New research conducted by the Grantham Research Institute on Climate Change and the Environment and the Energy Systems Catapult has found that expanding the UK Emissions Trading Scheme (ETS) to heating and road transport fuels could significantly reduce greenhouse gas emissions from the UK economy and, at the same time, ensure that households below the median income are no worse off.

The report on ‘Extending the UK Emissions Trading Scheme to heating and road transport fuels: What role can it play in decarbonising the UK economy?’ focuses on the potential role that the UK ETS could play, in addition to existing policies, in incentivising decarbonisation efforts in the domestic heating and road transport sectors.  

The authors modelled the extension of the UK ETS to heating, road transport, and to a combination of both sectors, using illustrative carbon prices of £40/tCO₂e (low) and £80/tCO₂e (high). The researchers show that a carbon price extended to both heating and road transport would yield reductions in economy-wide emissions of greenhouse gases by 26% under the high-price scenario and 16% under the low-price scenario.  

The modelling also points to a “double dividend”, where carbon pricing and revenue redistribution lead to a boost in GDP by 0.3%.  In the high-price scenario, the revenue that could be raised is also potentially significant – up to 0.6% of gross domestic product (GDP) when the high carbon price is applied to both sectors – and sufficient to mitigate distributional impacts on the lowest 50% of income deciles with surplus to spend on other priorities.

When the same carbon price is applied separately to heating and road transport fuels, greater emissions reductions occur from pricing heating fuels. This is because there is currently no effective carbon price on gas heating, while road transport is already subject to an effective carbon price via fuel duty and other taxes.

Transport fuels also represent a larger share of household consumption and feed into more aspects of the economy than heating fuels. Together, this suggests that carbon pricing in the heating sector will be more effective at driving down emissions, and that it would have lower inflationary impacts. 

The modelling results highlight the need for carbon pricing to form part of a package of coherent and complementary policies in the domestic heating and road transport sectors if the UK is to achieve net zero emissions of greenhouse gases. 

The authors recommend the following actions are taken by UK policymakers: 

• In domestic heating, to phase in the extension of the UK ETS over time, beginning with natural gas, and eventually extending it to cover other heating fuels. This can be part of an approach to rebalance electricity and gas prices. 
• In road transport, to strengthen existing policies that have started to enable the decarbonisation of the sector as the most effective near term option. 
• If the UK ETS is extended to either or both sectors, complementary policies should be used to mitigate distributional impacts, which could be funded through redistributed revenue generated from the UK ETS. 

Josh Burke, Senior Policy Fellow at Grantham Research Institute on Climate Change and the Environment at the London School of Economics and Political Science, said:  “Our modelling shows that extending the UK ETS to transport and heating will lower greenhouse gas emissions and boost the economy.  

“Any changes to the ETS must include steps to redistribute the proceeds to lower income households who could be hit by the expansion. Failure to do so could undermine public and political support for extending carbon pricing.  

“If the government did implement this necessary change, it must also ensure the continued development and delivery of a coherent set of climate policies.”  

Dr. Danial Sturge, Carbon Policy Practice Manager at Energy Systems Catapult, said:   “Carbon pricing remains an important part of the policy toolkit for helping rebalance electricity and gas prices, which currently tilt in favour of the polluting option” 

“Our report highlights the role that extending the UK ETS – the cornerstone of UK climate policy – to domestic heating can play in both accelerating the decarbonisation of our homes, but doing so in a way that supports those in fuel poverty.” 

“There is also an opportunity to enable innovation through careful design of the policy, by incentivising energy suppliers to develop new offerings for decarbonising heat.” 

PIC-SUPPLIED BY LSE-Credit: Jaroslaw Kilian