Investor view: Daniel Wong

“A hybrid approach to the market and tariffs is difficult to achieve when you are looking for significant capital investment”

The UK regulatory authorities are among the global leaders in introducing market-based fundamentals to utility markets. In the 1980s we saw the liberalisation of the UK energy market, and recently we have seen the introduction of competition between water company retail suppliers. However, this stance appears to be changing.

Fixed tariffs have been introduced to incentivise renewable energy generation projects. Subsequently wholesale market power prices have fallen and further new-build generation projects were deemed uneconomic without government assistance. With the reserve margin in the UK forecasted by National Grid to reduce from c.30 per cent in 2013 to 5-10 per cent in the next couple of years, we observe that Decc has been forced to provide incentives for new-build generation. In order to stimulate this development, contracts for difference have been awarded for nuclear power, and long-term capacity payments for new combined cycle gas turbine plants are quickly following. This leaves the generators with existing capacity with challenging economics. One potential solution that has been proposed is for capacity payments to be available for existing flexible generation.

If this occurs, then all the main forms of generation will be remunerated by government-set tariffs and not solely based on the energy market. But why stop there? With so much political focus on the cost of living, policymakers may even consider introducing fixed billing rates for suppliers. The UK utility industry would then have gone full circle and be back to where things were before liberalisation.

Everything the regulators and government agencies have done may make sense in isolation, but there seems to be a lack of thought about the long-term repercussions of any of the changes made, showing the risk of intervening in market-based sectors. A hybrid approach to the market and tariffs is difficult to achieve when looking for significant capital investment. The next question will likely be, how long before the authorities start to move back to a more market-based energy sector?