Electricity distribution networks have broadly welcomed Ofgem’s decision on the methodology for setting the RIIO ED2 price controls but cautioned that they must be flexible enough to respond to changes and accommodate local decarbonisation ambitions.
As part of the decision issued shortly before Christmas, the regulator opted to set baseline spending allowances in reference to a centralised national scenario for meeting the UK’s 2050 net zero emissions target rather than allowing distribution network operators (DNOs) to develop regional scenarios in partnership with local stakeholders – the other main option it was considering.
Speaking to Utility Week, UK Power Networks chief executive Basil Scarsella said: “I agree with a central scenario, provided that it progresses towards achieving net zero by 2050. If it’s a national scenario that reaches net zero then it’s fine. Then it becomes an issue of how that gets split between the DNOs. There are good ways that I think we can do it.”
Ofgem also said it plans to make greater of use of uncertainty mechanisms than under the current price controls and perhaps develop a new automatic mechanism to enable DNOs to respond quickly to smaller deviations from its central scenario and avoid the delays that come with making decisions on a case-by-case basis for the low-value, high-volume projects that make up much of the sector’s workload.
Scarsella said it is important that these mechanisms work effectively so “each region, each local authority can move at the pace that they wish. I don’t think it will be acceptable for the electricity network to be the stumbling block”.
“As long as the uncertainty mechanisms work, which I expect they will, then it’s the right way to go,” he added.
Patrick Erwin, policy and markets director for Northern Powergrid, said the company would have preferred the alternative of decentralised regional scenarios developed from the “bottom-up” but said “we can cope with top-down as long as the top-down is informed by bottom-up and there are flexibility mechanisms in place that can allow for different places going at different speeds.”
“Of any player in the electricity system, the DNOs are always going to have the best viewpoint of what their stakeholders are planning to do or are doing,” he explained. “I think we have to feed into the scenario planning and I think we’re always going to have that view.”
He said Northern Powergrid’s patch of the country covering Yorkshire, the North East and north Lincolnshire has lots of heavy industry to decarbonise, presenting the opportunity to lead the way on technologies such as hydrogen, offshore renewables and carbon capture and storage.
Erwin said there are also “a load of very engaged local authorities who are seeing decarbonisation and net zero as an opportunity rather than a threat and are using this as a basis for their growth plans. There’s real ambition regionally and locally and real scope to decarbonise quickly.”
He continued: “If the country on average is going to decarbonise by 2050, some places are going to be ahead and some places are going to be behind so we have to allow for that in our work.”
Erwin acknowledged that it may be easier for Ofgem to operate the price controls according to a central national scenario but said this will require flexibility: “We all need a load of humility. No one knows how we’re going to decarbonise in detail… There’s lots of different potential pathways and a lot of those depend on what’s happening in the economy and how quickly technologies can be deployed, and given all of that, having a flexible set of arrangements is really important.”
Overall, Erwin described the decision as a “significant step forward”, adding: “We think there’s still a way to go but we’re starting the new year in a positive mindset.”
Electricity North West chief executive Peter Emery argued that the difference between the two main options considered by Ofgem is less significant that it may initially appear: “At a headline level, it could be construed that they’re not interested in local perspectives, but if you read into the detail of the document that is not the case.
“What they’re interested in is if there are any local deviations versus their average national picture. You need to demonstrate you’ve put the work in, you really understand it, they are credible and you can build a persuasive case to support it.”
He said Ofgem was “very explicit” that the use of a centralised national scenario to set baseline spending allowances “should not restrict DNOs from seeking input from regional stakeholders, which is great.
“In the small print, they also encourage us to take a proactive approach in supporting that engagement, which is exactly what we’ve been doing for the past two to three years and then giving consideration to what that means for us locally.
“They’ve then said, and you would expect this as well, that if you do come up with a slightly different pace of decarbonisation versus their central UK base scenario, you’ve got to provide persuasive evidence basically, and to be honest, we’ll need to provide that for ourselves anyway.”
He also pointed out that their plans are “not going to suddenly leap from one year to the next… If you’re doing this on a regular basis, every year there’s just going to be a slight adjustment on the tiller, rather than a big step change.
“Maybe after two or three years or five years, the outlook may look slightly different but year-on-year these changes will be small and I think working with Ofgem to bridge back to their central scenario is probably quite a useful discipline actually.”
Uncertainty mechanisms
Network operators in other sectors, whose price controls will begin two years earlier than electricity distribution – in April of this year – have previously complained that Ofgem has put too much spending into uncertainty mechanisms and often in cases where the need for investment is already well established.
Scarsella said he does harbour some concerns that this may happen in electricity distribution but they will be alleviated so long as the uncertainty mechanisms are designed correctly. He said DNOs should therefore work with Ofgem to develop the automatic mechanisms the regulator has suggested “so there is no ambiguity as to how they work”.
Echoing his comments, Emery said: “There are questions still to be answered but I think I am reassured that Ofgem have realised that if they want an industry that can respond to the market as a low-carbon transition develops, then the more that you can devolve that decision making, the better.
“Whilst there’s no perfect solution to all of this, ultimately reliance on uncertainty mechanisms provides a safety net for Ofgem and to a certain extent the DNOs. The more that you can have clear measures in place that allow devolved decision-making to take place at DNO level throughout the price control, the more slick the process will be and the more the consumer will benefit from that.”
He said Ofgem also appears to have taken onboard some of the criticism: “I do think Ofgem responded with quite a change between the draft determinations and the final determinations for electricity transmission and gas, and the wording in the guidance they issued before Christmas is travelling down that same path.
“It remains to be seen whether they end up at a place which meets that balance between Ofgem controlling things and putting some controls in place but allowing DNOs to take local decisions. We’ll have to wait and see but I think there’s a sign that Ofgem are moving in the right direction.”
Erwin said there is also reason to think this will be less of an issue for electricity distribution than for other sectors: “We are really strong believers that in a decentralised, democratised, decarbonised world, the electricity distribution networks in particular are going to be where the focus is going to be. In order to do all these things we want to do, we have to push more and more of the activity towards the grid edge, and I think slowly and surely people are coming around to that view.
“If you agree with that premise, then electricity distribution is rather different to transmission and gas distribution. It’s going to be key to facilitating decarbonisation and it looks like Ofgem is getting increasingly confident in that analysis, which means I think they will be taking a different approach to electricity distribution.”
In contrast to the gas distribution sector, where the future of the sector is more uncertain and dependent on a government decision on the decarbonisation of heating, “every scenario for decarbonisation needs significant investment in the electricity distribution sector”.
He continued: “The risks of underinvesting in the electricity distribution networks and system are much higher than the risks of overinvesting. If you overinvest, you might have a bit of extra capacity for a few years but you can always turn down your build rate. If you underinvest, then you won’t deliver low carbon.”
“That’s a massive cultural change and we’re certainly seeing a change in approach at the top of Ofgem,” said Erwin. “The messaging in the sector-specific methodology is better than the detail but I think that’s just a case of things catching up.”
He said this thinking is demonstrated by Ofgem’s proposals for a green recovery scheme: “That’s Ofgem saying to the electricity distributors, we would like you to identify a significant tranche of work you can accelerate with the objectives of stimulating low carbon and stimulating the economy.
“The very fact it does that really does show that change of approach, and I think it’s Ofgem recognising that the best thing it can do for customers is working with the energy system to facilitate that investment in low carbon”.
Local authorities
In its decision document, Ofgem noted concerns raised by respondents to its consultation that some local authorities may lack the technical capabilities and resources to fully engage with the planning process for DNOs.
Scarsella said this is an issue but one which can be overcome: “We’re working with in excess of 110 local authorities spread across our three networks and there’s no question that they all have different technical and commercial capabilities and their planning is at varying stages. Some have got very detailed plans and fully understand what they need to do. Some are not quite there yet.”
Nevertheless, he added: “I’m very confident that they will eventually get the skills that they need and they will come up with plans that will deliver.”
Erwin likewise said: “I absolutely recognise that local authorities are being really stretched at the moment and the response to Covid is obviously taking up a huge amount of politicians’ and senior leadership’s time.
“That said, I’ve been incredible impressed by all of those I’ve engaged with, how they’ve managed to maintain their thinking and work on decarbonisation throughout the Covid period.”
He said networks will need to help local authorities along the way: “It’s pretty clear to me that we are unusual in that we’ve got real capacity on the ground to think about system planning and I think going forward we’re going to have to put more effort into aligning planning the energy system with spatial planning.”
“One of the things both the local authorities and the networks need to do is put more resources into that joint planning so we are properly able to integrate local area energy planning… We’re on that journey but we’ve by no means completed it.”
Emery also agreed: “I think there is a wide variety of capability at the local authority level and I think that will come through in the evidence that DNOs will put through for various areas of the country… I think we’ve all got to live with the different levels of expertise and resources that different stakeholders have got and our plans need to flexible.”
He said the planning process for RIIO ED2 should spur local authorities to make improvements: “Our experience is, because we’ve engaged quite deeply in our patch, those that have been a little slower off the mark are realising how important it is to have a clear view and they’re working with us to try and develop that, and I think that’s actually a good part of the process.”
“If you engage with local stakeholders and they look at themselves in the mirror and are found to be wanting then they’ll do something about it. If you don’t engage, then they don’t even know they’ve got a problem. I think this whole process will help solve the problem”.
He also noted that the levels of investment required to support different ambitions will actually be relatively small over the five-year RIIO ED2 period: “It will get more stark if no action is taken in the near term as we get to the end of ED2 and I think this whole process will encourage local stakeholders to take the low-carbon agenda more seriously if they’re not already doing so.”