The primacy of levy reform: part two

In the last piece I explained the problems energy bill levies cause. In this piece, I lay out the political case for prioritising levy reform. Then I give some context about the history and politics of levy reform. I finally suggest how to do actually do it.

First, the case for prioritising levy reform.

The political case for levy reform.

You can split the electricity bill into four sections: wholesale, network, retail, levies.

• “Wholesale” is the cost of buying energy from producers.

• “Network” is the cost of maintaining, building, and running energy networks.

• “Retail” is the supply of energy to customers.

• “Levies” are the policy levies.

There is also 5% VAT on electricity and gas bills that goes straight to the Treasury. Rising bills mean higher VAT; falling bills mean lower VAT.

I’m happy to be proven wrong on this, but the only noticeable, direct, immediate bill cuts I can find since the 1990s have come from levy or tax reform. The Autumn Budget in 2025 delivered a £117 cut, with the help of then-falling gas prices. Levy reform in the Autumn Statement in 2013 saved £50 on average. Gordon Brown cut VAT on fuels in 1997, saving £15 to £20 per year. One other contender could be the price cap, which Ofgem estimated saved people £76 per year. This isn’t surprising. The government doesn’t control the markets nor network allowances but it does control the levies.

Levy reform is certainly now the only policy left on the table that is guaranteed to take noticeable chunks out of bills quickly. Other reforms will not deliver. Don’t get me wrong, policies for getting wholesale and network costs down are critical too. But they are now harder and slower than levy cuts.

• For wholesale, the government rejected the electricity wholesale market reform recommended by the system operator last summer (zonal pricing). It stuck with a system that means everyone, everywhere must always pay the highest possible price, all of the time.

• Again for wholesale, the government cannot control the price of gas, which is now shaped more by politics and warfare than markets.

• New power generation will take years to be built and connected up to the grid. We have just done the seventh auction round for renewables, but projects from the third in 2019 are only now coming online.

• For network costs, the Clean Power Mission 2030 unavoidably means a big rise for building lots more grid. No market reform means we will need to build even more, so the cost rise will be larger as well.

• The network costs of ‘constraints’ on the grid will go up to £8 billion+ per year with a lack of wholesale market reform, rising gas prices, and slow grid building. (They are between £1.5 billion and £2 billion now.)

• Suppliers compete under the price cap. Bills are not rising from retail.

• There is a mountain of debt rising, serviced by charges on energy bills.

Any reform relating to wholesale or network tends to drag on for years and gets nowhere. There are too many diverging interests, too many players thinking anyone’s revenues could be cut but their own. Meanwhile, governance is fragmented and resources are overstretched.

Levy reform appears unique in its ability to give rapid, large bill cuts. There are other options for mitigating upwards pressure, such as securitisation, which could help, but levy cuts can be done quickly. The government announced the levy cuts in November and will have it done by April. That’s just five months. Warp speed by Whitehall standards.

Energy could be about to get very expensive again. There’s the option to subsidise bills as in 2022, which might become necessary once more. However, subsidies are an ultimately short-term solution that doesn’t fix the underlying problem. Levy reform is not just fast, but critical to the longer-term solution for greater resilience to fossil fuel price shocks - electrification.

Why the Treasury should prioritise levy reform.

Levy reform costs money. Therefore, the Treasury will need to be convinced to prioritise strained public resources on it. The Treasury has been historically allergic to spending money to fix high bills, only doing so in crisis or, as with Autumn’s levy cuts, under direct political pressure from No 10.

Here are eight reasons why the Treasury should prioritise levy reform.

1. The Treasury has lost control of its primary function. Levies are being implemented by non-Treasury departments, doing the work of taxation without the accountability, coherence, or economic strategy of real tax policy. This ultimately makes Treasury’s job harder.

2. Electricity and gas are basket goods that the Office for National Statistics uses to measure inflation. Higher bills equal higher inflation and higher interest rates.

3. Higher electricity costs mean higher cost of goods and services. That means price inflation, including for food, so a higher cost of living. Higher costs of living usually end up being subsidised by the Treasury. Best to fix causes upstream than treat symptoms.

4. Having among the highest industrial electricity prices in the developed world causes capital flight and deindustrialisation. That cuts tax revenues and deters new investment. The Treasury knows this because it’s green-lighting more energy subsidies to attract and keep capital here.

5. Essential energy service demand is inelastic. People need it. High bills mean people spend less elsewhere in the economy because they cannot afford to once they have covered the basics. That kills growth in a wage-led economy like Britain.

6. Being super exposed to the gas market is expensive. Support for the last gas price shock cost the Treasury £67 billion. You could buy a Queen Elizabeth-class aircraft carrier, 48 F-35B fighter jets, a helicopter, and maintain them all for their lifetimes for that… with £28 billion to spare.

7. The Treasury will ultimately be on the hook for an electricity grid death spiral, which could cost billions.

8. As the levies impose indirect costs as well as direct costs, shifting them means more bang for buck in terms of getting bills down.

In sum, the economy and the Treasury will struggle while energy costs are high. Levy reform is about the only option left for fast, substantial cuts. It’s worth it.

Before coming to the options for reform, here’s a short history of the levies so far to set the scene for the politics.

Energy bill levies: a short history.

The ‘original sin’ was the 1990 Non-Fossil Fuel Obligation. The NFFO subsidised Britain’s nuclear fleet, which struggled to compete following privatisation. It then subsidised renewables too.

Levies piled up over the years as the energy department(s) got into the habit of funding policies the Treasury did not want to pay for with Exchequer cash through energy bill levies.

The levies generally went on electricity for five reasons.

1. Electricity was the more polluting fuel than gas when coal still dominated the grid. Taxing electricity meant less consumption, less coal burned, and therefore less pollution.

2. Everyone uses electricity. Only most use gas. Putting the levies on electricity was fairer.

3. The levies mostly subsidise things on the electricity side. The fuel poverty levies go on both gas and electricity. The single gas-only subsidy (the Green Gas Levy) has gone on gas.

4. Taxing gas in a gas-dominated heating system meant taxing warmth in winter, which is politically tricky.

5. Gas is used a lot in winter, less in summer. A cold winter could mean a revenue under-recovery.

In 2011, the Treasury established a “Levy Control Framework” to cap the Renewables Obligation, Feed-in Tariff, and Warm Homes Discount.

In 2013, the “cut the green crap” moment in response to high electricity bills (they cost less than two-thirds what they do in real terms today) cut the Energy Company Obligation and topped up the Warm Homes Discount with taxpayer cash.

The Treasury set up another “Control for Low Carbon Levies” in 2017 to stop new levies being introduced until the burden from the Contracts for Difference, Renewables Obligation, and Feed-in-Tariffs was “forecast to fall in real terms over a sustained period”.

In the 2021 Heat and Buildings Strategy, the government committed to “rebalancing energy prices to ensure heat pumps are no more expensive to buy and run than gas boilers”. In other words, shifting some of the levies from electricity to gas.

In the 2025 Autumn Budget, the government cut the Renewables Obligation by 75% and scrapped the Energy Company Obligation (ECO). It also committed to a third levy framework.

January 2026’s Warm Homes Plan did not mention rebalancing but emphatically backed electrification of heating. Levy reform amounted to pointing to the Budget’s levy cuts and Ofgem’s Cost Allocation and Recovery Review.

The costs and politics of levy reform.

The simplest solution is to give everyone a big bill cut by moving all levies into tax.

The problem with this is the shadow tax system that has developed over three decades has become too big for the Treasury to swallow. The levies stood at £300 million per year in 2002. It’d cost around £15 billion per year to move all levies into tax tomorrow. The Office for Budget Responsibility has forecast the environmental levies and social levies will rise to about £19 billion per year by 2029-2030.

This OBR forecast does not include the Feed-in Tariff for some reason, which stands at about £2 billion per year today but will begin falling from about 2027. Nor does it include levies to support industry and businesses with high costs or carbon capture subsidies. For ease, let’s call it rising to £20 billion per year for a nice, simple, sufficiently accurate round number.

(Side note: it would be really nice if the OBR, Ofgem, Treasury, or DESNZ could publish comprehensive, easy data and realistic forecasts on bills, levies, and energy costs. Everyone’s now relying on one guy - Ben James - for an independent and clear picture on electricity bills. We’re all very grateful for James, but it’s appalling how opaque things are!)

Historically, the Treasury has always said no to taking more levies into Exchequer spend. It’s been out of the question. Not even worth discussing.

That dam cracked with the Autumn Budget levy cuts. The Energy Company Obligation was an easy cut because it is considered a failure and ends in April anyway. But the Renewables Obligation cut for households is a huge win. It’s costing the tax man £2.3 billion per year for three years.

Then there is rebalancing.

Rather than having to raise tax or cut public spending by having the Treasury take the levies on, the government could shift or “rebalance” them from electricity to gas bills instead.

This was historically the Treasury’s preference. DESNZ ministers, Labour and Conservative, haven’t wanted to do it. While it’d cut electricity bills for everyone, it’d marginally raise a final dual-fuel energy bill for the four in five people with gas boilers by £30 to £50 per year. There was a long-running stalemate until the last Budget, when the Treasury gave way.

Done as a package, rebalancing could be an overall progressive move if the government also puts those most in need at the front of the queue for levy-free, cheaper-to-run electric heating. As it happens, there is a £15 billion capital budget for just that.

The challenge would then be managing the distributional impact as more people moved off the gas network. As they move from gas, they stop paying for the gas network and the gas levies, leaving a higher amount to be paid by those who remain.

It’s a challenge that we face generally if we’re serious about cutting dependence on gas imports. Besides, if regressivity is the red line, move the levies into tax and give everyone a bill cut.

There’d be a trade-off which needs managing well, but trade-offs are inevitable in policymaking. I think the energy security and affordability gains from electrification would justify rebalancing in theory, but would need to be part of a coherent policy package to minimise transitional unfairness.

But there are three practical snags with rebalancing.

• The Autumn levy cuts mean rebalancing is less effective at providing a price signal in favour of electricity, especially because of upwards pressure on electricity bills from the wholesale and network parts of the bill.

• A simple rebalancing of levies does not equip the government with the tools to manage the medium to long-term gas cost rises from fewer people using gas for heating. That’d be a missed opportunity.

• Some of the soon-to-be largest levies, like Contracts for Difference, were designed to raise revenue from electricity use, not gas use. Rebalancing them to gas is hard because the revenues, which are underpinned by legal contracts, would be less certain with gas.

Rebalancing might become a necessary option to consider again in the future, given the government is loading even more levies onto electricity. But for now, it would be best to avoid getting stuck in a stalemate again.

There’s also a strong coalition that would support the government putting levies into tax spend, which doesn’t necessarily exist for rebalancing. Consumer groups, green groups, heavy industry, the tech sector, renewable companies, even massive gas-focused companies all agree the levies should be taken off bills. And public demand for lower bills is obviously high. Consumer groups, heavy industry, and gas companies do not like rebalancing so much.

Given the trickiness of rebalancing and the pressing urgency for cuts, the best option is moving the levies into tax, immediately and over time.

Before moving on, it’s worth shooting down a few bad arguments against levy reform.

Four bad arguments against levy reform.

1. “These things pay for electricity, gas users shouldn’t pay for them”.

Every gas user is also an electricity user and taxpayer. We’re talking about a national energy system. The goal must be to provide the energy services people need securely at lowest cost for people. Treating infrastructure networks within the energy system as exclusive economic zones is silly and part of the reason we have high bills.

2. “Putting these costs onto the Exchequer’s balance sheet will be expensive”.

If the policies are too expensive to go on the national balance sheet to be paid for progressively, the answer isn’t to pay for them regressively instead. But in any case, energy is the input into every other input. Affordable energy is a primary ingredient for economic growth. This is a problem worth prioritising. Inaction will cost Treasury in the end anyway.

3. “Fiddling with contracts undermines investor confidence.”

A recent example of contract fiddling comes from the indexation changes of the Renewables Obligation and Feed-in Tariff. The government effectively cut the payments from the contracts to try to pre-emptively ‘net off’ bill rises that are coming from new levies(‼). However, the worst case scenario for generators is final bills keep rising. That would provide greater social licence for drastic action, including ripping up contracts altogether. My bet is that generators would be fine with the Treasury paying.

4. “If you put the levies into tax, people won’t know the true costs.”

Forcing people to bear high bills to prove a political point is sociopathic. And the best way to keep the cost of levies under control is by making the nation’s bean counting department responsible for them. Putting them into tax means the tax burden goes up, but they can be managed better and lower energy costs will spur growth, resulting in more tax revenue.

How to do levy reform.

The first thing to do is stop making the problem worse. The government should stop incoming carbon capture and hydrogen levies hitting bills. These industries simply shouldn’t be a priority for public spending. They don’t improve energy security. They don’t really protect the environment. They just raise energy bills. The opportunity cost of ploughing billions into these sectors has become overwhelming compared to cutting the cost of electricity.

We also need to stop the fuel subsidy doom loop of raising energy bills to subsidise energy bills. All this is doing is reducing net support for people and punishing most consumers, who can’t take much more, to marginally help a rapidly growing minority. It’s unsustainable.

Beyond that, below are two good ways to do levy reform, what I’m going to call “salami slicing” and “consolidate and manage”. They both need ministerial prioritisation and medium-to-long term commitment. They both allow for levy cuts over several years to maintain fiscal manoeuvrability.

Option one: salami slicing.

This is pretty simple: commit to moving individual levies into Exchequer spend over coming budgets, either whole or in bits. This is what the Treasury has started doing with the Autumn Budget’s levy cuts.

As above, the Treasury would need to find about £20 billion per year by the end of this Parliament. For context, £20 billion is about 8% of the NHS’ budget, 6% of welfare spending, and 29% of defence spending.

The larger levies could be chopped into pieces if necessary, like with the Renewables Obligation 75% cut. Smaller levies could be moved whole.

How the Treasury orders and funds these levy cuts is up to the political economic philosophy of ministers and the fiscal situation. There’s no escaping that, overall, it’s a big-ish cost by today’s standards. But it’s a big mess we’re in. Affordable energy is necessary for growth and more tax revenue.

Political reward will also be there. The cost of living is consistently the top priority for the public. And energy bills consistently top the list in terms of cost of living items that worry people, to the point of sleep loss and uncomfortably cold homes for many people. For more on recent public attitudes and experience of high bills, I’d direct you to More In Common’s outstanding work.

I’d personally start with funding the legacy renewable levies (Renewables Obligation and Feed-in Tariff) and the Warm Homes Discount out of tax. It’d be another £85 levy cut on average at the cost of roughly £9 billion per year, if businesses were included too. And it would maximise the £150 benefit for those who receive the Warm Homes Discount, especially those on electric heating.

There is precedent for funding the Warm Homes Discount through taxation. In the 2013 Autumn Statement, the Coalition government topped up the payment with taxpayer cash. Doing it this way would mean direct cuts to bills for all. It is also a better way to tackle fuel poverty than the direct cash payments people get through the Winter Fuel Allowance of £200 or £300 per winter.

Option two: consolidate and manage.

The second idea is to consolidate the levies to manage the distortion across the energy system while also managing them down overall. Here are the steps:

1. Treasury would figure out how much it needs to raise to fund all the levies each year.

2. It would create a pot and tell energy suppliers to put pence per kilowatt-hour charges on electricity and gas to fill up that pot.

3. It would back the pot to keep investor confidence. Year-on-year adjustments to the rates can be made to ensure cost neutrality.

4. It could partly or completely fill the pot with Treasury cash to lower the amount needed from energy bills.

This would take more work to set up but has several advantages.

• Treasury ministers would be directly responsible for cutting levies (and raising them).

• It could be used to deliver direct support to those who need it more efficiently and support people more generally during gas price spikes.

• It could be used to manage the gas bill rise from a shrinking gas network over the coming decades.

• The levy balance between electricity and gas could be dialled to be more pro-electrification, but crucially in a flexible way that avoids unfair burdens.

• It is fiscally flexible. Very helpful given the economic circumstances.

• Unlike rebalancing, it gives ministers precise control over bill impacts.

I asked Andy King, former member of the OBR’s executive Budget Responsibility Committee, and Virginia Sentance, former Treasury and Cabinet Office, and their wonderful team at Flint Global to test this idea out thoroughly (and importantly to tell me if it was rubbish and to drop it). They tested it. It works. They built a Treasury-grade model for it.

Make UK and WWF also called for this policy publicly in reports. And I’ve had a thumbs up from the main consumer advocacy groups, rightly the critical stakeholder group for levy reform.

The barrier is figuring out the regulatory plumbing and legislation. It’s a big job but it can be done. The Energy Price Guarantee was set up in weeks because it was a priority and ultimately worked. This idea is loosely based on that.

Cutting levies altogether.

The government has the option to cut levy schemes, partly or altogether. That would create a bill cut with no corresponding rises in public borrowing, taxes, or spending cuts. This is what it did with the Energy Company Obligation.

There are larger trade-offs with the remaining levies. As above, ECO was coming to an end at the right time and was seen as a failure thanks to the National Audit Office’s report, which created social licence to cut it. The remaining levies are not like ECO. They underpin legal contracts or subsidise consumers.

If the government simply scrapped the renewable subsidy levies, for instance, it would raise the cost of financing dramatically for other parts of the energy system because the government would be breaking its word. Britain would look like a riskier investment. It could happen, but I doubt it will under this government.

There could also be options to renegotiate especially the legacy Renewables Obligation contracts, for instance moving generators onto lower-cost Contract for Difference. And the government could sell some CfD positions to reduce the burden on public energy bills. Market appetite could be tested for that. There are probably lots more options which should be debated properly.

Next steps

It’s not beyond the government’s ability to salami slice levies while setting up a proper framework around them to manage levies better long-term. To get the ball rolling, the government should:

• Set itself a pathway to get these levies off bills as the fiscal situation allows, starting with some cuts focused on the levies to cushion the country from another incoming gas shock in upcoming fiscal events.

• Publish an open consultation on the design of the Budget’s promised new levy control framework.

• DESNZ should scope out necessary legislation changes for the upcoming Energy Independence Act mentioned in the King’s Speech to create a levy management framework.

This needs ministerial prioritisation from DESNZ and Treasury. All I can ask is that anyone who reads all this on levy reform and agrees calls for it too. It really is the best policy if we want fast bill cuts. It is not mutually exclusive with investing in more generation or producing more oil and gas.

If you can help to develop these ideas further or have others for levy reform, I’d love to hear from you. Thanks for reading these pieces.