Lessons From The U.K Cost Of Energy Review

Contributed by Robert Lyman  © 2017

The United Kingdom was the first country in the world to set a long-term, legally binding target for greenhouse gas emissions reduction. The Climate Change Act CCA) commits the U.K. to reduce emissions by at least 80% by 2050, and sets a framework for the setting of rolling five-year carbon “budgets”. Parliament approved the Fifth Carbon Budget in 2017, for the period 2028-32 at a 57% reduction on 1990 levels.

According to the U.K Committee on Climate Change (CCC), U.K. emissions were 42% below 1990 levels in 2016. The first carbon budget (2008-2012) has been met and the country is on track to meet the goals of the second (2013 to 2017), and the third (2018 to 2022). It is not on track to meet the goals of the fourth, from 2023 to 2027. Most of the reductions have occurred in the industry and power sectors.

The U.K. government has come increasingly under pressure from both industry and consumers because of the high costs of the emissions reduction efforts. Accordingly, it commissioned a review led by Professor Dieter Helm of Oxford University with a mandate to review and report on how to meet four competing objectives:

• To continue making emissions reduction in line with the carbon budgets;
• To ensure security of electricity supply;
• To attain the lowest electricity costs in Europe for households and businesses; and
• To do this at minimum cost and without imposing further costs on the exchequer (i.e. on taxpayers).

The Helm Report was finalized and published in October, 2017, and can be seen here:

http://www.biee.org/wpcms/wp-content/uploads/Cost_of_Energy_Review.pdf

Dieter Helm is an economist specializing in utilities, infrastructure, regulation and the environment. He has a reputation as a skeptic about renewable energy, but his recent book, The Endgame for Fossil Fuels, makes it clear that he is even more skeptical concerning the benefits of oil, natural gas and coal. From reading the report, one can conclude that he also is extremely optimistic concerning the pace at which new energy technologies will be proven in research, quickly commercialized and disseminated at much lower costs than current energy technologies.

Main Findings and Recommendations

Professor Helm’s main findings and conclusions and recommendations are these:

“The cost of energy is too high, and higher than necessary to meet the Climate Change Act (CCA) target and the carbon budgets… Prices should be falling, and they should go on falling into the medium and longer terms.

The scale of the multiple (government) interventions in the electricity market is now so great that few if any could even list them all, and their interactions are poorly understood. Complexity is itself a major cause of rising costs, and tinkering with policies and regulations is unlikely to reduce costs. Indeed, each successive intervention layers on new costs and unintended consequences. It should be the central aim of government to radically simplify the interventions and to get government back out of many of its current detailed roles.

The legacy costs from the Renewables Obligation Certificates (ROCs), the feed-in-tariffs and low carbon contracts for difference (CfDs) are a major contributor to rising final prices, and should be separated out, ring-fenced, and placed in a “legacy bank”. They should be charged separately and explicitly on customer bills. Industrial customers should be exempt.

The most efficient way to meet the CCA target and the carbon budget is to set a universal carbon price on a common basis across the whole economy, harmonizing the multiple carbon taxes and prices currently in place. This price should vary so as to meet the carbon targets. It would be significantly lower than the cost of the current multiple interventions.

There should be a border carbon price (i.e. an import tariff equal in effect to the domestic carbon price) to address the consequences of the UK adopting a unilateral carbon production target.

The FITs and other low carbon CfDs should be phased out and merged into a unified equivalent firm power (EFP) auction. The costs of intermittency will then rest with those who cause them, and there will be a major incentive for the intermittent generators to contract with and invest in the demand side, storage and back-up plants. The balancing and flexibility of markets should be significantly encouraged.”

He goes on to recommend major changes in the institutions (i.e. utilities, system operators, and regulatory bodies) that now manage the UK electrical energy system.

In the body of his report and in the Executive Summary, Professor Helm offers strong criticism of the way past and present British governments have managed the electricity system, criticism that will sound familiar to those who have witnessed recent “Green Energy” policies in Canada.

“In the current decade, the government has moved from mainly market-determined investments to a new context in which almost all new electricity investments are determined by the state through direct and often technology-specific contracts. Government has got into the business of ‘picking winners’. Unfortunately, losers are good at picking governments, and inevitably – as in most such picking-winners strategies – the results end up being vulnerable to lobbying, to the general detriment of household and industrial customers.

In determining not just the level of new capacity, but also the composition of the low-carbon portfolio, the government started out with some of the most expensive technologies first, and it could be argued that since then it has at times been exploring even more expensive options. The result is that British households and businesses are locked into higher renewables and other low-carbon generation costs than they need to be to achieve the decarbonization objectives for the decades to come.”

Comments

In effect, what British governments have done through their complex schemes of subsidizing solar, wind and other renewable energy technologies for electricity generation has been to finance the large scale deployment of largely immature technologies. They did so by awarding each technology a price for the electricity it generates high enough to make it profitable, then guaranteeing that price, indexed to inflation, usually for 15 years (Ontario has followed a similar practice only for 20-year contracts). The people advising the civil servants on the price required to make each technology profitable were often the businesses backing that technology.

The standard excuse for going straight to full-scale deployment of immature wind and solar technologies is that it was necessary to bring down costs. Yet, as Peter Lilley of the Global Warming Policy Foundation in the UK pointed out, “most new technologies – computers, mobile phones, gas turbines and, perhaps most telling, fracking – have rapidly reduced their costs without government subsidizing large-scale deployment. Making it profitable to deploy immature forms of wind and solar may have slowed, rather than accelerated, cost reduction.”

One of the most interesting of Helms’ recommendations is that in future renewables suppliers be required to go through a competitive bidding process in which they are not given an unfair competitive advantage over suppliers of firm electricity supplies. He proposes that they be required to bid on an “equivalent firm power basis” – in other words, they must contract with a generator or storage company able to provide electricity when there is no wind or sun. The “system costs” imposed by intermittent energy sources would be removed from other suppliers and ratepayers and placed squarely on their own shoulders. That would impose a true test of “grid parity” pricing.

Those skeptical about the thesis that humans are causing catastrophic global warming will find much to disagree with in Professor Helm’s approach. Given his mandate, he did not question the underlying science. He accepted without question that the UK government should make a unilateral commitment to massively reduce emissions at great cost with no assurance that the developing countries, where all of the global emissions growth is occurring, will do the same. He offered a means a protect British businesses from competition from foreign suppliers that do not face carbon taxes, but ignored the effect of carbon taxes and other climate policy-related costs on the British firms that must export to survive. He took as given that several new technologies that would radically reduce emissions or solve the intermittency problem – like system scale battery storage – are just around the corner and will be rapidly developed and disseminated. He implicitly trusts governments to make good use of the hundreds of billions of pounds that they would take in through carbon taxes rather than spending it on politically favoured causes, groups and industries.

For all that, his clear articulation of an alternative approach to managing energy transitions in the power sector should be welcomed. He offers a market-based approach that would be far superior to the one currently followed in the UK (and in Ontario and Alberta for that matter). His preference for simpler policy approaches using fewer policy instruments with less likelihood of duplication and unintended effects should be welcomed by all who value greater transparency and less waste in public administration.  His attacks on the special favours and privileges granted to the wind and solar industries, part of the “climate industrial complex”, were on target but certainly not welcomed by the firms in those industries.

It may come as no surprise, then, that the Helm report has met with deafening silence in the media and in the UK Parliament. The status quo, while far from cost-effective, has far too many defenders.