A Fit-For-Purpose energy policy for the European Union

Ms Samuela  Bassi, Grantham Research Institute on Climate Change and the Environment, London School of Economics and Political Science, United Kingdom

Prof Samuel Fankhauser, Grantham Research Institute on Climate Change and the Environment, London School of Economics and Political Science, United Kingdom

Dr  Maria Carvalho, Grantham Research Institute on Climate Change and the Environment, London School of Economics and Political Science, United Kingdom

•           Overview  and relevance

Following the Paris Agreement, the focus of EU decision makers has turned again towards domestic policy. Good European and national policies will be essential to achieve the target outlined in the EU’s intended nationally determined contribution (INDC) in the most cost effective way. It is therefore particularly crucial to understand what works in climate policy, and whether the current EU policy architecture is able to facilitate the technology development required to meet future carbon reduction targets.

This paper aims to identify the effectiveness of European and domestic policies. It investigates their effectiveness, credibility and unintended consequences. In particular, it assesses whether the current policy framework is fit for purpose to accommodate the required technological and economic transformation in the next decades. It also considers the policy reforms needed to facilitate these changes.

Given its cross-cutting nature and strong policy focus, the papewould suit in particular the session on ‘Facilitating the transition’, especially on ‘the roles of policy’.

•           Methodology

The paper focuses on EU policies affecting primarily the power sector and electricity-intensive industries.

First, the paper defines the context in which future carbon policies will have to be set, providing an analysis of the current climate change policy framework, the mix of power sources shaped by past and current policy choices and the features of today’s electricity market.

The paper further assesses the effectiveness of current policies and their unintended consequences. More specifically, it explores: the fiscal impact of different policy options and designs (building on public economics theory); the trade-off between effective and publicly acceptable policies (looking at cooperative behaviour and peer effect, public acceptability and competitiveness effects); and the credibility of EU and selected domestic policies (building on the methodology developed by Averchenkova and Bassi, 2015).

The analysis relies on sources including the Global Legislation Study (Nachmany et al, 2015), the OECD (2015) ‘Climate Change Mitigation’ report, the OECD/EEA (2014) database on energy taxation, data on energy generation and capacity from Eurostat, OECD/IEA and Platts (2013). This is complemented by analysis on EU/member states policies and interviews with relevant businesses and policy stakeholders.

•           Key results and conclusions

The paper will be finalised by the summer. Preliminary results show that policies can have a range of unintended effects. For instance, existing low carbon incentives tend to support new market entrants at the expense of incumbent low-carbon players, while the structure of the electricity market and its price setting mechanism can discourage investment. Revised policies and innovative business models will be need to ensure a cost-effective low-carbon transition.

Analysis of public acceptability shows that concerns about the international competitiveness of business, which have contributed to policy rejection (as in the case of reforms to the Energy Taxation Directive), have often been exaggerated. More robust analysis should accompany the introduction of new policy and bring more clarity over economic and social implications. Public acceptability could be further improved by, for example, increasing public awareness and trust on particularly beneficial aspects of a policy (e.g., revenue recycling), minimising regressive effects, introducing visible ‘incentives’ (e.g., to stimulate energy efficiency) and improving the communication process around policy reforms.

Credible and predictable policies will also be essential to attract the new private investment needed for low-carbon innovation and deployment. Lessons from monetary policy indicate that credibility and predictability is associated with a transparent strategy, procedural clarity and clearly explained decision-making. A similar approach could be adopted in energy policy, for example when deciding the subsidy level for renewables.  Delegating some aspects of energy regulation to independent bodies may also help to de-politicise the energy sector and increase investor trust.