Analysis: Electricity Market Reform

Government last week revealed further struts to the elaborate edifice that is Electricity Market Reform. It's not enough to rest an investment case on yet, Megan Darby reports.

New-build biomass is dead. Old coal can get paid to stay open. Power demand is to exceed supply no more than three hours a year. These are some details of the government’s electricity masterplan revealed in the past week.

The elements are starting to come together: we have guaranteed prices for renewables and an indication of how much conventional capacity will be called upon. Will the pieces fit fast enough to mobilise investment and beat the predicted mid-decade capacity crunch?

There is enough information for developers to start fleshing out investment options, but not to make decisions, Energy UK chief executive Angela Knight tells Utility Week. “We by no means have got the whole story. We all went cantering into this [draft plan] saying: that’s it, we have got the information. Uh oh, no we haven’t.”

Uncertainties remain in both parts of the EMR package. For renewables, it is still unclear whether support through contracts for difference (CfDs) is genuinely consistent with the previous Renewables Obligation (RO) subsidy regime, as government claims.

The finer drafting points are due in early August. For gas, there is the promise of a capacity market and a reliability standard to work towards, but it is not clear how much extra capacity will be needed. For coal, there could be some life-extending support under the capacity market, but will it survive a political backlash?

Even less is known about nuclear and carbon capture and storage, crucial elements of the transition to a green energy sector. There is no end in sight for negotiations on terms for the next nuclear plant, EDF’s Hinkley Point C. Support levels for carbon capture and storage are equally uncertain.

There are a number of concerns around CfDs. A move to 15-year contracts, from 20 under the RO, increases risk. Independent generators could struggle to sell their power and secure project finance, as the old power purchase agreement (PPA) system will no longer work.

The renewables lobby is seeking a green power auction market to resolve the problem, but this was rejected when the Energy Bill went through the House of Commons. And there are concerns over the way CfDs are allocated, in particular if and when the sector nears the spending limit under the Levy Control Framework.

It is the capacity market attracting the fiercest debate, however. Conceived to bring on flexible gas-fired generation to back up intermittent renewables, the market idea has expanded to take in existing gas and even coal plant.

The idea of paying to keep coal plant going for longer has horrified environmentalists. Greenpeace warns the subsidy will keep the UK dependent on coal for another decade and put low carbon investment at risk. Labour peer Bryony Worthington has pledged to fight it in the Lords.

The Department of Energy and Climate Change (Decc) defended the inclusion of coal; saying to rule it out would add unnecessary cost to customer bills. Even with this prop, the rising carbon price floor, European regulations and aging plant means the future economics of coal power “don’t stack up well”, a spokesman says. Decc expects just 3 per cent of power to come from coal in 2025.

Knight supports this stance, which she says will help an “orderly transition” from old forms of generation to new. Without it, coal generators not fitting the clean-up kit needed to meet the Industrial Emissions Directive will be tempted to run down their hours as quickly as possible, hastening their closure, she argues. “The timetable for closing old plant, such as coal, and the timetable for opening new plant does not really connect together.”

Guy Newey, head of energy and environment at think tank Policy Exchange, is sceptical of the need for a capacity market but prefers one that does not discriminate between fuels. From an environmental perspective, he says, “it doesn’t matter whether it is a gas fired power station or a coal fired power station, it matters how much it burns.”

For some, the capacity market still discriminates too much. Existing plant are allowed to bid for 3-year contracts but not 10-year contracts. RWE Npower’s Paul Massara has argued a completely non-discriminatory market would allow recently built gas power plants, such as his company’s Pembroke and Staythorpe stations, to bid in and provide capacity more cheaply.

Biomass and hydroelectric generators are also unhappy to be left out. The capacity market excludes those subsidised under the RO, to avoid overpaying. However, the capacity mechanism is expected to depress the wholesale electricity price, cutting revenues for existing renewables. Those able to make power available at peak times say their capacity should be valued just as fossil fuel capacity is.

In the medium term, Decc has kept its options open, modelling three trajectories for decarbonising electricity, ranging from 50g CO2/kWh to 200g CO2/kWh in 2030. This leaves it unclear how strong a push for low carbon generation there will be.

After all these debates are made and the details thrashed out, EMR will still have to get state aid approval from Europe. The time for investment decisions is some way off yet.