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UTILITY WEEK | 14Th - 20Th March 2014 | 21 Finance & Investment Analysis Budgeting for a carbon floor price The pertinent part of the Budget for the energy sector is the carbon floor price, says Mathew Beech. G eorge Osborne's Budget next week is likely to focus on the long-term economic plan of the Conserva- tives, and therefore the coalition government, and how as a country we need to stick to his plan to ensure the economy grows and people will be, and feel, more prosperous in the future. As for the utility sector, there is only one thing the chancellor is likely to mention, and that is the carbon floor price. There is no movement expected in the water sector. Osborne is expected to tell MPs and the nation that the carbon floor price will be frozen at the 2015/16 level for up to four years. This means it is likely to remain at £18.08 per tonne of CO2 emitted (tCO2e) until 2020, when the predicted escalation of the carbon tax would have seen it approaching £30/tCO2e. Those parties who would accept a freeze fall into two camps: those who want it scrapped but would set- tle, albeit reluctantly, for no further increases; and those who want it to continue on its pathway to £30/tCO2e by 2020 but would settle, albeit reluctantly, for it to remain in place with no decreases. Those in the latter camp include groups such as the Renewable Energy Association and RenewableUK, who view the carbon floor price as a way to push up the cost of carbon-intensive generation, making low-carbon technol- ogies cheaper and more attractive to investors. They are keen for the carbon floor price to remain in some form, because the aim of a low-carbon transition remains, albeit the actual transition needs more incentives to spur it on. In the other camp are those who would lose out if the price of carbon increases, due to higher electricity bills – the consumers. Consumer group Which? is among those calling for the carbon floor price to be frozen, say- ing it us an "unnecessary burden on consumers". Tony Cocker, chief executive of Eon UK, has long called for it to be scrapped, and fellow big six boss Keith Anderson at Scottish Power agrees. He says £33 a year would be taken off a typical dual fuel bill by scrapping the scheme. Energy-intensive industries would also be appeased if the carbon floor price was frozen, because they face energy bills soaring by up to 40 per cent if it increases as originally planned. If, as expected, Osborne does freeze it, he will undoubtedly say it is the best of both worlds: helping limit the costs to businesses and consumers, while also still helping low-carbon generation to develop. However, this compromise may actually be the worst of both worlds. As Liberum Capital analyst Peter Ather- ton told Utility Week: "Freezing it for a few years could be a halfway house that doesn't satisfy anyone." T he next month could be an interesting one for the UK energy retailers. Apart from listening care- fully to any carbon announcements at the Budget, the retailers await the publication of the joint Ofgem/ Office of Fair Trading/Competition and Markets Author- ity (CMA) retail competition review. New Ofgem CEO Dermot Nolan will have an interesting task presenting a report he may not have authored. A full-blown CMA inquiry would perpetuate the regulatory risks around energy retail, though kicking visibility into 2015. A more immediate issue could be possible calls for a retail price cut, following weakness in wholesale gas and power prices. Wholesale prices dropped around 10 per cent in January and February, which, if sustained, could imply a 5 per cent cut in retail prices. Energy retailers, like petrol retailers before them, have been accused of a "rockets and feathers" pricing policy, being quick to put up prices when commodity prices rise, but slow to cut them when they fall. Labour might well use a commod- ity drop to put pressure on the incoming regulator to show he is tough on the companies. In fact, the retailers might feel there is little head- room for a cut at this point. First, the mild winter has seen them sell less energy. Overall bills are already likely to be lower year on year even though unit prices have gone up. Second, the wholesale price drop has hap- pened in the past few months, while companies hedge most purchases a year or more in advance. Neither of these arguments will likely sound compelling to custom- ers or to politicians, however. In the short term, the Ukraine crisis might be a more effective counter-argument to calls for an immediate price cut. Gas and power prices have jumped in the past two weeks, offsetting about one-third of the January and February reductions. The spike serves as a reminder of the value to customers of hedging as well as to compa- nies. In the longer term, companies might be advised to shi pricing away from unit charges towards a higher standing charge. This would make their profits and cus- tomers' bills much less dependent on the weather. Martin Brough, utilities equity analyst, Deutsche Bank "Wholesale prices dropped around 10 per cent in January and February, which, if sustained, could imply a 5 per cent cut in retail prices." Analyst view Martin Brough Companies might be advised to shift pricing towards a higher standing charge