A typical dual-fuel household currently pays roughly the same amount for their gas bill (£833) as electricity (£884), even though they use more than four times more gas than electricity (on an equivalent per-kWh basis). Because the gas price sets the electricity price 97% of the time the wholesale fuel cost component of electricity bills rises when gas gets expensive.

Electricity being so much more expensive than gas is a major barrier to the adoption of low-carbon heating systems, such as heat pumps. It also leads to very acute fuel poverty for homes that use direct electric heating. Fixing the imbalance in energy prices would mean that heat pumps significantly reduce energy bills while reducing the UK's reliance on gas.

A key factor in the high cost of electricity is the way social and environmental levies are put on electricity and gas.

Policy costs add much more to the cost of electricity than of gas

One reason why electricity is so much more expensive than gas is that electricity bills carry far more "policy costs" than gas bills, over three times as much. Policy costs are a set of levies on household energy bills which currently raise £5.9 billion per year. Some of this money funds social schemes, such as the Energy Company Obligation and the Warm Home Discount. The rest supports current and legacy environmental schemes, including the Renewables Obligation, Feed-in Tariffs and the Green Gas Levy.

The levies currently account for 11% of a typical household's total energy bill, but they are not allocated evenly. Policy costs account for 16% of a typical electricity bill, but only 5.5% of a typical gas bill.

Some households spend a much bigger share of their income on fuel than others

We use Ofgem's 24 household archetypes to assess the distributional impacts of any change to levies. This set represents the 27 million households in Britain, from the poorest (A1) to the wealthiest (J24).

Wealthier households tend to consume slightly more energy than poorer ones, although there is significant variation within archetypes. This reflects the many different situations and needs people have. Some wealthy households are small, and live in well-insulated homes that use little energy. Some poor households are large, live in poorly insulated homes, or have particular needs that require energy, such as medical equipment.

The distribution of income is far more skewed than the distribution of energy demand. This means that poorer households tend to spend a much higher share of their income on energy than richer ones.

This makes the design of levies regressive. Poorer households spend a greater share of their income on levies than wealthier ones.

Removing levies would make energy cheaper for everyone

One option for reforming levies is to remove all the levies from electricity. This would make energy bills cheaper for every household in Britain. However, this would cost the Exchequer around £4.8 billion a year and would need to be made up by tax rises. Households which use more electricity will see bigger savings in absolute terms, but poorer households will see a bigger benefit than wealthier ones in terms of bill savings relative to their income.

(We have not modelled the distributional impact of higher taxes here, but our general assumption is that income taxation is a more progressive way to allocate costs than bill levies. Using taxes to cover the costs of removing levies would reduce the net financial benefit to many households, and could result in a net cost for some wealthier ones.)

Rebalancing all levies from electricity to gas would reduce overall bills for households off the gas grid

A second option is to rebalance levies between electricity and gas. This option would be revenue-neutral for the Exchequer. Moving all the levies currently on electricity onto gas would reduce energy bills on average by £230 to £400 per year for the 4.5 million households that do not use gas heating. This includes around 960,000 households – in archetypes B4 and C8 on the chart below – which often suffer acute fuel poverty.

Cheaper electricity would offset most of the rise in gas bills for the 22.5 million gas-using households. Their bills would increase by between £15 and £100 per year. It is worth noting that there are also around 2–3 million households on gas who are in fuel poverty.

Moving only the largest environmental levies would achieve a similar result

Moving only the two main environmental levies – the Renewables Obligation (RO) and the Feed-in-Tariff (FiT) levy – from electricity onto gas would be enough to achieve most of the effects of rebalancing. It would reduce energy bills by about £180 to £300 per year for households off gas, a difference of ~£50 compared to a full rebalancing of all levies. The bill increase to households on gas would be virtually the same as with full rebalancing (moving all levies).

The RO and FiT make up 76% of the annual levy revenue from electricity and 62% of all levy revenue.

Targeted support could reduce the number of households whose bills increase after rebalancing

Taking action on these levies is one of the most immediate ways that the Government can make electricity cheaper. However, it may not want to spend the sums needed to remove some levies. Nor does it want to increase energy bills for poor and vulnerable households.

Targeted support, via a bill rebate or a social tariff, would allow the Government to mitigate the effects of rebalancing for much less than removing the levies outright.

Hypothetically (if the Government could perfectly target a rebate which would exactly offset the bill rise associated with rebalancing), it would cost £682 million per year to mitigate the effects of rebalancing for 11.8 million households in the ten poorest gas-using archetypes. This targeted support would require far less funding than a general removal of levies.

(Move the slider in the chart to see the effect.)

Increasing the Warm Home Discount is an option to reduce bills for low-income households

The Warm Home Discount (WHD) is a £150 rebate credited directly onto the energy bills of millions of poor and vulnerable households each year. It is funded by a levy on the standing charge for both electricity and gas, currently £11 per fuel. The rebate is currently worth £128 for households using both gas and electricity or £139 for households that only use electricity.

Doubling the Warm Home Discount on top of full rebalancing would increase energy bills for gas-using households by a further £22 per year. However, it would increase the value of the rebate to £255 for gas-using households, and £300 for others. Households eligible for the benefit would see a net decrease in their bills after rebalancing.

The chart below shows how an increased Warm Home Discount would change bills for those households which are eligible. Only some households within each archetype are eligible under current rules.

Improve the design and targeting of future fuel support schemes

Increasing the level of support would help millions of households. But higher bills would also highlight existing issues with efficiently targeting help to households with low income and high energy needs. While some low-income households are targeted through the benefits system, many who need support may not be eligible for means-tested or disability benefits, or may not claim the ones they are entitled to.

The chart below shows that the Warm Home Discount (WHD) misses a large portion of fuel-poor households of some archetypes. The WHD is paid to people on means-tested benefits including Pension Credit who live in homes with low energy efficiency. In 2023/24 the scheme provided a bill rebate to 3 million households in England and Wales; fewer than the 3.17 million fuel-poor households in England alone.

Other forms of targeting can be too broad. For example, expanding support to include all pensioners would extend benefits to many well-off households. Ideally, fuel-poor households would be identified by matching income data managed by HMRC directly with energy consumption, but this has been administratively difficult to implement.

Rebalancing could dramatically reduce the ratio of electricity to gas price

Electricity is currently 3.9 times more expensive than gas. 4.1 is the threshold price ratio where the typical home starts to have lower fuel expenditure with an air-source heat pump than with a gas boiler. Reducing the price ratio further increases the strength of the price signal in favour of electrification. The threshold where heat pumps and boilers reach parity on whole-life costs is lower.

Removing all levies from electricity would reduce the price ratio to 3.1. Rebalancing is much more effective – if all levies were rebalanced it could fall as low as 2.4 under current prices. At this level, a home switching to a heat pump would save hundreds of pounds a year on their energy bill.

Low prices of electricity relative to gas would increase the incentive to switch to green heating

One of the key goals of reducing the price ratio is to create a strong incentive for switching to low-carbon heat. If electricity is cheap, then the savings made each year on running costs will outweigh even costly heat pump installations and make heat pumps the more affordable option on a whole-life cost basis.

Currently, running a heat pump is more expensive than using a gas boiler for larger properties and about the same for medium ones. But with full levy rebalancing at a price ratio of 2.4, running a heat pump would be around £420 a year cheaper than a boiler for a typical household using gas. These kinds of savings would add up to over £6,000 over the course of a heat pump's lifetime and could make getting a heat pump the most affordable choice even if subsidies are scaled down.

The customer base and future policy costs need to be considered to fine-tune a levy reform

1) Domestic vs. non-domestic customers

We focus on domestic (household) levies only. Some levies like ECO and Warm Home Discount only target domestic consumers. Other levies like RO, FiT or AAHEDC apply to all energy consumers, except for Energy Intensive Industries who have a specific exemption. The analysis presented here assumes that only the share of policy revenue currently collected from domestic customers would be rebalanced. Without this assumption, shifting levies from electricity to gas has a considerable impact on revenue. Households currently use 35% of the total electricity consumed but 58% of total gas, so collecting a larger portion of levies from gas would shift the burden from commercial customers to households to keep revenue constant.

2) Falling number of gas customers

Making electricity cheaper should encourage faster adoption of electric-based technology. But as households gradually disconnect from the gas grid, policy costs will be collected from fewer and fewer customers. This means that rates would have to increase to collect constant revenue. This would be a particular problem for those policy schemes which are expected to rise over time (ECO). Other legacy levies will be trailing off over time (RO and FiT).