HINKLEY POINT. DILEMMAS FOR TWO GOVERNMENTS AND BRITAIN’S NUCLEAR SAGA CONTINUES.

Britain’s nuclear saga continues. The UK appears to be committing itself to a new generation of nuclear stations. It is making use of a French design and Chinese finance, and confidence ought to be inspired by the huge success of Electricite de France (EdF) in decarbonising the French power sector in the 1980s and 1990s, a generation ago. Public opposition to nuclear has declined with a growing awareness of its potential contribution to reducing CO2 emissions and mitigating climate change, and its importance is reinforced in the studies and reports coming from bodies such as the Committee on Climate Change and the Energy Technologies Institute. So what is going wrong? Why are there now doubts over EdF’s commitment to the project, its financial viability and the apparently very high cost of the Hinkley Point project to the UK consumer?

First, let us summarise some of the fundamentals.

Decarbonising the power sector remains a first priority in meeting UK climate policy and targets for reduction of greenhouse gases and carbon dioxide emissions. The importance of the emissions objective was underlined by the Paris agreement in December 2015, and despite the pre-eminent position of many climate sceptics in the Leave campaign, there is no sign of Theresa May’s new government reneging on those commitments. To do so would be wholly antithetical to the image of an outward looking Britain that the government is trying to restore.

The most influential energy projections point to a necessary and substantial role for nuclear in decarbonising the economy. These include those from the Committee on Climate Change and the Energy Technologies Institute. It needs to be said that they also generally assume development of carbon capture and storage (CCS). CCS funding was withdrawn as part of Osborne’s austerity programme in November 2015, to the distress of the energy industry and some justified outrage. If anything that merely increases the importance attaching to the nuclear contribution in future. Obviously future developments, eg in renewables, interconnection and storage, could in principle change these perceptions, but that is not yet a mainstream position.

The referendum vote changes nothing. It does not change commitment to carbon targets. Nor does it alter in any fundamental way the commercial interests of the UK and France, even though, along with our substantial reliance on interconnection, it emphasises the close interdependence of our economies. Each government has strong interests in advancing UK nuclear. In each case there may be significant elements of industrial strategy that sit behind official support for the project. France wants to maintain a leadership role in a strong European nuclear industry. The UK needs to rebuild some of its own credibility in the sector and will be hoping to provide at least part of the supply chain for any nuclear renaissance. It also needs the capacity to meet growing demand and its low carbon aspirations. If Hinkley makes sense and is “ready to go” then it is attractive. There are however big questions on whether the UK is paying a fair price, and whether the French have on this occasion chosen to back the right nuclear technology.

What is the EdF financial problem? In financial terms EdF can no longer be viewed as the unconstrained state monolith of yesteryear.  Its financial structure is such that, when viewed as a private company, it lacks the balance sheet strength to take on a major project and construction risk on this scale. However EdF remains 85% owned by the French government, and in spite of the noises that will be made about state aids, it is hard to see a project of this magnitude, and strategic and diplomatic significance, being scuppered by largely theoretical concerns about competition law. Whether the project continues to make technical and commercial sense is another matter.

And the technical problems? The French programme of the 1980s and 1990s was hugely successful, and arguably the outstanding example globally of a successful nuclear power programme. So the technical concerns over the Hinkley Point and Flamanville design might be a surprise. Why not replicate the earlier designs?  Unfortunately the world has moved on. With the hiatus over nuclear build in Europe, much of the previous experience has been lost and the key engineers retired. Changes in regulatory and safety requirements, possibly overdone, mean these are fundamentally new designs, not just modifications to tried and tested ones. Finally power stations such as Hinkley are not just pieces of nuclear technology. They are also huge engineering projects. Like many infrastructure projects, eg Channel Tunnel, they are intrinsically subject to the risk of big cost overruns. All parties, including the French and UK governments, should therefore be seeking the highest possible degree of reassurance that we can be confident the technical problems will be overcome.

A good deal for the UK? That is really a question about the price paid, and the details of the contract, including responsibility for unforeseen costs and liability for any failure to deliver on the promised outputs.  Comparison with current or recent wholesale prices is irrelevant, partly because they do not represent a sustainable long run price even for conventional power sources, and partly because the real question is about how to get to the least cost outcome for a low carbon system. Nevertheless there are strong suspicions that the UK may not have secured a good deal on Hinkley Point. If so this can be put down at least in part to a lack of negotiating and technical expertise in the old DECC, and possibly to ideological refusal to countenance direct UK government funding, which Nick Butler in the FT has estimated could have saved some 20% on the kWh price.

Alternatives for the UK if Hinkley Point flounders

Abandoning nuclear and reverting to new gas fired plant as a transitional measure looks an unattractive option in the context of low carbon targets, since these would risk early closure as emissions targets progressively tighten post Paris. Placing a heavier emphasis on carbon capture means reversing the foolish cancellation of funding in 2015, but this is almost certainly a necessary measure in any case, rather than a replacement for Hinkley.

Even if the decision is taken not to proceed with Hinkley, this is unlikely to be the end of the nuclear story in the UK. Further stations are anticipated, using Chinese technology and different designs. There is also increasing interest in smaller scale “modular” nuclear plant, which avoids many of the potential problems of large scale civil engineering, and relies on factory assembled parts where smaller scale and the benefits of replication can also reduce the risk of serious design flaws emerging at a late stage.

Whatever the outcome of tomorrow’s EdF Board meeting, we can expect to hear more about these issues in the months and years ahead. Doubts over the commercial choices and some of the decision making processes also lead neatly into some of the governance and “system architecture” issues that are gaining prominence and which will be addressed in this blog later this summer and during the autumn.
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I have learned a great deal about the history of the UK nuclear programme, and some of the background to the Hinkley story, from listening to talks given by Simon Taylor of the Judge School at Cambridge. Simon has a blog at http://www.simontaylorsblog.com/His new book on the subject is now available: http://www.amazon.co.uk/Fall-Rise-Nuclear-Power-Britain/dp/1906860319/ref=sr_1_1?s=books&ie=UTF8&qid=1456993863&sr=1-1

BATTERY CHOICE FOR POWER SYSTEMS. THE BENEFITS OF DIVERSITY

  

A colleague who researches battery technologies raised an interesting question. A lot of emphasis in battery research is placed on getting the highest possible energy efficiency, of which their Faraday or Coulombic efficiency is a major component. But what are the key parameters on which battery research should be focused to produce an ideal set of battery choices and options for the power sector? Faraday efficiency clearly matters but battery types have numerous technical and economic parameters, including weight, volume, charging and discharging rates, scalability, capital cost, losses in storage, physical degradation, and so on. The simple answer is ”horses for courses”; it all depends on the application. For power sector applications this takes us into some interesting questions of system economics, and the answers will differ for different geographies and different policy priorities. But there is room for diversity in battery technologies for power systems.

There are several parameters against which any battery or energy storage technology has to be judged and their relative importance may be highly context and application specific. The development of batteries for use in electric vehicles, for example, places a high premium on overall weight and volume and hence on energy density per kg or per litre. In low carbon power systems, the use of storage can provide big benefits in matching less flexible generation with consumer demand.  The mobility associated with high energy density can be a useful feature in local distribution networks, but for large scale application it is the impact on total cost that is the more critical factor. We can start to make some educated guesses about what the key parameters and trade-offs should be, especially when we start to consider the economics of batteries as part of a power system.

Key economic parameters in power generation are capital and operating costs. This leads to a familiar comparison in electricity economics, known as the cost polygon, in which the optimal balance between capital and operating costs is determined by the capacity utilisation (load factor) required of the generating plant. Plant choice for baseload or near continuous operation tends towards higher capital but lower fuel and running costs, and conversely for peaking plant towards lower capital but higher running costs.

Corresponding trade-offs apply to deployment of battery and other storage technologies. Capital costs dominate when the requirement is for a small number of expected charge/ discharge cycles in a year, for example for seasonal storage or as peak capacity. Battery capital costs imply they are very unlikely to be suitable for seasonal storage, at least in the context of current and currently anticipated battery chemistries. Seasonal storage remains one of the big unresolved questions for geographies with strong seasonal loads. The most promising avenues to a solution for seasonal storage are currently seen as forms of chemical storage (eg hydrogen or ammonia), heat storage (for heating purposes), or possibly hydro storage in favourable geographies, rather than batteries. Some of these options will have much lower overall energy efficiencies of around 70% or less, compared to the best batteries with Faraday efficiencies[1] around 100%.

Energy costs are more important for a daily or more frequent cycle. If the main requirement of storage is to flatten the daily load curve, then a daily or twice daily cycle means that much more importance attaches to running or energy costs, and hence the Coulombic efficiency of the battery.  

Prima facie it ought to be a simple matter to compare the economic benefits of a higher capital cost but more energy efficient battery with a lower capital cost but less efficient one. But there is a further question – what is the right way to assign a value to the cost of the energy that will be put into the battery when it is charged. This is a system economics question for the power sector in which the batteries will be operating, and the answer will not always be straightforward, for a number of reasons.

First, the question cannot be separated from an analysis of expectations as to how the system is going to operate and the states of the system when the batteries are called on to charge or discharge. The system marginal cost, for charging, and the system “value”, for discharging, will often vary considerably over the day and year. The cost may be zero or even negative when there is surplus generation, but very high at peak periods. So some analytical perspective is needed on future system operation. At the very least this implies some attempt at high level modelling of the future power system.

Second, for what are currently fossil based systems, costs and wholesale prices will provide only a limited guide to the valuation of energy saving. From a perspective of low carbon and climate policy objectives, which ought to inform a public policy assessment, it must be important to take account of the impacts of any choice on carbon emissions. Emissions have not historically been adequately priced to reflect their climate impacts and many European systems remain essentially fossil based, with fossil generation continuing to set the system marginal cost or wholesale price. So from this public policy perspective a heavy emphasis on Faraday efficiency looks to be fully justified on a relatively short to medium term perspective.

Third, if we look further ahead, to systems that will be based heavily or exclusively on low carbon generation sources such as renewables or nuclear, the question changes. It will be argued that batteries are often charged only when there is surplus renewable (or nuclear) power in the system, to be “spilled” into storage with a zero opportunity cost. In reality the system economics are not quite so favourable, and consideration only of short run marginal cost, ignoring capital requirements, is not sufficient. There will always be some premium on energy efficiency because higher efficiencies ultimately require a smaller quantity of total generating capacity and hence lower capital costs in generation.  But systems which can increasingly build in storage solutions are also likely to find a role for storage cycles with lower than daily frequency. This adds value to maintaining the option to deploy battery technologies which may be less efficient but have a substantially lower capital cost.

And where is this leading?

At least one battery firm has argued [2]that it is a “common myth that people would want to install battery storage to make money by buying cheap off-peak power and selling expensive on-peak power” – a gain that will often depend on very high energy efficiencies.  Instead the “fundamental value proposition” is the “capacity-like” properties of batteries, quick installation in constrained parts of the network, and rapid response to system demands on the grid.

It is therefore likely to be worth exploring alternative battery chemistries, especially if these have the potential to deliver much lower capital costs.[3] This provides power systems with more options, and there are likely to be plenty of conditions under which a lower energy efficiency is acceptable if it results in substantially lower capital costs. But the eventual choices will also be determined by the overall plant mix and the economic and operating characteristics of the power systems in particular geographies.

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[1] 100% Faraday efficiency does not equate to 100% energy efficiency, since there are other sources of energy loss in an electrochemical system.

[2] This particular firm has been developing zinc-air batteries, claiming a significantly lower cost per kWh of storage capacity than lithium-ion.

[3] It may be helpful to give a very loose idea of comparative capital costs and performance. The Dinorwic pumped storage facility in North Wales is estimated to have cost some £425mn to completion in the 1980s, with an energy storage capacity of some 8 million kWh. In today’s money this suggests a cost of around £ 100 per kWh, a number comparable to some projections of future battery costs.  Pumped storage operates at around 75% efficiency over the storage cycle.

LEAVING THE EU. ABOLITION OF DECC. A MAJOR CONCERN FOR CLIMATE POLICY?

One of my concerns over the referendum vote has always been that leaving the EU would reduce the UK voice in EU climate policy. This was never a vote of confidence in EU policy as such, but I continue to believe that it matters, both for the direct benefit of UK citizens and because it does, or did, provide a lever for the UK, which has been a world leader in climate policy, to make a greater positive contribution to global policy and to increase the chance of better global outcomes.

I was also concerned by the close connections, in terms of political philosophy, between the Leave campaigners, the neo-liberal and laissez-faire orthodoxies exemplified by the Institute for Economic Affairs, and the anti-science rhetoric of the climate sceptics.  Victory for the Leave side raised the spectre of much greater influence for this rather backward looking element of the British political establishment.

In consequence Theresa May’s shaping of her new government team has raised a lot of concerns for the future of climate policy in the UK. Stephen Devlin, environmental economist at the New Economic Foundation argues that:

“Abolishing the Department of Energy and Climate Change is a terrible move … and signals a troubling de-prioritisation of climate change by this government.”

This is a very understandable reaction but I am inclined to take a more cautious and less pessimistic view. The labels certainly suggest that climate policy will have less prominence, with DECC ceasing to be a stand-alone government department but ultimately this may matter far less than the ability of ministers to deliver on some very challenging questions. The positive side of the reorganisation is that energy is now placed in the context of overall industrial strategy, which the new government seems determined to take much more seriously than its predecessors.

Given the scale of the transformations that we can anticipate as a pre-condition for a low carbon economy, the importance of this linkage cannot be exaggerated. To list just a few of the bigger questions, the new minister will have on his plate some massive issues. These include:

·         The future of the Hinckley Point nuclear power station, and the nuclear programme in general.

·         Restoration of credibility to the UK’s plans for carbon capture and storage.

·         Future organisation of the power sector to cope with the coming technology. transformations affecting all aspects of energy use and production, and

·         How the UK motor industry responds to the challenge of decarbonising the power sector.

In this context merging energy and industry makes a lot of sense. This is particularly important as the weakness of relying purely on markets to deliver transformative change in the power sector, and more widely, becomes more and more evident.

Richard Black, director of the Energy and Climate Intelligence Unit offers a different view from that of Stephen Devlin:

“Greg Clark is an excellent appointment. He understands climate change, and has written influential papers on the benefits of Britain developing a low-carbon economy. …. Importantly, he sees that economic growth and tackling climate change are bedfellows not opponents – and he now has the opportunity to align British industry, energy and climate policy in a way that’s never been done before."

He adds that “… Theresa May has assured Conservative MPs that her government will continue to be an international leader on climate change, and it would be odd not to continue with that when all the most important new trading partners in our post-Brexit world, such as China, India and the United States, are themselves making massive investments in a clean energy transformation."

This last point is perhaps a key one. Issues of trade policy and trade negotiation will exert a sobering influence on some of the more excitable claims of the Leave camp on climate matters, including the trio of ministers now engaged in seeking to change our relationships with the rest of the world . The idea that the UK can afford to abandon its objectives for a low carbon economy, while the US, India and China press ahead, is simply not realistic.

There are also some questions to be resolved in the context of direct relations with other EU member states. Most obvious is the financing and construction of Hinckley Point. But we will also need to take care that our reliance on interconnections with Europe, now an important element of our security, is not compromised in future commercial arrangements and protocols. And we will need to discuss our participation in the EU carbon trading scheme, the EU ETS.  

Meanwhile Andrea Leadsom, who began badly at DECC by asking whether climate change was real but later promised that the UK government would in due course legislate for the zero carbon future promised in Paris, will be fully occupied at DEFRA.  Her new department may pick up responsibilities for climate adaptation from DECC, but she is likely to be more than fully occupied with explaining to farmers how referendum promises on agricultural subsidies are to be managed in the Brexit world.

So overall, leaving the EU can still be seen as a bad move in a context of global climate policy and international influence. But it does not necessarily have large negative or positive effects on the ability of the UK to manage its own low carbon transitions.

REACTION TO NEW UK GOVERNMENT. BREXIT STARTS TO UNRAVEL. LIGHT AT THE END OF THE TUNNEL?

The new UK Cabinet is interesting in several respects.

It places responsibility for a satisfactory Brexit fairly and squarely on the shoulders of those who argued for it most powerfully, notably Boris Johnson. His reputation as a buffoon, and the fact that he has managed to insult many of the most important people with whom he has to deal may make his task harder, but that is his problem first and foremost. "You broke it, you own it."

Fox and Davis will not find life any easier on the trade front. Several factors are becoming apparent.

 - There is no automatic reversion to WTO status. That is a Brexiteer illusion.
 - Many or most of our potential "new" trading partners will want to see an end to agricultural subsidies. This  may be a good idea in principle (though I'm less sure) but it will be a hard sell for the Tory faithful in Middle England.
 - Other trading partners, notably India, may value freedom of movement as part of the deal. This is ironic. We should be welcoming talented Indians to the UK but that is not what most of the Brexiteer followers voted to achieve. 
 - The appalling complexity of unpicking just about anything - and we potentially have to unpick everything - is becoming daily more apparent.

The leading Brexiters will have the unenviable task of explaining:

- why the concerns expressed by every shade of expert during the campaign have by and large been realised.
- why they are unable to deliver both free trade and control over the level of immigration.
- why the explicit "promises" made in the campaign are undeliverable.
- why the campaign was based on a number of deliberate falsehoods.

And the likely endgame? This is much harder to predict. I suspect May will refuse to trigger Article 50 until a very clear route forward is established. If there is any kind of agreement, with the EU and/or other others, I anticipate it will be put to the electorate either in a referendum or a general election. We may well end up with the default option, which currently looks like the best on the table, that of continued EU membership. But it all depends on how many bitter pills some of our political leaders are prepared to swallow.

An interesting feature is the obliteration of the neo-liberal or neocon influences in the new government. Austerity is abandoned for the time being, and we have promises of a more interventionist government, more emphasis on infrastructure, attacks on the "undeserving" rich and moves to greater equality and support for those regions that have been "left behind".

In these conditions some of the main threats to a positive and constructive UK climate policy look as if they have subsided, at least for the time being. Loss of a separate department for energy and climate change should be a concern but we shall have to wait and see. Retention of our connections with Europe should be an energy priority for the new government, not least because of our physical dependence on interconnection. With luck some of the damage caused by this ill-considered referendum can be repaired.

LOW CARBON NETWORK INFRASTRUCTURE. SELECT COMMITTEE ARGUES FOR BREAKING UP THE NATIONAL GRID.

This comment has now been re-published as an opinion on the Oxford Martin School website.

Even in the aftermath of the referendum, there are two power sector stories that (almost) stand on their own. The first, a Competition and Markets Authority investigation of the retail energy market (gas and electricity) was the subject of an earlier comment. The second, covered here, is the House of Commons Energy and Climate Change Select Committee on the case for breaking up National Grid. Both reports fail to take proper account of the impact we should expect from commitment to a low or zero carbon economy. The market and competition paradigms that have dominated since the 1980s now need re-examination and if necessary re-interpretation. I argued that a new system architecture, especially for the power sector, may lead us to promoting much more effective competition in retail supply. But in the case of the grid there are some powerful counter arguments, not against competition per se, but in recognition of the necessity for ensuring a strong National Grid to handle the transitions to a low carbon power sector.  

Select Committee makes the argument for breaking up National Grid

The Select Committee on Energy and Climate Change has in its report on low carbon infrastructure recommended the breaking up of the National Grid. One of the key complaints about the current structure of the power sector, and the role of National Grid in particular, is that National Grid suffers severe conflicts of interest, the most obvious being its ownership of profitable assets such as interconnection facilities, along with the responsibility for transmission and system operation, both of which are regulated as public service activities.

Prima facie this is a legitimate concern in the context of the power sector as it is today. In essential respects, competition, regulation and industry organisation all reflect development of the market paradigm established with the privatisation of the power sector in 1990. This was based on unbundling of the different parts of the power sector – generation, transmission, distribution and supply. Generation is a competitive activity, while transmission and system operations (as well as distribution) are natural monopolies that are granted to a private sector business in return for being subject to price regulation controlling the return they can make for their shareholders and the quality of service they provide.

First principles of regulatory economics dictate that there potentially serious conflicts of interest arise if a business is allowed to operate in both a regulated and a competitive business at the same time. A body such as the National Grid can, under these conditions, try to do a number of things to promote its own interest to the detriment of both its competitors and the public interest. These include:

·         moving costs from the competitive business (the interconnection assets) to the regulated monopoly, thus allowing their recovery as costs necessarily incurred to keep the system going. This ends up as a subsidy to its own competitive activities to the detriment of competing generators.

·         operating the system in such a way as to advantage its own assets, thereby increasing its revenues to the detriment of competitors and the public.

·         determining its investment programmes in such a way as to advantage its own (interconnection) assets.

·         investing excessively in transmission assets – “gold plating”- in order to increase the asset base on which it is allowed to earn its regulated rate of return (although this can arise even for a transmission only business).

There does not appear to be much evidence that National Grid is abusing its position in any of these respects.  Indeed a prime function of Ofgem, the regulatory body, is to monitor these activities and prevent abuse. National Grid says it has put safeguards in place to keep competitive and monopoly functions separate. Even so there is is a case for separation of activities, in order to eliminate even the possibility of abuse, and it this argument that underpins the Select Committee report.

The Counter Argument

There are however some powerful counter arguments. The drive to a low carbon economy is going to bring profound changes to the power sector. These start with questions of technology and scale but they have huge ramifications.  Conventional assumptions about markets, regulation and governance are coming under increasing pressure.  Some of these challenges sit at the heart of the Oxford Martin Programme on Integrating Renewable Energy, and it is worth rehearsing a few of them, drawing on some particular challenges for energy markets already identified within the programme.

1.    First it is increasingly governments that take the key decisions on investment. This is for some very powerful reasons that we identify and which reflect both climate policy imperatives and wider policy and market uncertainties. Given that governments lack any technical competence in the power sector, the role of organisations like the National Grid is more and more important.

2.    Second, traditional divisions between businesses are increasingly difficult to sustain. Generation and transmission investment have always been substitutes to some degree. To that we can now add storage of electricity. Storage has traditionally been viewed in relation to its generation potential (ie the competitive part of the sector) but is increasingly seen as an instrument in managing the networks, both transmission (high voltage) and distribution (low voltage). Segmenting what might or might not be a competitive activity will be increasingly difficult.

3.    Third, conventional wholesale market structures, designed for fossil fuel generation, are not really compatible with the technical and economic characteristics of low carbon power generation. Inflexibilities, intermittency, zero marginal cost and other factors render the old merit order an inappropriate basis for efficient dispatch of generating plant. Without major re-design these markets will provide neither a signal for the right kinds of new investment, nor a basis for efficient and secure operations. National Grid sits at the centre of this issue.

4.    Fourth there is still a great deal of uncertainty around the scale or scales at which the key operating and investment decisions in the power sector will be made. One plausible direction is a move towards much greater decentralisation of generation, storage and system control, combined with much more emphasis on the consumer as an active participant in energy markets. We may see much more localised approaches to network management. But the benefits of capturing diversity, in consumer loads, storage options and intermittent generation, are such that interconnection within national systems is likely to remain of fundamental importance.  This will not eliminate the role of the Grid; it may well enhance it. And the technical expertise embodied in the current structure is not an asset we should put at risk.

5.    Finally, there is always a balance to be struck in industrial organisation between the benefits of specialisation/ unbundling/ competition on the one hand, and coordination and the minimisation of transaction costs (between unbundled entities) on the other. Nowhere is that more important than the power sector, where real time balancing of loads requires strong elements of control at different voltage levels. The nature of the low carbon economy tilts that balance towards coordination, and a strong role for the National Grid.  

Conclusion

For these reasons I believe that a cautious approach is justified in looking at the future of the public service and utility functions carried out by the National Grid. This is not to dismiss the concerns of the Select Committee. Indeed we know that, to meet the challenge of a low carbon future, there needs to be a fundamental overhaul of the system architecture for the energy sector as a whole and the power sector in particular. But to embark on a re-organisation of National Grid, in the absence of a clearer vision of where we need to get to, and focusing on issues which in a sense are problems of the old paradigm, may be a mistake. To do so without a clear direction of travel will simply add to the policy uncertainties that the Energy Institute has already identified as a major problem for new investment.

ENERGY MARKETS INVESTIGATION. MISSING THE WIDER PICTURE. (AND THE ELEPHANT IN THE ROOM.)

Even in the aftermath of the referendum, there are two power sector stories that (almost) stand on their own. The first is a report on the retail energy market (gas and electricity), and the second is on the case for breaking up National Grid. In each case important issues are raised but both reports fail to take proper account of the impact we should expect from commitment to a low or zero carbon economy. The market and competition paradigms that have dominated since the 1980s now need re-examination and if necessary re-interpretation. This is the elephant in the room. A new system architecture, especially for the power sector, will lead us to more effective competition in some parts of the market, but a greater reliance on the virtues of coordination in others.

This blog comment deals with the first of these questions – the need for more effective competition in the retail supply market. A forthcoming comment will deal the second – the future role in the power sector for National Grid.

The Market in Retail Supply

The report of the Competition and Markets Authority (CMA) on its Energy Markets Investigation was published on 24^th June. It was suggested unkindly that the date was chosen to bury bad news on the day of the referendum result, but the main criticism of the report has been that this was not so much bad news as no news; ie the report, despite its painstaking analysis of a range of questions, was a mouse.

The investigation covered a lot of ground, but, to concentrate on a core issue, a major symptom of discontent with retail markets has been the wide variation in the prices paid by different consumers. This is for a commodity, where there is (mostly) little or no means of differentiating between suppliers on the basis of quality or the type of service offered. Price is everything, but, for a commodity, suppliers all face the same costs. Suppliers, it is alleged, have often been only too happy to exploit consumer inertia, or to confuse consumers over what should be a simple choice with a multiplicity of tariffs.

There are of course other elements to the investigation, including the operation of wholesale markets and the vertical integration of suppliers and generators, but overall the findings of the report have been widely criticised by Dieter Helm and others as a failure to deal adequately with the position of the large energy companies. One of the problems for the CMA is that its terms of reference focus on competition, and a heavy emphasis on “adverse effects on competition” (AEC).  A consequence of reliance on such a narrow criterion for the public interest is that the energy suppliers can mount a relatively simple defence, namely that what might be perceived as a market abuse or a less than honest treatment of consumers is unfortunately exactly what happens in some other “competitive” markets. In other words if competition can be assumed to be automatically in the public interest, then in the absence of clearly identified AECs nothing more can or should be examined. Dr Pangloss was Voltaire’s eternal optimist. No matter how badly the market might appear to be serving consumers, “all is for the best in the best of all possible worlds”.

Some of these criticisms may well be unfair, and the report does have some solid recommendations for improvement. However a more fundamental criticism is that the focus is too narrow for an industry that is about to face unparalleled and transformative change. There are much bigger issues to be considered, probably beyond the remit of the CMA, of which the most important is the role that retail supply competition should be playing in the promotion of new models for the ways in which customers purchase electricity. This is discussed in more depth on the LOW CARBON POWER page of this blog. The fundamental problem for current retail market structures, notably in electricity, is that they are incompatible with allocative efficiency and the role for consumers envisaged in most low carbon scenarios.

The biggest single problem does not lie in the behaviour of the energy companies but in the “load profiling” arrangements which were imposed on the market, largely for administrative convenience, when retail competition was first introduced in 1998. This eliminated at a stroke the incentives for suppliers to develop innovative approaches to consumer tariffs, and probably set back the cause of “smart metering” for a generation. The CMA places considerable faith in the UK's smart metering programme to resolve what should be seen as yesterday's issues, when the much bigger question is whether it is adequate for the future challenges of a low carbon economy.

The Oxford Martin Programme on Integrating Renewable Energy will be addressing some of these issues, but many of them are already the subject of lively debate. Difficult questions include:

·         how to sustain reliability of supply with a high proportion of intermittent sources of generation, and the role of the consumer, through demand management, in maintaining system reliability.

·         whether the conventional assumption of a common standard of supply reliability is either sustainable or desirable, and whether consumers should have the option of choosing different standards for different components of the service they receive.

·         whether simple time of day, or even real time, tariffs will be acceptable  to consumers.

·         the extent to which increased pressure on local distribution networks, with more battery charging and heating loads, as well as more decentralised generation, will propel the power sector towards new system and market architectures.

Retail electricity supply is therefore an area where competition and innovation should be playing a major role in promoting the transformation of the power sector, and indeed of the energy sector as a whole, but are not currently doing so. The biggest criticism of the CMA report  is therefore that it is looking backwards at the operation of a set of market models that will be increasingly seen as obsolescent, and ignoring, in public policy terms, the future directions of the sector.

BREXIT, LAWSON, SCIENCE AND CLIMATE MYOPIA. IS THERE A THREAT TO PARIS?

Climate sceptics and neo-liberal economists are calling for a scrapping of UK climate targets in the aftermath of the UK’s referendum vote to leave the EU. Should we take this seriously? The key points surely are that the UK has been a leader in climate policy, has not previously been constrained by the EU to any significant degree, and is an independent signatory to the Paris agreement. Several of the leading contenders to become Prime Minister are on record as supporting climate targets, and it is unlikely that a major backtracking on emissions promises would be consistent with an outward looking approach to trade, either with the EU or the rest of the world.

Predictably, in the light of the Brexit vote, Nigel Lawson’s Global Warming Policy Foundation has called for a de facto reversal of UK policy in relation to climate issues.  This is wholly unsurprising given that so many of the moving spirits in the Leave campaign – Lawson himself, Redwood, Rees Mogg, together with several of the small band of Brexit economists, and the Institute for Economic Affairs, have for many  years engaged in passionate denial of both the climate evidence and the climate science.

The reasons for the correlation are clear. Commitment to and support for neo-liberal views of unfettered free markets and a minimal state are threatened, both by a Europe that does not always share those views and by a global danger whose resolution depends on global cooperation. Should this further attempt to advance the neo-liberal agenda be a cause for any concern? The answer is almost certainly not. The costs of Brexit for the power sector may be high, but the climate policy imperatives are likely to be unchanged.

The Costs and Benefits of Brexit for the Power Sector

The analysis by OIES energy experts David Buchan and Malcolm Keay has made it clear that EU membership has not been a significant constraint on UK energy policy. So Brexit is unlikely to bring any significant benefits in terms of freedom of manoeuvre. There may be some small gain in terms of less rigorous application of state aid rules, depending on how close future trading relationships will be.

Hinckley Point nuclear station is already facing serious difficulties in financing, partly for the general reasons outlined on the Power Sector page, and partly because of a growing suspicion that the  French  (despite their outstanding success in the 1980s nuclear programme)  have on this occasion gone for the wrong reactor design. If this project fails it will not be due primarily to Brexit, although deteriorating relations with the French would clearly not help. 

In principle, participation in the EU ETS carbon trading scheme may well survive the negotiations. In fact I would expect that the EU might well make it a pre-condition of serious trade talks. This is a market mechanism that, if it works effectively, helps all the participants to meet their climate targets more efficiently and economically. On the other hand, for reasons I have argued in earlier comments, the EU ETS has not been a great success, and, often to the annoyance of the Commission, has been supplemented by other national policies (not just in the UK) which have further undermined its effectiveness.  

Interconnection investment is another matter. It is an important strategic component of policy for a secure UK power sector. It provides the opportunity for major cost savings and low carbon sources of power. However, as an international network, it does require substantial technical and planning coordination between countries and agreements on commercial, legal, technical and regulatory matters. This will almost certainly be more difficult, take longer and be significantly more costly to achieve.

The biggest financial cost of Brexit to the UK energy sector may well stem from loss of the UK’s AAA credit rating, raising the cost of capital in what is going to be a very intensive transformation of the whole industry. Withdrawal from Europe will therefore make it harder and more expensive for the UK to meet its emissions targets, mainly because it has already raised the potential cost of capital, and made it harder to promote efficient interconnection.

All this however is now water under the bridge, and any adverse (or positive) impacts have little to do with climate policy per se. Much more significant will be the loss of influence for the UK on climate policy, not just in the UK but globally.

Will the UK Reverse its Climate Change Policies ?

As argued in an earlier comment, prima facie the position is very simple. If the EU signed an agreement and the UK or any member state subsequently left, then that state would not be bound by the agreement unless it had also signed the agreement itself. If it had not signed it would not be so bound. If it had signed and the EU had not, it would also be bound. The UK, unsurprisingly, has signed.

If, as seems most likely, the momentum from Paris continues to grow, a failure to ratify could make life very difficult for the UK in future post Brexit trade negotiations both with the EU and with other countries. If this is appreciated by ministers, the possibility of non-ratification may seem a little academic..

Of the frontrunners for PM, Michael Gove, despite earlier attempts to stop climate issues discussion in schools, has admitted that climate change can have a “devastating” impact on societies.  Andrea Leadsom, a prominent figure in the Leave campaign, told the Commons in March that the UK would enshrine a net zero emissions target into legislation, in line with the global pact in Paris.

The real question though is intimately linked to the form of Brexit that evolves under a new PM or a new government. Brexit economists sometimes appear to favour a completely open UK, which eliminates all UK import tariffs and allows unrestricted access to the UK market, without reciprocation. While this may be an ideologically pure view, a more realistic assumption is that the UK will seek to retain existing trade arrangements with Europe (or as much as it can) and to get new agreements with the USA, China and others. Given the global momentum on climate policies (not least in China), and the clear evidence that these challenges will shape the politics and economics of the 21^st century, reneging on Paris would look like a bad move. I doubt that a politician as cautious as Theresa May would be quite so foolish.