A changing energy landscape

Driven by the the imperative to respond to climate change as well changing policy goals, energy security, and affordability the energy strategies of many countries are experiencing rapid change. Such uncertainties are not new but have re-emerged since the mid-2000s due to the weight of higher fossil fuel prices, rapid demand growth in China, the US shale gas and the global financial crisis. More recently, rapid falls in oil prices took many energy analysts by surprise and have had a significant impact on policy, amongst others, by increasing the subsidies required by some low-carbon technologies.

Transitions to low-carbon sustainable energy systems imply a significant shift away from the use of fossil fuels. But such transitions are also characterised by significant uncertainty. Whilst the evidence for concerted action to reduce emissions and limit average global temperature increases is extremely strong, progress has been slow so far and addressing the challenge of climate change will require significant levels of emissions reductions.

A very British policy mess

A number of countries including the UK have enacted policies to achieve such aims. The Climate Change Act commits the UK to reducing its greenhouse gas emissions by at least 80% from 1990 levels by 2050 (Great Britain Climate Change Act, 2008). Most of these policies work by setting an explicit or implicit price on energy use or carbon emissions, or by providing subsidies or tax breaks to encourage investment in energy efficient or low carbon technologies.

uk energy policy
UK Generation Mix (1970 to 2012)

The UK faces multiple uncertainties in pursuing its energy and climate change goals. In a challenging economic climate, the energy strategy has become more uncertain and contested. Contrasting energy priorities are being articulated in public policy and in the private sector, exacerbated by controversies over energy prices and bills, shale gas development, onshore wind power and new nuclear power stations.

In early 2016, the UK Energy Secretary, Amber Rudd, promised to close all British coal plants by 2025, making the UK the first country to set an end date for use of the fuel. That task was made harder when seven stations elected to sign up to EU emissions limits rather than apply for an opt-out, which would have allowed them to miss the new European targets but in turn promise to close by 2023.

Here today, gone tomorrow

A surge in renewable energy production and cheap gas prices have effectively priced coal-fired power plants out of the market in Britain. The closure of Longannet in March 2016 marked the end of coal generation in Scotland and leaves the UK with just seven operational Coal power stations.

Despite the government view, coal generation is currently an important part of the country’s energy mix accounting for 25-30% of UK generation. A mild winter has abated some of supply concerns but a cold snap or sustained issues during Winter 2016-17 would leave the country dangerously tight.Thus, should a complete phase out be achieved, the UK has 10 years in which to replace a significant amount of base-load and flexible capacity.

Despite repeated assurances that this would not be an issue, continued weak spreads, inconsistent energy policy announcements and weak economic conditions have resulted in little incentive to build new power stations.

uk energy policy
UK Generation Mix (2013 to 2030)

Clearly mindful of such concerns, the government launched a consultation to conduct an early capacity auction in January 2017 for delivery in the winter of 2017/18 aiming to purchase significantly more capacity, perhaps 3 gigawatts on top of what would otherwise have been the case. The government has already held two capacity market auctions, for delivery of supply in 2018/19 and 2019/20. The consultation also proposes tougher penalties for companies that fail to deliver their capacity market contracts and closes on April 1, 2016. The government said:

“We need to buy more capacity, and buy it earlier, in order to manage the increased risks we face in the next decade as we transition away from coal and as older plant close”

Analysts at investment bank Jefferies said the changes should be positive for companies participating in the UK capacity market, such as utilities Drax and SSE as they will receive revenues from the scheme earlier than expected.

Previous auctions have not had the desired result of incentivising new capacity to be built – perversely it’s actually resulted in the financing of small dirty diesel generators – and questions have to be raised as to whether this change in direction will produce an efficient, cost effective or long-term solution.

Where is the policy?

It would be wrong to pin the entire blame on the current government for the emergent mess; decades of successive UK governments have pushed the issue out into the long grass with the confidence that they would not be around to deal with the problem.

It could argued that the structure of the market has not incentivised rational agents from making the long term investments, or that such large scale projects would not be better served at the national level. Indeed, with borrowing costs so low, the case could be made for the UK issuing ‘energy bonds’ and financing new build directly.

This website has repeatedly stated its support for a broad base of cost-effective nuclear/win, grid storage along with a Gas/Coal stack to ‘top-up’ base-load and to meet peaking demand. If this policy had been enacted in the 2000’s, the current issues would not be manifesting; instead, the UK is currently looking a paying for the world’s most expensive nuclear power, cutting subsidies for wind power, has removed carbon capture and storage and will have to jerry rig another round of auctions at cost to the tax-payer.

With the government backing the capacity auction, underwriting generation with assured prices and presumably forced to cover capital risk, the next five years will paradoxically present some compelling investment opportunities. However, whether this is a price the UK public is willing to pay remains to be seen.

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