ELECTRICITY TARIFFS IN A LOW CARBON WORLD

 

We can start from a few basic principles and realities.

 

1.     Spot markets as conceived in the UK are increasingly irrelevant and/or dysfunctional. Originally conceived to replicate the optimisation of the merit order of fossil plant, and designed by the operators of such plant, they provided price signals consistent with efficient operation of an existing collection of generating plant. The provision of signals for inducing the right quantities and types of investment were always more problematic and for some time spot markets have increasingly been seen as wholly inadequate for this purpose. However we now need to recognise that with low carbon systems based around renewables, nuclear and storage, they will increasingly be irrelevant even in the first function, that of price signals that result in efficient least cost operations.

 

2.     What should really matter to us is not pricing structures in the wholesale market per se –  more or less a legacy structure of institutional arrangements in need of serious reform - but the nature of the tariffs that get passed through to final consumers. We should try to follow the general economic principle that the structure of tariffs needs to reflect the structure of costs. Failure to do this almost invariably results in major economic distortions that come back to bite us, through adverse selection and other unintended incentives and consequences. Current and recent institutional and structures and regulatory approaches have not encouraged more cost reflective tariffs.

 

3.     Reliability planning is fundamental, particularly as electricity expands into heating and transport (EVs), where the security/reliability requirements are very different from those of “traditional” load. The old VOLL approach is no longer appropriate since we really need very different types and definitions of reliability in the new world. Addressing reliability questions, in terms of what we are prepared to pay for, is essential.

 

4.     At least for domestic and smaller consumers, politically the most important category, a very high proportion of costs rests in the provision and operation of transmission and distribution. These are network costs which are essentially fixed costs that do not vary much (on a long term basis) with the volume of throughput. These are however recovered, typically, by averaging over kWh supplied. This method is widely accepted as “fair” and equitable, but will inevitably produce some major distortions. Other approaches are possible which are more economically efficient and can do a better job on redistribution objectives. 

 

5.     Metering, communications, control and information technologies allow for a range of feasible tariff options that would have been unthinkable a few decades ago. These include supplier managed loads, choice over reliability standards, and charging by type of use, as well as more familiar ToD pricing and load management techniques. These are of much greater significance in a low carbon world when there is less flexibility in generation and therefore there has to be more flexibility in either consumption or storage.

 

6.     There have been particular concerns expressed that prices can be set by, for example, very high spot prices dictated by the marginal (gas) plant when gas prices are high, even though most of the power may be coming from low cost renewables. The analogous situations in traditional “vertically integrated” power systems arise when incremental growth is met through different generation technologies, and it can work both ways. For example load growth in some countries can exhaust cheap hydro, and utilities, if they can price at long run incremental  cost (LRMC), can then enjoy a potentially large economic rent from their legacy plant. Legacy costs or surpluses (as an offset) can of course be put with other fixed costs if it is decreed that they have to be recovered from consumers.

 

7.     Economic efficiency and the requirement for adequate revenue generation are clearly not the only considerations. Political acceptability and distributional issues are also key. There are no trivially easy solutions but there is a lot that can be done to improve matters in the future.

 

8.     My idealised solutions rest heavily on technical  assumptions about metering, communications and control systems, but might include some combination and selection from the following:

 

·      Recovery of far more of fixed cost through other “distributional” means, eg via linkin standing charges to property values (cf water), more use of rising block tariffs, and type of use tariffs. 

·      In addition to the above means, price inelastic EV charging might legitimately be expected, as a premium use, to carry a higher burden of infrastructure cost than price elastic and politically sensitive heating load, where we need low unit rates to encourage a switch to heat pumps.

·      Recognition that it is really only the “traditional” loads that need the instantaneous supply response that underlies the VOLL approach, and also dominates conventional definitions of reliability. We need different conceptions and definitions of supply reliability especially in systems that rely on storage. 

·      Consumers will place different values on reliability depending on the application, and this needs to be reflected in reliability planning and in tariffs.

·      Consumer options to designate certain uses as “supplier managed”, with an appropriate tariff incentive for a lower unit rate.

·      Differentiated reliability standards for different uses, with selected uses (eg lights, TV, computer) always the most reliable; default to this standard for less vital services available at a premium.

·      Various methods for reflecting periods of “system stress” into tariffs - eg the French “red light” approach.

·      Continued development of possible time of day or seasonal pricing.

 

WHAT ARE THE REAL ISSUES WITH LIFESTYLE AND CLIMATE POLICY?

 

Arguments about the supposed war on motorists operated by a Labour London mayor, with ULEZ, the Welsh government with its 20 mph speed limits , and, allegedly, its  planned extension to England becomes ever more bizarre, as do the allegations of a prospective tax on meat, the likely household cost of replacing gas boilers, and anything that the culture warriors of the Tory party think can be turned into a populist rallying cry. So perhaps it’s time to reflect on what are the elements of truth about lifestyle and climate, and what are simply creative approaches to reality, or lies and falsehoods as they might be called by the less charitable.

 

Let’s deal with some of these in turn.

 

ULEZ

 

Actually this has little or nothing to do with climate policy. It was first mooted as a sensible proposal by Tory London Mayor Boris Johnson. It’s primary purpose is to improve air quality and public health. It may have increased CO2 emissions slightly in the short run, by driving out diesel cars faster than petrol cars, but this will have been offset by encouraging a faster take-up of electric vehicles.

 

Congestion charging

 

Again the primary benefit for this has usually been argued as the reduction in congestion and the substantial saving in the time drivers have to spend at the wheel. There is an important secondary benefit in reduced particulate emissions and in reduced CO2 emissions, because the stop-start involved in congestion reduces overall fuel efficiency.

 

Some of this benefit was negated by the rather illogical exemption of electric vehicles from the London congestion charge. At a time when most vehicles are still petrol or diesel, EV vehicles will still have increased congestion, and hence emissions from all the other non-EV vehicles on the road. When all vehicles are EV, there will still often be a strong case for congestion charging, or road pricing, even though the incremental health and CO₂ benefits have become minimal. 

 

The reality therefore is that there is a climate policy case for congestion charging, but it is not a case that has been promoted particularly vigorously.

 

Speed limits

 

Reduced speeds will generally tend to reduce fuel and energy use. This is a matter of simple physics. But the effect in residential areas where the limit is already 30 mph is likely to be relatively trivial. Much more significant would be a reduction from 70 mph to 60 mph on motorways and dual carriageways. In the 1970s US governments imposed 55 mph limits in the face of the OPEC cartel and global oil price hikes, primarily in order to reduce fuel consumption.

 

There are therefore strong arguments to be made, on climate policy grounds, for reduced speed, at least while the majority of vehicles are petrol or diesel. But, at least for the UK, climate has never been the most significant consideration. The drivers for speed limits have always been road safety, and, more recently, air quality.

 

Once again truth is the first casualty of today’s politics, so we might note, inter alia, that:

 

·      Most Tory members of the Welsh Senedd supported the 20 mph default limit.

·      It is subject to local decision making and is not a “blanket” limit.

·      Minimal analysis shows it has almost negligible effects on most journey times.

·      There is no evidence that it has caused congestion or traffic problems.

·      There is evidence that lower speed limits reduce injuries and fatalities.

 

Significant emissions reductions could, fairly obviously, result from limiting higher speeds, for example on motorways, or from enforcement of existing limits, but this is not currently a plank of policy in the major parties. Meanwhile the 20 mph limit has already been widely extended to English cities, with little comment.

This issue, bizarrely given its relative insignificance in relation to either economic activity or climate, is the one that has produced the most insane claims of economic damage, with Welsh Tories claiming it could have economic impacts on the Welsh economy of between two and nine billion pounds. We await any form of explanation for this number.

 

Heat pumps and the end of gas boilers

 

This is perhaps one of the hardest energy sector transitions for the UK, and heat pump issues are hard to cover adequately in a short post. But there are a few important points to note. The first is that major infrastructure transformations are possible in the UK, for instance in the rapid conversion from town gas to natural gas. A second is that we should expect further efficiency improvements and cost reductions for heat pump technology, and a third is that the era of cheap gas (from the 90’s onwards) is coming to an end, reducing the cost barriers for consumers wanting to switch to heat pumps.

 

Of equal importance is the need for tariff reform so that the price per additional kwh of electricity use more closely reflects the actual incremental cost of supply. This would have a dramatic effect on the competitiveness of heat pumps against gas. It implies a radical restructuring of electricity tariffs to change the way that fixed and legacy costs are recovered, but this simultaneously provides an opportunity to deal with some of the other issues on the distributional impact of current tariff structures. 

 

 

Less meat and dairy consumption

 

This really is a major lifestyle choice that would have a major impact on emissions, given the amount of land used for raising crops that are then used as animal feed. It’s potentially much larger in scale than what we have discussed above and will persist as a significant question even after transport has been fully decarbonised.

 

It is also, undeniably, a social trend that many more people are choosing to eat less red meat, in particular, on health grounds, and that vegetarian food has become more popular.

This is certainly an important area of debate for the future, although even the greenest of climate campaigners tend to focus on reducing meat consumption rather than eliminating it. We also know that some meats are intrinsically less carbon intensive than others. And it’s quite clear that none of the major parties in the UK are currently in a hurry to demand meat bans or meat taxes.

 

Looking ahead we might expect that the pressure on food resources, especially if accentuated by a changing climate, will increase the price of many important commodities, including both grains for human consumption and animal feed, and this will affect the price of meat and hence consumption. In terms of lifestyle changes, this really is a huge question, affecting as it does national and global agricultural systems as well as personal diets and elements of social life. Agriculture and land use is also a hugely complex subject.

 

Time for an intelligent conversation

 

It is time to step back from the more hysterical arguments that attempts to limit environmental damage somehow threaten important personal freedoms of all kinds, or the fundamentals of modern life. There are undoubtedly potential conflicts, although, as shown above, few if any lifestyle initiatives have so far been driven primarily or at all by climate objectives. Health and safety have been far more salient factors. 

 

But this may need to change, and it would be good to see more serious discussion of the choices that we may in future have to make as the existential threats of climate change become increasingly apparent, and alarming.