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Reflecting on the UK government’s plans for electricity market reforms

Hydrocarbon Engineering,

The UK government published its White Paper on Electricity Market Reform earlier this week outlining its strategy for meeting the challenges posed by the closure of old, polluting power plants, the need to decarbonise the power market and provide security of supply. Some clear winners emerge from the reforms, but there are questions too.

It is the nuclear and renewables sectors that stand to gain the most, benefiting from both the introduction of a carbon price floor (CPF), which will eliminate the cost advantage that fossil fuels currently enjoy, and the introduction of long-term fixed prices for low carbon electricity. Unsurprisingly, EDF Energy, the main nuclear operator in the UK and the builder of four new nuclear plants, has already voiced its satisfaction with the White Paper.

The coal sector is hit hardest with the combined blows of the CPF and the setting of an Emissions Performance Standard that will effectively prevent the building of coal-fired power plants without CCS. Of the other fossils, gas is favoured with the White Paper clearly stating that gas-without-CCS will remain a key part of the energy mix to balance intermittent supply for renewables.

There are, however, some clear questions that are left begging answers. Here are a few that were raised in my mind after reading the proposals and seeing some of the responses to the White Paper from various industry voices.

Will energy intensive industries (EIIs) be offered any protection from rising bills caused by the carbon floor price?

British businesses are already complaining that without some form of insulation, EIIs may be driven abroad. This is particularly interesting should the CFP be much higher than the price of carbon on the EU’s emissions trading scheme. It raises the possibility that a short hop across to continental Europe could produce dramatic savings.

Will this not simply increase our reliance on gas as it become less and less economical to run other forms of fossil plants?

There does not seem much to prevent current owners of coal- and gas-fired plants, both assets that will see the cost of generation increase, to simply close up shop and move out altogether or switch to gas – neither of which would do much for security of supply. This would also hit the UK coal industry as domestic demand could potentially dry up before any new CCS-ready coal-fired power plants were up and running, causing issues with the future supply balance between imports and exports.

Would it not make more sense to delay fixing the long-term contracts until the first new nuclear plant has been completed?

Fixing a long-term contract without a clear idea of the final cost of producing low carbon electricity seems premature – essentially a licence for the nuclear plant owners (and this essentially means EDF Energy) to name their price.

Is the inclusion of both the long-term fixed contracts and CFP killing one bird with two stones?

If the aim of the exercise was to promote the development of low carbon electricity generation (i.e. to artificially distort the market in favour of nuclear and renewables), it is not clear why both a CFP and long-term fixed prices are required. (I have heard it suggested that it is a rather good wheeze to increase tax receipts at a time of general malady in public finances, but perhaps that is a cynicism too far?)

And so to the politics…

Finally, it would do well to briefly consider how this might develop politically. The White Paper may not have captured the public’s imagination, but they will surely notice as energy prices rise on the back of reform. This is inevitable and will be unpopular in a country where 20% of households are now categorised as being in fuel poverty (i.e. spending more than 10% of income on energy). If this is coupled with a loss of jobs as EIIs chose to migrate to regions with cheaper energy and carbon regimes, the politics of this reform could easily blow up.

One need only look at recent events in Australia to see how the politics of energy can come to dominate a government – which brings me to a final question. Can a coalition government already grappling with a multi-front battle over public sector spending, the reorganisation of the National Health Service and an increasingly shaky economic recovery, as well as a potential full-scale sovereign dept crisis in Europe, really see this through? The legislation required to push this reform has been scheduled for 2012. The UK is in desperate need of a clear energy policy and any step towards this should be welcomed: I am just not sure how far this White Paper will actually take us.

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