Utility Week expert view: Nigel Hawkins

“Instead of market competition, the government’s policy to draw out investment is based on the provision of hefty – and lengthy – subsidies.”

The government’s deep anxiety about baseload generation capacity continues unabated. The bottom line is that there has been little investment in recent years in new baseload plants, and the capacity margin continues to slide inexorably downwards.
Despite all the publicity about renewable generation, there are, in reality, only three fuel sources that can currently deliver large volumes of baseload-generated power – gas, coal and nuclear.
Back in 1990, when the privatisation of the UK electricity supply industry began, things were very different.The Conservative government had concluded that two elements – generation and supply – of the activities of the now defunct Central Electricity Generating Board (CEGB) were suitable for the competitive market. Similarly, it viewed the CEGB’s transmission and distribution businesses as natural monopolies that should be subject to price regulation.
Although these rulings on electricity supply, transmission and distribution nowadays elicit little disagreement, the generation conclusion is far more contestable.
From 1990, new generation IPPs (independent power producers) proliferated – most were gas-fired. Crucially, many were financeable because an acceptable long-term gas supply contract had been signed and at least one of the regional electricity companies had agreed to take a substantial part of the output.
Examples abound of such projects, with the Peterborough combined cycle gas turbine (CCGT) plant being an obvious case in point.
The major consolidation process, which led quite quickly to the domination of the big six integrated energy companies, changed the investment landscape.
Given that building merchant plants – without a defined customer base – is seldom viable, the UK now depends on the investment policies of the big six, four of which are based overseas and have a lengthy list of possible generation projects across Europe – and high debt.
Instead of market competition, the government’s policy to draw out this investment is based, with the notable exception of CCGT plants, on the provision of hefty – and lengthy – subsidies. Recent Decc figures set out a support price regime for virtually every type of power – CCGT plant excepted.
The strike price for the Hinkley Point C nuclear project is set at £92.50/MWh, not far short of double the current wholesale electricity price. The 35-year support price period is unprecedented. Indeed, these nuclear figures are so large – and unpredictable – that the EU authorities may intervene to cut the planned subsidy.
It has been arguing, too, that nuclear power is hardly new technology – commercially generated nuclear power dates back to the 1950s at Calder Hall.
To be sure, the biomass strike price for Drax Power, at £105/MWh, is significantly higher. It’s no surprise that EDF and Drax Power have responded positively to such munificent financial inducements for their projects.
Crucially, though, the need to attract CCGT investment remains compelling. Compared with the “dash for gas” in the 1990s, there is now a “dearth of gas” – the prime reason, along with the decommissioning of longstanding coal-fired plant, for the current capacity margin crisis.
Worryingly, both UK members of the big six have effectively postponed any new major generation investment until after the next general election in May 2015.
The market risks alone are already substantial, given that gas input costs can represent up to 70 per cent of the operating costs of a CCGT plant. Add the Miliband 20-month price freeze pledge and it is hardly surprising that many companies are sitting on their hands.
Given recent investment trends, it is difficult to argue that the sector is deriving tangible benefits from unfettered generation competition.
Instead, the UK generation market – CCGTs aside – has become one dominated by lavish subsidies for lengthy periods. Some subsidies may prove to be extremely generous – or extremely mean. Only time will tell. After all, guessing what should be the nuclear power price in the 2050s is a mug’s game; it may be that an inflation-adjusted £92.50/MWh is on the money. You could argue that new baseload power generation should actually be undertaken by the government – at least, with low gilt yields, it should be able to borrow at a discount to the private sector.
In fact, given that over 80 per cent of EDF’s shares are owned indirectly by the French government, that is how Hinkley Point C is effectively being financed – through public investment and public subsidy. It’s a far cry from the optimistic expectations cherished by those who championed the UK electricity privatisation model, where generation competition lay at its core.
The return to the old days of the CEGB has not been fully accomplished as yet, but recent developments are moving the wheel relentlessly full circle.