Written by: Arthur Bellamy-Rosser
Green subsidies and grants are far from foreign to US operating companies and residents. Financial incentives such as the Renewable Energy Production Tax Credit and Investment Tax Credit have existed for decades to encourage the development of renewable energy sources by corporations. However, the green subsidies contained in the Inflation Reduction Act of 2022 (IRA) stand out significantly from those aforementioned, and are symbolic of the growing importance of green energy development.
What is the Inflation Reduction Act?
The Inflation Reduction Act (IRA) is the third piece of US legislation since late 2021 which aims to bolster innovation, competitiveness and industrial productivity within the country. Its enactment follows that of the Bipartisan Infrastructure Law and the CHIPS Science Act, with the combined effect of the three being to introduce a huge $2 trillion in federal spending over the next decade. However, despite the huge financial implications of all of these acts, the IRA has certainly been the one catching the headlines. This is in large part due to the scale of the act; after its enactment on the 16th August 2022 it stands as the largest piece of federal legislation ever enacted to address climate change by committing $369 billion to the cause through subsidies in the form of grants, loans and tax credits. However, despite this much needed backing to the fight against climate change, the act has still been received somewhat controversially, especially by European leaders.
The subsidies contained within the act have a two-fold effect. Consumers benefit massively from the estimated $43 billion that the IRA dedicates to making electric vehicles (EVs), geothermal heating, solar panels, energy efficient appliances and home batteries more affordable through tax credits. Perhaps most notable are the tax credits on EVs. Consumers in the US will be able to claim a tax credit of up to $7,500 for new, and $4,000 for used vehicles; a huge financial incentive for the purchase of EVs. These consumer subsidies will obviously benefit companies in an indirect fashion by incentivising the purchase of their products, but the IRA also contains provisions which directly benefit them. Corporations will receive a huge $216 billion in tax credits under the IRA, with the goal of increasing investment in clean energy, transport and manufacturing in the US.
With all of this considered, it may be difficult to understand why the IRA has sparked any controversy. The Act seeks to reduce greenhouse gas emissions by 40% from 2005 levels and investment in green energy is usually met with universal positivity. Further, it might be expected that Europe would be somewhat refreshed by Biden’s willingness to combat climate change, especially after their public frustration with the stance of the Trump administration. However, their primary objection comes from the tax credits afforded by the IRA being conditional on production and final assembly of the green infrastructure concerned being based in the US. As such, imported European goods are unable to benefit from the same subsidies. There are certainly logical motivations behind this stipulation for the US. The production of new green infrastructure could help create millions of jobs within the country, and this internal push may also aid them in reducing their energy dependence on China. However, the concern of the EU lies in businesses and investment being dragged away from Europe as companies seek to benefit from the subsidies.
Its Impact So Far
It is difficult to make a particularly fulsome evaluation of the IRA’s impact due to the relative infancy of the Act. However, there are early indicators that along with the Bipartisan Infrastructure Law and the CHIPS and Science Act, the IRA is having a significant internal effect. The Financial Times reports that commitment to clean technology and semiconductors has doubled since 2021, a change which the aforementioned acts were no doubt instrumental in bringing about.
Of more concern to Europe will be that companies with European operations have already been seen to alter their plans in response to the IRA. For example, both Tesla and Northvolt, the Swedish lithium-ion battery producer, currently appear likely to increase their production of batteries in the US in favour of continuing their plans to manufacture in Germany. Furthermore, European companies such as Enel, Volkswagen and Linde have all indicated that the subsidies contained within the IRA are of interest to them.
Whilst of course the subsidies are the primary motivation behind such changes, it also seems that the simplicity of the IRA and the operation of the US government have been drawing companies across the Atlantic. EvangelosMytilineos, CEO and chairman of Greek conglomerate Mytilineos, reported to CNBC that European companies prefer the “present of the US government rather than the penalty of the European authorities”. This attractive simplicity has also been noted by Maria Demertzis, senior fellow at the think tank Bruegel, who notes that the “complex” Union machinery is less attractive to corporations than the “simple” operation of the IRA.
Despite not knowing the long-term effect of the Act, it is evident from how it has been received so far that a response from Europe was necessitated.
The Response of the EU
In an attempt to mitigate against the IRA having a further detrimental impact on European investment, the European Commission (EC) have so far adopted a three-fold approach.
Firstly, they have sought to enter into negotiations with the US in order to seek modifications to the IRA. Both Robert Habeck and Bruno Le Maire, the Economic Ministers of Germany and France respectively, met with US Treasury Secretary Janet Yellen in Washington back in February to discuss European fears over competition in the North American market. However, they came away with little more than an agreement to be transparent over the specific subsidies offered by the IRA, so that the EU could match them if necessary. The EU has however been able to ensure that EVs which are imported to the US for commercial use will qualify for IRA tax credits, although the same conditions were unable to be extended to those imported for private use.
Secondly, the EC on the 9th March adopted several changes to its State aid framework which gives Member states a temporary relaxation of state aid restrictions. The relaxation of these restrictions will allow individual states to subsidise particular industries or businesses in an attempt to trigger internal investment. Such restrictions have previously been relaxed before by the EC in their response to the pandemic and to alleviate the economic impacts of Russia’s Ukraine invasion.
However, the most significant response comes in the form of a Green Deal Industrial Plan which was presented in February 2023 by Ursula von der Leyen, the President of the EC. This Industrial Plan is certainly the start of a more permanent response to the IRA; however, it is slightly lacking in specific commitments. The Industrial Plan seeks to pursue four targets in order to strengthen the EU’s green industrial base and support a net zero transition. These are to create a predictable and simplified regulatory environment, to enable faster access to funding, to enhance skills and to facilitate open trade for resilient supply chains. The relaxation of the state aid rules mentioned above were one of the first changes that we saw come to light under the Industrial Plan, and they have since been followed by legislative proposals for a Net-Zero Industry Act (NZIA) and a Critical Raw Materials Act (CRMA). These acts seek to boost the manufacturing of products needed to meet the EU’s climate goals, as well as ensure a secure supply of raw materials needed for this green infrastructure.
It is evident from the European response just how significant the impact of the IRA could be, but until the EC presents further indications of their planned steps under the Green Industrial Plan it is difficult to predict the long-term effect which it may have.
An interesting consideration of the IRA and the EU’s response to it is the overall benefit that such legislative competition may bring for the climate. Although we do not know what future measures may be enacted by either of these powers, there is still a clear shift present towards green incentives becoming increasingly important. It is thus foreseeable that they will rise in prevalence throughout the next few years.
As the EU and the US continue to compete for investment and business, it follows that increasingly attractive subsidies and benefits will be offered in order to induce corporations to operate within their borders. Essentially, business is acting as an incentive for the EU and the UK to continually progress in their individual efforts against climate change. The overall benefactor of this race to the top is the environment itself, as the consequence of this competition is the globe becoming gradually more aligned in the push for green energy investment. This article has focused specifically on the interplay between the US and the EU, however when the pressure that such legislation puts on other significant global actors is considered, this positive effect is only exacerbated.