Emissions Performance Standards

Memorandum submitted by Scottish and Southern Energy (EPS 10)

1. Executive Summary

i. An Emissions Performance Standard (EPS) imposes a limit on the amount of CO2 emitted from power stations. The UK Government has committed to imposing this Standard, and is currently considering the details as part of its wider review into reforming the energy market.

ii. Whilst sharing the Government’s commitment to reducing CO2 emissions and to preventing new unabated coal plants from being built, SSE is concerned about the unintended and potentially damaging consequences that seeking to deal with these issues through the introduction of an EPS could have. All of the main EPS models have serious flaws and create a number of problems for both the UK energy market and UK energy policy – for example they could jeopardise security of supply by forcing existing stations to close and prevent investment in new gas plant, and unnecessarily increase costs for consumers.

iii. As such SSE would encourage Government to look at alternative options to an EPS, as introducing measures in primary legislation when the same ends can be achieved through other means does not fit with the principle of introducing fewer, but more effective, regulations outlined by the new Government. Enhancing existing policies and targets - new coal could be ruled out through changes to the planning system, and decarbonisation targets could be met through a strong carbon price – might achieve Government aims without creating the same difficulties.

iv. However SSE is aware that this might be unacceptable politically. If this is the case and Government feels that an EPS has to be introduced for political reasons then it should be done in a way that has as little negative impact as possible on the UK, whilst achieving Government objectives. SSE believes that the best option would be:

§ A Portfolio EPS covering a generator’s entire fleet of generations assets (coal, gas, nuclear, renewables);

v. However, if Government is determined to introduce a plant level EPS – either a Per kWh or an Annual Emissions Bubble - then it would have to follow these two principles:

§ It should only apply to new plant;

§ Any plant built when a particular EPS was in place would have this grandfathered if the level was subsequently reduced.

vi. SSE believes that of the two plant-level EPSs available the Bubble is the better option. This is because it allows generators to build cheaper plants which would have low running hours, will be able to meet peaks in demand, and act as a back-up for renewables.

2. Introduction

i. The Government’s proposal to introduce an EPS into the energy market imposes a limit on the CO2 emissions from power stations in GB.

ii. Any intervention by Government of this type into any market has the potential to create inflexibilities and stifle investment and therefore should only be made if it is able to achieve Government aims without adversely affecting wider policy objectives, such as security of supply. It is obviously counter-productive to introduce measures that have significant adverse affects on other policies, and are unnecessary to achieve a desired result.

iii. Whilst it is unknown as to exactly what Government would want an EPS to achieve, it appears likely that it would be for one of two reasons:

§ To rule out new unabated coal plant (a move SSE fully supports)

§ To use an EPS as part of a suite of measures to enable it to meet its 2030 decarbonisation ambitions.

iv. [N.B. These ambitions (set by the Government’s own Committee on Climate Change (CCC)) are for the UK to emit, on average, 100gCO2 for every unit of electricity produced by 2030. In 2008 the average was 482gCO21.]

v. As such this submission examines each of the main three EPS models, and some of their different variants, in terms of:

§ whether they can achieve either of the Government’s potential objectives;

§ their potential affects, both positive and negative, on UK energy policy.

vi. It then offers SSE’s view on what the best way forward would be, taking into account whether an EPS would be necessary to achieve objectives. It may be that these aims can be achieved just as comprehensively through alternative methods - e.g. a sufficiently high carbon price could ensure that the UK met its 2030 ambitions - without the need for an EPS. Given the potentially negative effects that an EPS could have in the UK (detail below) SSE would encourage Government to consider suitable alternative approaches.

vii. In addition the introduction of an EPS may be inconsistent with European legislation (Article 9(1) and Recital 9 of the Industrial Emissions Directive) and therefore open to legal challenge, a fact which must be given careful consideration.

3. A ‘Per Unit’ EPS

i. A Per ‘unit’ (kWhr) of electricity generated EPS is generally perceived as the standard EPS model, and is currently used in California. It places a limit on the emissions that can be produced by each unit of electricity produced i.e. for each kilowatt hour (kWh) a certain number of grams of carbon dioxide (gCO2) can be emitted. Currently an unabated coal station has an emissions level of around 850gCO2/ kWh, a modern gas plant is around 380gCO2/ kWh, and nuclear is 7-22gCO2/ kWh.

ii. A Per Unit EPS would be set at a certain level – e.g. 450gCO2/ kWh which would rule out a modern unabated coal plant – and then be reduced to meet the 2030 ambitions. This reduction would mean that other types of carbon generation would gradually be ruled out.

3.1 Potential Effects of a Per Unit EPS

i. SSE believes that a Per Unit EPS is fundamentally incompatible with wider policy goals, particularly regarding security of supply. It also offers few long-term benefits, as it does nothing to reduce overall emissions, and does not encourage CCS; all it does is stop new plant from being built.

Security of Supply:

ii. There is a need to build new generation capacity to replace old plant, predominantly coal and nuclear, that is coming offline before 2020. Without this replacement capacity there is a risk of an ‘energy gap’ where the UK would not have the ability to meet demands for electricity, potentially resulting in scenarios such as enforced black-outs. No new coal with CCS, or nuclear, will be available until 2020 at the earliest and therefore the UK will have to fill the potential energy gap with new gas plant – this will be done through efficient CCGT plant.

iii. In addition the UK will need to build a number of plants to provide back-up for increased renewable capacity and to meet system peaks. The inherent intermittency of most renewables means that a substantial proportion of renewable capacity will need to be backed up by either biomass, pumped storage, coal, or gas so that the UK can cope with scenarios

when demand is very high and renewable output is very low. Whilst this plant is unlikely to run all of the time (see below) it is still key for the UK’s security of supply – currently there is no new coal capacity with planning consent or in construction and therefore the only option for back-up plant over the next decade will be gas. This will need to include less efficient OCGT plant which is cheaper to build but has low running hours.

iv. However a Per Unit EPS could prevent this investment in new gas. Whilst initially it would be set below the level of a new coal plant, it could eventually reduce to below the level of a new gas plant – this would either force a) existing plant to close; or b) the retrofit of CCS technology. Given that CCS is as yet still unproven and uncosted it would probably force plant to close.

v. Therefore if an EPS of this type was introduced now then it would create a huge amount of policy and regulatory risk for investors in gas plant – they would be unsure as to when the level of the EPS might change and whether this might render their investment obsolete, or force them to retrofit CCS. Whilst reassurances from Government about EPS levels and timescales are helpful investment decisions are taken over decades, not five year Parliaments, and therefore risk still remains.

vi. As such an EPS could a) force existing stations to close before they are due to, thereby reducing the UK’s overall generating capacity; and b) prevent investment in gas power stations. This would happen at a time when the UK needs these plants to ensure its energy security through to 2020 and beyond, and to provide back-up for renewables.

Affordability

vii. One general point regarding affordability that is worth noting is that any piece of regulation that restricts certain types of plant will inevitably lead to less flexibility when attempting to meet low carbon and security of supply goals. This lack of flexibility means that the most cost effective routes are often ruled out.

viii. The increased costs specifically associated with a Per Unit EPS are dependent on the level at which it is set. If it is set at a level that rules out new gas plant, or forces new gas plant to have some heat recovery (CHP), as advocated by some environmental groups, then this will significantly increase the costs of security of supply. This is because investors will either not build new gas necessary to meet the potential gap thereby forcing Government to intervene and incentivise developers to build expensive low-carbon baseload plant which would be paid for by the consumer.

ix. Even if the level was set at a level above a modern gas plant (but below a new coal plant) the risk and uncertainty associated with an EPS would make investors unsure about the safety of their returns thereby driving up the cost of capital for these investments. This would inevitably be reflected in higher electricity bills for consumers.

Emissions

x. It is very important to remember that an EPS only tackles the carbon intensity of electricity generation; it does not tackle the volume of CO2 emissions produced by the UK power sector, which is already constrained by the EU ETS. Additional measures that reduce emissions from power generation simply mean that other carbon intensive industries covered by the EU ETS, both in the UK and the EU, can emit more. SSE believes that Government should focus on those industries not covered by the EU ETS, as measures to decarbonise these will actually reduce overall emissions.

xi. As such an EPS would not limit the volume of CO2 emissions from the UK power sector – it would just rule out certain types of power stations, or limit their running hours, which some groups have argued could help to prevent high carbon "lock-in".

CCS

xii. It is extremely unlikely that a Per Unit EPS will encourage the development of new technologies such as CCS. An EPS will force generators to invest in low carbon technology, but nuclear and renewables, both of which are proven technologies, will appear far more appealing than a high risk CCS project for any developer. Alternatively investors, many of whom have the option to invest outside of the UK, will delay or scrap UK investments and/or invest elsewhere.

xiii. As such an EPS will not on its own deliver CCS. Therefore, policymakers must focus on a separate mechanism for developing CCS as a technology option for deployment. The main mechanism chosen to do this is the CCS Demonstration Competition. The CCC has advised Government to consider including at least one gas plant in the demonstration, which is allowed under the Energy Act 2010.

xiv. SSE supports this recommendation as it believes that gas with CCS will have a role to play post-2020. In a world of cheap prices gas CCS (running at baseload, as back-up, or both) could be economically competitive with other low-carbon technologies such as nuclear and renewables – developers would therefore want to build it, and it might be preferable politically to nuclear. There is also potential for the technology and learning regarding gas CCS to be exported, particularly given the predicted transfer of many countries from coal to gas generation. As such it would seem logical to include gas in the demonstration as it is a technology that the UK will need and/or want in the future.

High Carbon Lock In

xv. There is a fear that by not introducing a Per kWh EPS, or by introducing an EPS which is not stringent enough, the UK will build high carbon plant before 2020, namely gas and coal, and therefore be "locked in" to a high carbon future with plants that will run into the 2040’s. The result will be that the UK’s ambitions for decarbonising most of the power sector by 2030 will not be realised, thereby jeopardising its emissions reduction target of 80% by 2050.

xvi. The CCC has recognised this concern in its recent letter to the Secretary of State Chris Huhne, in which it recommended that all new gas plants built post 2020 should have CCS fitted to ensure that a) high carbon lock-in does not occur; and b) that the UK is able to meet its 2030 decarbonisation ambitions. However it does not believe that a Per kWh EPS on gas needs to be introduced before 2020 to ensure this.

xvii. Although many of the gas plants which are set to be built pre-2020 will initially run continuously in order to meet baseload demand (the minimum level of demand that the UK always requires), in the future they will run less and less; instead of trying to generate income from running at baseload they will run at times when demand, and therefore price, is high but output from other sources of electricity (e.g. renewables) is low. Therefore they will produce fewer and fewer emissions over time.

xviii. The reason for this choice to run less is based on the modelling that investors do to calculate potential returns before they take the decision to build a plant – such modelling includes the possibility of a high carbon price going forward. Given that the carbon price looks set to rise over the coming decades it makes sense to try and generate greater quantities of income in short bursts when the electricity price is high, rather then running the plant continuously which would incur large carbon costs and consequently significantly lower returns.

xix. As such, whilst SSE understands the concerns of environmental groups about new gas plant being built pre-2020 it feels that decarbonisation targets can still be met without a Per kWh EPS being introduced now.

xx. Regarding coal SSE does not believe that an EPS is necessary to prevent high-carbon lock-in. Chris Huhne recently stated that the Government will not allow new coal plants to be built unless they have a portion of the plant covered by CCS from day one – given that CCS is unproven and uncosted building new coal currently presents too much of a risk for developers and is therefore extremely unlikely to happen. However, to guarantee this Government could rule out new coal without 100% CCS from day one through changes to the planning system, a move SSE would support.

3.2 SSE’s View on a Per Unit EPS

i. A Per Unit EPS could achieve both of the Government’s potential aims of preventing new unabated coal; or being used to help meet the 2030 decarbonisation ambitions. However, SSE believes that a Per Unit EPS is fundamentally incompatible with wider policy goals as:

ii. It could jeopardise security of supply by preventing new plant being built pre-2020 to replace old plant which is shutting down, and/ or to act as back-up plant for renewables/ peaking plant.

§ It could increase the costs of security of supply significantly for consumers.

§ It does not encourage CCS development.

§ It does not reduce overall emissions.

§ It is not necessary to introduce one now to meet the 2030 decarbonisation ambitions.

iii. However Government may feel that it has to introduce a Per Unit EPS. If this is the case then it would have to follow two principles - without these the policy risk for investors and developers would simply be unmanageable.

1) The level set for the EPS would only be applied to new plants (and could be set now at the level of a modern, efficient gas plant – 380gCO2/kWh);

2) Any plant built when a particular level was in place would have this grandfathered if the level was subsequently reduced.

iv. If these two principles are followed then Government would avoid some of the problems outlined above regarding Per Unit EPS’s – it would rule out new coal now; new gas plant could be built between now and 2020 thereby helping to ensure security of supply; and it would reduce the risk and uncertainty regarding future investments associated with an EPS and therefore the cost of capital.

v. In addition if a trajectory for the level to be reduced over time (known as a ‘glide path’) was put in place it could ensure that post 2020 new gas plant would be required to fit CCS, and the average of 100gCO2 /kWh would be met in 2030, in line with the CCC’s recommendations.

vi. However there are still fundamental flaws with this model. The largest problem is that the level would have to be set high enough to allow for OCGT’s to operate – they currently run at up to 575gCO2/kWh – which may be unacceptable politically. It could also result in a rush to build plant before the level of the EPS reduces (e.g. 2020) resulting in overbuilding, supply chain bottlenecks, and margins falling as a result. This type of unstrategic approach could weaken the generation market and seriously jeopardise future investment by creating uncertainty and increasing risk.

4. A Company-wide/ Portfolio EPS

i. Most companies operating in the electricity generation sector in the UK has different generation assets e.g. coal and gas plant, wind farms, hydro-electric projects, which produce different quantities of CO2 each year.

ii. A Portfolio EPS is effectively a Per Unit EPS but on a company’s entire portfolio. Instead of restricting the average emissions level per unit of electricity produced, it restricts generators to a portfolio which had a set average emissions level per unit of electricity produced – e.g. 500gCO2/kWh. This is then brought down over time.

4.1 Potential Affects of a Portfolio EPS

Security of Supply

i. As a Portfolio EPS covers a generator’s entire portfolio of generation assets, rather than a single plant, it allows high carbon plant such as unabated gas and coal to run for limited periods. This allows for new gas to be built now to secure supplies and/or act as back-up plant to renewables and system peaks in the future. It also encourages companies to invest in low carbon technologies, particularly renewables, which will help to ensure security of supply in the long-term.

Affordability

ii. A Portfolio EPS allows generators to plan how and when they decarbonise their generation, which means that it is done in the most cost-effective way possible. In addition it would obviate the need to distinguish between new and existing plant because the emissions from both would be covered – this would make the legislation simpler and reduce regulatory uncertainty and consequently the cost of capital.

High Carbon Lock-In

iii. The Portfolio model does allow new unabated coal to be built now, and new, unabated gas to be built post 2020. Despite this SSE does not believe a Portfolio EPS would lead to high-carbon lock-in. In fact it would be easier to meet the 2030 decarbonisation ambitions with this type of EPS because its glide path (the amount the EPS level reduces by over time) could be aligned with the CCC’s desired glide path to 2030. This would be very straightforward to do and would provide clarity for generators, allowing them to plan investments strategically and at least cost.

iv. In addition, in order to rule out new coal the Government could issue an additional statement which required all new coal to have 100% CCS from day one of operation, a move SSE would support.

Unintended Consequences

v. The major problem with the Portfolio model is the unintended consequences it could produce. Given that all companies would be starting from different positions – some with very high average emissions and some with very low – it could result in a number of unwanted mergers and acquisitions in the market. Drax, which generates with a mixture of coal and biomass, could be put in a position where it is forced to merge with a wind developer to ensure that its average emissions met the EPS; alternatively it would have to be acquired by a larger, less carbon intensive generator.

vi. This could potentially be dealt with through setting a common level at a point in the future e.g. 2020 which all generator’s portfolios would have to meet. However, up to this point generators would be free to decarbonise as they chose.

vii. Alternatively a trading scheme – whereby for example Drax paid another utility to decarbonise for it – would have to be developed. This type of scheme would effectively be a UK EU ETS, albeit on a tighter and more easily regulated market, which could present difficulties for the UK Government.

4.2 SSE Views

i. Although a Portfolio EPS would not on its own rule out new coal this could be achieved through an additional policy statement, a move SSE would support. It could also help to achieve the 2030 decarbonisation ambitions by aligning its glide path (the amount the EPS level reduces by over time) with that of CCC’s desired glide path

ii. In addition a Portfolio EPS:

§ Is compatible with policy on security of supply as it allows for new gas plant to be built;

§ Allows for generators to decarbonise cost effectively and strategically.

iii. However, the problems that could be created through unwanted mergers and acquisitions and a cap and trade system would need to be carefully examined.

5. A Plant-Based Emissions "Bubble"

i. This proposal would limit a plant’s annual total operational emissions of CO2, essentially creating a "bubble" that each plant is able to emit within a year – this model is already used in the EU’s LCPD. The level set would be determined by Government based on emissions modelling and would limit the running hours of higher carbon plants, whilst allowing renewable plant to run indefinitely. Regulations would be in place to prevent a plant over-emitting and bursting the bubble.

5.1 Potential effects of a Bubble EPS

i. The potential effects of a Bubble EPS depend on whether it is introduced with or without a glide path to 2030. The reason for introducing a glide path would be to ensure emissions from power stations came down over time. Without one industry could in theory emit a large amount of emissions until 2030, before making a dramatic reduction to meet the required level.

ii. However it is extremely difficult to set such a meaningful glide path at this stage as the viability and costs of CCS are as yet unknown. This means that even if a glide path is set now there will be uncertainty as to whether it might be changed in the future once these costs are known. In addition different glide paths would be needed for existing and new plant, which adds further uncertainty into the model. This uncertainty and increased risk could lead, as with the Per Unit model, to new gas plant not being built.

iii. Therefore SSE would favour an emissions bubble which was only set for new plant, and had its particular limit grandfathered if the level was ever reduced. Government could also set a signal that the level would be reduced in 2020, and that in 2030 the level will be sufficiently reduced to meet the CCC’s decarbonisation ambitions target. The effects of such an approach are detailed below:

High Carbon Lock-In

iv. SSE believes that this type of EPS would be strong enough to rule out new unabated gas post 2020 running at baseload. It would allow unabated gas to be built as back-up plant but this would mean it would run very limited hours within its bubble. In addition most of the plant built between now and 2020 will not be running at baseload in the 2020’s because of the carbon price, and the fact that older plant is less efficient – as such the danger of large amounts of CO2 being emitted between now and 2030 is limited.

v. However this approach does not completely rule out new coal; a Bubble EPS could rule out new coal running at baseload, but would not rule out new coal running as back-up/ peaking plant. An additional statement would therefore be required, and SSE would support such a move.

Security of Supply

vi. As with the Portfolio model a Bubble EPS on new plant does not jeopardise security of supply as it allows unabated high carbon plant to run for limited hours within their ‘bubbles’. This would allow new gas plant to be built now to meet the potential energy gap. Also, by only restricting annual emissions rather than emissions per unit of electricity, in the future it would allow older plant to stay open/ incentivise new plant to be built to act as back-up plant for renewables and system peaks.

Affordability

vii. Any policy that results in different plants having different bubbles will not give best value for money as it does not allow generators to decarbonise at least cost – rather its options are

viii. limited by the size of a particular plants bubble. In addition, as with the Per Unit model, a Bubble could result in a rush to build plant before the level reduces (e.g. 2020) resulting in supply chain bottlenecks and increased cost and uncertainty as a result.

Other Concerns

ix. Certain plants are better suited to CCS than others due to locational and other factors. Therefore setting a blanket limit on emissions from certain types of plant will prevent the best locations being chosen for CCS projects, thereby increasing costs and risk. The only way to overcome this problem is to set different bubbles for different plants but given the variables involved this is nearly impossible.

5.2 SSE’s View

i. The Bubble EPS can, with an additional statement, rule our new, unabated coal. It could also ensure that the average emissions from the UK power sector in 2030 are compatible with the CCC’s ambitions.

ii. In terms of compatibility with wider policy a Bubble EPS does fit with security of supply goals. However there is a risk that it will unnecessarily increase the cost of decarbonisation, particularly CCS, and lead to supply chain pinch points at times when the Bubble level is reduced.

6. Conclusions

i. It is clear that no EPS model is perfect. All three, whilst they might achieve Government’s potential aims, create a series of additional problems that must then be solved. SSE’s concern is that this could result in a situation where policies are implemented to solve problems created by earlier policies. This adds a great deal of complexity to an already complex area, and is clearly not a sustainable model of Government. In addition the introduction of an EPS may be inconsistent with European legislation and therefore open to legal challenge,.

ii. As such SSE would urge Government to consider whether it believes an EPS is necessary to achieve its aims. If it is not, and these can be achieved through alternative approaches which do not create these additional problems, then SSE would suggest that these options should be implemented instead – introducing measures in primary legislation when the same ends can be achieved through other means does fit with the principle of introducing fewer but more effective regulations outlined by the new Government.

iii. For example if the aim of Government is simply to rule out new coal then a change to the planning system, or an announcement in the National Policy Statements requiring new coal stations to have 100% CCS fitted from day one would be sufficient; and a high enough carbon price could achieve the UK’s 2030 ambitions. Ultimately Government should be focussing on implementing policies which best achieve its aims, not vice versa.

iv. However SSE understands that this might not be an acceptable position for Government and that it might have to introduce an EPS for political reasons. Whilst this is unfortunate SSE appreciates that it could be the political reality and, based on the potential aims of the Government outlined above it would recommend the following: