Utility Week

UTILITY WEEK | DECEMBER 2022 | 29 Generation Fossil fuels get a free pass It seems at least "counterintuitive" as Onward's Birkett puts it, for the government to exempt fossil fuel power plants from its new electricity generation windfall pro ts levy, especially at a time when the push is on to drive such heavily emitting capacity o• the energy system within a few years. However, Aurora's Howards sees the gov- ernment's rationale for exempting gas plants and the residual coal and oil capacity le• on the system. It is renewables and nuclear that have seen their revenues go up massively and costs by "a little bit", he says "There's a very clear-cut case that you're making a windfall increase in revenues and that could be taxed. With the gas generators, their input costs have gone up massively. The amount that they make per megawatt-hour has gone up, but the costs associated with that have also gone up." Birkett sees why the government wants to tread "extremely carefully" around gas- red generators, given the trading and operational risks caused by volatile fuel prices. "From a security of supply point of view, the worst possible thing that could happen is that the government caused gas- red power stations to withhold volumes from the market, so I can see why they've been extremely cautious." As an example of how things can go wrong, he points to Australia where the introduction of a price cap led to the country's regulator hav- ing to step in a• er gas plants withheld capacity from the market. However, an especially "bizarre quirk" as RenewableUK's Clark says, is the government's decision to provide oil and gas producers with investment allowances that will not be available for renewables. With low-carbon investment allowances for oil and gas produc- tion now higher than others, he points out that this means an ordinary wind farm won't get tax breaks while one developed to serve a North Sea rig will. eventually goes down below that level, then it's better to be in the European scheme," hesays. However, while the EU has le the timing of its windfall revenues scheme open-ended a er an initial six-month period, the UK gov- ernment said its version would run for • ve years. It is likely that the EU scheme will be rolled over beyond the initial six months, says Luke Clark, director of strategic com- munications at RenewableUK. "That is a very long period to apply a tax like this. There's a very big di„ erence 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 des- perately to ramp-up investment [in o„ shore wind]," he says, pointing to the US govern- ment's recent massive increase in support for its o„ shore 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 renew- ables to be via some sort of cost protection mechanism," he says. Merchant plant However, there will be less incentive to bring forward so-called merchant projects, like those procured under Power Purchase Agreements (PPAs), he says: "This will prob- ably 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." 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 you do it in slightly di„ erent ways," he says, observing that those contemplating a 10-year or a 15-year PPA may be happy to forsake big pro• ts now in return for locking in a medium to long-term • xed 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 o„ -taker 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 mer- chant 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 in¡ a- tion, which is not expected to fall much this year or next. "Unless that threshold is indexed, you could get a lot of • scal 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 per- ceive you going forward." Many thought 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 a future government maydo. "Now that the UK has gone down this path, maybe people will worry a little. "It's more about the way in which the government has done it rather than the prin- ciple 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 gener- ated across an industry that the government is relying on to deliver the tens of billions of pounds of investment required this decade to decarbonise the 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 • rstly to repeal the extraordinary powers for setting energy prices, which the govern- ment granted itself. The second is to crack on with the next CfD round." Clark agrees. "We have another CfD allo- cation round coming up. That's an opportu- nity to try and undo some of the harm and try to 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 gov- ernment proposals to create separate fossil fuel and low-carbon markets. He doubts, given that a general election is only just over two years away at most, whether the political will exists to push for- ward such a complicated reform that will not bear fruit for many more years to come. "There are some o¥ cials 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 signi• cant reforms, but I just don't see it happening for now." David Blackman, policy correspondent

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