Revision of Energy Efficiency Policy
There is widespread, almost universal, agreement that urgent changes are required in the way in which the energy needs of modern economies and societies are met. There is also wide agreement that these changes require regulatory and policy changes on a large scale, given the inertia to change in this area. However, there is much less agreement as to the nature of the interventions that are required.
The problem is that, as so often, new policy interventions will lead to winners and losers. Economics is quite clear on what should be done in such situations: the policy change should be implemented if the benefits exceed the losses in aggregate. In other words, change should proceed if the winners could compensate the losers and still be better off, although there is no need to actual introduce any compensatory mechanism. Of course, the politics is not so straightforward.
The EU has adopted a multi-faceted approach including Directives to reduce energy usage and changes to how energy is produced. Many of these have met opposition, but among the wide range of interventions, one area has proven to be relatively broadly acceptable and successful. This is the area of energy efficiency.
Energy Efficiency Obligation Schemes
An important aspect of the approach in this area has been the development of policy programmes that impose costs on energy consumers while simultaneously providing rewards to consumers who find ways to reduce consumption. These rewards are not just in the form of long term promises of a better environment – which, despite being central to continued life on the plant, are not really all that effective in changing behaviours – but short term rewards in the form of energy cost savings and monetary incentives to change behaviour.
From the point of view of economics, this is something of a Holy Grail: a policy that demands change – a regulation – but also incentivises change. After all, it’s always easier, that is, less costly, to get people to change if they have good reason to want to change rather than simply trying to force them to change behaviour.
Policy interventions under the EU’s Energy Efficiency Directive (EED) take two forms: Energy Efficiency Obligations Schemes (EEOS) and what are termed Alternative Measures (AMs). EEOSs have been introduced in most EU countries over the past decade, including Ireland. The idea is fairly straightforward: the policy aims to improve the efficiency of energy usage by imposing a levy on energy consumption – irrespective of how it is generated – and then recycling the funds that are generated to energy consumers in the form of information, advice and training to enable lower consumption, and grants where new infrastructure or equipment is required.
Ireland’s EEOS was introduced in 2014 and annual targets for energy input reductions set up to 2020. These targets were set for identified obligated parties (OPs), that is, the companies who supply the energy, with penalties if targets were not met. As a result, both consumers and energy providers had clear incentives to achieve their targets.
The targets were met. Notably, these schemes were introduced, they operated, and they were successful without a great deal of fanfare or controversy. Indeed, the main discussion related to the ambition of the targets at the outset.
Proposals to Redesign Ireland’s EEOS
It has now been decided at EU level to set new targets to cover the period 2021 to 2030. The Department of Communications, Energy and Climate Change (DECC) has set out proposals for the implementation of measures to renew the EEOS to contribute to achieving Ireland’s energy efficiency targets in this period.
In broad outline, what is proposed looks like what was there in 2014 to 2020. Based on the EU’s requirements, Ireland has an overall target to reduce energy consumption by 0.8% each year, up to 2030. This is only slightly above what was achieved in the earlier period. However, a major change is that the overall target calculation now includes consumption of energy in transport, which accounts for a little over 40% of the total. This had been excluded in the previous period. However, it remains up to each EU Member State to determine how it will achieve its target.
The target is calculated based on energy usage in the period 2016 to 2018. In this period, Ireland’s annual energy consumption averaged 12 million tonnes of oil equivalent. This converts to approximately 138,000 GWh resulting in an annual target of 1,104GWh of new savings each year. If achieved, this would result in a cumulative total of 60,707 GWh saved by the end of 2030. Amounting to 44% of current annual consumption, this would be a meaningful reduction.
It has been decided that AMs will contribute 40% of this target with the revised EEOS contributing the remainder totalling 660 GWh of new savings each year. This will be achieved across all sectors and all forms of energy usage.
So far, so good. The target is ambitious, but – based on what was achieved in the earlier period – not out of reach. However, there are two proposals in the Consultation Paper that has been published by the DECC that give cause for concern: the identification of a greatly increased target for transport and the way in which certain OPs are identified.
The Target for Transport
The first issue relates to the target that has been set for the transport sector. Transport accounts for just over 40% of consumption and a target has been set for the sector to contribute 40% of the savings. In the earlier period, the transport sector contributed 5% of the savings so this is a major change.
This does not mean that 40% of the savings must be realised in the transport sector. Indeed, it would be extremely expensive to attempt to do so, as is recognised in the DECC paper. Furthermore, research by organisations such as the Economic and Social Research Institute and the World Bank concludes that this is not a good way to go about improving energy efficiency in transport.
However, it does mean that sufficient funds must be raised by the levy on transport fuel to enable energy suppliers in this sector to ‘purchase’ realised savings credits from other sectors and energy suppliers in order to meet the target. It is likely that these will mostly be created through savings realised through better energy efficiency in commercial buildings either through better insulation of operations.
The change from one of the most important characteristics of the EEOS factor that made it such an attractive scheme is immediately obvious: the cost will be imposed on transport users, but little or no incentives will be provided to these users to enable them to change. The implications for freight operators and sectors such as agriculture where the electrification of transport through anything other than pilot schemes is still well in the future are immediately obvious.
While it might appear that setting the target in line with consumption is a reasonable approach, this is only rational if the objective of the EEOS is to raise revenue, that is, if it is seen simply as a tax. But this is not its purpose. Its purpose is to improve energy efficiency.
Consequently, to be an efficient mechanism, it needs to be designed so that its impact is greatest where the most efficient savings can be achieved. Transport is the least efficient sector in this respect but this was ignored in the proposal to set the target for this sector at 40% of the overall target.
Which Suppliers Should be Identified as OPs?
The second issue is that it is proposed that only the main oil importers be identified as the obligated parties. The argument is that since there are only a few oil importers and the information on their activities is quite readily available, this is most administratively efficient way to proceed.
The problem with this proposal is that the aim of the EEOS is to change consumer behaviour. This requires that there is some interaction between the OPs, who have a requirement to see change, and the consumers who need to make the change happen. Simply increasing the price of oil will not bring about the change.
However, there is little of no interaction between oil importers and consumers. In between lie the oil distributors and retailers. As a result, there is no mechanism through which the proposed OPs can incentivise change in behaviour that is required to achieve savings.
Once again, the mechanism that drove success in the EEOS in the earlier period risks being undermined. This is important in the case of oil that is used for heating, but is also particularly relevant given that over 70% of oil is used in transport and, despite the growth of electric cars, well over 90% of transport depends on oil.
The argument that this is a good way to proceed as it reduces administrative costs pales into insignificance when placed in the context of this risk. After all, administrative costs will only comprise perhaps 4% of the costs of the EEOS. Any saving will therefore be minor and nothing like the possible loss of benefits if change cannot be incentivised.
Moving from Decisions to Proposals
The result of the proposal to introduce these two changes is that the very factors that led to a successful outcome to the previous EEOS will be seriously undermined.
At this stage, although the consultation process has been completed, these remain proposals and not decisions. It is to be hoped that they will be reconsidered.
Kevin Hannigan has worked as an economic consultant based in Ireland for the past 25 years and lectures on economics at various institutes including the Irish Management Institute. He has undertaken economic research in a wide range of areas with an emphasis on policy evaluation and appraisal. He has a broad knowledge of the Irish and European economies and a deep appreciation of the importance of the economic context for the formation of business projections, the evaluation of alternatives and the outcomes of decisions.