A Positive Budget for the Energy Sector

What a difference four years has made. The windfall tax introduced at 2011’s budget was widely criticised by industry and commentators who suggested it would stifle investment and add cost to an already high cost basin. After four years the Chancellor has reversed the windfall tax (after a slight reduction at the Autumn Statement), reduced the petroleum revenue tax on older fields, introduced an investment allowance and put money aside for seismic surveys to boost exploration. These measures are welcome and come at a time when government support is essential if we are to fully maximise the potential of the UK continental shelf (UKCS).

While the fall the oil price helped push the issue of UKCS taxation and the future of the basin up the political agenda it is not the reason why action on the fiscal regime last week was essential. The 2011 windfall tax was justified because oil prices were around £120 per barrel. However the assessment that these high oil prices meant the industry could bear a higher tax rate – a marginal rate of more than 80% in some fields – was incorrect.

The UKCS is a mature basin and operators are facing ever higher costs as infrastructure ages and fields become more difficult to develop. Add to this the global nature of the oil and gas sector and the finite capital available to the sector to invest and it’s easy to see how the windfall tax could damage confidence and drive much needed investment abroad. Even with a high oil price the CBI was critical of the UKCS tax regime. In our paper Fuelling Growth in 2013 we said “in seeking to understand how best to enhance recovery in the North Sea the CBI believes taxation is crucial and identifying further opportunities to improve the competitiveness of the tax framework is essential.” As a global commodity the price of oil is consistent across the globe but the costs associated with exploration, development and production are specific to each basin. Government must do all it can to help reduce these costs if we are to attract the private sector investment needed.

We need a stable and competitive fiscal regime that prioritises consistency and whose ultimate goal must be the economic maximisation of resources. The price of oil is volatile and that is a lesson global commodity markets have reminded us of in recent months. Future governments should always think about the UKCS both in terms of the costs associated with operating there and its competitiveness with other regions. Budget 2015 is a good start but the next government, and all future governments, will need to take a long-term view of the UKCS and think hard about how to provide further support to avoid causing unnecessary damage.

Elsewhere in the budget

The Budget also outlined the government’s intention to bring forward the small-scale Feed-In Tariff component of the compensation package for energy-intensive industries to the earliest point at which State Aid approval is received in 2015-16. This fell short of the CBI’s calls to bring forward the full compensation package (covering FITs and the Renewables Obligation), but will provide some relief to these industries. We will continue to press the importance of competitiveness with a new government, and look to ensure a more strategic approach to supporting these industries is taken.

The Chancellor announced that the government has decided to enter in to the first phase of negotiations on a Contract for Difference for Swansea Bay Tidal Lagoon.