In a Republican ad during Ronald Reagan’s 1980 run for president, a Tip O’Neill lookalike was driving alongwhile oblivious to the fact that his car was running out of gas. The Republicans’ intended meaning was that the Democrats were not paying attention to the mess the country was in, a mess that they helped create. But what I took out of it was more literal: the idea that the Democrats’ energy policy, one of the worst parts of Jimmy Carter’s four years, was a disaster that the Democrats refused to admit. (Previous presidents Richard Nixon and Gerald Ford had actually started the bad policies, but that’s another story.)
I have the same reaction now as I look at energy policy in Europe. Except that this time, one of the advocates of a destructive energy policy, Britain’s Liz Truss, is claiming the mantle of free market advocate and former prime minister Margaret Thatcher. In setting out her policy, she ignores some very basic economics. And the European Union is making similar mistakes.
This is from David R. Henderson, “Europe’s Destructive Energy Policy,” Defining Ideas, September 22, 2022.
And Ursula von der Leyen of the European Commission:
In making her proposal to tax producers more heavily, European Commission President Ursula von der Leyen stated, “In these times it is wrong to receive extraordinary record profits benefiting from war and on the back of consumers.” She added, “Profits must be shared and channeled to those who need it the most.” Karl Marx could not be reached for a comment.
Read the whole thing.
Update: I made a major error above and in the original article, as is pointed out in the first comment below. I’ve now corrected the article. For that reason, I deleted from this post the incorrect passage about the Truss plan.
READER COMMENTS
Richard Brown
Sep 23 2022 at 8:54am
“Liz Truss is announcing to Brits that energy use beyond some level is a free good”
Hmm… this is just not correct.
I fear you’ve read too many secondary sources. The British press believe British audiences are too stupid to understand detail (probably a fair assumption) so they always talk about these policies in terms of ‘the average household’s bills will be capped at xx’. But that isn’t what the policy actually is. What is being capped (or subsidised) is the price per unit of energy. So the ‘average household’ (as in a household that uses some notional average amount of energy) will now pay the headline number. But if they use more they’ll (obviously) pay more. It’s just that the price per kWh will be somewhat below what it would otherwise have been.
There may, of course, be far better ways of targeting help at those who need it (of which there genuinely are many), and the policy will obviously lead to more consumption than had the market price been fully passed through to consumers. But not even British politicians are so clueless as to implement a policy that makes the marginal price of energy zero beyond some point.
Jose Pablo
Sep 23 2022 at 8:17pm
those who need it (of which there genuinely are many)
Why do you say so? what do “many” and, in particular, “genuinely” mean in your sentence?
The average household in the UK expends 4% of their budget in electricity (6% of its budget in utilities). That compares with 9% in restaurants and hotels, 8% in “pets, gym fees, TV, etc…” or 5% in package holidays.
The problem with electricity (in UK and elsewhere) is not that it is too expensive, it is that it is too cheap.
Richard Brown
Sep 24 2022 at 4:52am
Hi Jose,
Forgive the very rough calculations. Assumptions:
Median UK household post-tax income is around GBP30k or so. https://www.ons.gov.uk/peoplepopulationandcommunity/personalandhouseholdfinances/incomeandwealth/bulletins/householddisposableincomeandinequality/financialyearending2021 (I must admit this surprised me; I thought it was lower… but I’m happy to go with the higher figure, since it would favour your position and weaken mine I think)
Typical UK household annual energy usage is around 3600kWh (electricity) and 13600kWh (natural gas). Tables 221 and 231 here: https://www.gov.uk/government/statistical-data-sets/annual-domestic-energy-price-statistics
Historic kWh prices (looking at a random, non-scientific sample of my own bills from previous years) were around 4p/kWh for gas and 12p/kWh for electricity. This is very rough as suppliers often competed by playing around with the fixed/variable mix of their tariffs. But this is the right ballpark I think
Prior to the latest intervention, the UK retail price cap was due to increase in October from its present rate (I forget what) to 15p/kWh for gas and 52p/kWh for electricity (implication being the market rate would be even higher). https://www.moneysavingexpert.com/utilities/what-is-the-energy-price-cap/ Scroll down to “Average price-capped rates”. The fixed (‘standing charge’) tariff components have also risen a lot but I’m ignoring them here for simplicity.
So if we plug these figures into a spreadsheet and look at the annual costs as percentages of median household disposable income then I think we get something like the following:
The historic rates meant the median household was spending about 4% of its post-tax income on energy. This is a bit less than your figure but it might be explained by my use of median and the fact I’m ignoring the fixed component of the tariff. Either way, I think our figures are close enough.
Now let’s look at where prices would have been as we headed into winter… the 15p/52p rates get us to (I think) 13% of post-tax income. And it was expected that the cap would rise another 50% next year… getting the median household to 20% of their post-tax income spent on energy. The market rate would, I assume, have been even higher.
Now one can observe that consumers would change behaviour in response to these prices so would end up paying less through consuming less, but I think these sorts of figures justify my use of ‘genuinely’ in my first post 🙂
And, of course, I chose median deliberately, so I could then point out that, for 50% of households, the situation is probably even worse.
The tragedy of all this is that the UK is sitting on more gas reserves than it knows what to do with (eg the Bowland shale), and we had the opportunity to build a new nuclear fleet a decade ago… but neither were done.
But don’t get me wrong: I think the price cap is a ridiculous policy – when has a price cap *ever* been a good policy? But I don’t think it would have been politically sustainable for the government to have done nothing. My preference would have been an unconditional cash transfer – with lots of fun opportunities to debate the details of how it would be structured/tapered. Fully exposing consumers to the actual market price, with the cash transfer creating an incentive to economise wherever possible (‘you get to keep the savings’) could have been 1) cheaper and 2) created better incentives re consumption reduction.
But I do think my claim that there genuinely are many Brits whose household budgets have been wrecked by rising energy prices is something I feel I can justify..!
RICHARD BROWN
Sep 24 2022 at 4:53am
Ugh… sorry.. the formatting has all been messed up. But hopefully you can decipher what I’ve written.
Jose Pablo
Sep 26 2022 at 10:19am
Hi Richard,
the average monthly cost for a low electricity usage household in the UK is 65.16 pounds per month. And this are based on rates effective from October, 1st 2022
https://www.britishgas.co.uk/energy/guides/average-bill.html
That’s less than 6% of the disposable income for the lowest decile (13,000 pounds per year).
But my main point is that selling the measure as “helping those in need” is demagogic (pure BS) and has nothing to do with the main effects of this policy.
The measure affects every UK household not those “in need”. It seems like trying to affect as many voters as possible, with the “those in need” thing being just a convenient hearth moving false narrative. In fact, the framework to understand this measure is provided by public choice theory. Period
The interesting question is what are the real (not the demagogic) effects of this measure?
Well, the government claims savings of 1,000 pounds per year per household (for a “typical” household). Since the government also claims that the average household bill will be capped at 2,500 pound per year. We can work with and average household yearly bill of around 3,500 without price cap and 2,500 with the cap.
The relevant question is what would have happened if the average household would have to pay the full price of electricity. My guess is:
1.- They would have reduced electricity consumption. By switching off appliance that they are not using and avoiding standby consumption, by using more clothes at home, by … Let’s say that a 15-20% savings are not difficult for this level of price increases (40%). For our average case that would have meant around 500 pounds (70% of the savings claim by the government) [maybe more because at this level of savings the average wholesale price would have been reduced]
2.- They would have reduced their consumption on “marginal items”. Items that produce less utility for them that electricity (there is a huge consumer surplus in electricity!). My guess is that these items would have been:
alcoholic drinks: the average household spends 14.10 pounds per week in alcoholic drinks and tobacco. Let’s say they are cut in half. That means savings of around 350 pounds per year
package holidays: 5.8 per week. Cutting them in half means another 150 pounds per year
So, what the measure is subsidizing is:
a) (50% of the measure) an unnecessary consumption of electricity in the UK, that is happening now because electricity is too cheap (for instance, it does not internalize a significant part of its cost … the price increase is, in fact, a blessing from this point of view. Less government intervention would be required, because of the price increase to achieve CO2 emissions goals across Europe. Isn’t that wonderful??!)
b) (35% of the measure) Alcohol consumption
c) (15% measure) Vacation packages abroad.
The rest of the narrative is political BS and economic ignorance.
This is a particularly bad policy even by the low standards of politicians in the UK (and Europe).
Alex Tyson
Sep 23 2022 at 9:21am
That excerpt is misleading. The rate is being capped such that at current usage levels the average household’s costs is no more $2,875/yr. The marginal cost of energy to households is not zero.
William Connolley
Sep 23 2022 at 9:27am
This isn’t true. It is widely reported like that, but the language is confusing. The cap is on the price per unit of energy; that price is the thing that is capped. The $2875 is the household bill corresponding to average energy use, and is not capped. From the BBC (https://www.bbc.co.uk/news/business-62831698): “The energy price cap – the highest amount suppliers are allowed to charge households for every unit of energy they use – had been due to rise to £3,549 for a typical household from October. To limit the amount customers’ bills go up by, the unit price will be capped, although household energy bills will vary according to how much gas and electricity they use.”
David Henderson
Sep 23 2022 at 9:32am
Thanks, William.
I’ll make a correction in the original article.
David Henderson
Sep 23 2022 at 2:52pm
To Richard Brown and William Connolley:
Thanks. I have now made the appropriate correction.
Richard, your point about British politicians not being that clueless is well taken.
Richard Brown
Sep 23 2022 at 5:08pm
Thanks David.
That said… upon reflection, and to be fair to you, I can now think of plenty of British politicians who would support a ‘set the energy price to zero’ policy… so your mistake is understandable..!
David Henderson
Sep 23 2022 at 5:41pm
Thank you, Richard. I appreciate your understanding.
It’s still true, though, that my internal skepticism should have caused me to look more carefully.
Jose Pablo
Sep 23 2022 at 8:44pm
I think that David is, after all, right (or, at least, “close enough” for any practical purpose).
Let’s say (assuming a simplification) that due to the capping system, the average price paid by the UK households amount to 80% of the average price they would have paid on a free market”.
Leaving apart elasticities (as the UK government seems prone to do), that’s equivalent to give them for free the last 20% of their electricity consumption.
Maybe not exactly David’s claim but close enough to ilustrate any discussion on this topic.
Thomas Lee Hutcheson
Sep 24 2022 at 7:48am
Yes, this is a misguided short term policy, but the real mistake was not having had a tax on net CO2 emissions years ago, not discouraged fracking, and kept the German nuclear plants open and probably built new ones (assuming they would be financially attractive if fossil fuel prices included the costs of the damage from climate change).
Jose Pablo
Sep 26 2022 at 2:17pm
What the UK government reaction clearly shows is that Pigouvian taxes as a way of addressing CO2 emission is a non starter since the political tolerance to significant increases in energy prices is precisely zero.
Even worse, very likely what the UK government is subsidizing (apart from the most unnecessary part of household energy consumption, the portion that would have been saved without the price cap) is alcohol consumption (which ironically is charged with another Pigouvian tax) and travelling abroad (a relevant source of CO2 emissions).
[I am assuming these are the expenses that UK families would be giving up to pay for the unsubsidized energy price increases. But you can make your own assumptions]
Grand Rapids Mike
Sep 24 2022 at 1:32pm
The real problem for the misguided and essentially stupid energy policies is the ongoing march of leftist policies pursued. The enegy policy is just the one getting most attention now, since the results are front and center. Unfortunately leftism is a mental disease, so not sure rational energy policy is posssible.
Comments are closed.