Relations between the renewables industry and the government are probably frostier now than they have been at any point since 2015 when new onshore wind farms were effectively barred in the English countryside.
The main reason for this souring is new Chancellor of the Exchequer Jeremy Hunt’s decision in last week’s Autumn statement to extend windfall taxes from oil and gas producers to low-carbon generators, including biomass, nuclear and renewables.
The new Electricity Generator Levy (EGL) will be charged on 45% of the revenues that such generators receive for output sold above £75/MWh. Power generated under CfDs (Contracts for Difference) will be exempt from the levy as will revenues from Renewables Obligation Certificates and Capacity Market payments.
“Inexplicable” and “bizarre” were two of the more printable words used to describe the government’s decision to exclude fossil fuel generators from the levy.
SSE chief executive Alistair Phillips-Davies told the BBC that the new levy meant there was “no doubt” that the company would have to review its investments in low-carbon generation.
He said: “It’s going to take money away from us, and therefore we won’t have as much to invest.
“To say that imposing a 45% windfall tax on some areas of our business will not impact investment plans is nonsense,” he added.
However, Ed Birkett, head of energy and climate at right-of-centre think tank Onward, reckons that the government has struck the right balance, given the tight spot that it has found itself in as a result of spiralling energy prices.
“It is not a cause for celebration but given the extraordinary profits being made in some parts of renewable sector, it’s inevitable that the government had to act, not least to offset some of the costs of supporting households with their energy bills.”
“We’ve ended up in the right place.”
Richard Howard, research director at the consultancy Aurora Energy Research, agrees, noting that it doesn’t “feel completely wrong” for the government to take back a slice of the revenues developers are earning when they are many times the sums expected when first investing in these projects.
Adam Bell, former head of energy strategy at the Department for Business, Energy and Industrial Strategy (BEIS), agrees: “Imposing a windfall tax on a sector that you want to expand rapidly is obviously bad: this was a less bad outcome than some of the things the government had in mind.”
One of the options that the government is understood to have been considering was a 100% tax on all revenues above a certain level, like the levy on all revenues being introduced by the European Union.
The EGL is also a better outcome for the industry than the Cost-Plus Revenue Limit, which was rushed onto the statute book under short-lived prime minister Liz Truss only to be now abandoned.
Describing this now defunct mechanism as “horrendously complicated”, Bell says: “It was entirely designed so the government could say it wasn’t implementing another windfall tax. It was bad policy designed to meet political need rather than designed to actually deliver something useful.”
Meanwhile, the government’s other wheeze: to get the industry to agree to voluntary CfDs for older projects that are now enjoying windfall profits, was proving “very, very hard to deliver”, he says.
And the industry now has some certainty to base its planning, says Howard: “Although there were some people who talked about this impacting on investor confidence, there are also some who just wanted clarity and wanted to send this down. At least they know now what the rules of the game will be.”
Ultimately, the UK still remains an attractive place to invest in renewable energy, says Howard, whose consultancy works extensively in the rest of Europe.
Crucially, he points out, the CfD regime is not within the scope of the new levy.
“The only way CfD holders will be hit by this is those who delayed the start date of their contract,” says Birkett.
The decision not to touch CfDs, combined with the EU’s decision to impose its own generation windfall tax, means that he feels “pretty optimistic” about the UK renewables industry’s continued ability to win investment.
Howard agrees: “It’s not like UK is the only place that’s doing this and everywhere else is standing still.”
Aurora has calculated that renewables companies will benefit more from the UK scheme as long as wholesale price stay above £225/MWh, which he expects to remain the case until around the end of 2024.
“For a couple of years, that means that the UK generators will get more upside. When the price eventually gets down below that level, then it’s better to be in the European scheme,” he says.
However, while the EU has left the timing of its windfall revenues scheme open ended after an initial six-month period, the UK government has said its version will run for five years.
While acknowledging that the EU scheme is likely to be rolled over beyond the initial six months, Luke Clark, director of strategic communications at Renewable UK, says: “That is a very long period to apply a tax like this. There’s a very big difference between six months and something potentially running to the middle of 2028.
“We’re not the only game in town and everyone around the world is trying desperately to ramp up investment (in offshore wind),” he says, pointing also to the US government’s recent massive increase in support for its offshore wind sector.
The decision to exclude CfDs also sends a powerful signal about the direction of travel that the government sees for supporting the development of renewable energy, says Bell: “It’s not a guarantee that you’ll never be hit by something similar, but it does very clearly indicate that government wants the future direction of travel for wind and other renewables to be via some sort of cost protection mechanism.”
However, there will be less incentive to bring forward so called merchant projects, like those procured under power purchase agreements, he says: “This will probably damage almost all merchant investment in the short term because you’ve got a very clear limit on your upside returns.
“Everyone will be trying to get into that (CfD) pipeline, rather than trying to go into merchant if they’ve got projects in development.”
However Howard is less sure that it is game over for merchant development.
“It doesn’t completely stop you from going for non CfD options: it just means that you do it in slightly different ways,” he says, observing that those contemplating a 10 or a 15-year power purchase agreement may be happy to forsake big profits now in return for locking in a medium to long term fixed price that is very attractive by historical standards.
“If you had a £75/MWh contract for 10 to 15 years, that’s probably pretty attractive. The offtaker is getting a very good deal right now for the power versus the £300 plus they would be getting in the market but they’re committing to pay that £75 for a long period. The notion that this completely stops merchant projects is wrong.”
There are also issues with how the new levy will work, says Clark, raising concerns about whether the £75/MWh benchmark for the levy will be adjusted in line with inflation, which is expected to be significant this year and next.
“Unless that threshold is indexed, you could get a lot of fiscal drag,” he says.
The imposition of the EGL will also have an impact on perceptions of the UK as a place to invest in renewable energy, says Howard: “It’s more about how people perceive you going forward.”
Many thought that the UK would “never go down” the road of making “retrospective changes”, like the windfall tax, he says: “A developer bringing forward a PPA might worry what else or a future government may do.
“Now that the UK has gone down this path, then maybe people would worry a little.
“It’s more about the way in which the government has done it rather than the principle of doing it.”
The process leading up to the introduction of the new levy has “not been a good one”, says Birkett, pointing to the alarm generated across an industry that the government is relying on to deliver the tens of billions of pounds worth of investment required this decade to decarbonise the UK’s energy system.
“Going forward, the government needs to build bridges with the industry,” he says.
“The two things that could do to do that are firstly to repeal the extraordinary powers for setting energy prices, which the government granted itself. The second one would be crack on with the next CfD round.”
Clark agrees: “We have another CfD allocation round coming up. That’s an opportunity to try and undo some of the some of the harm and try and reclaim the UK’s attractiveness for investment.”
In the longer term, meanwhile, Howard believes there is now “less chance” that the government’s wholesale reform through its Review of Electricity Market Arrangements (REMA) will happen.
“As we’re now doing the electricity price limit, I see a lot less need to do any sort of market splitting,” he says, referring to government proposals to create separate fossil fuel and low-carbon markets.
He doubts, given that an election is only just over two years away at most, whether the political will exists to push forward such a complicated reform that will not bear fruit for many more to come.
“There are some officials who are pretty keen on this but there’s also a bandwidth problem. There’s so much going on already.
“It’s hard to see how this government will make progress on it now over the next two years,”
Bell agrees, noting that his former BEIS policy colleagues are exhausted: “The REMA team very much want to bring in significant reforms, but I just don’t see it happening for now.”