Wholesale electricity market split ruled out

Decoupling wholesale gas and electricity prices has been ruled out by the government as part of its review of electricity market arrangements (REMA), Utility Week can reveal.

Multiple sources close to the review have confirmed that energy secretary Claire Coutinho will officially sound the death knell for market decoupling early next week when she unveils the latest stage of the long-delayed REMA.

Proponents of market decoupling claim that splitting the wholesale market in two would end the current situation where volatile gas prices effectively set the marginal price of electricity on the grid.

However, Utility Week has learnt that a new consultation paper – due to be revealed by the Department of Energy Security and Net Zero (DESNZ) on Tuesday (12 March) – will dismiss proposals for wholesale market decoupling, which were a cornerstone of the original REMA package.

DESNZ is understood to have concluded that many of the benefits of cheaper renewable power are already being delivered by capped Contracts for Difference (CFD), which are providing an increasingly large share of the UK’s electricity and are not governed by the wholesale market’s marginal pricing arrangements.

Retaining the existing wholesale market structure will enable these benefits of cheaper green power to be delivered via CfDs without the need for a lengthy overhaul that could put off investors from UK electricity generation, the department has concluded.

As a result, proposals for market decoupling and the establishment of a green power pool will not be taken forward in next week’s REMA paper.

The initial REMA consultation was launched in mid-2022, outlining how the wholesale electricity market could be overhauled to make it more fit purpose in a less centralised and intermittent energy system.

The Department for Energy Security and Net Zero (DESNZ) issued a response to this exercise early last year but has yet to publish a promised second consultation paper to narrow down options.

As previously revealed by Utility Week, next week’s consultation paper will also rule out replacing the existing national wholesale market prices with nodal local marginal pricing (LMP) arrangements that more accurately reflect the costs of generating electricity in different parts of the country.

Instead the paper will outline two less radical options.

The first is zonal pricing, a less granular version of LMP than nodal.

The second is what DESNZ is understood to be describing as a “business as usual plus” option, which would retain a single national wholesale price with more emphasis on providing locational demand signals through network tariffs, like improvements to the TNUoS (Transmission Network Use of System) regime.

The issue of nodal pricing has divided the sector with large generators, like RWE and Scottish Power, strongly opposed but other parties, like the Energy Systems Catapult (ESC) and Octopus, very pro the concept.

Ben Shafran, head of markets, policy, and regulation at ESC, said: “If there’s a package based around zonal pricing, we would be very keen to work with DESNZ, Ofgem and the national Energy System Operator and others to make sure that can be really fleshed out and the best version put forward.”

Supporters claim locational pricing could save tens of billions of pounds in constraint payments and network reinforcement costs by improving the efficiency the electricity system and incentivising the co-location of generation and demand. Critics argue that these benefits are overstated and that introduction of locational pricing would bring massive disruption and uncertainty for investors.

Octopus Energy, one of the most visible proponents of locational pricing, has argued that national pricing can often result in interconnectors exacerbating network constraints, for example, by incentivising exports to France when there is already insufficient generation in the south of England.

For this reason, Ofgem recently declined to provide ‘cap and floor’ support for six interconnector projects with a combined capacity of 7.5GW.