Can government stimulate investment in renewable energy generation by guaranteeing an electricity price for developers of sources such as wind and nuclear?
The UK government thinks it can, and recently introduced a long-awaited bill that would set a “strike price” for power generated by low-carbon producers, and recover the costs from consumers via electricity suppliers.
With the aim of reducing carbon emissions and cutting dependence on imported fossil fuels, particularly the natural gas on which the UK is heavily dependent, the government would buy power from low-carbon generators, primarily offshore- and onshore-wind and nuclear.
Through a so-called contract-for-difference, the government will top-up generators’ revenues if the wholesale electricity price falls below a strike price that has yet to be specified.
A Splash of Government Support with a Dose of Free Market Economics
While many governments have enacted plans to boost renewable-energy production, the UK’s plan goes further than others by offering to pay developers the difference between the wholesale and strike prices; by bringing those developers into the market rather than regulating them separately through feed-in-tariffs such as in Germany; and by seeking to use a liberalized market to jump-start investment in new nuclear plants.
“It’s pretty radical,” said Jonathan Lane, head of consulting for power and utilities at the consulting firm GlobalData. “Other governments will be closely watching it.”
Lane argued that the plan represents a partial re-regulation of an energy market that pushed liberalization further than many others starting in the 1980s, and succeeded in boosting investment in infrastructure such as gas-fired power stations and transmission lines, but where the government is now recognizing that market forces alone will not achieve a desired reduction in carbon emissions.
The government, which aims to raise national energy production from renewables to 15 percent by 2020, said its plan would jump-start construction of low-carbon energy infrastructure, and stimulate economic growth.
“The bill will support the construction of a diverse mix of renewables, new nuclear, gas and CCS [carbon capture and storage], protecting our economy from energy shortfalls and significantly decarbonizing our electricity supply by the 2030s as part of global efforts to tackle climate change,” UK Energy Secretary Edward Davey told Parliament.
Davey acknowledged the massive scale of the vision, noting that the new energy infrastructure would equal almost half of the UK’s total needed infrastructure over the next decade, and would be far larger than the cost of this year’s London Olympic Games.
The contracts-for-difference are designed to stabilize revenues for investors in low-carbon electricity generation and help developers secure large capital costs while keeping costs down for electricity consumers.
A Plan Not Without its Challenges
Household energy bills will rise whether or not the reforms are implemented but will be 7 percent lower on average by 2020 than they would have been without the reforms, the government says.
But there are significant uncertainties that are expected to deter investment until the details are known, Lane told Breaking Energy. Among the unknowns is the strike price which is not expected to be specified until mid 2013. Another is the 7.6-billion-pound cap on the government’s spending by 2020 to support low-carbon generation which may not be sufficient to lure investors, and has been calculated without knowing what fossil fuel prices will be then, or how much electricity that amount of money would be able to buy.
With a limit to overall government support and uncertainty over the future difference between wholesale and strike prices, developers such as offshore wind companies could balk at the significant investment required.
“It could be that the industry wants too high a price out of the government and just walks away,” Lane said. “It could be one of those negotiations where it could all collapse, but we can only wait and see.”
The strike price could be set competitively, as in Brazil, where annual auctions for future electricity supply among developers have kept prices down for consumers. But the UK plan is based on technologies such as offshore wind and nuclear that are subject to greater price uncertainty than Brazil’s system which uses more mature generation sources such as onshore wind, Lane said.