Progress'with'the'UK'Electricity' Market'Reform'(EMR) :
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1 Progress'with'the'UK'Electricity' Market'Reform'(EMR) : Prof.&Michael&Pollitt& Cambridge*Judge*Business*School* & CEEP& Beijing&Institute&of&Technology& 12&May&2015&
2 Outline: Introduction&and&background& Electricity&Market&Reform& Analysing&EMR& Conclusions&and&Lessons&
3 INTRODUCTION'AND' BACKGROUND:
4 At privatisation in 1990: 3 electricity wholesale markets in UK England and Wales c.60 GW, Revenue 16bn 4 major generators, 1 TSO, 12 Regional Elect. Cos Scotland c.9 GW, Revenue 1.9bn 2 integrated cos, 1 nuclear generator Northern Ireland c.1.5 GW, Revenue 0.5bn 4 power stations (3 cos), 1 T,D and S co.
5 Design of the Market Separate generation, transmission, distribution & supply Free entry to Generation Supply opened in stages to 1998 Limited vertical integration between them Price caps for transmission, distribution, and initially supply (except the largest customers)
6 generation rose 5.7 per cent from 95.6 TWh to TWh due to lower wholesale gas prices between June and August and to help meet the shortfall in nuclear generation. Chart 5.2 Shares of electricity generation UK'Electricity'Generation: generation rose 26 per cent from 4.7 TWh to 5.9 TWh, Source: Energy Trends March 2015, p.40 March In 2014, wind and solar PV generation rose 16.6 per cent from 30.5 TWh to 35.5 TWh, mainly due to increased capacity compared to Hydro with average rainfall in the main hydro areas 15.5 per cent higher in 2014 than a year earlier. ELECTRICITY Chart 5.3: Generating capacity of major power producers The share of generation from coal decreased from 36.4 per cent in to 29.1 per cent in 2014, and that from nuclear decreased from 19.7 per cent to 19.0 per cent 80 in The share of generation from gas increased Wind from 26.6 per cent in 2013 to 30.2 per cent in Other The share of generation from renewables (hydro, wind 60 and bioenergy) increased from 14.9 per cent in 2013 to Hydro 19.2 per cent 50 in This was mainly due to increased Nuclear wind and bioenergy generation capacity. 40 Mixed or dual fired In 2014 Q4, total electricity generated fell 5.3 per cent from 93.9 Oil fired 30 TWh in 2013 Q4 to 89.0 TWh, driven by lower demand. CCGT 20 In 2014 Q4, coal fired generation fell by 19.7 per cent Coal fired from TWh in 2013 Q4 to 27.0 TWh. Gas fired generation rose 13.0 per cent from 23.2 TWh to 26.2 TWh. Nuclear 0 generation fell 22.6 per cent from 18.2 TWh to TWh, 2001due 2002to 2003 planned and 2006 unplanned outages affecting four EDF nuclear stations. 1. Other includes: Gas turbines, oil engines and renewables other than hydro. 2. Hydro includes Natural flow and pumped storage. In Mixed Q4, or wind dual fired and includes solar PV non-ccgt generation stations rose that can 4.6 be per fuelled by a combination of gas, coal and oil cent 4. from Wind included 10.6 TWh from 2007 to 11.1 TWh. Hydro generation rose 1.6 per cent. GW 5.38 In Table 5.8, data for the generating capacity for generators other than MPPs are shown The share of generation from coal decreased from 35.8 according to the industrial classification of the generator. For CHP, schemes are classified according per cent to the Source: in 2013 Q4 to sector that DUKES 30.3 per cent receives the 2014, in Q4. majority of p.121. Share the heat (as opposed to the sector in which the CHP of generation from gas increased from 24.7 per cent in operator was considered to operate). In 2013, the chemicals sector and the oil and gas terminals and 2013 Q4 to 29.5 per cent in 2014 Q4. Share of oil refineries sector each had 12 per cent of capacity, while engineering and other metal trades had a 3 generation from nuclear decreased from 19.3 per cent per cent share and paper, printing and publishing and food, drink and tobacco had a combined share in 2013 Q4 to 15.8 per cent in 2014 Q4. of 11 per cent. In 2013, 57 per cent of capacity was in the commercial and domestic sectors, an 11 The percentage share of generation points increase from renewables on a year earlier. (hydro, 10 wind and bioenergy) increased from 17.9 per cent in 2013 Q to 22.0 In addition per cent to tables in , Q4. This table was 5.12, due showing to installed capacity, disaggregated by connection increased type (high capacity voltage for or wind low and voltage) bioenergy and technology, generation. can be found on DECC s energy statistics website, at: The increased share of hydro and wind (which use little electricity on site), coupled with the fall in use of nuclear and Plant coal input loads, (which demand use a lot of electricity), and efficiency has led to (Table 5.9) a drop 5.40 in the Table industry 5.9 shows own the use maximum of generation load of met 18 each per year, load factors (by type of plant and for the cent system between in total) 2013 and indicators 2014 and of 17 thermal per cent efficiency. between Maximum demand figures cover the winter period Q ending and the Q4 following March. With the advent of BETTA (see paragraph 5.53), England, Wales and Scotland are covered by a single network and a single maximum load is shown for Great Britain for 2006 to Maximum load (demand) in the UK during the winter of 2013/2014 occurred on 25 November At 53,420 MW, this was 7.1 per cent lower than the previous winter s maximum on 12 December In 2013/14, the maximum load in Great Britain occurred on 25 November 2013 at
7 Context'for'recent'reforms:'what s'new?: Wholesale&market& Increase&investment&to&decarbonise& Renewables& Security&of&supply& Retail&market& Rising&prices& Fuel&poverty& Competition?&
8 The'objectives'of'UK'energy'policy'' : The&impossible&trinity:&& & & Competitiveness&& & Energy&Security&& & Decarbonisation&& The&other&ones:&& & Elimination&of&(energy)&poverty&& & Renewables&& & Green&jobs/economy/technology&&
9 UK'Decarbonisation'targets: UK&in&2014&GHGs:&X35.7%&relative&to&1990& Kyoto&Target:&X12.5%&by&2012;&UK&Target&X34%&by&2020& 2008&Climate&Change&Act:& 80%&reduction&by&2050& Climate&Change&Committee& Five&Year&Carbon&budgeting& Latest&projections:&90%+&decarbonisation&of& electricity&by&2030&& Latest&target:&X50%&relative&to&1990&by&2023X27.&
10 UK'Renewables'Targets: UK&committed&to&15%&target&for&renewables& contribution&to&total&ainal&energy&consumption& in&2020&(2009/28/ec)&(5.2%&in&2013)& The& target &is&for&c.30%&of&electricity&from& renewables&by&2020&as&part&of&the&above&(19.2%& in&2014).& Previous&2010&target&of&10%&for&electricity&from& renewables&(2001/77/ec)&missed.&only&7.3%& was&achieved.& Clearly,&strong&policies&are&required.&
11 Growth'of'Renewables'in'UK: Chart 6.1 Renewables share of electricity generation Share of total generation (%) 25% 20% 15% 10% 5% 0% Q Q2 Q3 Q4 Q Source: Energy Trends March 2015, p.48. Q2 Q3 Q4 Q Q2 Q3 Q4 Q Q2 Q3 Q4 Wave and tidal Solar PV Offshore wind Onshore wind Hydro Bioenergy In 2014, generation from o per cent, from 11.4 TWh in wind generation rose by TWh. Both incre increased capacity; avera for both years. Hydro generation increas earlier, from 4.7 TWh to a levels (in the main hydro higher than those of 201 years. In 2014, generation from per cent, from 18.5 TWh i Within this figure, gene increased from 8.9 TWh in cent) due to a second con to biomass; however, as generation from co-firing fe In 2014, 36 per cent of ren bioenergy, 29 per cent fro from offshore wind, and 9 solar PV accounted for generation compared to
12 ELECTRICITY'MARKET' REFORM:
13 EMR' 'Electricity'Market'Reform: Four&elements&proposed&in&December&2010:& 1.&Fixed&prices&for&low&carbon&generation&(CfDX FiTs)& 2.&Carbon&Price&Support&(CPS)& 3.&Capacity&Market&(CM)& 4.&Emissions&Performance&Standard&(EPS)& Draft&Energy&Bill&issued&in&May&2012,&legislated&in& 2013.& &
14 Origins'of'EMR'proposals: Nov&2008:&Climate&Change&Act&(passes&463X3&on&third&reading&in&HoC).& December&2008:&First&report&of&Committee&on&Climate&Change:& sets&up&electricity&as&lead§or&for&decarbonisation,&with&90%&per&kwh& decarbonisation&by&2030.& Electricity&identiaied&as&key&to&decarbonising&heat&and&transport.& 12&October&2009:&Committee&on&Climate&Change&First&Progress& Report&details&key&EMR&elements.& May&2010:&Coalition&Agreement,&somewhat&surprisingly,&speciaies& 4&elements&of&EMR.& Dec&2010&DECC&publishes&EMR&proposals & It&is&absolutely&clear&that&motivation&for&EMR&lies&with&Committee& on&climate&change,&5&year&carbon&budgeting&and&the&climate& Change&Act.&
15 Opening'remarks'on'the'electricity'market : Fundamentally,&the&question&behind&the&EMR&is&what*sort*of* market*it*would*take*to*deliver*secure*power,*renewables*and* carbon*reduction*simultaneously?* Economists&can&design&a*set*of&markets&to&do&this,&so&there&is&a& more&markets,¬&less&solution.&including:& Complete&power&markets& Supplier&nonXdelivery&penalties&for&residential&customers& A&comprehensive&carbon&market&(within&the&EU)& An&EU&green&certiaicate&market&(for& learning )& Nodal&pricing&of&network&access& Merchant&transmission&links& However&markets&do&produce&certain&risks&and&raise&(solvable)& distributional&issues.&
16 How'the'four'EMR'elements'fit'together: Need&to&achieve&carbon&and&renewables&targets.&Electricity&is&airst& sector&in&line&for&large&scale&decarbonisation.& CfDXFiTs&offer&price&(energy+carbon)&certainty&and&are&high& enough&to&support&low&carbon&generation&such&as&nuclear&etc.& CPS&needed&to&raise&price&of&carbon&for&fossil&generation&to& encourage&switching&and&have&added&beneait&of&reducing&cfd& payments&and&raising&some&tax&revenue.& Under&CfDXFiTs&and&CPS,&fossil&generation&gets&pushed&to&margin& and&has&low&plant&utilisation,&but&is&needed&to&back&up& intermittent&sources&such&as&wind,&therefore&needs&an&availability& payment,&via&capacity&market.& Then&just&in&case,&we&don t&get&price&based&incentives&right,&eps& ensures&that&high&co2&fossil&plants&do¬&get&built.&
17 ANALYSING'EMR:
18 (1)'CfDVFIT: Source: DECC (2011), Planning our electric future: a White Paper for secure, affordable and low carbon Electricity, p.38.
19 (i)'support'for'low'carbon'generation: The&reform&sets&up&of&a&system&of&contracts&for& differences&(cfdxfits)&whereby&the& government&would&contract&with&lowx carbon&generators&to&supply&electricity&at& aixed&prices&for&a&prolonged&period.&these& contracts&pay&the&generators&the&difference& between&the&average&wholesale&price&of& electricity&and&the&contract&price.&& &
20 The'argument'for'CfDs: The&argument&is&around&the&volatility&of&the&EUETS&price&for&CO2.&EUETS& is¬&volatile&if&hedged&by&a&simple&buying&strategy,&but&the&average& price&is&low.& CfDXFiTs&will&raise&the&average&price&of&generation,&however&no&real& evidence&that&it&will&reduce&the&cost&of&capital&(as&is&claimed).& Any&remaining&risk&is&transferred&to&the&consumer,&but&ultimately&the& government.&it&does¬&go&away.&& The&main&risks&for&nuclear&are&construction&risk&and&appropriation&of& cash&alows&once&built&(as&in&germany)&these&are¬&addressed.& CfDXFITs&are&still&subject&to&uncertainty&around&the&strike&price&of&future& plants&(e.g.&second&and&third&nuclear&plants).& In&the&end&the&theoretical&argument&for&CfDXFiTs&versus&a&price&of& carbon&does¬&pay&sufaicient&attention&to&the&theory&of&ainance.& New&CfDs&for&15&years&indexed&to&general&inalation&(CPI).&
21 Progress'with'CfDs: Hinkley&C,&35&year&contract&agreed&with&EdF&and&Chinese&investors& at& 92.50&/&MWh&(2012)&for&delivery&in&2023.& Est.& 1844m&p.a.&cash&alow&net&of&running&cost&and& decommissioning&fund&(decc,&2013,&costs)& NPV&of&Hinkley&C&discounted&cash&alow&from&2023:& & 19564&m,&at&10%&p.a.&for&35&years& & 31707&m,&at&5%&p.a.&for&35&years& This&implies&a&reainancing&gain&of& 12bn&if&on&budget&opening&of& plants.& This&is&equivalent&to&a& 28&/&MWh& i.e.&strike&price&could&be& 64.50&/&MWh& EU&did&push&back&on&reainancing&of&project.& Project&now&on&hold.&
22 Draft'strike'prices '( 1'='9'CNY) : Source: DECC
23 1 st 'CfD'Auction'results'Feb'2015: Source: DECC
24 (2)'Carbon'Pricing!" & The&reform&has&already&introduced&a&carbon&price&support& (CPS)&based&on&the&existing&climate&change&levy&(CCL).&This& involves&increasing&the&rate&and&coverage&of&the&climate& change&levy&to&effectively&increase&the&price&of&carbon& emissions&from&the&electricity§or&in&the&uk&above&that&in& the&rest&of&the&eu.&& && Began&April&2013&with&a&target&CO2&price&is& 30/tonne&(in& 2009&terms)& &forward&eua&price&+&cps&x&by&2020&(possibly& 70/tonne&by&2030).&However*CPS*now*capped*at* 18*/tCO2* (now*binding).*
25 CPS' 'a'theoretical'analysis: The&CPS&is&fundamentally&a&tax&policy.&It&needs&to&be&analysed&in& the&light&of&the&principles&of&optimal&tax&theory.& It&is&a&carbon&tax&implemented&on&electricity,¬&on&domestic&gas& or&any&other&source&of&co2,&and&hence&distorts&the&use&of& electricity&relative&to&other&energy&carriers.& The&CPS&distorts&international&competition&and&trade&in& electricity.&energy&intensive&industry&will&shift&to&continental& Europe&and&electricity&imports&(which&cant&be&taxed&on&trade& grounds)&will&be&encouraged.&this&is&simple&tax&arbitrage.& Diamond&and&Mirrlees&(1971)&show&that&industry&should&be& exempted&from&intermediate&goods&taxes&for&these&reasons.& The&CPS&directly&impacts&the&wholesale&price&via&raising&the&price& of&marginal&fossil&generation.&in&2015x16&it&will&raise&household& bills&by&5x11%,&and&revenue&of& 2bn,&making&it&difaicult&to&get&rid& of.&
26 (3)'Capacity'Mechanism' : & The&reform&has&introduced&a&capacity&mechanism&(CM)&to& contract&for&the&necessary&amount&of&capacity&to&maintain& security&of&supply.&this&involves&the&introduction&of& payments&to&generators&for&maintaining&availability,& supplementing&the&market&for&units&of&electrical&energy& that&exists&at&the&moment.&this&deals&with&predicted&low& capacity&margins&by&2018.& & Note:&The&amount&of&capacity&to&be&contracted&for&is&decided& by&the&government.&&
27 Theory'of'Capacity'Markets: This&is&the&theory&of&supply&and&demand.&In&most&capital&intensive&goods& markets&payment&is&for&production,¬&capacity.& Indeed&competitive&markets&strongly&incentivise&excess&capacity&(while& government&owned&industries,&usually&suffer&from&shortages&due&to& unwillingness&to&raise&ainance&for&new&capacity),&due&to&strong&nonxdelivery& penalties&and&duplication&of&reserves.& The&actual&issue&is¬&capacity&but&willingness&to&pay&to&avoid&interruption.& This&is¬&well&expressed&by&households&(in&the&absence&of&smart&meters),&but& can&be&captured&directly&by®ulatory&nonxdelivery&penalties.& What&is&clear&is&that&capacity&mechanisms&in&electricity&(e.g.&in&the&US)&only& seem&to&be&necessary&when&energy&prices&are&capped&at&arbitrarily&low&levels& (Texas&considering&raising&its&cap).&& A&case&for&capacity&payments&may&emerge&at&high&levels&of&renewables&but&only& to&encourage&entry&of&small&intermittent&generators&who&will&aind&it&difaicult&to& contract&with&fossil&generators&directly&for&back&up&generation.&in&such&cases&a& capacity&market&might&emerge&privately.&
28 How'much'capacity?: Source: National Grid (2014, p.50)
29 Capacity'Market'auction'design: CONE = Cost of New Entry Source: DECC and David Newbery
30 GB'Capacity'Market'Auction'for'2018/19: Source:
31 Capacity'auction'results: Target&53.3&GW,&with&2.5&GW&acquired&at&TX1.& EMR&Expert&Panel&on&capacity&mechanism&critical& of&calculation&of&capacity&requirement.&at&least& 2.3GW&of&interconnectors&available& Assumed&that&no&capacity&due&to&interconnectors.& Actually&should&be&2.3&GW&(or&62%),&by&2018&this& could&be&3.3&gw.& The&Clearing&Price&is:& &19.40&/&kW&/&year&& The&Aggregate&Bidding&Capacity&of&Capacity& Market&Units&awarded&Capacity&Agreements&is:& 49, &MW.&Cost:& 955m.&& So&probably&over&paid&by&at#least# 260m.&
32 & & (4)'Emissions'Performance'Standard'(EPS) : New&supercritical&coal&aired&generation&has&average&CO2& emissions&of&around&790g/kwh;&a&modern&gasxaired&power& plant&about&360g/kwh.&the&reform&introduces&an& emissions&performance&standard&(eps)&for&all&new&power& plants&of&450g/kwh,&designed&to&rule&out&the&building&of& new&coalxaired&power&plants&without&carbon&capture&and& storage&(ccs)&technology&aitted&(to&a&substantial&part&of&a& new&plant).& & Note:&that&new&peaking&plant&will&be&permitted&as&maximum& emissions&are&calculated&at&an&85%&load&factor.&
33 Emissions'Performance'Standard: This&is&a&backstop&command&and&control&approach&to& environmental®ulation.& However&it&does&introduce&an&instrument&which&could&be& ratcheted&up&to&eliminate&the&building&of&new&gas&aired&power& plants.& However&coal&prices&remain&very&low&at&0.772p/kWh,&with&gas& prices&at&2.026p/kwh&(decc,&qep321,&q4&2014);& At&45%&and&60%&efaiciencies,&the&fuel&cost&of&a&kWh&of&coal&and&gas& would&be:& 1.72p/kWh&(coal)&and&3.38p/kWh&(gas)&of&electricity& This&would&need&an&EUA&price&of&c. 38/tCO2&/&52&Euro/tCO2&to& make&gas&attractive.&
34 CONCLUSIONS:
35 What'Consumers'Will'Get'with'EMR... : With&EMR&package&(my&view):& & a.&&total&welfare&impact & & &Xve& b.&&distributional&analysis & & &Xve& c.& &Indirect&Impact & & & &Xve& d.& &Renewables & & & &35%& e.& &Decarbonisation & & & &None& f.& &Energy&Security & & & &Xve& g.& &Cost&of&Capital&and&Risk& & &Down?&
36 Conclusions'on'EMR'experience'so'far: CfD&auctions&look&good,&administered&contracts&look&bad.& Carbon&Price&Support&(CPS)&has&hit&predictable&problems& of&unsustainability.& Capacity&auction&has&been&politicised&as&predicted&and& been&unnecessarily&costly.& Emissions&Performance&Standard&(EPS)&may&be& preventing&investment&in&coal.& Pushing&UK&back&towards&government&as& single&buyer &of& generation &
37 Reading: EMR&Panel&of&Technical&Experts &(2014)&Final*Report*on*National*Grid s*electricity* Capacity*Report,&London:&DECC.& National&Grid&(2014a).&Electricity*Capacity*Report,*at& UK/Our%20company/Electricity/Market%20Reform/Announcements/June %202014%20Auction%20Guidelines%20publication/&& National&Grid&(2014b).&Provisional*Auction*Results:*TR4*Capacity*Market*Auction*2014,*at& /Provisional_Results_ReportXAmmendment.pdf&& Platchkov,&L.,&Pollitt,&M.&and&Shaordhadze,&I.&(2011),&The*Implications*of*Recent*UK*Energy* Policy*for*the*Consumer:*A*Report*for*the*Consumers *Association,&2011&at& ReportforCAFinal100511EPRG.pdf& Pollitt,&M.&and&Haney,&A.B.&(2013),& Dismantling&a&Competitive&Electricity&Sector:&The& UK s&electricity&market&reform,&the*electricity*journal,&vol.26,&no.10,&pp.8x16.&critique* of*government*emr.*
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