Hamish McRae: Tax is better than regulation if you want results

Britain is about to start a huge experiment. That will be to test the effectiveness of different ways of using taxation to try to nudge the country towards a lower-carbon economy. It is going to happen whatever the political make-up of the different governments over the next decade. And we are the guinea pigs.

That is the broad import of the speeches and statements by Messrs Cameron, Osborne, Brown, Blair and Miliband over the past few days, with their different proposals, targets and comments on the need to cut carbon emissions. We cannot see the detail of the policies, partly because they have not yet been worked through and partly because we don't know which party will be in power in three years' time. But we can see the direction our political leaders want to go and we can some of the opportunities, but also the pitfalls.

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We are not going into this blind. There is a lot of experience about the different approaches towards curbing energy use that Europe and the US have taken over the past generation. The first question is whether you should use the market or regulation. You might expect the US to have gone for market solutions while Europe chose regulation, but frequently it has been the other way around.

For example, Europe's response to the need to cut car fuel consumption after the two first oil shocks was to increase duty. The US, by contrast, regulated the fuel consumption of new cars. In Europe now, fuel consumption in light vehicles is roughly half that of the US: Americans got round the regulation by switching from cars to light trucks and sports utility vehicles.

There are other examples of failure of regulation in the US to achieve its objectives. California sought to promote electric cars by requiring a certain proportion of new vehicles to be zero-emission. But battery technology was not up to it, the few electric cars made by General Motors were quietly withdrawn.

This experience suggests that the market is more effective at forcing changes in habits than regulation, particularly ill-conceived regulation. Taxing carbon emissions is more likely to cut them than regulating against them.

We are also going to get regulation as well, as in the standards for insulation in new houses. We may also get regulation on other aspects of energy use, for example, the temperature settings in public buildings. And we are going to be forced into using high-efficiency light-bulbs and other energy-saving technologies.

That may all be worth doing, but we should not kid ourselves that it will have more than a marginal effect. There are even dangers that some regulation may end up being perverse in its impact. For example, because low-energy lights use less power and take a while to build up to their full output, people may leave them on for longer and choose to live in brighter homes. That is not to say that this plan is wrong-headed; simply that savings may prove lower than expected.

Tax measures, on the other hand, will have a lasting effect, though often after a time-lag. Thus, the rising price of motor fuel over the past 15 years (partly a result of rising duty, partly higher oil prices) has affected the choice of vehicles we make and the efficiency of those on sale. Over that period retail petrol, although not diesel, sales in the UK have fallen 15 per cent.

So why, you might ask, are we not relying more on "green" taxes? Why, as a percentage of total revenues, has the share of such taxation actually fallen during the past decade?

The key problem is equity. Take transport. Should people in rural areas be penalised for that, vis-à-vis people who live in towns? Should Scotland be disadvantaged vis-à-vis the south of England. (Remember, Scotland is much more dependent on transport to bring imports in and get its exports out.)

So any significant increase in green taxation will create problems; it has to be thought through rather better than previous attempts at new taxes brought in by both parties in the past.

It is conceivable that the expansion of carbon trading will generate appropriate incentives without quite so many adverse effects. At a corporate level, it is established and will succeed in nudging down Europe's carbon output. But at a personal level? It is certainly a seductive idea but adds another layer of complexity on to a government bureaucracy that is already failing in many areas.

Finally there is the little matter of trust. Most of us want to find ways of diminishing our adverse impact on the environment. But we would tend to trust ourselves to do so rather than be lectured by politicians. This great experiment will work only if we can be persuaded it is not just a plan by government to screw more money out of us. The political elite has become quite detached from the concerns of the country at large, and this is one critical area where it needs to reconnect - for all our sakes.

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