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Energy in a low carbon economy: newroles for governments and markets

David Newbery8th BIEE Academic Conference

Energy in a low carbon economy: new roles forgovernments and marketsOxford 22nd September 2010http://www.eprg.group.cam.ac. uk

D Newbery BIEE Oxford 2010 2Newbery IIB 1 2

UK Energy policy

‘ensure our energy is secure, affordable andefficient’ and ‘bring about a transition to alow-carbon Britain’ (DECC web site, 2009)

• What is needed to deliver low-C Britain?• What does that imply for energy policy• What kind of market for low-C electricity?

D Newbery BIEE Oxford 2010 3

EU climate change policy

• ETS to price CO2– fixes quantity not price => poor guide for low-C

• 20-20-20 Directive: demand pull for renewables– justified by learning spill-overs and burden sharing

• EU SET-Plan to double R&D spend– to support less mature low-C options

Are these policies consistent?

4

EUA price October 2004-April 2010

0

5

10

15

20

25

30

35

Oct-04 Apr-05 Sep-05 Mar-06 Sep-06 Mar-07 Sep-07 Mar-08 Sep-08 Mar-09 Sep-09 Mar-10

Eur

o/t C

O2

Futures Dec 2007OTC IndexSecond period Dec 2008Second period next DecCER 09

start of ETS

Second period

CO2 prices are volatile and now too low

Actual emissions revealed

D Newbery BIEE Oxford 2010 5Newbery IIB 1 5

Start of ETS

Costs of errors setting prices or quantities

Reductions in emissions

Correct MC

MC

Best estimate ofMarginal Cost ofabatement

MB, Marginalbenefit fromabatement

£/tC

efficiency lossfrom tax

efficiency lossfrom quota

t

Q* Q

t*

With tax wouldproduce here atlow cost

With quotawould produceup to hereat high cost


Failures of ETS

• Current ETS sets quota of total EU emissions– Weitzman argues for tax/charge not quota

• Renewables Directive increases RES=> increased RES does not reduce CO2

=> reduces price of EUA=> prejudices other low-C generation like nuclear

• Risks undermining support for RESSolved by fixing EUA price instead of quota


2020 projected CO2 price

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70

with 12.5% renewables with 20% renewables 2009 projections

Euro

s/to

nne

CO

2

2008 projections

2009 projections after Renewables Directive and recessionRenewables

depressesC-price

Source: Committee on Climate Change, 2008 and 2009


Reforming ETS• Reform EU ETS to provide rising price floor

– sufficient for nuclear or on-shore wind if cheaper=> Carbon Bank trades EUAs to stabilise price

• Commitment to raise CO2 price at 3% p.a. overlife of plant may suffice– ¤25/EUA 2010 => ¤34 in 2020, ¤61 in 2040 ...

• Making it credible: write CfD on this path– remove uncertainty for low-C generation investment

makes extra carbon savings additional


UK’s Plan B if no ETS reform• Underwrite UK CO2 price

– for power sector? Cash negative

• Change CCL into Carbon Correction Levy– a tax carbon content of fuel Cash positive– rebated by EUA price for covered sector– starts at current CCL rate say £12/t CO2 and escalate at

6% above RPI = > £22/t by 2020– underwritten by CfD on path for commitment

Coalition supports C floor and full ETS auctioning


Security• Will the lights stay on?=> will there be timely investment?• Investment will be delayed if policy is uncertain=> clarify energy policy as soon as possible=> reduce unnecessary risk=> replace ROCs by tendered FITs=> underpin and guarantee the carbon price


Ofgem Project Discovery

Crunch time

Assuming plant is built according to scenariosSecurity

Under Ofgem’s scenarios reserve margin falls in 2016modelledde-ratedcapacity margin


Domestic fuel bill breakdown 2009

Source: OfgemProportionately nearly 3 times higher on elec than gas

+ £24 via ETS incl in supplycost

£36£24


Affordability (climate change)• Average domestic electricity bill £400/yr• Main programmes

• EU Emissions trading scheme £24• Carbon Emissions Reduction Target* £15• Community Energy Savings Programme* £1• Renewables Obligation £12• Total (annual cost) = £52

=13% of total bill• Subsidy from reduced VAT (£53)* allocated pro-rata to expenditure on electricity and gas


UK Electricity R&D intensity

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

1974

1976

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2008

perc

ent e

lect

ricity

reve

nue

ROCs

other power

hydrogen and fuel cell

nuclear fission and fusion

Renewables

fossil fuels

High rate ofgrowth littledelivery


UK Renewables policy• ROCs are expensive

– reward scarcity, deter entry, discourage localism• The problem is planning

– coalition has abolished IPC (but that was not suitedto on-shore wind anyway)

=> Separate system planning (SP) from TSO=> SP finds optimal RES sites, secures consent=> runs tender auctions for least cost FIT


UK ROC, EUA, and electricity prices

£0

£20

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Q1

£/un

it

ROC+RPD 1 yr centred MARPDROC

windfall profits

ROC price stable


CCC’09 UK 2020 target is 27,000 MW

Installed wind capacity

0

5,000

10,000

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25,000

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008

MW

Denmark Germany Spain UK

UK’s target looks feasible at DEroll-out rate


Financing low-C electricity

• ROCs rapidly escalating in cost– comparable to past R&D, mostly on nuclear– despite very modest renewables

• low-C subsidies paid by electricity consumers

This is an inefficient tax for a public good


Simulation – more volatility, challenges market design

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Euro/MWh

20052010

2015 2020

0 8760 hours

Illustrative

Price duration schedule


Efficiency in low-C market• Markets drive efficiency, innovation

– but volatility and policy risk raises capital cost• Low-C has high capital cost, low MC

– cheapest solution has long-term contracts=> pay wind for availability to avoid negative prices

=> removes increasing share from price setting– CCS and peakers have higher MC– but may need capacity payments or contracts

reform market design and transmission pricing


Spatial and temporal optimisation=> nodal pricing + central dispatch• Nodal price reflects congestion & marginal losses

– lower prices in export-constrained region– efficient investment location, guides grid expansion

• Central dispatch for efficient scheduling, balancing• PJM demonstrates that it can work

– Repeated in NY, New England, California (planned)

Recreate a pool for liquidity, entry andcontracting


Conclusions• CO2 price is too low

– new coalition supports floor price• RES Directive undermines ETS

– and risks bringing ETS into disrepute=> make RES additional, set CO2 price

• UK energy taxes lack logic– but offer simple scope for cash positive gains

• market and transmission access need reform

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