Textbook economics will not avert this winter’s energy catastrophe

The writer is chief executive of the Resolution Foundation think-tank

Economic crises have phases you can almost feel. They ebb and they flow, as the nature and scale of the crisis, and our awareness of it, changes. Single events often crystallise a shift, forcing policymakers to wake up to the fact they are required to act in ways that seemed unimaginable just weeks before.

The run on Northern Rock in 2007 forced the traumatised Treasury I was then working in to guarantee savers’ deposits, while initially ruling out nationalisation and insisting this was an isolated case. A year later, the collapse of Lehman Brothers brought home the reality: the global financial system was on the brink and it was time to nationalise institutions at the commanding heights of British banking.

For the UK’s current cost of living crisis, the Northern Rock moment was April’s 50 per cent increase in typical energy bills to £1,971. The government allowed prices to rise, while eventually offering households £30bn of support to pay surging bills.

But the latest announcement from Ofgem that energy bills are heading to £3,549 this October, on the way to more than £5,000 in January, was the Lehman Brothers moment of this crisis. It tells us that we are entering a new world where policies that were previously seen as unthinkable are now all but inevitable.

Prices will be heading higher just as temperatures plummet and families turn on the heating: the UK uses 80 per cent of domestic gas between October and March. Energy bills are on track to be three times higher this winter than last, at £500 a month.

Worst affected will be the UK’s 4mn customers on prepayment meters, who cannot spread the higher winter costs out over the year. They will be asked to find more than £700 in January alone — over half of their typical disposable income. Millions will run up arrears and damage their financial health. And thousands will risk their physical health because they cannot heat their homes.

We will have to cap energy costs below market rates, so it’s time to focus on the hard questions involved

Averting a winter catastrophe will require different, not just larger, interventions from the incoming prime minister. The government’s response to date has been to insist that consumers face the true cost of energy to provide strong incentives to reduce consumption. At the same time, it provided lump-sum discounts and payments, particularly to those on benefits, to cover some of those costs.

This is what the economics textbooks call for and it made sense when bills hit £2,000. It is not viable when they are more than double that amount. The cliff edge between those who do get support and those who get next to nothing becomes too great — earning £1 too much, so that you don’t qualify for universal credit, could cost you more than £1,000.

Because the payments are a lump sum they take no account of how big increases in energy bills are for different households. The challenge to come is far greater than average for a large, low-income family renting a poorly insulated home they are powerless to improve.

The scale of the crisis calls for a radical approach. We will have to cap energy costs below market rates, so it’s time to focus on the hard questions involved. How far do we go? Should everyone, or just those on low and middle incomes, benefit? And how will we pay the bill, which will amount to tens of billions of pounds? There are some big trade-offs.

A radical social tariff would be the best targeted approach for those on lower incomes seeing their bills rise most, but is harder to implement than a price cut for everyone. Borrowing will take a lot of the strain but windfall and solidarity taxes should be imposed if we are to reduce bills significantly without forcing the Bank of England into even bigger interest rate rises.

None of this is easy, but the energy crisis has made us much poorer as a country. The phoney war phase of this crisis is over, the doing something about it part should begin urgently.