‘Dearth of discussion’ over potential wind-down of gas networks

There is currently a “dearth of public consideration and discussion” over the possible wind-down of gas distribution networks if the government decides against the widespread use of hydrogen boilers to provide heat in homes.

That is the starting point for a new paper from the Regulatory Assistance Project (RAP), seen by Utility Week, which explores the implications of such a decision and potential options for shutting down or shrinking gas distribution networks.

The government has promised to make a strategic decision on the role that hydrogen will play in the decarbonisation of domestic heating by 2026 following trials of a hydrogen neighbourhood and then village. However, recent statements by ministers have suggested scepticism towards hydrogen boilers, with energy secretary Grant Shapps saying hydrogen is “unlikely” to be a major source of heating in homes.

The new paper from RAP says a limited role for hydrogen in domestic heating would raise a series of complex issues concerning the wind-down of any gas networks that would no longer be needed as a result. The think tank says these issues could have “significant equity impacts” and would therefore be of political importance.

Firstly, as people switch away from gas, the charges for funding gas distribution networks would be levied on a shrinking pool of customers, putting up their bills.

Secondly, assuming there is no further capital investment beyond the end of current price control period ending 2026 and based on current rates of asset depreciation, gas distribution networks would still have an unrecovered regulatory asset value of around £4 billion by 2050.

Thirdly, there would be significant costs from the physical decommissioning of gas infrastructure, for which there is currently no earmarked funding.

“The combination of stranded asset risk and a lack of consideration of decommissioning costs places a significant financial liability onto UK citizens,” the paper states. “Continuing capital investment into the gas grid exacerbates these risks.

“In light of a dearth of public consideration and discussion around this issue, this briefing attempts to make a first step in unpacking some of the issues around decommissioning and considers policy and regulatory models which could be used to achieve it.”

It continues: “There are few examples of governments needing to actively wind down assets, particularly heavily regulated ones in such a short space of time. Some creativity and openness is therefore needed to tackle this challenge.”

Potential models

The paper proposes three potential options for winding down gas distribution networks, the first being “business as usual” but with accelerated depreciation. Gas distribution assets currently have regulatory asset lives of 45 years, although depreciation is front-loaded towards the beginning of the period. This depreciation rate could be accelerated to enable companies to recover their sunk costs by the time the assets are no longer in use.

In a recent open letter discussing plans its plans for the next set of network price controls for transmission and gas distribution, Ofgem said this option would be considered in a consultation later this year.

However, the RAP paper warns this would push up network charges for gas customers, possibly leading to a “death spiral” as higher bills incentivise more of them to switch to electric heat pumps. It says the equity implications could be significant for those customers that are unable to switch.

The paper notes that decommissioning costs would also need to be recovered. This could be done through a levy on gas distribution charges but this would further raise bills.

The second model proposed by the paper is “regulatory evolution,” whereby gas distribution networks are regulated to evolve into clean heat providers. As such, they would be responsible for both decommissioning gas networks, while also delivering new district heating networks in urban areas.

RAP says this would represent “a more collegiate approach” that would take advantage of gas distribution networks’ transferable expertise in pipework and roadworks and provide continuity to their workforces.

However, the paper questions whether future heat network customers should be “saddled with gas network legacy debts”. It says “public underwriting of liabilities for both stranded assets and decommissioning costs” may therefore be necessary.

The third and final option proposed by the paper is “nationalisation and a planned wind-down”. Given the need for the rapid transformation of the energy system as a whole, the paper says that “a more interventionist approach may be required whereby gas networks are renationalised and wound down as part of a government run and controlled programme”.

This would allow heat decarbonisation to be “treated more as a national project but would move all risk faced by shareholders onto UK taxpayers”.

Nationalisation would “remove the profit motive from owners to maximise investment and returns” and allow the government and Ofgem to “properly plan and deliver gas system wind-down in coordination with other parties such as electricity distribution system operators and local authorities. Allocation of costs and benefits would also be easier to manage”, the paper says.

It adds that the other models could be “too slow and incremental,” while “issues of equity could also be significant if costs are not managed well and a small number of customers, without the means to switch, end up paying concentrated network charges”.

It continues: “During such a complex time, there is a significant gaming risk associated with information asymmetries between regulator and licensee.”

Nationalisation could leave the government “shouldering all of the risk, financial and political,” although some of these costs would be offset by the profits that would otherwise be earned by private investors.

Call to action

The paper urges the government and Ofgem to work together to develop a plan for the wind down of gas distribution networks and gain a thorough understanding of decommission costs, which are currently highly uncertain.

It says the government should consider whether the Iron Mains Risk Reduction Programme “continues to offer value for money and if not, intervene as soon as practicable”. Approaches to heat zoning and local area energy planning should also be coordinated with gas network decommissioning.

“Every second of delay leads to an increase in potential stranded assets and increases the financial exposure of UK citizens, not just to gas network costs, but to energy insecurity and climate change costs,” the paper concludes.

“Multiple approaches to managing the decline of the UK gas grid are possible but, the sooner action is taken, the less consumer money will be at risk and the more rapid climate and energy security action will be.”

Speaking to Utility Week about the issue, Grid Edge Policy director and former Ofgem senior partner Maxine Frerk described it as “a big elephant in the room,” adding: “This is a really big question and we need get on with talking about it and thinking about it.”

Jeff Hardy, director of Sustainable Energy Futures and former senior research fellow at Imperial College London, said: “Business as usual depreciation is where we’re at right now and feels a lot like kicking the can down the road and not really providing anyone with any certainty. It doesn’t mean it won’t happen, but it’s far from ideal.”

In the absence of wider changes, Hardy told Utility Week this is Ofgem’s “only tool” to deal with this issue and that the regulator should be using its “powers of influence” to push the government to act.

“But equally true is government know all of this,” he added. “Are they thinking about intergenerational equity sufficiently to be putting some plans in place? I think the answer is no given the lack of detail in the heat and buildings strategy and the lack of any appetite to take a decision in this space.

“It feels like everyone knows it’s a problem that’s coming but there’s not any resulting momentum.”

A spokesperson for Energy Networks Association said: “Leading studies, including the Climate Change Committee’s most recent update to parliament, note that the UK’s decarbonisation targets can only be met through a combination of electrification and hydrogen. The sector is currently waiting for political decisions on how the hydrogen rollout will work and the timeframe for it to occur, and when this roadmap is set, network operators are ready to deliver the right infrastructure, in the right places, at the right time, to make it a reality.”

Utility Week will be publishing a longer analysis of this issue later this week.