% reduction by 2008-2012. CO₂ emissions are expected to fall by 1·5 million tonnes in the wake of the tax.

The chancellor was quick to point out that the tax will be "revenue neutral", meaning that money raised will be ploughed back into business. Energy tax will be offset by reducing employers' national insurance contributions by half a percent.

To put the tax into context, the UK market for energy went through all manner of contortions during the early 1990s.

"Market liberalisation" meant that electricity prices for an average UK company tumbled by more than one fifth. For gas pricing, the fall has been even larger – "a whopping 44% on average," says the Confederation of British Industry in its Business guide to energy efficiency.

The new Labour government played to green voters in its electoral pledge to cut CO₂ emissions by 20% by 2010 – unachievable without a new spin on energy policy. It also took on a 12·5% reduction target as the UK's slice of European Kyoto commitments. This time, the target is legally-binding.

The government's options were limited by its promise not to tax energy used in the home. Instead, it has focused on reducing energy use in organisations.

It charged Lord Marshall, chairman of British Airways, to find out how to improve business energy efficiency and cut CO₂ emissions. His task force made two lynch-pin recommendations in its report.

First, "the government should seriously consider a dry-run pilot for tradeable emissions permits with interested players as soon as possible." This domestic scheme would mirror the international greenhouse gas trading, initiated as part of the Kyoto Protocol which is due to start by 2008.

Second, "there is probably a role for a tax if businesses are to contribute to improved energy efficiency and help meet the UK's emissions targets."

HM Customs and Excise has published "illustrative rates" for the new tax: 0.21 pence/kWh equivalent for coal and gas, 0.60 pence/kWh for electricity. It notes that that there will be "lower rates for energy-intensive sectors agreeing targets for improving energy efficiency."

Finer details of the tax have yet to be decided on, and "await further consultation with industry," said Gordon Brown.

Customs and Excise predicts the tax will raise £1.75 billion in the first year, overshadowing all other business measures announced in the budget.

This new revenue will be put back into business by making it cheaper, and so more attractive, to employ people. "If you put a revenue-neutral duty on energy products, you can both reduce CO₂ emissions and raise disposable incomes, employment and gross domestic product," says Jonathan Köhler, who has modelled such tax reform at Cambridge University's Department of Applied Economics.

Just one problem marks the tax down in the eyes of environmentalists. The tax will be paid for by energy users, not producers, so it will apply equally to all forms of electricity production. This means that no-carbon electricity (like that from renewables) will be hit as hard as conventional generation.

Dale Vince, md of the Renewable Energy Company, is shocked that his firm's energy is included: "It's perverse and counter-productive, a major step backwards," he said.

HM Customs and Excise says that existing measures alone will mean the government overshoots its 20% reduction target by 29 million tonnes. It reckons that this tax, "as part of a package of measures," will achieve the reductions required.