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on Jun 3, 13 • posted by rhoggett •

Guest Blog: The Importance of Gas in UK Energy Policy

The Importance of Gas in UK Energy Policy

Guest Blog from Graham White, IGov Advisory Group – 3rd June 2013

Current energy policy debate in the UK tends to focus on the role of nuclear and renewables, particularly wind, and the level of subsidy energy users should pay for the development of these low carbon technologies. At a time of economic hardship the balance of energy policy across its three main objectives – security of supply, reducing carbon dioxide emissions and affordability – is under scrutiny and has started to increasingly focus on consumer bills. This has tended to highlight the costs of mitigating climate change – not just in the UK but at the EU and global level as well.

But no matter what rate we agree is a sensible pace at which to reduce carbon emissions it is clear that fossil fuels, particularly oil and gas, will still be needed in substantial quantities for several decades to come. Oil will largely remain the fuel for transport and in the UK gas will remain the fuel for heating. But gas’s role in electricity generation becomes even more important than it has been – when its share of generation has reached around 40 %. As coal plant closes over the coming years gas will increasingly provide the flexibility needed to meet variations in demand and balancing the system as higher levels of intermittent and inflexible low carbon generation come onto the electricity system.

This means a lot of new gas power generation plant will be needed over the next 15 years or so. Analysis by DECC suggests that up to 26 GW of new plant could be required by 2030 and that this could be even higher if the EU does not tighten the EU-ETS and that as a result the 4th Carbon Budget is revised upwards. Under almost any future scenario it is clear that a substantial amount of new gas generation capacity is needed. What is less clear is the pace of development of renewable technologies and nuclear power, and hence the load factor at which new gas plant will operate – the more renewable and nuclear capacity the lower the load factor for gas.

This uncertainty around the generation mix means that to alleviate concerns around security of supply i.e. whether there will be adequate levels of generation capacity, it is important to introduce an effective and efficient capacity market that ensures adequate levels of capacity are available as older plant close. As part of this policy framework to ensure security of electricity supplies the role of the electricity “cash out” arrangements being developed by Ofgem are also relevant and need to be clearly explained and shown to be complementary to the capacity market.

Gas will remain central to the UK’s energy requirements and our energy policy must reflect its important position in our energy mix. This increasingly crucial role for gas has a number of implications for energy policy in the UK. First, it must, for a number of reasons, make sense to develop UK shale gas resources if this is economic and is done in an environmentally acceptable manner. Second, we must continue to pursue a balanced approach to the role of fossil fuels and low carbon technologies – given that we don’t know the likely future costs of low carbon technologies or future fossil fuel prices. Third, we must not ignore carbon, capture and storage – not just because it could be important for gas generation but also because of the increasing use of coal in other countries such as China. Fourth, there needs to be clarity and certainty around Electricity Market Reform, including the level of low carbon subsidies, the form of capacity markets and the extent to which carbon pricing (and its implications for the competitiveness of UK industry) is determined at EU or UK level. Fifth, public and political consensus on the overarching longer term energy policy framework, including the balance between the three main objectives and the role of the private sector, is vital for future investment.

Given the huge investment challenge facing the UK energy sector, and the current difficult investment climate, the need for a stable, predictable and balanced energy policy has never been more important. Balancing the three objectives of energy policy is not just a decision for the UK – it is dependent on the international climate change negotiations due to be completed in 2015 and the EU’s position in those negotiations. This in turn will have an impact on EU energy policy. These negotiations will determine how far and how fast the international community, and the EU in particular, are prepared to cut carbon emissions. They will also raise the question about whether it make sense for the UK to go beyond the EU’s position, both in terms of emission targets and setting carbon prices. There is unlikely to be clarity on these points in the short term and it may not be until sometime after 2015 that the situation becomes clear. But for the UK this policy balance needs to be agreed sooner rather than later, otherwise we risk delays to the building of new gas plant that will be needed over the next decade.

In the meantime the future UK electricity market will be characterised by a range of Government interventions that determine (a) the overall generation capacity (the Capacity Market); (b) the level of emissions from power stations (the Energy Performance Standard); (c) the share of low carbon generation capacity (the Contracts for Difference); and (d) the carbon price (the Carbon Price Floor). Such a system, with a number of unknown interactions, risks the development of private sector participation that simply looks for guaranteed rates of return provided by Government and with all the risks borne by the Government.

This more interventionist approach is in sharp contrast to the previous policy of free market competition which is still largely being pursued across Europe. In order to transition to a low carbon generation mix, is such an approach (with a much stronger role for Government) inevitable? Or can a regulatory framework be developed that, over time, gives the private sector a bigger role and encourages competition to deliver innovation, cost reduction, etc. Given the widely different cost structures for the different forms of low carbon generation, competition between technologies seems unlikely and a long term capacity market in which the Government continues to set the fuel mix the most likely outcome. But if a more competitive framework can be designed then the private sector needs to be clear about the type and size of market in which it is to compete for the long term (20 years or so) so that it can take the necessary investment decisions.

But the UK cannot develop its energy policy in isolation to Europe and key decisions on the EU policy framework still need to be clarified. If the EU is serious about tackling climate change it cannot continue to pursue a simple free market approach to energy, it needs to develop a stronger focus on carbon reduction (leaving the means to achieve this to member states) and strengthen its commitment to carbon pricing through the EU-ETS; clarify its approach to low carbon subsidies (including what constitutes state aid); and decide on the electricity market framework it wants to put in place (including the role of capacity markets). All these policies raise issues around the balance between what is decided at EU level and what is right for member states to decide.