Utility Week - authoritative, impartial and essential reading for senior people within utilities, regulators and government
Issue link: https://fhpublishing.uberflip.com/i/807744
16 | 7TH - 13TH APRIL 2017 | UTILITY WEEK Policy & Regulation Analysis W hen the electricity supply industry was privatised in the early 1990s, the government considered that generation should operate within a com- petitive market, whereas natural monopo- lies, such as transmission and distribution, should be subject to price regulation. The thrust for competition was seen as essential to the development of the genera- tion market, which had been controlled by the two non-fossil fuel generators, National Power and PowerGen, along with British Energy. However, at flotation, the 12 privatised Regional Electricity Companies (RECs) were keen to invest in new combined cycle gas- fired turbine (CCGT) plants. And, the great white hope for the propo- nents of competition were the large corpo- rates including ICI, BOC, Hanson and British Sugar, all of whom had shown interest in investing in new generation plant. Sadly, all these names are part of corporate history. Although the "dash for gas" did take place in the 1990s, it was, with a few excep- tions, driven by existing electricity players. Once all 12 RECs had lost their independence by 1999, potential investors in generation became scarce. Fast-forward to 2017 and it is a very dif- ferent scenario as the government, due to wafer-thin plant margins, is desperately seeking new baseload investment as security of supply becomes the new mantra. Furthermore, it has committed itself to major reductions in carbon emissions and the consequential expansion of renewable power from a virtual standing start. The 1990s dash for gas has become the current "dash for subsidies", with parsimo- nious officials at the Treasury making the pivotal decisions – the age-old principle of "whoever pays the piper calls the tune". Such a scenario was exemplified by the Treasury's unprecedented Hinkley Point C subsidy ruling, whereby an inflation-proof Contract for Difference (CfD) was awarded at a base price of £92.50 per MWh – around twice the prevailing market price for electricity. Of course, under a pure market system and in the absence of any subsidies or simi- lar government support, new nuclear-build would not be feasible. Indeed, one of the glaring weaknesses of electricity privatisation was accommodat- ing nuclear power. British Energy effectively went bust subsequently and no nuclear new- build will be commissioned until at least 35 years aer privatisation. Treasury subsidies – rather than the mar- ket – also drive renewable generation invest- ment. Here are two egregious examples. First, offshore wind has become the latest preferred energy source. Hence, many such projects are receiving higher per MWh payments than even the infamous Hinkley Point C CfD. Second, biomass, which ticks many politi- cal boxes – renewable, a non-landfill reposi- tory for waste and suitable for conversion of defunct coal-fired plant – has enjoyed a gilded existence from government in recent years. By far the greatest beneficiary is Drax Group, which controversially imports vast amounts of US wood pellets to fuel its converted biomass plants; it receives huge public subsidies for doing so. Since new coal-fired plant is effectively precluded because of the stalled process to design commercially viable – and scalable – carbon capture plant, it is only in the gas- fired generation market where market forces prevail. Since the generation market structure currently makes it very difficult to operate a new CCGT plant on anything above a mid- merit basis, potential investors, such as SSE, have understandably stood back – active CCGT projects are few and far between. Generation aside, key regulatory deci- sions on the prices that National Grid can charge for its transmission business remain within the remit of Ofgem: the next price review will be implemented in 2021. Ofgem also makes key rulings on the prices that distribution companies can charge for taking electricity off the grid and delivering it to companies and individual households: such decisions have a material impact on electricity retail prices. However, the key price driver remains the price of gas that fires the CCGTs currently on the system. In recent years, gas prices have been volatile – and have been primar- ily responsible for the many end-user price changes. Furthermore, renewable power subsidies, whose overall cost rises every year, are also having a material impact on retail prices. In theory, electricity prices are still set by the market, with a few exceptions. Given that a substantial part of the overall retail bill is determined by gas input prices, transmission/ distribution charges and renewable power subsidies, the competitive segment remains relatively small. Moreover, following last year's Competi- tion and Markets Authority electricity indus- try enquiry, transitional price caps have been imposed for customers who are on a prepay- ment tariff. This shi in electricity industry decision- making has been marked in recent years as the government, via the Treasury, effectively drives the generation market. Originally, Offer – Ofgem's predecessor – was designated as the industry ring-master. While Ofgem has not been totally neu- tered, its key remit now focuses on undertak- ing periodic pricing reviews and managing various issues relating to industry standards. It lacks the ability to intervene directly in retail prices, although the prepayment changes will be overseen by Ofgem. Indeed, this impotence was illustrated by Npower's recent 15 per cent price hike – in direct defiance of Ofgem's public advocacy of no price increases. In summary, it is arguable now that major electricity generation investment is little more than a Treasury-managed part of the public sector. Nigel Hawkins, director, Nigel Hawkins Associates Who pulls the UK's wires? Ofgem now focuses on undertaking periodic pricing reviews and managing issues relating to industry standards, so who now drives major investment in electricity generation, asks Nigel Hawkins? "It is only in the gas-fired generation market where market forces prevail"