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OPINION

Push the offset button

Push the offset button
November 11, 2021
Push the offset button

Answer this: is it fair that the poor should pay for the affluent to install heat pumps in their expensively-appointed homes? Surely not. Yet, since the cost of installing air-sourced heat pumps is prohibitive – and let’s not even think about the cost of ground-sourced pumps – only the affluent can afford to do it. So it follows that, since the UK government is generously subsidising the cost of fitting heat pumps, those who can’t afford them are compelled to subsidise those who can via their tax payments (both direct and indirect).

Since that’s clearly unfair, why do 75 per cent of people in the UK think the government should subsidise the switch to heat pumps, according to a survey of 2,000 Brits by Forbes Advisor, a price-comparison website? It’s partly because the answer you get depends on how the question is asked, but also because subsidies are always nice because it seems someone else is paying.

This is one of the many perversities of the government’s drive to reduce CO2 emissions; a drive that favours expensive gestures over cost-effectiveness. Another such – also in the frontline of consumer awareness – is the subsidy to buy electric cars, which can run to £2,500 per car.

Let’s use the back of the metaphorical envelope to highlight this particular waste. If I wanted to signal Bearbull’s environmental virtue, what’s the most cost-effective way I could make my motoring emissions free? It doesn’t really matter that I drive a bit of a gas-guzzler, which emits 224 grams of CO2 per kilometre. Assume 6,000 miles annual driving, that’s approaching 2.2 tonnes of CO2 emitted a year and 43.2 tonnes over 20 years, which might be a proxy for the life of a petrol-driven vehicle (although an electric one would need at least two batteries to get it through that period, which is a lot of nasty pollution in itself).

Since carbon emissions are priced at about €60 (£51) per tonne via the European Union’s emissions-trading scheme, the cost of buying a lifetime’s permits for Bearbull’s gas-guzzler is a bit more than £2,200 (£110 a year). So why on earth is the government giving car makers up to £2,500 to subsidise the price of an electric car whose battery might just last 10 years? And let’s not forget that electric cars are hardly the clean machines green PR would have us believe. Depending on how the electricity is generated – and whom you listen to – over their life cycle electric cars will generate maybe 75 per cent of the CO2 a petrol-driven one emits.

Sure, we can debate whether buying trading-scheme allowances is a real way to cut CO2 emissions. After all, the extra CO2 still floats into the atmosphere to do its heat-reflecting thing for upwards of 300 years. But if I have an allowance to emit a given amount of CO2 someone else can’t have it and that someone else must choose either to pay more expensively for other allowances or to forgo the emissions altogether.

In a nutshell, that’s the merit of a cap-and-trade system, which limits and then reduces how much carbon can be emitted. Its advantages have been brought within the reach of private investors via the SparkChange Physical Carbon (CO2) exchange traded product, which was launched on the London Stock Exchange earlier this month. Its chief selling point is that it is backed by allowances issued by the EU’s scheme rather than by, in effect, an insurance contract, which is how many similar products work. That’s significant since allowances permanently held within the fund won’t be available for anyone else to use.

In addition to hedging the almost-inevitable costs of the transition to an economy running mostly on carbon-free power, holding carbon allowances may help cut the volatility of returns from equity-orientated portfolios. At least that notion is often suggested, but its truth is diminishing judging by the evidence of the chart. This correlates changes in the price of EU carbon allowances with changes in the price of equities as proxied by the MSCI World index. The lower the correlation, the more the returns of a fund holding both assets will be smoothed out; using a two-year rolling average of the weekly correlation between the two gives an idea of the trend.

For almost all of 2010-20 the correlation was minimal and even negative (ideal for volatility reduction). However, since Covid-19 struck, the correlation – while still low – is much closer. Quite likely the correlation will rise further. After all, it is logical there should be a close relationship between demand for declining amounts of carbon allowances and commercial activity (for which, share prices are a rough proxy) even if it is unclear which way causality runs. In that case, the value of carbon allowances as a risk-reduction tool will fade, but they will remain a must-have asset in any sensible private investor’s portfolio.