HC 742 Electricity Market Reform

Memorandum submitted by Statoil

Re: Inquiry into Electricity Market Reform.

Statoil welcomes the opportunity to comment on the Electricity Market Reform. The UK energy market is important for Statoil being the largest importer of natural gas to the UK and as an investor in offshore renewable projects in the UK. We are furthermore evaluating the opportunity to establish a new CCS business in UK as storage provider for CO2 from 3rd parties.

Following the publication of the consultation on the Electricity Market Reform on 16 December 2010 we are currently evaluating the proposed measures in more detail. In general terms, we believe that regulatory stability, transparency and predictability are key priorities for the substantial investments required to achieve the transition to a low-carbon economy.

The present response is based on our initial views and our view of the how the UK energy market should be structured. Where possible we have give some initial views in the details questions and provided these in the Annex below.

An Electricity Market Reform should facilitate and promote a diversified energy portfolio that allows for the most cost efficient CO2 reduction measures and a secure and affordable supply of energy. In particular this should take into account:

· Statoil believe that the transition to a low carbon economy can only be achieved in a cost effective manner through the continued commitment to include natural gas in its fuel mix. In the short term, natural gas can contribute to decarbonisation through fuel switching, especially by replacing coal with gas in power generation. In the medium term, natural gas is a good match for renewables as a complement to intermittent wind and solar energy. In the long term, natural gas with CCS promises to be a destination fuel for the power sector.

· Extended use of CCS related to power production and industry emissions is required in the long term perspective to achieve sufficient GHG reductions from power production and other industries.

· Offshore wind has the potential to be an important contributor to low carbon energy production as UK has significant offshore wind resources. Changes made to funding regimes for renewable energy should allow for differentiated investor profiles and avoid costly and time consuming changes to the administrative process.

· EU Emission Trading Scheme should remain the main instrument for curbing emissions, as it provides the most effective measure to deliver targeted GHG reductions and at the same time provides a predictable framework for the industry in the long term, rewarding the most carbon efficient solutions. However, Statoil fully recognises that the EU ETS does not currently provide sufficient investment incentives for development and demonstration of new low carbon technologies.

The current set of proposals from Government on reforming the Electricity market are complex and overlapping, and must also be considered in light of potential changes to promote market liquidity as well as changes to the balancing regime and transmission charging regime. As such we are continuing to analyse the impact of the proposed measures, and we would wish to provide a more detailed view when we have evaluated them in more depth. Should you wish to discuss our finalised views in more detail please do not hesitate to contact us.

Kind regards,

Statoil ASA

David W. Nunn Robert Cross

Head of Strategy and Regulatory Support Head of Gas Regulatory Affairs

Renewable Energy Natural Gas

Annex

Answers to specific enquiry questions:

 What should the main objective of the Electricity Market Reform project be?

As an investor in energy supply, Statoil believe a main objective of the Electricity Market Reform should be to ensure that the correct investment signals are sent to investors along the value chain from generators to upstream and new sectors. The energy industry requires long term infrastructure investment and as such some degree of regulatory certainty is required by investors.

Statoil appreciate the Government’s recognition of the important role conventional natural gas fired generation will continue to play in the long term future of the UK energy market, both as a capacity reserve and back up generation source but also as a generation technology in its own right. Statoil sees natural gas as a vital measure to deliver a sustainable pathway to reduce CO2 emissions and maintain energy security. Without natural gas the cost burden of reducing emissions from production and use of energy will be considerably higher. It is therefore important that the Government continues to signal a need for secure long term natural gas supplies to the UK and ensures that the market for natural gas remains viable and effective.

Do capacity mechanisms offer a realistic way of achieving energy security, low-carbon investment and fair prices?

The main purpose of the capacity mechanism is to ensure that the necessary back up generation can be constructed or that demand side response mechanisms can be enabled. With a larger share of intermittent (wind) generation capacity and inflexible nuclear generation and potential CCS, there is a significant requirement for flexible generation. This is likely to be based on natural gas. We can see a merit in the model that is proposed by DECC where an obligation is placed on a central body to maintain a set capacity margin – and the model is based on volume and a targeted approach: besides being technology neutral, this mechanism would send the correct investment signals as it ensures an improved pricing of marginal capacity and a guarantee for the necessary investment pay back period. However, we are looking in more detail at how these measures, aimed at encouraging the building of flexibility and responsiveness, will fit with those other measures in the package that are designed to discourage the use of fossil fuels such as natural gas, which remains the best candidate to provide such flexibility.

Should the system of Feed-in Tariffs be focused on particular technologies or maintain a wider technology-based view?

The current support system for renewables is based on offering targeted support levels depending on the maturity of the technology. In our view, a targeted support mechanism will be necessary to mature emerging technologies for the UK to be able to exploit its renewable potential, especially for offshore wind.

Although we agree with the Government’s aim of promoting a diversity of technologies as a means of achieving improved security of supply, our experience as a large industrial company has taught us that attempting to push forward large scale projects before the technology is sufficiently mature can be very costly. Industry must be given sufficient incentives, but also sufficient time to mature commercial projects.

It has been our view that the current support mechanism for renewable generation is an adequate mechanism suitable to promote future capacity. Hence we have not seen the merit in changing the system and have been concerned that changing the support system could introduce uncertainty for the investor.

Of the proposed Feed-in models, we would favour a Premium Feed-in, as this has most in common with the existing model, retains the exposure for generators to the electricity market and is the easiest to implement. We understand the Government’s objective to attract a larger investor base, but are concerned that the proposed Contract for Difference that by its very nature limits investors’ exposure towards the electricity market, can reduce the attractiveness for industrial investors. Hence, in order to attract investors with different risk profiles, we would recommend that investors were given the choice between models (Premium Feed-in or Contract for Difference).

Furthermore we are concerned about the proposal to set support levels through auctions. We do not see that it will give the long term investment signals that investors need to develop offshore wind sites.

Will market reform increase political risk for investors or create certainty?

We agree with the Government that in light of the challenges the UK faces over the next decade, it is important to ensure that the policy and support mechanism is fit for purpose.

From a gas producer’s perspective, regulatory stability is essential, as the timescales and lead times in the industry are very long. It is therefore key that the EMR signals a positive message to companies who would seek out, develop, produce and deliver new natural gas volumes.

We are concerned that the changes proposed for renewable revenue support are more radical than necessary - especially the proposal to set renewable support levels through auctions, as we are not convinced that this will give the long term investment signals that investors will need to develop offshore wind sites.

Will the Government’s proposed package of carbon price floor, EPS, FITs and capacity mechanism provide sufficient transformation to achieve goals on climate change, security of supply and affordability?

The extent to which any of the discussed packages will provide transformation leading to policy goals depends on the levels of each measure and on their mutual interaction. As described above, we have concerns about the proposed changes to the revenue support mechanism, and would propose that investors that are willing to have a larger exposure towards the electricity market than under a Contract for Difference, are allowed that.. A larger flexibility in the support mechanism would ensure that investors with different approach to risk will be attracted, which will be to the benefit to renewable investments in the UK.

Statoil remains to be convinced that the EPS is the best method for enabling CCS and other low carbon generation technology to develop. Mandating standards before technology is ready could have detrimental effects on the energy mix of the UK and may not lead to the most efficient outcome.

In addition to the elements of the proposed package, ensuring a properly functioning and liquid market, a well functioning balancing regime and a suitable transmission charging regime will be important to be achieve the goals.

What synergies and conflicts will there be between proposed mechanisms and policies already in place?

Statoil supports a high global price on CO2 and sees the EU Emission Trading Scheme (EU ETS) as the main instrument for cost efficient GHG reductions in the EU, both in the short and long term perspective. The EU ETS provides the most effective measure to deliver targeted GHG reductions, and at the same time provides a predictable framework for the industry in the long term, rewarding the most carbon efficient solutions.

Although Statoil recognises that the EU ETS does not currently provide sufficient investment incentives for development and demonstration of new low carbon technologies, a UK carbon floor price should be thoroughly assessed against its potential impact on the EU ETS. We are primarily concerned with the potential side effects of double regulation aimed at the same policy goal, which could undermine the effectiveness of current regulation for emissions reductions in the EU and increase the costs of emissions reductions. Harmonised cooperation at EU level through lowering the EU ETS cap is recommended to develop a more robust CO2 price across the EU.

Additional measures are necessary to push renewable technology development and make renewable energy production economic viable. Similarly, additional measures are required to speed up development and commercialisation of CCS in the short term.