Utility Week

UTILITY Week 7th October 2016

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Page 22 of 35

UTILITY WEEK | 7TH - 13TH OCTOBER 2016 | 23 Finance & Investment Market view S SE's operational gas fleet currently stands at just under 4GW. But the ques- tion for many of us in the energy indus- try is, how can we deliver new investment in gas? It has been clear for some time that many of the UK's older coal and gas stations would close by the early 2020s and would need to be replaced by, among other things, new gas-fired capacity. Yet the UK has built just one large-scale gas power station since 2012 – and given the time it typically takes to deliver new capacity it is unlikely we will see any more before the end of the decade. There are a number of reasons for this. First, due to a number of structural changes in the electricity market over the past few years, gas has gone from an attractive investment opportunity to a loss-making business. These structural changes include reduced customer demand, changes to market price signals, and an increasing amount of renew- ables coming on to the system. The result is that gas runs less, and earns less when it does. Second, the Electricity Market Reform (EMR) initiatives introduced to address these structural changes have resulted in invest- ment in existing gas stations, but have not yet delivered investment in new capacity. The two key planks of EMR for gas inves- tors were the carbon floor price and the capacity market. In theory, the carbon floor price allows gas to run more by making coal generation more expensive. This provides a strong signal that gas has an enduring place in the electricity mix and helps to militate against swings in commodity markets. For new-build investors it also provides an economic benefit over existing gas plants, because new-build is more efficient. Along- side it the capacity market auctions are meant to underpin investment by paying power stations to be available at peak times. Some have criticised EMR for not bring- ing forward investment in new gas capacity. However, it is important to make a distinc- tion between investment in existing gas and investment in new gas. Before EMR there was no investment in either, and existing stations were closing and being mothballed. Since EMR, however, there has been a stronger signal to return mothballed capac- ity to the market, and to continue to invest in operational plant. At SSE we have returned over 1GW of mothballed gas since 2015 on the back of the capacity market and carbon floor price signals – so these have definitely brought forward investment in existing assets. The portents for new gas investment are now much more positive. This is because the main reasons the capacity market and carbon floor price have not encouraged investment in new-build gas capacity are now being addressed. The government has introduced a number of reforms to the capac- ity market, including a new auction for next year, which is a very positive move, and Ofgem is looking at the issue of "embedded benefits", which have been distorting the capacity market auction results. Alongside this there was an extension of the current carbon floor price arrangements in the last Budget to April 2021. The more the carbon floor price is le untouched, and the more visibility investors can be given on its time horizon, the more effective it will be. A robust carbon support mechanism provides confidence to the market, enhancing liquid- ity and allowing gas station owners better opportunities to hedge their output. This reduces risk and makes investment cheaper. Brexit means there is some uncertainty about the future of our participation in the internal energy market and the EU Emission Trading System, but in a time of uncertainty, providing a clear signal that the carbon floor price is here to stay until at least until 2025 would be extremely positive. The chancellor should therefore consider this as he looks forward to the Autumn Statement. Indeed, SSE is one of several signatories of a letter recently sent to the chancellor from companies that own and operate coal, gas and renewable electricity generation, who believe putting a price on carbon emis- sions, through the UK's carbon floor price, is a critical part of the UK's energy policy. I hope he will consider our message that the carbon floor price is one of the most impor- tant policy tools the government has to help industry continue to deliver reliable and lower carbon electricity cost-effectively. So overall the direction of travel is posi- tive. The mechanisms introduced under EMR are the right ones. They have already delivered investment in existing assets, and I believe the changes that have been put in place to improve them can deliver invest- ment in new build capacity as well. There is more work to be done, most nota- bly on the carbon floor price and embed- ded benefits, but I believe there is cause for optimism. Martin Pibworth, managing director, SSE Wholesale Getting more gas in the mix EMR and the capacity market have not yet resulted in the new-build gas capacity wanted, but Martin Pibworth argues that the direction of travel is right. ESTIMATED TOTAL CAPACITY, 2012-30 Capacity (GW) 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 Source: Decc analysis, 2012 CCGT Coal unabated CCS Nuclear Renewables Other 140 120 100 80 60 40 20 0

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