Government must not slip back into complacency on CfDs

The government must not slip back into the complacency that ultimately led to the failure of the latest Contracts for Difference (CfDs) auctions to attract any bids from offshore wind projects, an industry expert has warned.

Earlier this week, the government announced hikes to the strike price caps for next year’s auctions but Adam Bell, director of policy at Stonehaven, said further changes are needed to prevent a repeat of the problems that emerged during allocation round five (AR5).

Welcoming the decision, Bell said he is glad the government has accepted “just how badly they messed up” but warned that its methodology for setting administrative strike prices (ASPs) – the caps on strikes price for each technology – is “clearly suspect.”

For AR5, the limit for offshore wind was reduced by £2 to £44/MWh (2012 prices). This was despite repeated warnings from developers that their costs had increased significantly since five offshore wind projects came through at a record low strike price of £37.35/MWh in the previous auction round. In July, Vattenfall announced it was shelving one of these projects – Norfolk Boreas – citing supply chain cost increases of 40%.

Bell, who was formerly head of energy strategy for the government, says it sets the caps by “evaluating all projects that could conceivably bid into a round, making a judgement as to their likely costs, and setting an ASP that ensures a competitive auction in which not all projects could conceivably win”.

“Very clearly, this only works if government is any good at predicting costs,” he added. “For previous rounds government has effectively stuck its finger in the air and said: ‘We think costs will come down,’ and they’ve been lucky enough to be right. But as soon as the trajectory of offshore wind costs changed, they got it wrong.

“This implies that government has been lulled into a false sense of complacency about its own competence; an unhappy space for anyone to be in. But it also indicates a deeper problem: if government cannot rely on its own ability to meaningfully anticipate costs, then any evaluations they make about how much capacity a budget for a given allocation round will buy can also not be relied on.”

Given its apparent inability to accurately forecast costs, Bell said the government should abandon this pretence and instead set administrative strike prices at a level beyond which it is “not willing to pay and can tolerate failure to deliver”.

He added: “Unlike costs, government has perfect information about its own preferences; ASPs have always been subject to political approval and this move would simply make this explicit.”

As things stand, Bell said there is still the risk of a repeat of AR5: “I don’t think the government’s completely woken up to that yet.”

Having temporarily restored confidence in the CfD auctions, he worries that the government will once again become complacent and come to view AR5 as an “aberration”.

“I don’t think it is,” he added. “I think there’s lot of ways in which things could continue to go wrong.”

To ensure enough offshore wind generation is procured, Bell said the government should also move from setting a budget for each auction to a volume cap informed by the work of the Future System Operator: “The actual mechanics of the auction do not need to meaningfully change to achieve this. Bids for a volume at a price can still be stacked up, but once the volume cap is breached the auction closes. This enables government to be more confident it can hit its targets.”

“These two changes do not meaningfully impact competitive pressures, and provide greater assurance that we will actually deliver the generation we need,” he concluded.

“They have the added benefit of enabling greater predictability: if government can commit to contracting a volume per year, the supply chain can invest to deliver that volume. This could help reduce inflationary pressures, which are, of course, the reason why we’re in this mess in the first place.”