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Europe must fight energy poverty more effectively

Energy poverty / COMMENTARY
Philipp Lausberg , Tijn Croon

Date: 19/01/2023
European countries have announced comprehensive support packages to mitigate the impact of high energy prices on their economies. It is now necessary to adopt a more targeted approach to helping those most in need.

Soaring energy prices are behind the cost-of-living crisis and high inflation currently haunting the EU. Following Russia’s full-scale invasion of Ukraine, gas prices reached a peak of €346 per MWh in August 2022, after having already been increasing since 2021. Currently the price stands at €60 per mWh, which is still almost four times higher than the long-term average this century. Most experts think that energy prices will remain high for the rest of the decade, due to geopolitical instability and the transition to low-carbon sources.

While excessive energy prices increase the cost of living for all Europeans, the burden is not evenly distributed across the population. The adverse consequences are particularly felt by low-income households in poorly insulated dwellings without heat pumps in their cellars or solar panels on their roofs. A prime example is Estonia, a country that has been disproportionally hit by the energy crisis and inflation in 2022. According to an IMF study from May, the cost of living increase from higher energy prices for the poorest 20% of Estonian households was 25%, while this was only 14% for the 20% richest. In most European countries, the average energy burden – the proportion of income spent on domestic energy services – is about twice as high for the poorest 20% than for the richest 20%, although the latter group is consuming considerably more energy (EU-SILC).

Addressing this disparity should be a top priority for governments across Europe. To effectively combat the climate crisis and cope with threats from Russia, it is key to distribute burdens justly. Relief measures for households in need will be crucial to preserving social cohesion while also maintaining support for sanctions against Russia and the green transition. The rationale should be to guarantee a right to energy for all, while also providing incentives for energy conservation to alleviate pressure on energy prices and supply.

EU support packages are largely untargeted

Some EU governments have spent heavily to mitigate the effects of rising energy costs. Between September 2021 and last November, around €600 billion was earmarked to protect consumers and small businesses. The German support packages stand out with a €264 billion price tag. Like most capitals, Berlin combines targeted income support for vulnerable customers with untargeted price support measures. But while the German price breaks for gas and electricity at least maintain market tariffs for excessive usage (see ‘block pricing’ below), tax cuts and reduced excise duties take away incentives for households to lower their consumption. These policies effectively subsidise the complete energy consumption of all households, including non-essential luxuries like private swimming pools, saunas and outdoor jacuzzies. In December, the European Commission reported that over 70% of European measures were untargeted. Such untargeted tools have significant drawbacks despite being politically popular and relatively simple to implement. They weaken incentives for all households to reduce energy use and subsidise high-income households the most, as they typically consume more energy. This is also the reason why they create higher inflationary pressures than targeted support for those who really need it. As untargeted measures are less efficient, they also tend to be more expensive for states.

Existing targeted support is suboptimal

Several types of socially targeted support measures have been introduced in Europe (apart from accelerating efforts to increase energy efficiency): block pricing, social tariffs, rebates, and income support.

Block pricing

Block pricing is used in various countries' support programmes, such as Germany's double whammy packages. In this model, consumption below a certain threshold is priced at below-market rates and above the threshold at market rates. The threshold has been set based on the historic consumption of individual households (Germany, Austria) or on average consumption (Estonia, Poland, Netherlands). The underlying assumption of this type of measure is that high-income households will have higher consumption (larger apartments, more appliances) and be able to pay more if needed, or even better, invest in retrofits to increase energy efficiency. However, the higher costs are also borne by low-income families with infant children renting energy inefficient homes. Therefore, the social targeting in these models has proven to be suboptimal. On the other hand, block pricing models hold incentives for households to keep consumption at a basic level.

Social tariffs

Another type of targeted measure are social tariffs, which several European countries have introduced (Belgium, Bulgaria, Cyprus, France, Greece, Italy, Portugal, Romania, and Spain). A regulator typically sets limits for energy prices paid by low-income groups and households with certain characteristics. Recently, Belgium enlarged its social tariff’s target group from households on benefits to include pensioners, single parents, and lower-middle income groups – now covering around 20% of households. As a consequence, rates for electricity and gas under the social tariff have only increased by 7.8% and 9.3% for this year’s first quarter, while they increased by 39% and 301% for households outside the social tariff, according to the Belgian regulator CREG. However, while social tariffs can alleviate households in or at risk of energy poverty in a targeted way, subsidising their entire consumption takes away saving incentives.

Rebates and direct transfers

Other measures that have been introduced during the energy crisis include rebates and energy vouchers, or energy assistance programmes, which provide direct income support to households struggling to pay their energy bills. These financial support mechanisms offer direct relief and generally do not rise proportionally with higher consumption, which therefore preserves energy saving incentives. Member states have introduced lump sum transfers (all but Hungary and Malta), that can be spent on anything, or discounts on energy bills (Belgium, Greece, Ireland, the Netherlands, and Spain) that specifically reduce energy bills. While most of these measures were universal in nature, some were subject to eligibility requirements, for instance on income, household size, and other vulnerability-driving factors. In Cyprus, for example, families received lump sum payments based on income and household size.

Some European governments have introduced progressive transfer schemes, which offer a higher degree of social targeting. In Spain, households on benefits but also those just above the benefit threshold will be provided with direct financial support. This compensates for the fact that narrow targeting leaves out groups just outside a certain threshold, even though they might still be in need of support. A similar progressive effect is received by collecting claw-back payments from lump sum transfers and distributing them through income taxation, which is done in Germany and Belgium.

A more data-driven approach: The UK’s Warm Home Discount

While progressive measures make sure that households outside a certain threshold are not completely excluded from support, smart targeting using integrated information systems is even better at making sure that support reaches those who really need it. This kind of data driven approach has been key in last year’s reformed Warm Home Discount in the UK, which is perhaps the best socially targeted energy support scheme in Europe so far.

The authorities identify low-income households living in substandard housing by matching data on property characteristics from the land register and valuation office agency with government data on income, social benefits, and modelled energy costs. Energy providers for vulnerable consumers are then automatically notified and obligated to give the discount. It is therefore the first social welfare benefit across Europe that is provided based on household income and a prediction of low energy efficiency, using specific housing characteristics such as floor area, property age, and property type as proxies.

Towards a new standard of targeted energy relief in the EU

Evidently, when energy bills of low-income homeowners are subsidised, this lowers their main impetus for retrofit to make homes more energy efficient. But this can be compensated by alternative investment incentives. Energy efficiency improvements such as insulation could be boosted by offering interest-free loans and setting up one-stop-shops for energy renovations. To provide landlords with stronger incentives, they could be obligated to participate in financing the energy support for their low-income tenants, until they have made their properties more energy efficient.

However, the Warm Home Discount is limited to £150 per household, which is merely a drop in the ocean with current high prices. A more effective approach would be to increase the discount substantially, to a sum of at least 70% of current energy costs. Furthermore, rather than a fixed eligibility criteria like in the Warm Home Discount, we recommend gradually decreasing support as income or energy efficiency increases. This approach would also support low- to lower-middle- income groups that fall just outside of current benefit eligibility criteria. It would also avoid perverse incentives for those falling within the eligibility criteria not to pursue better paying jobs because of the prospect of losing energy support (the so-called welfare trap).

Governments should design better targeted support schemes based on data-driven approaches to address the social impact of the energy crisis and ensure a just transition to low-carbon sources. This will also require governments to accelerate the digitalisation of administration. The UK’s Warm Home Discount provides some promising elements, such as energy efficiency targeting. This, together with more substantial and proportional support in favour of those most in need, should be the basis of more targeted energy relief in the EU. Ideally, the Commission would promote such measures across the Union through a recommendation of best practices.

Tijn Croon is a PhD candidate at the Delft University of Technology.

Philipp Lausberg is a Policy Analyst in the Europe’s Political Economy programme at the European Policy Centre.

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Photo credits:
Ricardo Annandale / Unsplash

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