“It’s like entering a lottery: you know something’s coming your way, but you’ve got no idea exactly what,” says one chief executive of a large UK electricity generator about the looming windfall tax on his sector. It’s a fair comment. Government thinking on the generators – as opposed to the North Sea oil and gas producers, who already have a levy – has been spinning like a wind turbine for six months.
Back in May, then-chancellor Rishi Sunak said he was “urgently evaluating” the scale of excess profits being made by generators on the entirely sensible grounds that not all windfall profits have been made by firms producing dirty hydrocarbons. Nuclear power plants, windfarms, solar farms, hydro projects and biomass burners may also be doing very nicely thanks to a UK energy system that ties the price of electricity to the price of gas.
But Sunak conceded defeat in the face of complexity. Power is contractually sold forward; hedges complicate matters; the windfall component is hard to isolate. But never mind, Kwasi Kwarteng, then business secretary, was soon looking at a voluntary negotiation with generators to lower the price of energy.
Those on old-style (and often lucrative) “renewables obligations” incentives would be switched to newer “contracts-for-difference” where windfall returns don’t arise because revenues over a set price flow to the Treasury. With Kwarteng as chancellor, and Liz Truss as PM, the plan seemed to be set. Soon, though, it morphed into a revenue cap – modelled on the European Union’s version – because negotiations with companies stalled.
Then we arrived at the Sunak-Jeremy Hunt combo in Downing Street, and it seems we’re back to something closer to Sunak’s original thought: a conventional windfall tax. That, at least, is the prediction for Thursday’s autumn statement. Alongside an increase in the levy on North Sea firms, the chancellor is expected to introduce a charge of 40%-45% on generators’ “excess returns”.
All clear now? Well, it depends on whether “excess” has been defined. Is the EU’s threshold of €180 a megawatt hour for its revenue cap the right level to use in the UK to judge a fair return? Probably not: the EU seemed to be guided by the marginal cost of coal generation, which has been virtually phased out in the UK.
And – to pick on one fraught debate – are gas-fired power stations a suitable target for a windfall charge? Attention has mostly focused on nuclear and renewables generators on old-style “renewables obligations” certificates, but the gas-fired crew have also been having a nice crisis, as SSE half-year numbers on Wednesday demonstrated.
Should gas-fired stations get softer treatment because their crucial “flexible” capacity has been maintained during rotten years for profits? That was the gist on the argument from SSE’s chief executive, Alistair Phillips-Davies. But one could equally argue it would be perverse to tax renewables (SSE’s prime investment focus) while leaving gas untouched if the government is also trying to accelerate a green transition.
Therein lie a few complexities in designing a windfall tax on generators. It ain’t straightforward. The point, though, is that it’s time to make choices – and not boot the detail into another round of consultation, negotiation and lobbying. Delay and uncertainty also impact companies’ investment decisions and the government has been round the houses with the generators for half a year. Hunt must arrive with a plan, as opposed to an intention.
Property investors racked with gilts
If investors in gilts have been surprised by how much volatility can be generated by rising interest rates and a reckless mini-budget, think of poor investors in property investment trusts. The share prices of the FTSE 100 duo, LandSec and British Land, have been yo-yoing like dotcom startups.
The former’s share price was 730p at the end of August, went as low as 480p in September and is now 611p. British Land has swung around in similar fashion. The explanation is those same gilt prices. When yields on government IOUs rise, investors demand a greater return to own a riskier asset such as property. So property values fall.
Even so, there’s a glaring mismatch between the declines in property values expected by the industry (10%-15%, generally speaking) and the 40%-ish discounts to published asset values at which the shares of LandSec and British Land currently trade. The stock market’s gloom on commercial property has been justified on many occasions in the past. There’s just a chance, though, that it might be overdoing it this time.