After years of ad hoc interventions, the energy market has devolved into a tangled mess. The government has replaced consumers and suppliers as the real buyer of energy – picking winners and losers through a multitude of overlapping policies – its hand often guided by lobbyists. As a result, the decarbonisation of the energy system has been more expensive than necessary.
That was the diagnosis of Oxford economics professor Dieter Helm in his cost of energy of review published late last month.
“The scale of the multiple interventions in the electricity market is now so great that few if any could even list them all, and their interactions are poorly understood,” wrote Helm.
“Complexity is itself a major cause of rising costs, and tinkering with policies and regulations is unlikely to reduce costs. Indeed, each successive intervention layers on new costs and unintended consequences.”
His remedy? Radically simplify the policy framework and leave markets to do the rest.
Replace the smorgasbord of different fossil fuel levies with a single economy-wide carbon tax. Make the carbon price strong enough to enable the phase-out of subsidies through the Renewables Obligation, Feed-in Tariff and Contracts for Difference (CfD) mechanisms, and apply the tax to imports to prevent emissions being exported. Transform the capacity market into an equivalent firm power auction that would be open to renewables but would pay them according to their intermittency.
Once implemented the government’s involvement in the market would be limited to setting the pace of decarbonisation through the carbon price and the level of security of supply through the target capacity margin. The market would discover the most cost-efficient way to meet those objectives.
“The proposal for border adjustments is simply not credible, especially now that the government is engaged on a quest to tie up free trade deals around the world.”
Jonathan Marshall, energy analyst, Energy and Climate Intelligence Unit (ECIU)
In theory, at least, there seems to be broad support for an economy-wide carbon tax. Many agree that it would help to optimise the process of decarbonisation, ensuring that the cheapest and easiest solutions are implemented first.
In practice, however, many are also sceptical about the feasibility of implementing such a policy, especially on a political level.
“While Helm is right in saying that a more uniform and systematic carbon tax would be a good idea, introducing one has proven politically difficult in a number of countries,” said Energy and Climate Intelligence Unit (ECIU) energy analyst Jonathan Marshall.
“And the proposal for border adjustments is simply not credible, especially now that the government is engaged on a quest to tie up free trade deals around the world.”
Cornwall Insights associate Peter Atherton similarly tells Utility Week: “At the moment you have pockets of tax which are in some cases very high. If you move to an economy wide carbon tax presumably the rate would be relatively low, but it would be much broader based.”
It would likely be a regressive tax, with implications for equity. “Transitioning from where we are today to that would require a fair amount of political will,” he adds.
There are questions as well over whether a carbon price alone can incentivise the development of immature low-carbon technologies.
In the absence of subsidies, Helm does accept the need to provide some early-stage support for research and development, but writing in a blog ECIU director Richard Black argued this would leave a “yawning gap in the middle for technologies that need deployment support for a period of time – the sort of thing that has brought onshore wind and solar power prices down so quickly.”
“One of the issues about renewable deployment is that renewables are coming on stream at different rates of development.”
Alan Whitehead, Labour shadow energy minister
Labour shadow energy minister Alan Whitehead agrees that whilst Helm is “essentially right” on the need for a robust economy-wide carbon price, he is wrong in thinking it could replace subsidies at this stage.
“He’s addressed the problem of complexity, and there is a problem with complexity, but I think he’s tried to deal with that by oversimplifying the process,” Whitehead remarks. “One of the issues about renewable deployment is that renewables are coming on stream at different rates of development.”
He tells Utility Week that although low-carbon subsidies were never intended to be a permanent feature of the energy market, for the time being they are still a necessity. Despite the recent headlines about the low costs achieved by technologies such as offshore wind, “we’re still not there as far as a lot of renewables are concerned”.
So, what about the equivalent firm power auction?
Under Helm’s proposals the auction would be open to all generators, but they would be paid on the basis of their de-rating factor. This measure would reflect their expected availability during periods when the system is tight and would be influenced by makeup of the system at the time. Generators could improve their de-rating factors by contracting backup capacity or deploying co-located storage.
“This directly confronts those that cause intermittency costs with the costs they cause, just as a carbon price confronts those that emit carbon with the costs they cause,” Helm explained.
Atherton is supportive, saying there should be a way of pricing intermittency into investment decisions and that “clearly it makes sense to do it via auctions”.
“If you wrapped it up for all generators to do the same thing, then the differential in cost will be apparent, and the costs should fall to the generators that are causing those costs and it should be priced pretty efficiently,” he says.
By contrast, University College London professor of international energy policy and climate change Michael Grubb argues that such an arrangement “risks making the system less efficient, because backup should come from the cheapest source and only as much as the system overall needs.
“The cost of variability depends very much on the surrounding system, which is in flux.”
“We don’t expect other generators to pay directly for backup should their own turbines fail.”
His view is shared by Solar Trade Association head of policy Chris Hewett who says it is “obviously cheaper and more efficient for renewables variability to be handled at a systems level rather than on a plant by plant basis.
“Furthermore, the cost of variability depends very much on the surrounding system, which is in flux.”
Renewable Energy Association policy manager Frank Gordon falls somewhere in the middle, telling Utility Week that “in principle we would not be against a combined auction for all forms of power, which arguably should include nuclear projects as well, as long as recognition remains of the need for some support for emerging renewable technologies…
“So, for instance, minimum capacity set aside in the auction for emerging technologies, as has happened in the past with the CfD auction.
“The proposals on self-balancing might support a more whole-systems approach to bidding which could be welcome if it helped unlock new energy storage and flexibility capacity,” he adds, “but system balancing is likely to be most efficient on a national scale.”
Overall, Helm’s proposals do provide an elegant solution as to how to decarbonise the energy system in the most cost-effective way.
But, it only appears to work once low-carbon technologies are sufficiently mature. The problem is it’s not clear whether we have reached that point yet. Immature technologies will still need support in the meantime.
Intermittency does need to be priced into investment decisions and an equivalent firm power auction would provide a way to do this. Whether this is the best solution is open to debate. Some would certainly disagree.
There is also the issue of whether his proposals can even be implemented in the first place. Maybe the UK can overcome the challenges that have stumped other countries in trying to introduce an economy-wide carbon price. For the moment, at least, it appears unlikely.