Memorandum by The Department of Trade
and Industry and The Department for Environment, Food and Rural
Affairs (Eng 46)
1.1 The DTI and DEFRA welcome the Trade
and Industry Committee's decision to conduct an inquiry into security
of energy supply and the balance between security objectives,
environmental commitments and social goals. Although forecasts
of the leading international bodies do not suggest that the world
faces a shortage of conventional fuels for the next 20 to 30 years,
it is important that the UK is ready to respond to changing energy
availability and technologies and has in place mechanisms to ensure
that UK energy demands are met. This in turn has to be balanced
by the need for a sustainable approach to energy that reflects
the environmental, social and economic impacts of both its supply
and use. Achieving these objectives will demand that all key stakeholders
are engaged and that the general public understand the potentially
significant role they have to play, for example in efficient energy
use, The Committee's inquiry will be helpful in increasing the
prominence of energy security issues and stimulating public debate.
1.2 This memorandum provides information
on the Government's policies on security of energy supplies and
sustainable energy issues. Following a general introduction it
moves on to address the particular issues identified by the Trade
and Industry Committee, namely:
Given the imminent dependence of
the UK on energy imports, how can the UK maintain a secure energy
supply? What mix of fuels would maximise security?
Is there a conflict between achieving
security of supply and environmental policy? What is the role
of renewables, and Combined Heat and Power schemes?
What scope is there for further energy
What impact would any changes have
on industrial competitiveness and on efforts to tackle fuel poverty?
Is any change of Government policy
necessary? How could/should Government influence commercial decisions
in order to achieve a secure and diverse supply of energy?
Roles and Responsibilities
1.3 Responsibility for energy security under
the law is shared by the Secretary of State for Trade and Industry
and Ofgem. The Secretary of State is responsible for setting the
overall regulatory framework for the supply of gas and electricity.
A key part of that framework is set out in the Electricity Act
1989 and the Gas Act 1986 as amended, for example, by the Utilities
Act 2000. These provide that:
"In carrying out their function the Secretary
of State and Ofgem shall have regard to the need to secure that
all reasonable demands in Great Britain for electricity and (so
far as it is economical to do so) for gas are met."
1.4 Under the legislation, on a strict legal
interpretation, the duties of the Secretary of State and Ofgem
relating to security of supply apply only to the extent that they
exercise particular functions. The main functions relate to licensing.
The Secretary of State lays down Standard Licence Conditions which
apply to all classes of licensees. Power to modify these rests
with Ofgems with reference to the Competition Commission if a
company and Ofgem cannot agree. The Secretary of State has a power
to veto agreed modifications and reference of disputed modifications
to the Competition Commission. Enforcement of licence conditions
is for Ofgem.
1.5 The two chief mechanisms for influencing
the activities of gas and electricity companies are by way of
standards of performance (now "Energy Efficiency Commitment"
from April 2002) or by schemes for incentivising behaviour. Standards
of performance are often included in Standard Licence Conditions.
Schemes for incentivising behaviour are generally implemented
by modifying licence conditions or by amending relevant industry
codes, which have to be agreed with Ofgem. Ofgem therefore exercises
key powers and in practice has the main expertise.
1.6 The Secretary of State for Trade and
Industry has statutory responsibility for regulation of the exploration
for, and production of, oil and gas both offshore and onshore
including the authorisation of pipeline construction and settlement
of disputes about access to pipelines. She also has general responsibility
for gas regulation and for strategic international issues including
European policy and hence for security of supply issues falling
within these areas. There are also provisions under HSE's Gas
Safety (Management) Regulations 1996 and under the Electricity
Supply Regulations 1988 which provide for maintaining security
1.7 Within the DTI, development of policy
on security of energy supply is co-ordinated by the Energy Policy
Directorate, part of the Department of Trade and Industry's Energy
Group. In addressing security of supply issues and in developing
policy approaches the Directorate draws on:
Policy development in other parts
of the DTI's Energy Group including those responsible for policy
on oil and gas, coal, nuclear energy, renewable energy, social
and environmental energy issues, and competition
Policy development within the DTI
and with FCO and Cabinet Office on European and international
energy security issues
close relationships with leading
firms at all points in the energy industry; and
advice from experts such as the DTI's
Energy Advisory Panel which includes representatives from industry,
academics, environmental groups, Ofgem and other Government Departments
1.8 In addition, the DTI has recently established
a joint DTI/Ofgem Working Group on Security of Supply. The Group's
aim is to monitor security of supply issues and assess any risks
to supplies in the future. Its remit is:
to assess the available data relevant
to security of supply, to identify the gaps in that data and develop
to monitor at a strategic level,
over a timescale of at least seven years ahead;
(a) the availability of supplies of gas;
(b) the availability of supplies of electricity
and fuels used for electricity generation;
(c) the adequacy of generating capacity;
(d) the adequacy of the UK's gas and electricity
to assess whether appropriate market-based
mechanisms are bringing forward timely investment to address any
weaknesses in the supply chain that are anticipated;
to identify relevant policy issues
and consider implications; and
to report twice yearly to the Secretary
of State and the Gas and Electricity Market Authority.
1.9 The Secretary of State for Environment,
Food and Rural Affairs has responsibility for policy on sustainable
development, climate change and environmental protection, as well
as energy efficiency, including combined heat and power and fuel
poverty. DTI and DEFRA work very closely together on issues relating
to the environmental and social impacts of energy supply and demand,
especially on energy conservation, renewable energy, CHP and fuel
1.10 Future policy development will be informed
by the findings and recommendations of the Performance and Innovation
Unit (PIU)'s current review of energy policy. The review will
seek to identify the longer-term strategic objectives of energy
policy for the UK. It will examine all aspects of energy policy,
including how the UK can meet the challenge of climate change
in the longer term and how it can ensure reliable and competitive
energy supplies for the next generation. The review is considering
the role of coal, gas, oil, nuclear and renewables in our future
energy balance as well as Combined Heat and Power and the enhancement
of energy efficiency. We understand that the PIU aim to complete
their work by the end of the year and that decisions on the timing
and publication of a project report will be taken then. We understand
that the Committee has seen the submissions to the PIU from both
DTI and DEFRA. Other submissions to the review team from the Energy
Advisory Panel and the DTI have included:
DTI Energy Advisory PanelDefining
a Framework for Coherence in UK energy.
DTI Energy Advisory PanelResponse
to the Report of the Royal Commission on Environmental Pollution"Energy:
The Changing Climate".
DTI Energy Advisory PanelSecurity
of Supply: Unresolved Issues.
DTI Impact of Energy Policy on UK
Power Generation Equipment Industry.
1.11 All of these documents are available
on the PIU website at: WWW.cabinet-office.gov.uk/innovation/2001/energy/submissionshome.
Key themes relevant to security of supply, picked up in the DTI's
main submission to the review include:
Fuel mix and diversity.
The implications of liberalisation.
Investment, market signals and the
balance of generation, and
Regulator and Departmental roles
The paper also examines issues around energy
supply and demand and prices, the environment, social concerns
and nuclear power.
1.12 DEFRA has been contributing to the
work of the Inter-Departmental Analysts Group (IAG) and hence
to the work of the PIU Energy Policy Review, on the issue of the
scope in the UK economy for energy intensity reductions, and the
corresponding costs, under five scenarios out to 2050. Six papers
were prepared which describe the results of this work, and which
enhance wider understanding of why the potential contribution
of energy efficiency to achieving longer terms policy goals is
so significant. The papers are:
Energy Efficiency: DEFRA Introduction
and Projections Methodology.
Energy Efficiency: DEFRA paper on
Low Carbon Options for the Domestic Sector.
Energy Efficiency: DEFRA paper on
Scope for Demand Side Measures in Industry.
Energy Efficiency: DEFRA paper on
Energy Projections for the Service Sector.
Energy Efficiency: DEFRA paper on
Transport Energy Efficiency.
Energy Efficiency: DEFRA paper on
Additional Savings and Associated Costs.
These papers have been provided to the PIU to
place on their website (see paragraph 1.11) but DEFRA would be
happy to provide them directly to the Committee if more convenient.
Short term security issues
1.13 The focus of this memorandum is, principally,
security of energy supply in the longer term. However, the current
security situation inevitably raises more immediate concerns,
about the ability of the system to withstand more immediate shocks,
for example caused by terrorist attacks. As the Prime Minister
said in his statement to the House on 4 October, Government has
ensured, insofar as is possible, that every reasonable measure
of internal security is being undertaken. DTI and the companies
that provide the UK's power and energy supplies are working closely
with the Security Services to ensure that the risk of terrorist
attack is properly assessed and that appropriate measures are
in place to reduce the risk of disruption.
1.14 The following pages deal with the specific
questions raised by the Committee.
Given the imminent dependence of the UK on
energy imports, how can the UK maintain a secure energy supply?
What mix of fuels would maximise security?
2.1 Energy security is best seen as a set
of linked risks of interruption to supply. These include strategic
risks, principally to fuel supplies, and system risk, mainly applying
to the investment needed to produce/generate and transport energy
to consumers. Over the past decade or so, the threat to security
of supply has been perceived as relatively low, but events in
the last two yearssuch as oil price spikes, the oil depot
blockade, the California crisis, the expectation of future large-scale
gas imports, and terrorism in the USAhave made security
a more prominent issue again.
2.2 The Government seeks to maintain a secure
energy supply by
Promoting properly functioning and
competitive energy markets.
Ensuring that the regulatory regime
delivers appropriate investment in the domestic infrastructure.
Maximising energy production from
the North Sea.
Encouraging renewable forms of energy.
Promoting and rewarding energy efficiency.
These issues are dealt with in turn in the rest
of this section.
(i) Properly functioning and competitive
2.3 The Government believes that open and
competitive markets are the best foundation for energy security
in the long term. Actions taken by the Government with Ofgem to
promote open and competitive markets in the UK include:
Further liberalisation of the utilities
by separating them into competitive and monopoly businesses and
unbundling the monopolies to bring real competition into the market
The introduction of New Electricity
Trading Arrangements (NETA) in March 2001. The new arrangements
have brought about significant changes in the operation of the
electricity market in England and Wales. In developing the arrangements
a key aim was to provide a strong incentive for generators to
maintain some spare capacity and to make existing generating plant
available if capacity is short. They also provide strong incentives
for large business users to reduce their demand in these circumstances
and for suppliers to forecast demand accurately. (However, the
impact of NETA on smaller generators, including renewables and
CHP, was and continues to be of concern. Ofgem have published
a report on the impact of NETA on smaller generators and DTI intend
to publish a consultation document to address their findings.)
The introduction of new licensing
schemes for gas and electricity companies and the separation of
electricity supply from distribution, which came into effect on
1 October 2001. These will make energy markets work better and
will enable Ofgem to take forward market development, providing
a greater transparency and underpinning competition.
A new set of electricity licence
exemptions, covering generation, distribution and supply to make
it easier for smaller companies to compete in the market.
EU AND INTERNATIONAL
2.4 In addition the Government has been
pressing for action at the European level to drive forward market
liberalisation and integration within the EU. At the Lisbon Summit
in March 2000, the UK pressed for and secured European Council
commitment to EU gas and electricity market liberalisation. In
response to the Lisbon mandate, the Commission has adopted proposals
for legislation at EU level. If agreed, these proposals will lead
to a substantially higher level of liberalisation by 2005. This
will be important for ensuring that we have access to diverse
gas supplies at competitive prices. At present, a competitive
continental gas market does not exist and gas prices remain contractually
linked to the price of oil. A free standing gas price would do
much to send the right investment signals to gas producers. Moreover,
large and restrictive long-term contracts dominate continental
gas markets and new entrants have found difficulties in accessing
the gas network. Although some element of long-term contracting
will continue to be needed to facilitate investment, we need to
eliminate anti-competitive provisions, such as restrictions on
re-sale and to ensure access to the network in equal terms. The
development of longer-term futures markets is also crucial for
investment finance in an open market.
2.5 Gas markets are also at the heart of
current concerns about strategic energy security. There is a range
of linked issues about gas imports, ranging from worries about
depletion of world reserves, through political concerns about
large potential suppliers such as Russia and Algeria, to market
power and cartelisation concerns, and to issues of the adequacy
and security of interconnectors and domestic transmission capacity.
On the other hand, gas trade has grown rapidly and successfully
over several years and several other European countries are already
2.6 Companies will look to the UK Government
to facilitate trade with potential suppliers. To this end the
Government works bilaterally, through the EU and through other
international fora, to create a sound climate for secure long-term
energy supplies. Bilaterally, the government maintains political
relations and facilitates commercial contacts with producer countries
through ad hoc ministerial visits and regular meetings
at official level. The Government contributes to policy development
at EU level through, for example, the current discussions on the
Commission's Green Paper on Security of Energy Supply and through
initiatives such as the EU/Russia Energy Dialogue. Internationally,
the Government works with other EU partners in the Energy Charter
Treaty which aims to facilitate investment, trade and transit
in the energy sectors of Russia and other central and eastern
European counties. It also participates in the work of the International
Energy Agency which has responsibility for emergency measures
to address oil supply disruptions.
(ii) Delivering appropriate investment
in the domestic infrastructure
2.7 Security goes wider than availability
of sources alone. Even with abundant supplies, supply could be
interrupted due to failures in the infrastructure needed to produce/generate
and transport energy to consumers.
2.8 Generation: at the present time there
is more than adequate generation capacity in Great Britain to
satisfy reasonable demands for electricity. On the basis of the
Seven Year Forecast made by the National Grid Company (NGC), generation
capacity margins are predicted to remain in excess of 25 per cent
over the period to 2007-08. This forecast takes into account closure
dates for BNFL's Magnox plants over this period as well as other
closures. A margin in excess of 20 per cent is usually considered
to be healthy. Following the introduction of the New Electricity
Trading Arrangements (NETA) there are no longer any security standards
relating to generating capacity. NETA, however, provides incentives
for short notice demand and supply flexibility including incentives
for generators to maintain space capacity and to make this capacity
available if supply is tight.
2.9 Transmission and Distribution: at the
moment planning standards provide the benchmark of network security.
The standards aim to maintain the supply security of the general
customer base at an agreed level. The robustness of the transmission
network is reported on by the National Grid Company in its Seven-Year
Statement, published as part of its licence conditions. This document
details circuit capacity, forecasts power flows and loading conditions.
This document details circuit capacity, forecasts power flows
and loading on each part of the transmission system and fault
levels for each of the transmission nodes etc. Distribution network
operators (DNOs) are required as part of their licence obligations
to meet network security standards. Failure to do so could ultimately
lead to the rescinding of their licence. They must also issue
forward-looking five year outlooks for investment in their system.
2.10 As the DTI's response to the PIU set
out, Standard Licence Conditions require distribution and transmission
companies to plan and develop their infrastructure to meet certain
minimum standards. There are also guaranteed standards of service
for individual customers, and overall standards for all customers
applicable to distribution companies which are determined by Ofgem.
Ofgem will soon be consulting on new transmission access and pricing
arrangements in order to ensure that the value of transmission
access is effectively signalled.
2.11 No formal security standards apply
to wholesale suppliers of gas into the National Transmission System
(NTS), but under Transco's Network Code they are liable to out-of-balance
charges if they flow less gas into the system than the off-takes
by their customers. Gas shippers source their supplies chiefly
from UKCS (UK Continental Shelf) production but, if supplies are
tight, will also rely on the UK-Belgium interconnector and Norway.
The DTI has general responsibility for continuity of off shore
supplies and specific regulatory responsibility for third party
access to upstream pipelines and interconnectors. Stocks of processed
gas have an important role to play in maintaining security of
supply and these fall within Ofgem's responsibility.
2.12 The Standard Licence Conditions for
Gas Transporters require licensees to plan and develop their pipeline
infrastructure systems to meet certain minimum standards. The
introduction of the New Gas Trading Arrangements in October 1999
provides for the auctioning of short-term entry capacity into
the NTS and financial incentives on Transco to maximise available
capacity and minimise the costs of managing entry capacity constraints.
Ofgem has been developing proposals for long-term signals and
incentives for Transco to invest and provide an efficient level
of transmission capacity on the NTS. The framework proposed by
Ofgem provides for the use of longer term auctions of entry capacity
rights and provides Transco with incentives to respond to the
price signals emerging from these auctions and from the secondary
trading of capacity in determining an efficient level of investment.
This framework is outlined in more detail in the next two paragraphs.
2.13 Ofgem attaches considerable importance
to ensuring that the regulatory regime produces the right signals
to secure investment to maintain and develop the UK's domestic
infrastructure into the future. In this respect Ofgem has recently
published final proposals for Transco's price control for 2002-07
that include new quality of service targets and output measures.
Under the price control, Transco
receives funding to cover efficient operating and capital expenditure
to provide an agreed level of capacity (the baseline outputs).
Output measures will be set for NTS entry capacity, system storage
(linepack) and exit capacity. In addition, working alongside the
Transco price control, Ofgem has also recently proposed a new
package of short and longer-term incentives for Transco in its
role as NTS system operator.
Under Ofgem's long-term investment
incentive scheme. Transco, as system operator, will be required
to offer for sale at least the baseline entry capacity output
measures via an auction of tradable entry capacity rights. Prices
emerging from these auctions will improve the signals to Transco
for the need for new capacity and hence additional investment.
Transco will be provided with financial
incentives to undertake incremental investment to the level of
market demand, and to diverge from the output measures where it
is efficient to do so. If Transco chooses not to invest physically
to meet the entry capacity output measures, it will retain the
associated price control funding but, potentially, be exposed
to higher costs through the increased need to buy-back capacity
Further the signals emerging from
the primary auction and the secondary market will enable Transco
to invest above the level of the output measures, when it is efficient
to do so. Under its incentives Transco will be able to earn additional
revenue through its sales of incremental capacity.
Transco will also be provided with
incentives to manage the day to day costs of buying back capacity
rights from market participants that it has initially sold but
is unable to physically deliver on the day (eg as a result of
system maintenance, demand conditions, or a lack of physical capacity).
In terms of NTS exit capacity, Transco
will be provided with incentives to trade off the relative costs
of investment in pipeline (and compression), interruption and
local storage in deciding how best to manage capacity constraints
2.14 Ofgem has also proposed a package of
incentive schemes that address both system balancing (eg the use
of operating margins) and residual gas balancing. Ofgem believes
that its proposals will deliver enhanced security of supply, lower
system operator costs which are passed through to customers and,
potentially, improved competition.
(iii) Maximising energy production
from the North Sea
2.15 Clearly, the more the UK can exploit
its own resources, the less it will depend on others. PILOT is
the forum for co-operation between the Government and the oil
and gas industry and is pursuing a programme of work aimed at
securing improvements in the international competitiveness of
the UK industry and continued exploration and development activity
on the UKCS.
2.16 Work is currently focused on three
Progressing Partnership Workgroup
2.17 In March 2001, PILOT established PPWG
to address commercial and behavioural barriers to UK Continental
Shelf (UKCS) development. Two groups, Contractors and Operators,
working in parallel, aim to make progress towards changing behaviours
in terms of commercial practices and relationships between operators
and contractors throughout the supply chain. They key issues to
be addressed are:
Improving commercial effectiveness
through a new Code of Practice on Supply Chain Partnership.
Increasing the take-up of new technology
Promoting the UK as a regional hub
for supply chain activities.
A more active exchange of licences.
Easier access for new entrants and
Transfer of decommissioning liabilities.
Standardisation of Agreements.
2.18 The Exploration Workgroup's main objective
is ensuring timely and efficient exploration. The main areas to
be considered are:
Potentail of the UKCS as an exploration
Recent and potential activity levels.
Efficiency of current processes and
areas for improvement.
Effectiveness of recent changes to
licensing and regulatory regime.
Ways of making the UKCS a more attractive
province for exploration.
Changes effected in other mature
areas to stimulate exploration.
2.19 The Brownfields Workgroup's objective
is to identify and delivery the action needed to deliver the estimated
additional recoverable 3.5 billion barrels of oil equivalent within
Brownfields (ie fields which have reached a plateau but which
are still in production). Three workshops will focus on the different
levers necessary to improve the industry's overall performance
in accessing the Brownfields.
(iv) Encouraging renewable forms
2.20 The Government has been supporting
development of renewable sources of energy since the mid 1970s.
Renewables were included in the Non Fossil Fuel Obligation (NNFO)
in 1990. Under NFFO, electricity from renewables was provided
with a guaranteed market at premium prices, subsidised by a levy
on electricity consumers. A supporting programme ran alongside
the NFFO to stimulate the development of renewable technologies
including wind, solar and hydro.
2.21 Renewable sources and electricity from
waste currently contribute 2.8 per cent of our energy requirements.
The Government has now set a target of securing 10 per cent of
UK electricity supplies from renewable sources, excluding non-biodegradeable
waste, by 2010, provided that the costs to consumers are acceptable.
Measures to support this target are discussed in more detail in
(v) Promoting and rewarding energy efficiency
2.22 In general, price mechanisms have the potential
to deliver very significant enhancements to the flexibility and
security of the energy supply system through their impact on demand.
Prices which are higher at times of peak demand, for example,
very cold periods, could encourage industrial customers to change
their patterns of energy use.
2.23 The Government sees an important and
increasing role for demand side management through energy efficiency
measures and embedded generation. Energy efficiency has increased
substantially in recent years. Since 1970, the UK economy has
grown by more than 90 per cent but energy consumption by only
10 per cent. To some extent this has reflected decline in the
energy intensive industries such as steel but it also reflects
real gains in the efficiency with which we use energy. There is
however, substantial scope to make further cost effective improvements
in energy efficiency across the UK economy.
2.24 The Government has announced a range
of policies to promote energy efficiency and reduce emissions,
in the domestic, public and business sectors:
DEFRA has consulted on the Energy
Efficiency Commitment (EEC) for 2002 to 2005. It will place an
obligation on gas and electricity suppliers to make energy efficiency
improvements, through measures provided to domestic consumers.
It is currently expected to save 0.4 mega tonnes of carbon (MTC)
per year by 2005.
The new Home Energy Efficiency Scheme
(HEES), a radical reshaping of the former scheme, is designed
to tackle fuel poverty among those most vulnerable to cold-related
ill health. The scheme provides grants for comprehensive packages
of insulation and heating improvements, including central heating
systems. Access to the scheme is through receipt of a qualifying
income or disability related benefit. By 2004, HEES is expected
to have assisted some 800,000 householders.
The Market Transformation Programme
produces, reviews and helps to deliver integrated, strategic action
plans to ensure products, systems and services use less energy,
water and other resources. MTP supports cost-effective UK and
EU policy measures including energy labelling, minimum energy
efficiency performance standards and procurement. Whilst the programme
can demonstrate substantial improvements in energy efficiency,
actual savings may be offset by the projected strong growth in
consumer demand for new services, for example, air conditioning
and digital television services.
DEFRA's £50 million Community
Energy programme will, from April 2002, promote community heating
through capital grants to install new community heating schemes
and refurbish obsolete infrastructure and equipment. It is expected
to reduce CO2 emissions by half million tonnes pa by 2010 and
reduce energy costs for around 100,000 households, taking the
majority out of fuel poverty.
The Climate Change Levy came into
force in April 2001 and is payable on energy use in the business
and public sectors. The levy is expected to reduce carbon emissions
by 2MTC pa by 2010. In addition, 43 sectoral Climate Change Agreements
with energy intensive sectors that are required to meet individual
challenging efficiency targets in return for an 80 per cent discount
from the levy is expected to reduce emissions by a further 2.5
MTC pa by 2010. Emissions trading could play a key
role in the longer-term solution to reduce greenhouse gas emissions.
A national Emissions Trading Scheme is to commence from April
The Carbon Trust, an independent
not for profit company, will recycle about £100 million of
climate change levy receipts over three years to accelerate the
take up of cost effective, low carbon technologies and other measures
by business and other levy payers.
New Building Regulations to come
into effect from April 2002 will include much higher energy efficiency
standards for new buildings and those undergoing refurbishments.
2.25 It is not possible to identify a specific
mix of fuels in energy supply that would maximise security. This
is for two basic reasons. First, energy security has a number
of components. It encourages strategic risk attached to the possibility
that fuels might be physically unavailable from exporting countries,
or available only at high prices. It encompasses system risks
attached to the ability of energy networks and infrastructure
to deliver to customers (which may relate to factors such as the
capacity of the network, the impact of bad weather or industrial
action). A particular fixed mix of fuels in unlikely to be best
placed to cope with each of these different aspects of security.
Whilst greater indigenous supplies, for example, may help to lessen
strategic risk, they are no guarantee of security in response
to system risks.
2.26 Second, the most appropriate mix of
fuels will change over time, in response to perceptions of security
risks and to wider market conditions. Whilst recognising there
are significant roles for Government in this regard, open and
competitive markets are the best foundation for security in the
long term. Although the Government has set a target of 10 per
cent of electricity to be from renewable sources, it would be
counter to the belief in the role of markets for the Government
directly to specify a particular fuel mix. However, in line with
the Government's overarching objective of sustainable development,
a fuel mix that encourages security of supply while at the same
time minimising the environmental impacts of the production and
use of those fuels, is clearly preferable to one which ignores
2.27 Having said this, diversity of energy
supply will as a general principle contribute to our energy security.
This can, of course, include diverse sources for a single energy
source as well as a balance of different energy sources. At the
moment UK electricity supply is divided between gas, coal, nuclear
and (to a much smaller extent) renewables but we expect an increased
proportion of gas in the future. The robustness and flexibility
of the UK's gas infrastructure and the diversity and security
of gas suppliers will be particularly important in the medium
and long term.
2.28 So far as coal is concerned, coal has
the potential to make a huge contribution to security of supply
bearing in mind our own industry and the availability of coal
from diverse and secure sources on international markets. However,
its main disadvantage is the high emission levels arising from
power generation. Cleaner coal technology is the key to reconciling
coal and challenging environmental targets particularly on emissions.
In this context the DTI has launched a review of the case for
government support for the development of commercial scale cleaner
coal technology demonstration plant. The review is being undertaken
in parallel with, and will feed into the PIU's review of energy
policy. It will report to Ministers about the turn of the year.
2.29 Nuclear Energya proven technology,
generating on a large scale and with almost zero carbon emissionsalso
provides energy diversity and security benefits as well as contributing
to the achievement of UK and international carbon emissions targets.
Nuclear power currently provides about 25 per cent of UK electricity
generation. DTI energy projections (EP68) estimate that by 2010
this will have declined to about 17-18 per cent of generation
and by 2020 to about 7-8 per cent in the absence of any new build.
Whereas fossil fuel generation is fuel intensive, nuclear generation
requires minimal quantities or uranium. This is in abundant supply:
the European Commission Security of Supply Green Paper recognises
40 years known reserves of uranium at current prices and the NEA
estimates reserves at some 250 years at current consumption rates.
Unlike some fossil fuels, import dependence is mitigated by large
numbers of world-wide supplying countries generally in stable
areas of the world including Australia, Canada, Russia, South
Africa and the USA. Output from nuclear stations currently avoids
about 12-24 million tonnes carbon (MtC) pa (depending on the generation
mix displaced). The PIU Review is currently considering the balance
of fuel mixes required to meet the UK's future energy needs including
the role of nuclear energy.
2.30 The costs of managing radioactive waste
and decommissioning of plants once they reach the end of their
life-cycle are potentially very large. The Government published
in September 2001 a consultation paper, "Managing Radioactive
Waste Safely" which seeks views on the management of radioactive
waste over the long term and ways of ensuring public confidence
in the decisions to be taken. Discharges of radioactive waste,
both to the air and to water also need to be managed safely. The
Government consulted last year on proposals to reduce radioactive
discharges to the marine environment over the next 20 years, and
also about proposed guidance to the Environment Agency about the
setting of radioactive discharge limits. Final versions of both
documents will be published early in 2002.
3.1 The Government has placed the environment
at the heart of policy making and is committed to combining environmental
sustainability with economic and social progress. Prudent use
of resources, including energy, is a key part of the UK's sustainable
development strategy. The Government sees no necessary conflict
between achieving security of supply and environmental policy
indeed, the Government sees important positive interactions. For
example, policies to promote the development of renewable fuel
sources will not only contribute to the diversity of our energy
supplies, they will also contribute to the achievement of carbon
reduction targets. Similarly, policies aimed at promoting efficiency
use of energy not only help to bring down total carbon emissions,
they will also help to meet social policies such as fuel poverty.
3.2 The Government is fully committed to
moving the UK down a more sustainable energy path, including the
major potential that energy efficiency offers to save carbon cost-effectively
and ensure security of supplythe less we use the less we
need to produce or import and the less environmental impact. Energy
efficiency is a very sustainable approach contributing not only
to security of supply but also to the Government's social and
environmental objectivescan help to reduce fuel poverty
and makes a key contribution to the achievement of climate change
objectives. We believe that renewables also have to play a much
bigger role in supplying our energy needs. Our future must be
one in which we have a significantly lower carbon economy and
both renewables and energy efficiency will be major vehicles for
3.3 It has been explained above how the
impacts of the specific environmental impacts of carbon emissions
from energy generation and use is lessened. National, regional
and local planning policy must fully assess the wider social and
environmental impacts of new energy generation developments. Environmental
Impact Assessments usually cover biological, conservational, existing
landscape, human social and economic effects of new developments.
3.4 The recent report of the Royal Commission
on Environmental Pollution (RCEP), "EnergyThe Changing
Climate", confirmed that renewables will play a key role
in future greenhouse gas abatement and that increasing the uptake
of renewables has to be a non-negotiable element of future energy
use. The Government has put in place a range of measures to achieve
that target and promote the uptake of renewables of which the
Renewables Obligation is the key policy instrument. This will
succeed the Non-Fossil Fuel Obligation (NFFO) and require licensed
electricity suppliers to secure an increasing proportion of their
sales from renewable energy sources. Our target is that by 2010,
10 per cent of electricity sales by licensed suppliers will come
from sources eligible for the Renewables Obligation. A statutory
consultation on the detail of the Obligation closed on 12 October
2001 and the Department is currently considering the responses
received with a view to laying an Order before the House before
the end of the year, subject to State Aid approval. The Obligation
would then come into effect early in 2002 and last until at least
2027. The PIU energy review is also assessing the feasibility
of 20 per cent and 30 per cent targets by 2020.
3.5 The Obligation is one of a series of
measures the Government is taking to promote renewable energy,
which is set to make an increasingly important contribution to
the provision of secure, diverse, competitive and sustainable
energy supplies. Other policy strands, aimed at creating a £1
billion market for renewable energy by 2010.
Exemption of renewables from the
Climate Change Levy.
Putting in place legislation to protect
contracts concluded under the Non Fossil Fuel Obligation (NFFO)
arrangements and amending legislation to provide flexibility in
the location of NFFO projects, enabling more projects to go ahead
than had previously been possible. The industry has estimated
that this new flexibility could free up perhaps 100 renewable
£50 million from the National
Lottery New Opportunities Fund, of which at least £33 million
will go to the development of energy crops/biomass power generation;
£10 million to offshore wind and £3 million to small
scale biomass heating.
£100 million to be allocated
in the light of the PIU's recommendations. The Prime Minister
has indicated that this new money will help to promote solar photovoltaics,
boost offshore wind, kick start energy crops and bring on stream
other new generation technologies;
£29 million (over six years)
from DEFRA for their Energy Crops Scheme, part of the England
Rural Development Programme.
£10 million from the DTI for
£55 million over the next three
years for DTI's new and renewable energy research and development
programme which will cover a range of renewable technologies and
Development of a proactive strategic
approach to renewables planning in the regions and the introduction
of renewables targets.
Capital grants for early demonstration
offshore wind and energy crops projects.
3.6 A key technology for the promotion of
energy efficiency is CHPthe simultaneous generation of
usable heat and electricity in a single process. The Government
has a target of at least 10,000 MWE of Good Quality CHP capacity
by 2010 and DEFRA are leading the development of a Governmental
CHP strategy to be issued for consultation in the coming months.
However, we recognise that over the past year the relative prices
of gas and electricity and the impact of NETA have made CHP less
commercially attractive. The CHP Strategy will set out a range
of measures to support the industry in meeting the target and
the Government is considering which measures for CHP could be
brought into effect as a matter of urgency.
3.7 Existing support measures include:
Climate Change Levy (CCL) exemption
for Good Quality CHP electricity used on site or sold directly
to other users.
Recognition of CHP as one of the
key options available for energy intensive industries to use in
making negotiated agreements to secure an 80 per cent reduction
in the Climate Change Levy.
Enhanced Capital Allowances, which
are worth £70 million (dependent on take up) this financial
year, offering tax incentives to companies investing in energy
saving technologies, including Good Quality CHP.
Exemption from business rates of
electricity generating plant and machinery in CHP schemes.
The Community Energy programme (referred
to in detail above).
CHP TO CONTRIBUTE
3.8 Some of these options are already commercially
viable (CHP, offshore wind, landfill gas, biomass, hydro and waste
generation). Others, for example energy crops PVs, tidal and wave
power) remain in development stages but have the potential to
make an important and increasing contribution to delivering diverse
3.9 The intermittency of some renewables
generation, such as wind and wave energy, does raise security
issues in relation to the ability of the network to maintain supply
and manage volatility in output. However, the National Grid has
said, in an initial paper input to the PIU review, that it has
no concerns in respect of being able to continue to balance the
electricity system securely at the levels of intermittent renewables
envisaged in the current targets for 2010. Most analysts suggest
that the current UK grid system could accommodate around 20 per
cent of electricity from intermittent sources before technical
and managerial changes are required. Further work and analysis
to consider the implications of rising intermittency would be
useful, and is underway.
3.10 We expect embedded generation (including
renewables and CHP) to play an increasingly important part in
the future of the UK energy industry, particularly in the form
of micro generation. For example several companies are in the
process of developing micro CHP units that could be used in a
domestic environment and we expect that, once commercialised fully,
these could transform domestic energy supply, energy security
and efficiency while also producing real carbon savings in the
years up to 2010 and beyond.
3.11 A joint DTI/Ofgem Co-ordination Group
will take forward the recommendations of the Embedded Generation
Working Group earlier in 2001 aimed at helping embedded generators
link to local distribution networks.
3.12 The Embedded Generation Working Group
made a number of recommendations concerning distribution company
incentives, connection charging arrangements, provision of information
and other issues that they considered necessary to achieve a level
playing field and generally create an environment which facilitates
the development of embedded generation. The creation of the Co-ordination
Group was announced in July. It will be chaired jointly by DTI
and Ofgem and consist of senior industry representatives to monitor
implementation of the EGWG's recommendations. Measures to be addressed
The way that embedded generators,
connected to electricity distribution networks, can contribute
to overall power needs.
How they are charged for using the
How to make connection information
from key local operators more transparent.
4.1 The scope for further cost effective
energy efficiency improvements is expected to continue. Improvements
occur continuously as older equipment is replaced by newer models.
However, for a variety of reasons most businesses do not make
additional cost-effective investment in more efficient equipment.
This is one of the main reasons why there remains a considerable
potential for cost-effective energy efficiency. Analysis by DEFRA
for the PIU Energy Review has shown that under normal circumstances
this potential is likely to remain around a constant fraction
of current consumption. In the UK this is about 20 per centhigher
in the domestic sector, lower in energy, intensive industry (where
energy costs are more important).
4.2 One challenge for energy and environmental
policy is how to increase the "normal" rate of energy
efficiency improvementthe Climate Change Programme is Government's
response to that. Another challenge is how to ensure that the
potential is "replenished" at a correspondingly higher
rate, so that there is always a steady stream of higher-efficiency
equipment available. DEFRA's analysis for PIU has also looked
at this and suggests that normal market mechanisms might help
achieve this. For example, if more energy efficiency equipment
is sold the sector becomes more attractive for investors and innovators,
so new companies are formed, new products developed and so on.
More R&D will be required and this may possibly need some
support from Government.
4.3 Energy efficiency is contributing substantially
to the Carbon abatement targets in the Climate Change programmeover
10 MtC can be attributed to energy efficiency outside the transport
5.1 A number of analyses have been conducted
of energy costs across industry. In general these indicate that
energy comprises a relatively small proportion of overall costs.
analysis reported in Lord Marshall's
report on economic instruments and the business use of energy,
indicates that over industry as a whole, non-transport energy
costs amounted to around 1.4 per cent of the value of gross output;
analysis reported in a joint HM Treasury/DTI
memorandum to the TISC Enquiry into the impact of motor fuel taxation,
indicated that expenditure on road fuels amounted to around 1.3
per cent of the value of output in the productive industries.
5.2 Clearly, there is some variation across
industrial sectors. Certain manufacturing sectors tend to be relatively
energy-intensive. Some of these sectors are also relatively heavily
traded. So in a few sectors the impact of changes in energy costs
may be rather more significant. But in general, the impact of
energy price changes on industrial competitiveness is likely to
be fairly small.
5.3 The implications will, however, be different
depending on whether they are driven by:
rising costs of securing energy supplies
reflecting rising energy prices on international markets. In this
case, there would be implications for energy consumers more generally,
and the impact on the UK's relative position could be limited.
Measures pursued internationally would also lessen competitiveness
rising costs reflecting a premium
placed on security by the UK alone. Competitiveness implications
could be rather greater in this case, depending on the scale and
nature of the measures taken. Market-based measures or instruments
focusing on improving the uptake of energy efficiency opportunities,
for example, may increase security at nil or low cost.
5.4 The Government published in February
this year its draft UK Fuel Poverty Strategy for consultation.
A final Strategy will be published in November. While the Government's
overall goal is to seek an end to fuel poverty in the UK, its
first target is to ensure that those householders most vulnerable
to cold-related ill-health (that is those aged 60 or more will
by 2010 be removed from fuel poverty (defined as needing to spendbut
not necessarily spending10 per cent or more of income to
maintain an adequate standard of heat). Households who are less
vulnerableessentially healthy adult unemployedwill
be helped once progress has been made on the priority group.
5.5 The principal causes of fuel poverty
are low income and energy-inefficient housing, although the level
of fuel prices is also important and, in some cases, under-occupation
(single people living in homes larger than they need) can play
a part. The final Strategy document will set out the main Government
policies to address these issues, together with the major concerns
raised in the consultations exercise. Improving the energy efficiency
of housing forms a major element of the response to fuel poverty:
these programmes are for DEFRA in England and for the Devolved
5.6 It is not likely that measures to promote
supply security with respect to generation mix or energy efficiency
would undermine the objectives of the fuel poverty strategyindeed,
improving energy efficiency in the domestic sector will have security
of supply benefits and is fundamental to the Government's fuel
poverty strategy. However, insofar as work to improve supply security
might involve additional costs, and if these were to feed through
to higher consumer prices, then this could have an impact on the
fuel poor. In addition DEFRA and DTI are currently undertaking
a pilot programme to evaluate the potential role for alternative
approaches to tackling fuel poverty in difficult to heat properties
without access to the gas network. The pilot will test renewable
and micro-CHP technologies in households and communities.
5.7 Detailed figures about the numbers in
fuel poverty will be published in the Strategy document: but it
is estimated that there has been a significant decrease since
1996, and that over half of this reduction is due to lower energy
prices. Higher prices would tend to increase the number of households
falling within the definition of "fuel poor"; and such
policy sensitivities will be explored in the Strategy document.
5.8 The Strategy document is not intended
as the final word in this area: it is not credible, at the beginning
of nearly a decade's work to tackle fuel poverty, to pretend to
know all the answers already; and the detail of the strategy will
develop in the light of experience. The Government is pledged
to report annually on progress, and to review programmes in the
light of experience: the effect of energy price changes, whether
arising from supply security considerations or for some other
reason, will be one of the factors to be taken into account in
the review process.
6.1 The current review of energy policy
being undertaken by the PIU aims to consider a range of future
policy challenges including security and diversity of energy supply,
environmental impacts and social implications such as energy prices.
The PIU's report will act as a key input to the Government's future
policy on security and diversity of energy supply and on climate
change, including consideration of the necessity for policy change.
It would not be appropriate to predict the PIU's conclusions at
6.2 The DTI's submission to the PIU explained
that a degree of reliance on imported gas, in common with the
rest of Europe, seems inevitable and is not necessarily a matter
of concern. Nevertheless it is prudent to consider policies which
enable the UK to maintain diversity and flexibility in our energy
supply. Broadly, the Government has pursued the liberalisation
of energy markets and believes that competitive markets provide
the best foundation for delivering diversity and flexibility and
thus security of supply. However, there are many complex issuesfor
example concerning the international framework and the availability
of supplies, the flexibility and reliability of the domestic network
to draw energy from different sources, and market investment incentiveswhere
Government, working with the Regulator and industry, has an important
role to play. The PIU review of energy policy will provide direction
and help to steer future policy development in these areas.
How could/should Government influence commercial
decisions in order to achieve a secure and diverse supply of energy?
6.2 As explained above the Governmentand
the Regulatorbelieve that the best way of influencing commercial
decisions is by promoting competitive markets and ensuring effective
regulation, within an overall framework of sustainable development,
that is encompassing social and environmental as well as economic
objectives. Competition provides the incentives for suppliers,
and creates the markets that reveal the price signals that help
consumers, suppliers and producers alike to see when supplies
are relatively plentiful or tight. To the extent that Government
intervenes, it must avoid blunting these signals and damaging
security. For example if prices are kept low then customers will
not cut back demand when supplies are tight and suppliers and
producers will not have the incentive to enter the market and
make appropriate investments. Flexible and open market structures
stand the best chance of ensuring the right mix of fuels, the
right investment in generation plant and transmission infrastructure,
the right balance of indigenous supplies versus imports, and so
forth, to achieve security of supply in the future.
6.3 In the case of the natural monopolies
(Transco, the National Grid Company), the two Scottish transmission
companies and the electricity distribution network operators),
traditional regulation has concentrated on lowering costs through
a revenue cap, without defining the outputs of the business. Ofgem
recognises the need to ensure that there are incentives for timely
and adequate investment in the networks, against demand which
is unpredictable. Its recent proposals in respect of Transco,
designed to improve the signals of the need for investment and
to improve the incentives to invest, are outlined in paragraph
2.13 above. In the regulated sector generally, incentives flow
from the system of standards and special licence conditions backed
by penalties, and standards of performance which trigger compensation
payments to customers.
6.4 Finally, this memorandum has noted the
range of Government policies in support of renewable energy, energy
efficiency and CHP, which contribute to security and diversity
of supply. The new Renewables Obligation is noteworthy in that
it will not, unlike the previous NFFO arrangements, involve the
Government in supporting specific renewable technologies but will
leave the choice of renewable technology to market participants.
DTI & DEFRA
31 October 2001
1 "Economic instruments and the business of energy".
A Report by Lord Marshall November 1998. Back