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Is Government pulling plug on green subsidies because costs are spiralling?

Issues affecting electricity generators and the energy market as a whole.

Amber Rudd continued to tarnish her green credentials still further this week as the Department of Energy & Climate Change’s (DECC) plans to pull the plug on yet more renewables subsidies leaked out. This time the Feed-in-Tariffs (FiTs) associated with small-scale solar industry is set to be slashed and the current FiT will be closed to new applicants as early as January 2016.

This will happen if cost control measures are not implemented or prove to be ineffective. These cost control measures include introducing new tariffs from January 2016 based on ‘fresh evidence’ about the costs and rates of return on solar, wind and hydropower technologies. Effectively DECC sees support for solar being cut by as much as 86% and some subsidies for onshore wind being pulled completely.

DECC is also considering a cap of £100m being placed on new FiT expenditure and phased closure of this scheme by 2018-19. In the consultation DECC said: ”We are proposing measures to place policy costs on bills on a sustainable footing, improve bill payer value for money, and limit the effects on consumers who ultimately pay for renewable energy supplies.”

It seems that the Government is obsessed about forcing consumer utility bills down and if that means holding the new renewables generation investment to the fire - so be it. But is there something else going on as consumer bills are falling anyway as wholesale prices continue to decline.

We need to scan across to the apparent £1.5 billion over-spend on the Levy Control Framework (LCF) to get some understanding. The LCF annual spend hit £7.6 billion last year (it was not due to get that high until 2020/21). The LCF is the amount of money that can be added to consumer bills to pay for low-carbon electricity generation. However, the over-spend is disputed by the former head of the DECC, Ed Davey, who argues that it is a Tory myth as it was allowable as ‘headroom’. He says that actually this over-spend is being used to offset losses associated with falling wholesale gas prices.

The falling price of gas since the turn of the year is definitely having an impact on the Government’s commitment to subsidising renewables investment. New contracts for difference (CfDs) guarantee a fixed 'strike price' for the energy generators produce. But if wholesale electricity prices fall below the strike price then the difference will be made up in subsidies. That could be where that £1.5 billion ‘over-spend’ has already been allocated as wholesale prices continue to head south.

The results of the first auctions to secure £325 million worth of CfDs were announced in February and the next Capacity Auction arrangements were due to be unveiled during July. They’ve now been pushed back deep into the autumn as the DECC has a re-think.

The guaranteed strike price means the cost of meeting the EU renewable energy target for 2020 depends on future wholesale electricity prices. The working assumption had been that fossil-fuel prices would continue to increase, making renewables relatively cheaper. This assumption is now looking increasingly shaky. If gas stays cheap, supporting renewables will be more expensive, potentially stretching the Government's 2020 LCF subsidy pot.

Early last year, a group of MPs said there was a "risk of breaching the cap if the wholesale price falls". Then energy analysts Aurora Energy Research and ratings agency Moody's said the LCF cap would be breached because gas would be cheaper than the Government expected.

Gas is now trading at around 40.9 pence per therm. However, Mike Thompson, head of carbon budgets for the CCC, tells Carbon Brief there will be enough LCF money to meet the 2020 renewable target, even if low gas prices persist: "We think there's roughly enough breathing space, even if gas prices remain in the 40 to 45 pence per therm range."

In order to avoid over-spend in future CfD auctions, the future costs of any contracts awarded through the auction will be estimated, according to projections of wholesale electricity prices. DECC has revised its projections downwards, but some say the projections should be even lower because of the falling price of gas. Either way, with lower price projections, that £325 million CfD auction target value will be assumed to pay for fewer windfarms. Some say renewables are likely to be excluded from future Capacity Auctions altogether.

Gordon Edge, director of policy for Renewable UK, told key trade magazine Carbon Brief this budget squeeze could begin to put off investors who see limited prospects to secure subsidies between now and 2020. The budget for the 2020s hasn't been set yet either, so it's hard to know if the UK will remain an attractive place to develop a wind industry for the longer term, Edge says.

Richard Howard, head of energy and environment for think-tank Policy Exchange, has two detailed blogs explaining why the details of the CfD auctions are contributing to uncertainty and decreasing value for money.

It seems that George Osbourne has levelled his fire initially on Climate Change Levy reductions with Renewables Obligation (RO) subsidies for onshore wind projects set for the near-term chop on 1st April 2016 – a full year earlier than planned.

On the plus side 5.2GW of planned onshore wind projects is likely to still get the RO on top of the existing 8GW of onshore wind already up and running but clearly RO subsidies are costing the Government and by extension the energy consumer too much. Renewables must learn to stand on their own two feet at grid parity with other sources of power.

Interestingly, the Government’s statements that it anticipates meeting its 2020 Carbon reduction and Climate Change targets (which demand 15% of all energy is sourced from renewables); seem to run contrary to the Committee on Climate Change (CCC) that now says the UK will need to increase its onshore wind capacity to 25GW by 2030 to keep that dream alive. Currently we are gunning to hit capacity of 12GW by 2020.

It is clear that subsidies for renewables are now under severe pressure and this could mean many renewables and green technology R&D projects will be strangled at birth. If wholesale energy prices continue to fall then at the very time RO subsidies are set to be killed off, their successor CfDs may prove to be an ineffective mechanism to guarantee capacity while not stretching the public purse. We await the news of the next Capacity Auction with baited breath.

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