Shell’s third-quarter results announcement has reignited the debate on windfall profits in the energy sector. The former prime minister Liz Truss’s “commitment” to avoid any further windfall profits taxes looks set to be the latest victim of a U-turn.
Additional taxation is justified, as Shell’s chief executive, Ben Van Beurden, accepted a few weeks ago. The previous measures, introduced at the end of May, were clearly too limited and have left Shell in the almost embarrassing position of reporting quarterly profits of $9.5bn, just as the chancellor prepares the autumn statement.
The challenge of reconstructing a broken energy market is, however, much wider, and needs more than simply another tax change. The transition to a “lower carbon energy mix” remains mostly rhetorical. Consumers are paying too much for the energy they need, not just because of Putin’s war in Ukraine but also because the energy regulator, Ofgem – an organisation established to protect the consumer – has failed. A fair fiscal system should be just one part of an energy policy transformed to deliver the key objectives of energy security, affordability and reduced emissions.
The lack of investment over the last decade is one of the key reasons why prices rose as the Covid pandemic receded and economic activity around the world picked up. A lack of investment in a diverse mix of supplies is why prices rose still further after the invasion of Ukraine in February. Security of supply in a volatile global market also depends on having in place some protection against sudden falls in supply. Across Europe, most major economies have in place several weeks of stored gas supply. The UK, thanks to the ideological illusion that supplies would always be available on the open market, has almost none.
If we have a cold winter, and if Putin continues to restrict the supplies of gas flowing to Europe, that lack of storage could turn into rationing and blackouts. Storage requires investment, as does the upkeep of the supply grid.
Unless the whole sector is to be brought into public ownership, something that seems unlikely given the state of the public finances, most of the investment needed will come from private companies such as Shell, along with other producers and retailers. Those companies need to make a return sufficient to allow them to keep investing. But there is no justification for that to be at the windfall levels that we are seeing, given that energy, especially at the retail level, is essentially a utility business, with large barriers to entry and elements of effective monopoly.
In the circumstances we need not just a price cap but a profits cap – a limit on the rate of return companies can make. When profits exceed that limit, any surplus should go back to the consumer or the taxpayer.
A sensible fiscal regime should tax excess profits after a forensic audit of each company to show the exact breakdown of their costs and revenues. If companies not affected by what is happening in global gas markets misuse this time of volatility to exploit their customers, they, too, should be audited. There is no case for the producers of power from wind or nuclear to be altering their prices at all. The price cap, which is based on the wholesale price of gas, should not provide cover for everyone else to rake in unjustified profits.
Any new taxation needs to be explicitly designed to incentivise additional investment in new low-carbon supplies and research into the next generation of technologies, which could reduce emissions and take us towards towards the goal of net zero. Again, a forensic test is necessary to ensure that the investment is genuinely “additional”. The level of public trust in energy suppliers is low and can only be restored by complete transparency.
The oversight and policing of such a system requires a reinvention of the regulatory system. Ofgem has failed. A licensing scheme that encouraged innumerable small companies to become retail suppliers, regardless of whether they had the financial capacity to cope with volatile prices, has cost UK consumers more than £3bn. Turning a blind eye to the absence of back-up storage is a sign of timidity. A good regulator should be strong enough to challenge governments if they are neglecting such risks. Deep knowledge of the energy sector should be a requirement for those serving on the Ofgem board.
The events of the last year, including now the announcements of massive profits at a time when even higher inflation and austerity looms, show we are a long way from having a fair and effective energy policy. The UK cannot isolate itself from the world market but we can have policies in place that mitigate the risks and ensure that there is no scope for anyone to exploit instability at the expense of society as a whole.
Nick Butler is a visiting professor at King’s College London. He was formerly a group vice president for strategy and policy development at BP and an adviser to Gordon Brown
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