Tuesday, July 12, 2011

Electricity market reform unlikely to stimulate sufficient investment

The Electricity Market Reform White Paper is scheduled to be published today, the most radical change to the industry since it was privatised 20 years ago, but business is worried that it still won't provide sufficient certainty to permit the required levels of investment.

The paper is designed to shake up the way the supply industry operates and allow the construction of sufficient renewable energy to help the UK generate 15% of its electricity from renewable sources by 2020, compared with just 3.3% last year. (Only Cyprus and Malta generate a lower proportion of renewable electricity than the UK in Europe.)

The projected £200bn of investment needed by 2020, according to industry regulator Ofgem, is supposed to be sparked off by a guaranteed price for low carbon electricity, including nuclear, which will be passed on to businesses and households through higher bills.

After British Gas' price hikes - gas up 18% and electricity up 16% - announced last Friday, this announcement is particularly sensitive. But such hikes “demonstrate the problems caused for the UK by our over-reliance on energy from overseas", commented Juliet Davenport, CEO of 100% renewable electricity supplier Good Energy.

Almost 60% of the energy we use is imported and the latest rises in wholesale prices are largely due to events overseas out of our control. The proposed market reforms will help to increase energy and price security, and Chris Huhne insists that they will mean a long-term reduction in bills, also because of other Government measures to reduce household energy consumption.

“Once you take the effect on bills you actually find that we're getting overall bill down in the long-run,” he told the BBC, claiming that the UK has "the lowest energy prices in Europe".

Contracts for Difference

Under the white paper's proposals, a new scheme will come in from 2014, replacing and simplifying the current Renewable Obligation Certificate, where generators of renewable power earn tradable certificates which they then sell to utilities.

This system, called Feed-in-Tariffs with Contracts for Difference, will cut support for onshore wind and favour offshore wind and is intended to provide better value for money.

An agency - yet to be decided if it is a new institution, Ofgem or a government department - will pay a top-up premium for green power above the wholesale electricity price, up to an agreed fixed, or "floor," price.

If the wholesale price were to exceed the floor price, the renewable energy supplier would have to pay back the difference to the agency, under long-term contracts designed to promote certainty for investors.

The exact price, plus the amount of low carbon electricity the agency would buy, will be set nearer the time, but may be set by auction for "mature" technologies if there are enough bidders, as with nuclear power.

Business has warned, however, that too much delay on these crucial details could seriously put off vital decisions on investment.

Existing ROC contracts will be protected from the change. Developers will be able to choose between the ROC and the new scheme from 2014-2017.

There will not be an explicit target for utilities on how much of their electricity must be from renewable sources.

HMRC has worked out that electricity bills for an average energy-intensive business are estimated to increase by 2% and 6% in 2013 and 2016 respectively as a result of the carbon price floor, but by the late 2020s bills will be between 2% and 5% lower than would otherwise have been the case.

Reducing the monopoly of the Big Six

The established energy utility companies supply 97% of the energy consumed in households, and part of the purpose of the market reforms is to reduce their stranglehold.

Tim Yeo, Chair of the ECC Committee, has said that "radical reform" of the wholesale energy market is needed to "stop the Big Six from stitching it up".

Last week, Chris Huhne, who told the BBC, “we have to break the dominance of the big six”, met representatives of small energy supply companies who want to become the big companies of tomorrow. They told him that he had to do more to encourage independent energy generators so that smaller suppliers actually have someone to buy energy from.

They asked him to force the large companies to sell a minimum proportion of their electricity on the wholesale market, which would allow independents to undercut their prices.

Good Energy's Juliet Davenport, fresh from being honoured at the 2011 First Women Awards for the Retail and Consumer sector, told Huhne that the Government "has to balance its aim of simplifying energy tariffs with allowing smaller suppliers to innovate".

She also said there must be "complete transparency around the way Big Six generate and sell energy" to "buffer households and businesses from price hikes".

Mike Benson, of Carlton Power, said that allowing small companies to compete is crucial, because the balance sheets of the large utilities "are not strong enough”. “This really is the last chance,” he said. “If the big six are given a soft run this time round, they will lock themselves in for the next 20 years as the only ones able to play in this market.”

In another effort to support community renewable energy schemes, amongst other things, the Treasury had opened a consultation on the provision of finance for them - Tax-advantaged venture capital schemes - which Chris Huhne says will ensure that "enterprise investment schemes and venture capital trusts that invest in Feed-In-Tariff schemes through community-interest companies, co-ops and community benefit societies, will continue to qualify for improved support, as will those generating electricity from micro-hydro schemes".

Support for nuclear

The Select Committee on Energy and Climate Change warned the Government on 16 May that the long term contracts envisaged by the proposed bill at that point will work for supporting nuclear power, but that "different types of contract are needed for renewables and other clean technologies".

The white paper will reveal whether the Government has listened to this advice.

The proposed market reforms could end up giving a £1 billion windfall to nuclear power developers, who are among the Big Six, helping to consolidate their position.

This is why the ECC Committee warned in its report on the proposed bill that the Government "risks distorting its reform of the electricity market merely to save political face over implicit subsidies for nuclear power, through the use of a Carbon Price Floor Support system". It "will increase costs for consumers", they said.

LibDem MPs have also criticised the subsidy and are likely to vote against it.

The ECC Committee's report said the starting point for market reform should be a "clearly defined objective to reduce the carbon intensity of electricity generation in the UK to 50g of CO2 per kilowatt hour (KWh) by 2030".

Demand management

The report also warned that "it is too early for the Government to design a capacity mechanism given the rapid development of smart meters, interconnectors and storage systems that could remove the need for 'peaking plant'".

Reducing peak demand will reduce the amount of overall generation capacity required. Traditionally, energy planning has been done on the basis of meeting peak demand. But the roll-out of smart meters, the Green Deal and other policies will help reduce these peaks.

Greg Barker told Zac Goldsmith in the House last week that "demand reduction is not like alternative forms of energy generation. We are creating a new model, and different types of indices and accounting will be necessary. We will need a robust system of measurement as well as the market mechanism."

Goodbye to coal

Another effect of the market reforms will be to stop British power stations burning coal to generate power within the next three years, which Chris Huhne insists is also vital to bring stability to household bills.

"We've got to move to low carbon sources," Mr Huhne said. "We've got to get off that oil and gas fuel hook."

Carbon emissions from new coal plants will be limited to 450 grams of carbon dioxide (CO2) per kilowatt hour of power production, meaning they must have carbon capture and storage equipment installed.

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