Electricity Market Reform
It is estimated that due to plant closures and the need to replace and upgrade the UK’s electricity infrastructure, over the next decade the UK electricity sector will need around £110 billion of capital investment.
We need to reform the UK electricity market to attract the investment needed to replace our ageing energy infrastructure and meet the projected future increases in electricity demand (see page 70 of the Carbon Plan for details) from the electrification of sectors such as transport and heat.
Electricity Market Reform (EMR) is our initiative to make sure the UK remains a leading destination for investment in low-carbon electricity.
Consultation on proposals for implementation
The government has published a consultation on the detailed implementation of Electricity Market Reform (EMR), alongside key sections of draft secondary legislation to help illustrate policy proposals. These documents are a major milestone for the EMR programme, and will enable stakeholders to see the overall picture across EMR. The Energy Bill, which will go to Report stage in the Lords later this month, has laid the framework for reforms and these documents set out the detailed implementation package.
The consultation and associated documents set out implementation proposals for the key mechanisms for reform: the Contracts for Difference (CfDs) and Capacity Mechanism, as well as their associated institutional and transitional arrangements. It also seeks views on implementation of measures to manage any potential conflicts of interest for National Grid as the EMR delivery body.
The consultation will run for 11 weeks, closing on the 24 December 2013.
A related consultation has been launched regarding the regulations for the Contract for Difference, adding significant detail to paragraphs 177 to 191 of the consultation document published on 10 October. This new consultation has been published alongside the latest version of the CfD and will close on Friday 7 February 2014.
On 29 November 2012, the Secretary of State for Energy and Climate Change introduced the Energy Bill into Parliament, which implements the main aspects of EMR. The Energy Act achieved Royal Assent in 2013.
The House of Commons’ Energy and Climate Change Committee conducted pre-legislative scrutiny on the EMR provisions of the draft Bill. The committee published its report on the draft bill on 23 July 2012.
The government response to the committee’s report was published alongside the Energy Bill’s ‘Introduction to Parliament’.
Pre–Bill Introduction policy development
In December 2010 we launched a consultation to find out how we would need to reform the electricity market to meet our objectives for: * reducing carbon emissions * increasing the use of low-carbon technologies * securing energy supply * reducing the cost of energy for households and other consumers
We included our response to the consultation in ‘Planning our electric future: a white paper for secure, affordable and low-carbon electricity’, which was published on 12 July 2011.
A technical update to the white paper was published in December 2011.
Our EMR proposals are the outcome of extensive consultation and pre-legislative scrutiny by the House of Commons’ Energy and Climate Change Committee.
We published the EMR Overview Document and attached annexes alongside the Introduction of the Energy Bill
Spending review announcement
On 27th June, alongside Her Majesties Government Spending Review, Government announced further information on the:
- Contracts for Difference: Strike prices for renewable generation
- Contracts for Difference: Key contract terms
- Capacity Market: Detailed design proposals
- Final Investment Decision for Renewables: Update 2
- Response to Call for Evidence on Renewable Energy Trading
This package set out the Government’s proposed draft strike prices for renewable projects, key CfD contact terms and the plans for a capacity market.
The package includes an update on Final Investment Decisions for renewables which will make sure that investment in Energy Infrastructure continues ahead of EMR.
Draft delivery plan
The government published the draft EMR delivery plan, on 17 July 2013, for consultation. This was published before the House of Lords Committee’s scrutiny of the Contract for Difference and an update on the CfD Supplier Obligation. The consultation closed on 25 September 2013.
Draft Contracts for Difference
The Government has published revised draft terms for Contracts for Difference (CfDs) that build on those published in August. This follows the publication on 4 December of the final strike prices for these contracts and on 19 December the EMR Delivery Plan. Stakeholders are encouraged to feedback their views on the revised the draft terms using the response form provided.
The package sets out a number of changes to the draft contract clauses that further support the ability of developers to bring forward investment at lower costs to consumers. The package includes full form drafting on the key contract terms supported by an explanation of the changes and their rationale.
In August we published the first draft CfD Contract, a draft CfD allocation process and some supporting documents as part of a wider process of stakeholder engagement. The revisions to the contract terms reflect the feedback that we received from a wide range of stakeholders.
The final contract drafting will be published in the first part of next year, reflecting on the feedback received from stakeholders in the coming weeks. This will allow stakeholders to engage with the detail, and help us to ensure that the CfD contract is fit for purpose and good value for consumers. It will be implemented through regulations laid before Parliament in 2014.
Route to Market under CfDs
Independent renewable generators (those renewable projects that are not owned by the six large vertically integrated utilities or projects in which those large companies do not have a significant stake) are very important to the success of Contracts for Difference (CfDs) - they have a significant pipeline of projects and bring essential competition, diversity and innovation to the market. Currently, independent renewable generators typically rely on long-term Power Purchase Agreements (PPAs) to bring their power to market, and they may to continue to do so under CfDs.
DECC issued the Barriers to long-term contracts for independent renewable generation investment call for evidence in July 2012 in response to concerns raised by independent renewable generators over their ability to obtain long-term PPAs, and has subsequently commissioned further analytical work on this issue (please see the Off-taker of Last Resort Advisory Group page for more information). This highlighted that generators are finding it difficult to secure long-term PPAs on bankable terms, for a variety of reasons (explored in more detail in the report on PPA market liquidity prepared for DECC by Baringa LLP). Whilst DECC believes that the CfD should improve the availability of such PPAs, there is a risk that the market may remain constrained or not be sufficiently competitive.
DECC is taking forward two strands of work to address this issue:
Developing a proposal for an Off-taker of Last Resort mechanism. This would provide independent renewable developers with a ‘backstop’ route-to-market at a guaranteed minimum price, which should enable generators to use more innovative routes to market and bring greater competition into the PPA market, thereby lowering route-to-market costs. The Government has amended the Energy Bill to enable the Off-taker of Last Resort mechanism to be established, and has set up an advisory group of industry members to feed into the design process of the mechanism. More information is on the Off-taker of Last Resort Advisory Group page.
Undertaking a CfD Market Readiness project to smooth the transition to CfDs. For this, DECC is facilitating two industry-led working groups, reporting to a steering group, which are considering how power purchase agreement (PPA) contracts will need to change to complement the CfD, and are developing a set of best practice guidelines for PPA providers and generators. More information on this work is available on the CfD Market Readiness Working Groups page.
Energy Intensive Industries Exemption
Government is seeking to exempt energy intensive industries from the costs of Contracts for Difference. This is subject to consultation and state aid approval. BIS and DECC are working together to define the scope of the exemption, including who will be eligible, and the mechanism to deliver it.
The aim is to bring the exemption into force (subject to state aid approval) at the same time as EMR is implemented.
EMR Panel of Technical Experts
On Friday 22nd February 2013, the government announced that they selected the first EMR Panel of Technical Experts to provide independent scrutiny of the analysis which will inform the first Electricity Market Reform Delivery Plan and that the Panel has started its work. The Panel of Technical Experts is an advisory group of independent consultants who have been appointed to perform a specific and technical function as part of the EMR delivery plan process.
Working with our stakeholders
Stakeholder input plays a crucial role in EMR detailed policy design and preparation for implementation, and we have a range of channels and groups for ensuring participation from across the EMR stakeholder community. The EMR stakeholder guidance page provides guidance on the various EMR expert and advisory groups and other engagements. Presentations and papers from past stakeholder events are also available for download.
How EMR will work
The main elements of EMR are Contracts for Difference and the Capacity Market.
Contracts for Difference (CfDs)
These will stimulate investment in low-carbon technologies (including renewables, nuclear and Carbon Capture and Storage (CCS) by providing predictable revenue streams that will encourage investment by reducing risks to investors and by making it easier and cheaper to secure finance.
Capacity Market (CM)
This will help secure the UK’s energy supply by giving capacity providers financial incentives to provide reliable capacity – making sure the lights stay on at times of peak demand.
Benefits of reform
Delivering UK Investment
Electricity Market reform will deliver greener energy and reliable supplies that the country needs, at the lowest possible cost. It will transform the UK electricity sector to enable low-carbon generation to compete with conventional, fossil fuel generation.
On 27 June 2013, we published the key information which renewables investors are looking to see – the draft strike prices under Contracts for Difference, and the headline design decisions which impact on the value of the CfD contract.
The published strike prices enable a technology mix that is value for money for consumers, and are consistent with the caps set within the Levy Control Framework. They were developed based on analysis from the System Operator, National Grid, who assessed the impact of different strike prices on our objectives of tackling climate change, ensuring security of supply and minimising costs to consumers.
Stimulating the UK economy now and in the future
Attracting greater levels of investment to rebuild the UK’s electricity infrastructure will stimulate the economy and bolster the jobs market, as it will require a significant increase in skilled professionals to design, plan, manufacture, construct and operate the projects across the UK.
To make sure investment continues as we transition to EMR, the Government is committed to working with developers to enable final investment decisions to be taken ahead of EMR implementation. On 27th June 2013, we published ‘Update 2’ on FID for renewables which sets out more detail and the forward timeline for early investment projects.
Helping meet our carbon targets
To help us meet our legally binding carbon targets, it is critical that the power sector largely reduces its carbon emissions by the 2030s. Our EMR reforms will encourage investment in a range of low-carbon technologies so that they generate an increasing proportion of our electricity.
In addition to CfDs, a new Carbon Price Floor will more clearly indicate to the market our commitment to low-carbon electricity – as will the new Emissions Performance Standards, which will require any new coal-fired power station to be equipped with CCS.
Securing the UK’s energy supply
The UK’s electricity market has historically delivered secure supplies and comfortable capacity margins. There is a risk the investment needed to reform the electricity market may not be forthcoming, which will increase risks to the security of the UK’s energy supply. The Department of Energy & Climate Change (DECC) and the Office of Gas and Electricity markets (Ofgem) have produced models that suggest capacity margins will tighten towards the end of this decade, potentially to levels that significantly increase the risk to reliable supplies.
New capacity is needed to replace retiring coal, nuclear and older gas power stations and help ensure the continued reliability of electricity supplies. It is therefore crucial that we deliver new investment, and that the market brings this forward in a world where gas-fired plants run less frequently as we move to low-carbon forms of power.
A core element of Electricity Market Reform, the Capacity Market will incentivise sufficient reliable capacity (both supply and demand side) to ensure a secure electricity supply even at times of peak demand. Government will run the first Capacity Market auction in 2014 for delivery of capacity from the winter of 2018/19, subject to state aid clearance.
By supporting all forms of low-carbon generation, our reforms will also diversify the UK’s domestic energy supply. This will help improve the UK’s energy security and reduce reliance on energy imports. This will help keep the lights on in the UK and protect consumers against global spikes in fossil fuel prices. We are also taking action to reduce electricity demand. Reducing the amount of electricity the UK uses by being more efficient can help cut energy bills for consumers, reduce costs for businesses and bring down our emissions. Following a consultation earlier this year, we have tabled amendments to the Energy Bill so that a financial incentive to encourage permanent reductions in electricity demand can be delivered through the Capacity Market.
The Energy Bill includes legislation enabling the implementation of the Capacity Market. Alongside this, Government has been working with expert stakeholders to develop more detailed proposals for how the Capacity Market should work.
The detailed design proposals document, published on 27th June 2013, set out the how the Capacity Market will work in practice and the rationale behind the design choices.
Keeping bills down
With or without reform of the electricity market, household electricity prices are likely to increase over time.
Our analysis suggests that EMR will add slightly to household electricity bills in the short term (to help fund the necessary investment in low-carbon technology) but that by the late 2020s average household bills will be lower than they would have been without EMR. This will be because more low-carbon generation on the system will:
- reduce wholesale electricity prices
- provide better capacity margins (which also reduce wholesale prices)
- cost less to support compared to the Renewables Obligation As well as removing the exposure to volatile and rising fossil fuel prices, with the CfD ensuring that generators pay back when the price of electricity goes too high, it is more efficient at delivering low-carbon generation.
CfDs will make it cheaper to deliver low-carbon generation by around £5 billion up to 2030 because they will deliver cost of capital reductions that cannot be achieved through existing policy instruments.
We estimate that, over the period 2016 to 2030, EMR will result in an average reduction in consumer bills of between £38 and £53 compared to decarbonising using existing policies.
Our proposed strike prices also reduce over time, thus ensuring that Government support is targeted only where it helps a technology to become competitive. The ultimate aim of EMR is to create a competitive market in which low-carbon technologies compete fairly on price and so deliver the best deal for the consumer.