Cost of living crisis: four things the government could do to help

The cost of living crisis hitting millions of households is about to get a whole lot worse.

Gas is the bedrock of power generation in the UK, supplying millions of homes directly and accounting for about 45% of electricity supply. It has rocketed in price, up 400% in the past year and 1,000% since 2019, according to the ICE futures market.

The prospect of a tripling of the energy price cap in October to £3,600 – from £1,254 in 2019 – lies behind the Bank of England’s warning of a long recession from this autumn, characterised by soaring inflation, falling living standards and rising unemployment.

The central bank’s response is to raise interest rates to bring down inflation. Liz Truss, ahead in the race to be Tory leader and prime minister, has a remedy – wide-ranging tax cuts to spur growth. Labour would provide targeted support to those struggling the most with their bills, coupled with measures to increase investment.

But there are calls for more to be done. Here we discuss some options.

A lower price cap

What if the regulator Ofgem said bills are not going up in October? About half of the current 9.4% inflation rate can be accounted for by energy cost increases, and so the effect would be to cap further price rises. A lower inflation rate would take the pressure off workers to bargain for higher wages and, without strong wages, the Bank would have less need to increase interest rates.

About 23 million households have their domestic energy bill governed by the energy price cap. Ofgem says if it kept the average dual-fuel tariff at April’s £1,971, then the rising cost of wholesale gas would be swallowed by the industry.

The regulator has decided against this route because it says forcing utility companies to absorb costs would make them all loss making and force several into bankruptcy. They would need a government subsidy and billions of pounds in rescue loans for those that went bust.

But the government could go down this route and become the owner of a merged utility company. France already owns most of its national electricity supplier, EDF, and is about to buy the remaining shares to keep prices capped. Inflation in France is 5.8%.

A bigger windfall tax

Britain produces gas and oil in the North Sea. As chancellor, Rishi Sunak agreed to apply an extra 25% levy on the industry’s windfall profits that he said would raise £5bn.

To address his previous concerns that a windfall tax would stymie investment, he has allowed firms to offset 80% of their new investment costs against tax. Combined with existing tax breaks, oil and gas firms get 91p off their corporation tax for every pound spent on investment.

But there is no evidence that windfall profits are being invested. The industry plans investment 10 to 15 years ahead, and windfalls are usually handed to shareholders in higher dividends and share buybacks. The same is the case now. So the government could apply the 25% without any tax breaks, generating a sum nearer £15bn.

More generous benefits

The government’s energy bills support scheme provides a £400 discount on bills in October for every household, a £650 means-tested one-off payment to eight million low-income households, £150 for those on disability benefits and £300 for pensioners. This was designed when the forecast for the October price cap was £2,800.

MPs on the business, energy and industrial strategy committee warn the package has been ‘“eclipsed by the scale of the crisis”.

The National Institute of Economic and Social Research said that “any fiscal loosening would be better directed to universal credit”, which it said should rise by £25 a week for at least six months from October. In addition, the energy grant should rise from £400 to £600 for 11 million low-income households.

Bills are so high that the subsidies would not be seen as inflationary – just keeping the wolf from the door.

Capping wages in the City

Bank officials said they increased interest rates by 0.5 percentage points – the largest margin in more than 25 years – because they feared wage rises next year would outstrip inflation and generate a wage/price spiral.

They admit there is little evidence of workers using their muscle to secure high wage rises at the moment, but this could change if inflation remains high.

To emphasise how weak pay demands have been so far, the latest official figures show average earnings increased by 4.3% over the year to June and 6.2% with bonuses. The vast bulk of the bonuses are paid in the financial, professional and business services industries.

If the Bank is so worried, it could cap the bonuses of the City firms it regulates. That would bring down average wages and halt the most egregious example of pay growth, with City firms that are immune to the energy crisis awarding themselves huge payouts.

The other sectors where pay has spiralled are badly affected by staff shortages, mainly due to visa restrictions imposed by the UK on EU workers. Higher wages are welcome in hospitality, travel and leisure, but firms are trapped by a lack of skilled replacements when staff move for higher pay at a rival, forcing them to turn down customers. Scrapping visa rules and allowing free movement would be another way to ease pay pressures.