The government is yet to make a final decision on the price cap from April 2022, with a decision due on 8 February. There are currently live discussions about which measures would need to be put in place for the cap to be lower than currently projected, including some form of direct subsidy to industry. In general, a direct industry subsidy is undesirable. It does not guarantee that customers will stop getting ripped off on their energy bills as has been the case over the last decade and sets a poor precedent for dealing with such crises where failing incumbent suppliers are propped up by public money. It also only papers over the cracks both in terms of long-term reform to the retail market, and a glaring gap in the country’s energy efficiency strategy that sustains our reliance on volatile natural gas.

Direct support for families, at least to some degree, is preferable to subsidising industry. It is no substitute for addressing the structural drivers of UK dependency on global fossil fuel supply chains rather than domestic renewable energy. But it does help to set a precedent for strengthening the UK safety net to better deal with these sorts of national hits to living standards and addressing the fact that the UK’s safety net is not currently fit for purpose.

In terms of short-term options to support household incomes this spring, three broad approaches have been discussed.

• First, a broad-based approach for all or most families. Here a VAT exemption on energy bills has gained the most traction, which would essentially reduce costs for all 28.5 million households in the UK. Reducing further environmental levies on bills (such as Feed in Tariffs, Renewables Obligation and Contracts for Difference) would also fall into this bucket.[1] Currently levied at nearly 5% on electricity and gas bills, a cut to VAT is expected to save all families £89 a year on average, at a cost of around £2.5bn to the exchequer.
• Second, a ​‘medium targeted’ scenario with a boost for families on lower incomes. This has been proposed either as a temporary uplift to means-tested benefits, supporting incomes for 9.1 million households. Or else significant reform to the Warm Homes Discount (WHD), that would achieve essentially the same outcome. The WHD currently targets state pensioners and a few households on low incomes, totalling 2.1 million households. The target group receives payments of £140 annually between December and March when energy consumptions and bills are typically higher, and the cost is met through higher energy bills elsewhere.
• Finally, ​‘extra targeted’ approaches have been discussed, delivered either through more limited reform of the WHD, or other schemes such as the winter fuel payments. In truth there is no clear way to deliver such a scheme at such short notice in a way that reaches those clearly most in need. We include this scenario in our analysis as an illustration to demonstrate the trade-off between more generous support to fewer households compared to less generous support but across a broader base.

Using the IPPR tax and benefit micro simulation model we created illustrative forecast scenarios to inform thinking on all of these three options and compared the outcomes for each in terms of distributional implications. Our baseline comparator for all policy options is what we think will happen if no further action is taken at all: in other words, the current expected change in incomes between March and April 2022. To do this, we constructed a core scenario for April 2022 based on the latest economic forecasts and the policy changes currently expected to take affect that month. This includes higher National Insurance for both employee and employer contributions of 1.25%, uprating of benefit payments to match inflation last September and the increase in the national living wage of 6.6% — as well as the expected higher price cap itself.

To compare our three options on a like-for-like basis, we set each one at a broadly comparable cost to the VAT exemption (around £2.5bn). For our ​‘medium targeted’ scenario, this allows for an increase in the main payment of key means-tested benefits – pension credit, universal credit, and legacy benefits – by £270 per household, boosting incomes for 9.1 million families. To illustrate an ​‘extra targeted’ approach, we boost all disposable incomes for the 5.6 million poorest 20% of families by £440. This is an entirely counterfactual scenario to demonstrate what a ​‘perfectly’ targeted outcome might look like, based on equivalised household income.

The results of this modelling are presented in figure 3, distributed across income deciles for three broad family types – working age families with children, working age families without children and single or coupled households claiming pensions. Other household types presented in figures 1 and 2 above were not possible for new policy modelling due to data limitations.

The main takeaway from the analysis is that £2.5bn of support is not enough. If it is distributed to all families, such as through a VAT cut, then lower income families are still left largely exposed while some higher income families get support where they probably didn’t need it. If £2.5bn is targeted at all those in receipt of means-tested benefits, then the funding is better spent than a VAT cut, but the poorest families are still left even poorer this April than they were before. If ​‘levelling up’ is to mean anything, it surely must preclude the poorest getting any poorer. Finally, our stylised ​‘extra targeted’ scenario shows that £2.5bn would be enough to largely avoid average falls in income for the poorest 20% of families, but in practice such precision targeting doesn’t exist – and even if it did, it would still leave lower to middle-income families without any support at all.

Figure 3 – £2.5bn is not going to be enough to provide adequate support to all that need it