IMPACT OF GB S ELECTRICITY MARKET REFORM ON INTERCONNECTIONS, CONSEQUENCES ON NORDIC MARKET Michel Martin, 3 April 2014

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1 IMPACT OF GB S ELECTRICITY MARKET REFORM ON INTERCONNECTIONS, CONSEQUENCES ON NORDIC MARKET Michel Martin, 3 April 2014

2 PÖYRY MANAGEMENT CONSULTING ENERGY Pöyry offices (c) grafikdienst.com Pöyry Management Consulting offices Europe s leading specialist energy management consultancy Offering expert advice from strategy to implementation on policy, regulation, business operations, financing and valuation and sustainability Providing in-depth market analysis and strategic insight across Europe Over 250 energy market experts in 13 offices across Europe: Düsseldorf Helsinki London Madrid Milan Moscow Oslo Oxford Stockholm Paris Vienna Villach Zurich COPYRIGHT PÖYRY 2

3 AGENDA 1. GB s Electricity Market Reform (EMR) 2. Impact of the EMR on interconnections 3. Effect of the EMR and other National Solutions on Nordics COPYRIGHT PÖYRY 3

4 EMR S FOUR CENTRAL POLICY INSTRUMENTS There are a number of other small and large changes to policy expected to supplement these reforms A carbon price underpin to reduce downside carbon price volatility, making low carbon investments more attractive Carbon Price Support Contract for Difference Feed-in Tariff Long-term contracts to remunerate low carbon generators to a defined strike price (energy market revenue plus difference) EMR To remunerate capacity providers Capacity Market Emissions Performance Standard A regulated limit upon point CO 2 emissions allowed from new (or life extended) power stations COPYRIGHT PÖYRY 4

5 CARBON PRICE SUPPORT (CPS) CPS Intended to top-up the EU ETS price to an expected floor level The carbon price support is designed to give clarity to all the market regarding the level of carbon price in the UK A tax on fuels (the Carbon Price Support) will top-up the level of carbon cost to the intended trajectory The level of carbon cost will be seen by all domestic production, but not by interconnectors 19 March 2014: the carbon price support will be capped to 18/tCO2 represents 8/MWh increased variable cost for a 50% efficient CCGT represents 18/MWh increased variable cost for a 38% efficient coal plant Summary of scenarios carbon price support (initial) trajectory EU ETS (example) Source: HM Treasury COPYRIGHT PÖYRY 5

6 CONTRACT FOR DIFFERENCES FEED IN TARIFF (CFD FIT) CfD Feed in Tariff provides a difference payment to supplement wholesale market revenue payments are two way depending on level of power price Baseload CfD FIT Intermittent CfD FIT Nuclear, CCS, biomass Market ref. price based on year-ahead prices Nuclear CfD FIT: 92.5/MWh - 112/MWh (real terms), 35 years Wind, solar, wave, tidal Market ref. price based on hourly day-ahead prices Onshore wind: 95/MWh - 115/MWh COPYRIGHT PÖYRY 6

7 CAPACITY MARKET Central auction for capacity, broad based payment Capacity requirement Capacity auction Eligibility Contracts Forward looking horizon 4 years ahead Forecast of future peak demand in delivery year made by SO/Ofgem Minister decides volume of capacity needed to deliver security of supply (3h LOLE) If capacity shortfall anticipated, Minister can take decision (on annual basis) to initiate a central capacity auction to secure capacity in delivery year SO runs and administers the auction Aim for interconnected capacity to participate alongside conventional GB capacity New and existing capacity eligible CfD FIT contracted capacity ineligible DSR can participate in 1 year ahead auction Parties successful in auction will receive capacity agreements for the delivery year(s) 1 year contracts for existing capacity, 15 year contracts for new capacity Receive availability fee which is expected to be based on auction clearing price COPYRIGHT PÖYRY 7

8 EMISSION PERFORMANCE STANDARD (EPS) OF 450GCO 2 /KWH A technology neutral ban on new coal plants EPS of 450g CO 2 /kwh will be used to set an annual, plant limit on allowed CO 2 emissions assuming baseload operation (85% load factor) Annual limit: Illustration of EPS 800MW CCGT To apply from 2013 to new plants >50MW and substantial retrofits/life extensions upgrades to comply with EU law, retrofit of CCS and biomass conversion will not result in EPS capture = 450*8760*85%*800,000 Allowance = 2.68mt Likely emissions at baseload emissions intensity 360g/kWh Exemptions for CCS demonstration plants Effectively limits operations of new coal plants to around 60%, which is unlikely to lead to capex recovery = 360*8760*85%*800,000 Actual (illustrative) = 2.14mt Illustrative actual emissions < limit, so plant is compliant COPYRIGHT PÖYRY 8

9 AGENDA 1. GB s Electricity Market Reform (EMR) 2. Impact of the EMR on interconnections 3. Effect of the EMR and other National Solutions on Nordics COPYRIGHT PÖYRY 9

10 IMPACT OF MAIN EMR COMPONENTS ON INTERCONNECTORS Fundamental drivers for interconnectors are altered by the EMR, both upside and downside Assuming future prices in GB are fundamentally higher than elsewhere, due to large share of CCGTs: Carbon price support Contract for Differences Capacity markets Upside for interconnectors, increases electricity price Recently capped at 18/tCO2 Downside for interconnectors Pushes down the wholesale electricity price Downside for IC if not eligible to participate: transfer of value from MWh to MW Upside (less risk) if eligible to participate Impact of the Electricity Market Reform is difficult to determine for interconnectors may be dominated by positive effect of Carbon price support Some elements are still uncertain, e.g. the extent to which interconnectors can participate to the capacity market Uncertainty is in itself a hurdle for investment Emission performance standard No direct effect effective ban on coal COPYRIGHT PÖYRY 10

11 IMPACT OF THE EMR ON INTERCONNECTORS Pöyry has analysed the impact of the EMR on interconnectors for DECC Many parties (public and private) are interested in the impact of the EMR on interconnections to the UK DECC commissioned a study from Pöyry in 2012 to look at the impact of the capacity payment mechanism the reform of the balancing mechanism cash-out the interconnection capacity CfD FIT for Nuclear and CCS This study is available on-line: COPYRIGHT PÖYRY 11

12 SCOPE OF THE STUDY The study for DECC focused on capacity mechanism and balancing cash-out, at two levels of interconnector capacity Reform of the balancing mechanism cash-out cash-out: incentive to balance portfolio currently, rules introduce a de facto cap of wholesale prices at around 500/MWh (no hard cap, but a soft observed limit) reform expected in 2015, to better reflect value of capacity Capacity mechanism cleared 4 year ahead auction Interconnectors 4GW: France, Netherlands, Island of Ireland 10GW: (in addition to above) Belgium, Norway, France, DK, Iceland High-carbon sensitivities re-ran baseline and scenario 5 with CCGTs instead of CCS and Nuclear for new entry COPYRIGHT PÖYRY 12

13 ANALYTICAL FRAMEWORK OF THE STUDY Detailed hourly modelling of North West Europe supports robust findings Pöyry modelled different scenarios in the study using own power market model BID3: Pöyry s modelling platform Wholesale prices, flows, dispatch and new build are a result of the model and methodology Criteria for investment meets carbon emission target new build needs to be profitable lights stay (largely) ON The study used DECC s assumptions, which have a large impact on results e.g. a very high Carbon Price Support makes interconnectors near-baseload Note: DECC study used the predecessor to BID3 (Zephyr), based on same principles COPYRIGHT PÖYRY 13

14 SUMMARY OF THE FINDINGS Most of the changes investigated decrease the value of existing and new interconnectors but from quite a high level, due to the CPS assumption! Item tested New Entry (GW) Price impact ( /MWh) Congestion rent (%) Comment CfD FIT: Nuclear and CCS new build instead of CCGTs BM cash-out reform (no CM) Capacity market (with BM cash out reform) Capacity Market (no BM cash out reform) % Supply curve effect decreases prices, more hours of 0 prices +2 small similar More new capacity is profitable, higher price peaks, lower mid-merit prices % Increases capacity margin, diverts scarcity rent to Capacity Market % Cannot rely on neighbours, as the price can t go high enough to attract flows when most needed BM: balancing mechanism cash-out reform, CM: capacity market COPYRIGHT PÖYRY 14

15 AGENDA 1. GB s Electricity Market Reform (EMR) 2. Impact of the EMR on interconnections 3. Effect of the EMR and other National Solutions on Nordics COPYRIGHT PÖYRY 15

16 POLICIES MUST EVOLVE TO DELIVER DECARBONISATION Decarbonising the power sector is very challenging, current arrangements are unlikely to deliver decarbonisation Goal: Decarbonisation by 2050 CO2 Intensity EU RoadMap Scenarios (gco2/kwh) EU Energy Road Map Scenarios Current intermediate target Europe s electricity systems must go through a sharp transition in the coming years if we are to meet ambitious decarbonisation policy targets. Large scale investment is needed. But European energy companies face an uncertain investment environment and financial investors are becoming wary of the power sector. Scenario 1: Reference Scenario 1bis: Current Policy Initiatives Scenario 2: High energy efficiency Scenario 3: Diversified technologies Scenario 4: High RES Scenario 5: Delayed CCS Scenario 6: Low nuclear CO 2 Intensity, ~20 gco 2 /kwh Europe faces a policy dilemma; whether to rely on markets and a strong CO2 regime, or to build national solutions with government-channelled investment * source: EC impact assessment, EU Roadmap COPYRIGHT PÖYRY 16

17 POLICY DILEMMA: MARKET VS. REGULATION The GB Electricity Market Reform is a clear illustration of national, regulation-based decarbonisation policy Decarbonising power markets Cost of decarbonisation Through the wholesale price High carbon and wholesale prices Market finds cheapest solution Through out-of-market payments High subsidies Central decision making EU wide Market-based National Regulation-based Risks Carbon pricing needs to be credible to support investment Central planner generally suffers inefficiencies The Nordics will be highly influenced by the market design decisions of the rest of Europe market-based: high wholesale prices will be passed on to the Nordics Nordic consumers may pay for the decarbonisation of thermal markets! regulation-based: market distortions likely to affect the Nordics Nordic producers may not get rewarded for their role in decarbonisation! COPYRIGHT PÖYRY 17

18 A NEW PÖYRY MULTICLIENT STUDY: NORDICS BALTICS 2050 A Multiclient study to investigate the effect of European decarbonisation policies on Nordics and Baltics power markets Steering Group Topics under investigation (extract) Long term demand evolution: will decarbonisation mean de-industrialisation? Energy surplus, mix, role/value of production assets: how to replace nuclear? Role, value and impact of interconnectors: interaction Nordics, Baltics, Continent, Russia Study Members Continental market design: from market design maker to market design taker Demand side participation: will heat be the new hydro? Power prices: significant changes in price structure? and more......and more COPYRIGHT PÖYRY 18

19 CONCLUSION The Electricity Market Reform (EMR) in the UK is a profound shift of approach strong focus on decarbonisation high degree of central intervention The EMR and associated policy changes disturb the investment signals for interconnectors both upwards and downwards signals At the European level, a patchwork of different National approaches has the risk of increasing the cost of decarbonisation inefficiencies in central planning inefficiencies in the interaction between different market designs COPYRIGHT PÖYRY 19

20 Contact: Michel Martin, COPYRIGHT PÖYRY

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