Matthew Lockwood, IGov Team, 15 October 2014
A new IGov working paper on energy networks give a comprehensive account of the rules and incentives for network operators and network users (generators, shippers, suppliers and consumers), and how these facilitate, slow or block a shift to a more demand side focused energy system in Britain, along with a greater use of distributed energy resources. Most of these rules and incentives are created by economic regulation of networks or come under industry codes and standards, and the paper also gives an analysis of how this governance works, and why it has evolved the way it has since privatisation. The paper is the first of a series of IGov papers covering the energy value chain that will appear over the next few months.
Much of the paper focuses on incentives for and barriers to innovation in electricity distribution networks, since this is where electrification of heat and transport could pose the biggest challenges but also offer the biggest opportunities for demand-side management, via the smart grid agenda. Support for R&D within the regulatory framework for electricity distribution networks has grown significantly over the last 10 years, with the Low-Carbon Network Fund producing a lot of valuable demonstration projects. Ofgem also spent considerable time on reviewing the regulatory regime in place since the 1980s and producing a new version which is supposed to bring forth innovation., as well as better engagement with customers and better quality of service. However, it is still unclear whether this will happen. The new regime for distribution networks starts next April, but in their initial business plans put forward last year, distribution network operators (DNOs) anticipated that savings from smart grid approaches up until 2023 would be less than 2% of allowed revenue.
One major reason that smart grids seem to still be playing a marginal role in practice is that government, regulator and DNOs all seem to agree that the adoption of the low carbon technologies central to smart grids, i.e. heat pumps, electric vehicles and micro-generation, especially solar PV, will happen quite slowly. But all of these actors have already been caught out by the plummeting costs of solar PV and soaring deployment, and the same could easily happen, for example, with electric vehicle charging if battery costs fall quickly. There are some mechanisms to handle uncertainty about the future in the Ofgem toolbox, but these are all post hoc, and may take some time to implement. There doesn’t appear to be a forward-looking plan.
This situation really reflects Ofgem’s unwillingness to introduce what it called a ‘guiding mind’ in its big review of 2009-10, as well as the fact that although there is a government smart grid ‘vision’, there is no official smart grid plan. This is despite the fact that various actors, including the Institute for Engineering and Technology, are calling for a ‘system architect’ to help handle the transition to what will be an increasing complex system.
In fact, there appear to be some areas in which either government or Ofgem are providing de facto coordination (such as demand side response), and others (such as the long term future of the gas network) where they are not. In other areas, such as the future of transmission, off-shore networks and interconnection, they are giving that role to National Grid, but this integrated planning role does not seem to include the crucial question of how system balancing will work in future across transmission and distribution levels to optimise the whole system.
This rather ad hoc approach to planning a transition seems to be related to the nature of economic regulation for networks. Despite significant changes in the new version (RIIO), we still at the core have incentive regulation designed to minimise costs. The regulator clearly hopes that the potential opportunities will drive DNOs to seek long term cost reduction through innovation in a general way, which they prefer to a more planned approach, but the question remains whether a regime that mimics market forces and fundamentally designed for marginal change can work well for transformation, or whether a new paradigm is needed.
The other key aspect of network governance is the commercial codes and technical standards that determine how networks can and can’t be planned, operated and charged for. It seem fairly widely accepted that if networks are to facilitate change to a system with a greater role for renewable micro-generation and demand side response, a number of rules in both codes and standards will have to change. How fast this happens, however, will depend on the governance of those codes and standards. Codes and standards are largely governed by industry players themselves, large incumbents with vested interests predominate, it is hard to modify rules on sustainability grounds and new actors are completely outside the loop. Some reform is undoubtedly needed.
The underlying issue is that the British system for network governance is highly delegated, with most decisions delegated by government to Ofgem, and with many then delegated by Ofgem to network companies. This may work for periods of stability (although there are chronic problems of asymmetric information and the potential for capture) but in a period of rapid technological and institutional change these arrangement should be opened up and re-thought.
This IGov paper does not contain the answers, but it does comprehensively identify the issues and questions that the project is trying to address.
Download the working paper: Energy networks and distributed energy resources in Great Britain