Brexit decision left UK firms paying 10% more than EU rivals for emissions

British businesses are paying substantially more to produce carbon dioxide than their EU rivals because of the government’s refusal to link the UK carbon market to the bigger European market after Brexit.

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Photograph: Jeff Morgan 06/Alamy

The difference is putting UK industry at a significant competitive disadvantage to European rivals, at a time of soaring energy prices, but does not result in any additional benefit to the environment.

UK companies are paying more than £75 a tonne for the carbon they emit, while similar industries in the EU are paying up to about €85 a tonne. The difference has narrowed slightly in recent days, but was reaching about €8-9 a tonne of carbon in the past month, equating to a premium of about 10% being paid by UK companies.

Britain’s carbon price is higher because the UK carbon market, set up last year with the first permit auctions taking place last May, is much smaller and lacks the liquidity of the larger EU emissions trading scheme (EU ETS) that has been operating since 2005 and covers all of the EU’s heavy industries.

Under both schemes, companies buy tradeable permits to cover the carbon dioxide they produce, with cleaner companies able to sell spares to laggards. The price acts as an incentive to companies to clean up their operations, and is seen as an economically efficient way to help meet the net zero emissions target.

Ministers have a short window in which to reduce UK carbon prices before 18 January, the deadline for the government to release extra permits on to the market, which could reduce some of the price pressure. But experts said linking to the EU market would provide a better long-term answer, and make economic and environmental sense.

Tom Lord, the head of trading at Redshaw Advisors, said: “UK companies are paying substantially more than they are in the EU. The big problem for the UK market is liquidity, and the fact that it is new. The EU has a historic surplus [of permits] to fall back on, but the UK has pent-up demand and only a drip-feed of supply.”

Lawson Steele, joint head of carbon and utilities research at Berenberg bank, said: “This is a disadvantage [to UK companies]. The reality is that the UK carbon market is dwarfed by the EU ETS. Given that the UK wants to trade with the EU, and the EU wants to trade with the UK, it would make sense for companies to be on the same carbon footing.”

British companies already paid higher prices for energy than their EU counterparts, amounting to about £35 a megawatt hour more, added Joe Morris, of UK Steel, which represents the steel industry. “This is a long-running bugbear for the steel sector, and something that continues to hamper our international competitiveness,” he said.

The effect of both higher carbon prices and higher energy prices than the EU, as well as the lack of a post-Brexit deal with the US, which recently dropped its tariffs on EU steel, was to deter investment, he said. “This affects the competitiveness of steel companies, which links to investment in these companies. It affects our members’ confidence, and does not help people who work in the sector.”

Steel companies were firmly behind the net zero strategy, Morris added, seeing the push for decarbonisation as offering a competitive advantage. “There’s an opportunity to be world-leading in green steel and net zero steel,” he said.

Politicians tempted by high energy prices to dismantle net zero policies were mistaken, added Berenberg’s Steele. “Blaming the carbon price is baloney. Increasing energy prices in the last year have been 85% due to the gas price. Carbon is not the problem,” he said.

The government has not explained why it has so far rejected a link with the EU system, but many suspect it is part of the desire for a “clean break” hard Brexit, maintaining as few regulatory links as possible.

The Liberal Democrats and the Green party called on the government to link the UK ETS to the EU system. If the EU agreed, linking could probably be achieved fairly easily, as the UK system is modelled on the EU market, which the UK was a core part of and took a leading role in designing and updating while an EU member.

The Liberal Democrat leader, Ed Davey, said: “The UK needs ambitious climate policies, but they will always be better if we work together with international partners. The Conservatives’ failure to do this is now hitting British business at the worst possible time, as energy-intensive firms are struggling with sky-high gas prices.”

Molly Scott Cato, of the Green party, said: “It’s clearly irrational, inefficient and the result of the destructive Brexit ideology to try to run an independent UK carbon trading system with all its additional costs, inevitable inconsistencies and opportunities for gaming the market.”

For years, after the 2008 financial crisis, the EU’s carbon market suffered a glut of permits and was largely ineffective, as the carbon price crashed. In recent years, however, reforms and the renewed need to slash emissions have pushed up prices and it is now working as intended, spurring investment in low-carbon technologies.

Ministers have no plans to seek a link with the EU ETS, but are understood not to have ruled out the possibility entirely. A spokesperson for the Department for Business, Energy and Industrial Strategy said: “The UK ETS Authority is considering whether to take any appropriate action under the cost containment mechanism [to release more permits on the market] and will announce its decision no later than 18 January to provide certainty to the market.”