The Committee consisted of the following Members:
Kate Emms, Alison Groves, Committee Clerks
† attended the Committee
Andrew Buglass, Managing Director and Head of Energy, RBS, on behalf of the Low Carbon Finance Group
Dr Matthew Brown, Head of Energy and Climate Change, Director of Business Environment, CBI
David Handley, Chief Economist, Renewable Energy Systems
Danielle Lane, Regulatory Affairs Manager, DONG Energy
Asif Rehmanwala, Director of Wholesale, Ecotricity
Nigel Cornwall, Managing Director, Cornwall Energy Associates
Professor Catherine Mitchell, Exeter University
Professor Dieter Helm CBE, Oxford University
Sarah Merrick, Public Affairs Manager, Vestas Wind Systems
Dr Keith MacLean, Director of Policy and Research, SSE
Public Bill Committee
Examination of Witnesses
The Chair: Thank you both for coming to give evidence to the Committee. Before I call the first Member to ask a question, I remind Members that questions should be limited to matters within the scope of the Bill, and I remind everyone, including the witnesses, that we have to stick absolutely rigidly to the timings, which means that this first group of questions will end at 2.45 pm. According to the headings on the briefing that has been given to Members, the first group of questions relates to the need for electricity market reform. Who would like to catch my eye? Minister, John Hayes.
Gentlemen, thank you for coming. You know that there is a critique of public policy suggesting that Governments have been slow to reform the electricity market and that that has inhibited investment. In your
Dr Brown: You are absolutely right that our priority for the Bill at the CBI is to get investment into the electricity system while keeping costs competitive, not only to satisfy all the electricity policy objectives but because that is a growth opportunity. From that point of view, overall we are actually very pleased with the Bill. We think that the Government and Parliament have listened to industry in moving from the White Paper to the draft Bill that we saw last year and the Bill that is before Parliament now.
We think that some of the decisions that have been made around the FIT model, the levy control framework and exempting energy-intensive industries from the costs are positive. We think that there are some issues still to solve on understanding more of the detail of the capacity mechanism, and we think that there should be some support for combined heat and power in the Bill, but, yes, our main priority is to do what we can to help the Bill get through Parliament in a timely fashion, so that the investment can flow once it is on the statute books.
Andrew Buglass: I very much echo those points. From the point of view of the financiers, we feel that the direction of travel since the draft Bill in mid-2012 has been broadly very positive. It is of course a very complex package of legislation, and this is the next stage. We await further clarification of other parts of the framework in due course.
We are looking forward, very much, to continuing the good work that we have been able to do with the Department of Energy and Climate Change on that, and with all the other relevant stakeholders. We feel that investors look at this as a package overall, so my summary at the moment would be that the current status is positive and a lot has been achieved but, clearly, there is an awful lot of detail that we will still need to consider, as it is brought forward.
Q 141 Tom Greatrex (Rutherglen and Hamilton West) (Lab/Co-op): Mr Buglass, in the context of attracting investment, we hear frequently that people are putting off investment decisions, awaiting clarity, and the Minister’s question was seeking to see whether the Bill provides clarity. Can you give us an indication, from the financiers’ perspective, of how much of the detail that is still to come with the Bill is integral to providing clarity in making decisions? How much will people still hold off, do you think, with the gaps that there still are in the Bill?
Andrew Buglass: Great progress has been made in terms of the existing arrangements around, for example, the renewables obligation and the way in which the transition will happen, so that investors still looking to bring forward projects under that framework will be able to take comfort from that. There is then just a question of the speed and pace with which those mechanisms are then implemented.
For the more substantive changes around the contract for difference and the new framework—if we can call it that—to attract the much larger levels of investment in both low carbon and conventional, financiers still have quite a number of questions to which we will need to
The timetable is certainly ambitious, but then a lot has already been achieved. We expect, during the next few months, that we will see sufficient additional clarification to enable investors to bring forward those investments. It is certainly true that a number of investors have perhaps paused to a degree. That is quite understandable, given the scope of what has been proposed. The direction of travel is now very favourable, but quite a lot of detail is still to come.
Q 142 Tom Greatrex: May I pick up on the point you made about the comfort provided to people continuing to operate under the renewables obligation through the transition period? Is it your view then that many of those people who potentially or may well be investing are happy with the 2017 date, or is it about the period of time between 2014 and 2017? In other words, if the Bill continues on time, 2017 is fine, or is there a feeling that the transition should be for a longer period?
Andrew Buglass: That is a good question. My remarks were aimed principally at those investors who are active now with live projects that they want to bring forward and would therefore come through ahead of 2014. For those in the transitional period post introduction of the CFD but while the RO is still live, it is probably too early to say yet which direction an investor would prefer to take, but by virtue of the lead times of some of the much larger investments, such as offshore wind, it is probably fair to say that the reality is that those investment decisions and the final investment allocation will not be able to be made until there is greater clarity around the contract for difference.
As things stand, the lead time of very large projects is such that it is already unlikely that they would be able to qualify for the RO by 2017. Thus, to answer your question about a possible hiatus—you did not use that word, but I am paraphrasing—were the process to extend significantly, investors might consider whether an amendment to the hard stop to the RO in 2017 might be a transitional arrangement, but as things stand, we do not feel that that is necessary.
Q 143 Tom Greatrex : So, to make sure I have got that right, you are saying that that is tied to the period until the new regime comes in. If there is a delay, you might seek to extend the transitional period, but without it you think it is workable.
Q 145 Laura Sandys (South Thanet) (Con): I want to extend the previous question. When you start to look at the time frame—I understand that you are expecting to fill in some of the more granular aspects through this process—will the framework also enable long-term commitments from the supply chain and not just from the straightforward financing side? I am particularly
Andrew Buglass: Yes, I suppose one of the main priorities of the entire policy process is to create more investor confidence in the UK’s electricity sector, and the route to doing that is through the various mechanisms in the Bill, including particularly the contract for difference. More investor confidence will affect not just the direct investment in generation, but the supply chain and the value chain that have been built up in the UK. I agree with the question.
Q 146 Peter Aldous (Waveney) (Con): I want to follow that up. You have both expressed the view that time is of the essence. Are there any specific time lines that we need to meet going forward or specific deadlines for specific issues to be addressed?
Dr Brown: I think everyone understands that we need to follow due parliamentary and democratic processes, so we cannot rush, but most businesses that I speak to would expect to see Royal Assent by the end of this calendar year, and there are various deadlines or milestones along the way for things such as secondary legislation, CFD strike prices and capacity mechanism details. Broadly, the timelines that have been set out by the Department of Energy and Climate Change on those issues are acceptable, but we would not want any slippage from those.
Q 147 Mr Mike Weir (Angus) (SNP): We were told this morning that the setting of the strike price is crucial to the contract for difference, and that the initial price would be set in the summer, with the final price being set by the year end. Given what you are saying about slippage, if we are looking to close RO in 2017, how much margin for error do you think there is in that—for example, if the strike price is not set by the end of the year?
Andrew Buglass: I would have to say that there is a limited margin, given a number of factors, but I go back to my earlier comment about the longer lead projects—principally that they are under very tight time scales. They will need to continue to invest in the development process, which is significant and costly, and at some point any investor taking an investment to their committee for approval needs to know what they will be paid. If that is not forthcoming on the sort of time scale that has been outlined, I would have to say that a number of investors would reasonably be expected to defer their decision until they had those data.
Q 148 Mr Weir: Given the time scales we are talking about, many of these large investments are already under discussion, presumably under the existing RO scheme. How quickly will they be able to look again at the new contract for difference and decide which way they want to go, and will it affect the time scale in which they might wish to deploy?
Andrew Buglass: I am sure that, like us, investors who have projects that could go under either scheme will already have been doing a lot of work as the Bill has been brought forward, and as soon as more information becomes available. Plus I am aware that there are a lot of discussions ongoing with the various relevant officials
Q 149 Luciana Berger (Liverpool, Wavertree) (Lab/Co-op): Mr Buglass, just a moment ago you were helpfully telling us about the two specific areas where you thought you needed further clarification. You said there were gaps and you wanted more questions. It was around counterparty design and CFDs, but you also said that there were other areas where there were gaps, and we are keen to make sure that when we get to Committee stage next week we identify what those gaps are and try to get on the record the certainty that you want and that we want to see. Can you embellish a little further? Likewise, Dr Brown, if you have anything to add, I will be keen to hear from you, too.
Andrew Buglass: Sticking to the CFD issues—there are obviously other ones around liquidity and the route to market and so on, which we will get into later—on the counterparty, a lot of good work has been done, as I have said. There is still a lot of detail to be brought forward. Essentially, investors need to look at the overall package and perceive that as a low-risk form of cash flow that is predictable and will be stable for the period.
One of the areas that we are struggling with a little bit is the concept of pay when paid and the fact that the counterparty body would need to pay funds on to a generator only when it has already received those funds from the various suppliers who are funding under a supplier obligation. From our perspective, that leads us to have a number of questions about the nature of that supplier obligation and what form of remedies or actions would a generator have in the hopefully unlikely event that difference payments were not made.
As I understand it, and we have been consulting various law firms on this, if the counterparty body itself is not in receipt of funds, a generator who therefore does not receive funds from them cannot sue, because there is no basis for them to do so. The obligation for the body to pay only arises once it has actually been paid. That is an aspect that we find particularly important. The Government, of course, are not underpinning that cash flow stream. Investors are being asked to assume the risk of an aggregated creditworthiness of all the suppliers, and therefore that is for us a very important element of the design.
In addition, there are some aspects around risk of negative pricing. In the event that the increased feed of intermittent generation into the system were to result, for example, in negative power prices from time to time, the way in which that risk is allocated to the generator appears to us problematic from the point of view of attracting debt financing, certainly.
The other question about the contract for difference itself is one of allocation and how that works. The Bill has very helpfully pointed out the intent to have a couple of different parts, some for fast-development technologies and some for the more general investment. It is not entirely clear to us at this stage to what extent
It is a question of some considerable detail. I recognise that we have limited time, but from our perspective on the initial review, those are probably the key points that I would highlight about the CFD.
Dr Brown: Andrew is absolutely right to have highlighted a number of details of the CFD that need to be further filled in. I add to that by highlighting the capacity mechanism where I know that a number of companies have large investment decisions that they cannot make until they know the details of how it will operate. It is good news that the Government want to run it as soon as possible, ie next year. But we will need to know how that auction will operate.
From our point of view, we would like to see the costs that are passed on to the consumer by the capacity mechanism minimised. An important aspect of that is allowing all the capacity options to compete fairly, and those are new plant, existing plant and demand side measures.
Q 150 Barry Gardiner (Brent North) (Lab): Dr Brown, The Economist on 5 January reported that the head of environment policy at Euroelectric and the Association of Electricity Producers had asked European energy utilities that have an international portfolio as well, where they were expecting to invest over the next few years, and 85% of them replied, “Outside of Europe”. We have £110 billion of investment, which has never been done before—£200 billion if you look at energy as a whole—yet your submission from the CBI does not mention skills and the potential shortage of skills to deliver that. Is the potential shortage of skills one of the issues that means that 85% of those investors are saying that they would be investing outside of Europe?
Dr Brown: The first step to ensuring that the skills base is built up is actually improving the investment climate so that the investors do want to invest in projects here. Then, over time, those investments can become stickier and stickier such that it is not just people bringing in skills from outside the country to deliver the projects, it actually becomes more and more economically sensible to source and grow skills in the UK.
The other thing is that you are absolutely right to highlight the importance of the European picture and, although I guess that we will want to talk today mostly about the UK Energy Bill, we are also doing a lot of work on the importance of improving the European energy and climate framework.
Q 153 The Chair: Can I say to colleagues that we are halfway through question time for the two witnesses. We have eight further topics that we are briefed on in terms of questions. We obviously will not be able to cover them all, but my plan would be to work down the headings and hon. Members can catch my eye if they wish to ask particular questions. Does any colleague want to ask questions about clause 1 of the Bill, the over-arching aims, or about the decarbonisation target?
Q 154 Dan Byles (North Warwickshire) (Con): The 2013 decarbonisation target is turning into a bit of a football in this particular Bill. I wish to push you both on it because both of your organisations have stated positions on it. The CBI’s position is, “Don’t delay the Bill arguing about the 2013 decarbonisation target”. That is, in effect, what the Low Carbon Finance Group told the Select Committee during pre-legislative scrutiny. Would you say that that is the position of your organisations?
Andrew Buglass: Yes, but with a caveat. Our immediate focus is obviously on bringing forward projects in the near term. We are talking about projects that will be developed over the next three, five or seven years. That is the absolutely critical element to get that investment forward. That means for us a key focus on the Bill and all the supporting package. I think that is particularly important to keep the investment momentum and to continue to drive costs down across the technologies. This is a minimum of a 15-year investment horizon for investors. So the critical need is really three aspects from policy—this is not a new refrain—transparency, predictability and durability. Therefore our key focus in terms of the Bill itself is making sure that to the greatest extent possible we can continue to feed in our views, which we believe will help to foster those aims and support further investment.
I think, however, that there is slightly broader point which goes back, I suspect, to the earlier question on the supply chain investments. While we can look and have the luxury of looking at projects on a project-by-project basis, very much case by case, if you are a manufacturer who is looking to build a significant supply-chain investment, you will want to have some form of clarity beyond that three, five, seven-year time horizon. In that context some form of direction of travel would be very helpful to assist in bringing the additional investment to this country which results in investment and job creation. But there is an open question of whether a decarbonisation target is the best way of doing that or some broader statement of policy direction.
Andrew Buglass: Indeed. But I think that is absolutely critical from the conversations I have with potential supply-chain investors because they quite rightly point out that it is very difficult for them to take investment to their board if they really only have visibility on three or four years-worth of work. After that you may have a very expensive factory sitting idle or which they should have built in a different country.
Andrew Buglass: I suppose my response would be that that is potentially a very valid approach but I do not think it is really my place to suggest ways by which the Government should do that. The investment community is saying, “Please show us a clear path by some means, whatever is viewed as the most acceptable and appropriate.” Sorry to duck the question there, but it would be inappropriate for me to propose specific ways.
Q 156 Barry Gardiner: I am not asking you to gainsay the Secretary of State, Mr Buglass. I am just asking you for your opinion. That is fine. So it would be a valid way of showing clarity and getting investment incentivised?
Dr Brown: We hear from businesses that there are businesses who are opposed to a carbon intensity target, businesses who are in favour of it and businesses who are in indifferent to it. The key issue is that it is not at the top of anybody’s priority list for boosting investor confidence.
Q 157 Barry Gardiner: The Secretary of State could not remind us in all his conversations of any of those companies that were against it when he spoke to us this morning. He said he would write to us. Dr Brown, do you have the names of those companies who are against having it in the Bill or would you like to write to us as well?
Dr Brown: If I tried to reel off a list of names I would be in danger of getting something wrong and then getting an angry letter from one of them. But I could say that if you were to look at the companies that have not publicly come out in favour, you could reasonably assume that they are either opposed or indifferent. It might also be useful for me to mention that this does not split simply along sectoral lines.
Q 158 Peter Aldous: I am conscious that time is ticking on, but Mr Buglass says that there are other ways of giving investors confidence. Is there any drawback with a decarbonisation target, such as additional cost?
Andrew Buglass: The decarbonisation target is one way of signalling that we, as a country, have decided—assuming that we were to do so—that we want to achieve that level of reduction. There are others, of course, that one could look at, such as a more specific direction in terms of what our future generation mix will be. At the moment, it seems to me that the
I believe that the hope, therefore, is that that would be done as efficiently and at as low a cost as possible, but there are other markets in which Governments give a much more clear direction in terms of what they see as the future generation mix, for example. That, of course, is not covering the manufacturing sector, but I tend to focus more on the generation side; Dr Brown will focus on the much broader economy point.
The Chair: To try to help colleagues, may I say that we have 15 minutes left with these witnesses. We are obviously not going to work through the list of questions, and I am about to call the Minister, but if any Member has a particular wish to ask questions on, shall we say, the renewables obligations—quite some way down the list—or access to markets and liquidity, perhaps they should send me a note so that we get to their part of the agenda.
Q 159 Mr Hayes: On the character and shape of the Bill, you will know that the Government have built into the Bill the capacity to look at the target in the context of the fifth carbon budget. That adds additional flexibility, and I think that you, Dr Brown, said that business recognised that flexibility, and that the people who have not made the counter case were either indifferent or opposed to a more rigid approach. Is that how you see it?
Dr Brown: I think the way that the CBI sees it is that the debate over the carbon intensity target is simply not what any business would list off in its top two or three priorities to generate investor confidence from this Bill. People will talk about how the CFD is designed, the terms of that, how the capacity mechanism is designed and what the decision is that we have now had over the levy control framework before anybody gets into that debate.
Q 160 Dr Alan Whitehead (Southampton, Test) (Lab): The levy control framework, which will control the total amount of CFDs that may be issued over a period, has been set at £7.6 billion in current prices. My understanding is that CFDs will initially be allocated on a first come, first served basis, and then there will be allocation rounds once a signification portion of that budget under the LCF has been allocated. Is that your understanding of how it will work? How, in your view, will that work in the context of investment instrument CFDs coming into that total allocation? Do you think that, under those circumstances, the level at which the levy cap has been set is likely to cope with that procedure and the accumulation of payments to existing projects before new projects come on stream?
Andrew Buglass: Yes, that is indeed my understanding; it really underlines the comments I made earlier in terms of some of our areas of focus for the future detailed development. I also understand that the levy
It is therefore hard for us to form a view at this point as to the adequacy of the £7.6 billion cap overall, particularly since we do not know at what level the strike price will be set. I am sure that DECC officials and their colleagues in the Treasury and elsewhere have debated that at some length. As we get some further clarity on the strike prices—or at least the indicative strike prices—in the middle of this year, we will be able to form a better view. At the moment I would not want to form an opinion on the adequacy or otherwise of that ultimate figure of £7.6 billion.
Q 161 Tom Greatrex: You touched on the counterparty before, and I think you both referred to a single counterparty model as being an improvement on what was in the draft Bill. The current drafting of the Bill leaves open the possibility that there could be a multiparty counterparty. Does that concern you, or is the Government’s stated intent of a single counterparty good enough?
Andrew Buglass: We fed in during the process, and, as you know, we have been engaged closely with DECC for the two years that the electricity market reform process has been ongoing. During that process we have quite clearly set out our view that we would prefer a single counterparty body, for reasons principally of greater clarity and visibility on the ultimate credit worthiness of that entity. That is still our preferred perspective.
Q 162 Tom Greatrex: Given your comment before about investors looking at having only a three-year, four-year or five-year period of certainty, does the fact that, because of the way that the Bill is drafted, a future Government could effectively decide to switch to a multiparty counterparty cause you any concern?
Andrew Buglass: That has not been something on which we have focused a great deal, to be honest. I would have thought that once the body is established there will be a natural tendency for that to continue to be the body that provides. We have seen continued revision to a framework—throughout the RO, for example. Investors are not necessarily surprised to see a policy evolve; the key thing is that there needs to be a clear message that there is a grandfathering and support for anything that has gone before and anything that is being developed under an existing framework. If there were a future change, we would continue to view a single counterparty as preferable, for the reasons I have outlined. We would not expect any policy to be set in stone for everything to come in the future, but what, to me, is absolutely paramount is that any change does not impact on investment decisions that have already been made.
Dr Brown: As you probably know, we also supported the single counterparty model. We took that view after talking to all the businesses that are interested in the model. I have to say that none of those businesses have
Q 163 Mr Weir: You touched earlier on the setting of the strike price, which, under the Bill, will ultimately be set by the market, though initially it will be set administratively, for obvious reasons. As investors, are you satisfied that the administrative setting of the strike price will be sufficient for the investors involved? Do you think that will be likely to provide good value for consumers?
Andrew Buglass: I think the investors will just vote with their wallets, to be honest. If the strike prices that are proposed are not viewed as sufficient to bring forward the investment, they will take their investments elsewhere. The market will give a clear signal on that.
Dr Brown: I suppose it is a hard problem. Set the strike prices too generously and you over-incentivise, and that cost is passed on to the consumer. Set them not generously enough and you either do not see the investment, which is bad for consumer prices down the line, or the cost of capital goes up, which is also passed on to the consumer. It is a hard problem, but it is not necessarily a new problem. The Government must take the rigorous approach they have taken in other such negotiations and decisions. There are some public yardsticks by which we will be able to judge the Government’s success. Public information analysis modelling of the costs of different technologies is available.
Q 164 Mr Buckland: I want to go back to clause 35(3), and talk about power purchase agreements. There is a provision in that clause that will allow the Secretary of State to modify a licence condition, which would arguably have the effect of allowing independent generators to become involved. Do you think that proposal opens that door and allows for greater diversity?
Andrew Buglass: We welcome anything that would lead to greater liquidity. The majority of independent generators will look to raise debt to finance their projects. Even in a CFD world, financiers will certainly look for a power purchase agreement. It is not only about the certainty of price but about gaining access to the market and being able to sell your power. For intermittent generators, it is about things like imbalance risk, which will still need to be taken care of. Our expectation is, even following the introduction of contracts for difference, that there will still be a requirement for independent generators to be able to sign power purchase agreements.
We note, and know from many instances, that that market is currently quite illiquid. The terms on which PPAs are being provided are materially less attractive to generators than they were perhaps three or five years ago. The number of providers has reduced as well. It is unlikely that any one initiative will resolve all of that, but we certainly welcome anything that will add to liquidity and will ultimately lead to a greater choice of power purchase agreement for the independent generators.
Dr Brown: First, I think it is a good thing, and we are pleased that the Government have committed to it. We need more details about how it will work in practice. I understand that the Government are consulting at the moment on that, and we will be feeding into that process.
Andrew Buglass: That is something we have focused on a bit less, but I would echo Dr Brown’s comments. I think it is to be considered in greater detail as we see the provisions come forward. We recognise that there is a significant cost impact that needs to be managed.
Q 167 Ian Lavery (Wansbeck) (Lab): The levy control framework—the levy cap—is set at £2.35 billion for this year. In real terms, it is going to be increased to £7.6 billion by the year 2021. Do you think that it is pitched at the correct level?
Dr Brown: I can only depend on the analyses available from bodies such as the Committee on Climate Change, which posited a number in a similar ball park to that, and what I hear from businesses, which are all broadly happy.
Andrew Buglass: I gave an answer on that earlier—to a degree. We certainly welcome the transparency that exists now as a result of that being published, and we will assess the overall adequacy of it once we know the strike prices.
The Chair: With an eye on the clock and just a few seconds to a go, we should probably draw to a close this set of questions. On behalf of the Committee, I thank the two witnesses, Andrew Buglass and Dr Matthew Brown, for joining us and answering our questions.
Examination of Witnesses
The Chair: Once again, we have 45 minutes to question this group of witnesses. I will begin by inviting them to introduce themselves by giving their names and telling us which organisations they represent.
The Chair: Thank you all for joining us. We will begin, as we did last time, with different questions about the general need for electricity market reform. I will work down my list. Is there somebody who wishes to ask about decarbonisation targets?
Q 168 Luciana Berger: Welcome, and thank you very much for your time. What are your views on setting the decarbonisation target for the power sector? Do you believe that there should be a target for 2030 in the Bill?
David Handley: As an independent generator, I think that the Government have an admirable track record in honouring their contracts once they are established. The value of a 2030 decarbonisation target, as we heard earlier, is in providing that greater signal to the supply chain, to the entrepreneurs who are looking to invest in new businesses and to the people who are developing projects that there is going to be this long-term market for the products that they are delivering.
Asif Rehmanwala: We believe that it is fundamental that the decarbonisation target is put in place at this stage of the Energy Bill. As a company, we believe that it will enable the operation of the Bill to be more meaningful at the outset, with all the different aspects of the Bill, such as capacity mechanism CFDs. It would make it more meaningful and more robust if there were a decarbonisation target at this point rather than bringing one in later on.
Danielle Lane: I agree with the comments that have been made. We would like to see a 2030 target. We think that it would give greater certainty to the supply chain, which is a very fundamental part of our being able to deliver the existing 2020 targets, with a view to the cost reduction that offshore wind certainly has been asked to deliver.
Q 169 Luciana Berger: Danielle Lane, I know that DONG Energy has already been a big investor here in the UK, but this is not the only market that you operate in. There are other countries across Europe in which you have an interest now and in which you are looking to invest in the future. What does this mean in terms of how you may or may not use the funds that you are considering and whether you would or would not put them into the UK?
Danielle Lane: It is about looking beyond 2020, which has become a big number in everybody’s mind. We are working towards delivering our projects for that, but we now have a pipeline that extends beyond 2020, and we have to work towards getting certainty for those projects as well. We make an investment decision up to four years ahead of construction and operation of any wind park. That means that by 2017 we are already looking at projects that will be delivered in 2021 and after. Without some indication of what happens between 2030 and the decarbonisation target in 2050, it is harder to persuade our board that we should invest in the UK. There are a lot of other things that make up a good business and make a good market attractive, but that is a signal to companies such as ourselves that there is still a future in the UK for renewable projects.
Q 170 The Minister of State, Department of Energy and Climate Change (Gregory Barker): I understand that and that could be helpful, but Ms Berger rightly raised the issue that as an international company you
Q 171 Gregory Barker: So in terms of influencing choices now, it would be fair to say that there is not another market that you would invest in on the basis that they had a decarbonisation target that we lack. And are there other countries that also have in statute a mandatory carbon reduction target for the whole economy that we have, namely the Climate Change Act 2008?
Danielle Lane: I suppose what I am struggling with is that it is never a yes or no answer in these cases. What we are looking at is a whole range of different things that drive an investment decision. As I said, the 2030 target would be a contributor towards improving the overall attractiveness of the market. It is not the only thing that we would look at. There is a huge range of other things. You are right. Britain would be one of the first countries to adopt such a target.
Danielle Lane: Yes, but it is a case of having a cliff edge at the moment; 2020 is a big milestone and everyone is thinking that we are delivering to that date. But people ask questions about what happens after that date.
Q 176 Gregory Barker: The cliff edge you refer to is a pan-European cliff edge. It is not a UK cliff edge. It is something that all our partners in Europe face because you are referring to the 2030 target, which is an EU target. What we have in addition to that is the Climate Change Act 2010, which is the most robust piece of national legislation anywhere in Europe.
Q 177 Gregory Barker: Absolutely, and that is why I am concerned that you do not seem to be placing enough value on what I think is an extraordinary piece of legislation, which is the Climate Change Act.
Asif Rehmanwala: The Energy Bill represents a good opportunity to do that at this stage. You mention other parts of Europe. Are they going through a similar market reform and do they have the same opportunity as we have at this time to set that target and operate the new market in a robust fashion to achieve further decarbonisation out of 2030?
Q 178 Barry Gardiner: It is also about the supply chain. It is not just about you and your investment decisions. Yes, you need to make investment decisions further ahead, but if you want a functioning supply chain within the UK, they need to see that 2030 intensity target as well, do they not?
Q 179 Barry Gardiner: On this question of carbon intensity, you will have seen the Climate Change Committee’s progress report, which said that we could reduce current emission intensity by over 200 grams per kWh—that is 40%—already without any change in the structures of the plant in place, by means of a merit order with a different ranking as to who got priority. Is that not something that you would welcome in the Bill, so that renewables got priority ranking within the grid?
Danielle Lane: Obviously, it would be attractive to us as a renewable generator, but the Bill and the energy market reform is trying to take a total look at the system and provide a lot of things as well as priority dispatch for renewables.
Q 180 Barry Gardiner: Is there anything that you can see that would mitigate against a ranking merit order so that the order was: renewables, nuclear, gas, ultimately down to the most polluting fossil fuels?
David Handley: To an extent, an element of that is provided within the electricity market at the moment. That could be made substantially clearer, and there are different structures that could make that clearer.
Q 181 Barry Gardiner: It is not functioning like that at the moment. The Climate Change Committee says that, by changing the merit order, we could achieve an improved carbon intensity of 200 grams; from 486 grams per kWh to 273 grams per kWh. I am asking if you can see any reason why that change should not be made, and why we should not put that merit order into the Bill.
David Handley: I think the question that is particularly pertinent to us, as an independent generator, is: how do we ensure that we have a valid route to sell our electricity in the first place? Within the electricity market reform package, we are worried that that route to the market may no longer be available to us.
Asif Rehmanwala: May I comment on that? The merit order stack, if you like, is very much dependent on the economics of the plant. The stack today pushes gas out of the market, making it uneconomic as spark spreads are very low. If you are going through an energy Bill that is going to incentivise certain technology, you can create a merit order in exactly the way that you described and reduce the carbon intensity of the grid, and the make-up of the plant, because of the investment, subsidy-wise, that is pushed on to that generation. With the way that it looks like it will be structured, it is inevitable that that will happen.
Q 183 Dan Byles: The 2030 decarbonisation target is obviously the hot topic for this debate. In terms of cost for consumers, have you done any work on what the potential impact would be of bringing in a 2030 target?
David Handley: The Climate Change Committee suggested that this would be an evolving target that would be assessed based on evidence of cost of delivery and what that cost is likely to do to the consumer. That is a position that we would certainly support.
Q 184 Dan Byles: As we effectively have a 50% emission reduction target for 2027, as a result of the fourth carbon budget, do you not think that there is a danger that having a sector-specific decarbonisation target just in the power sector could lead our emission reduction programme to be skewed away from what may yet be the most cost-efficient emission reduction by 2027 or 2030? It may be that that is not necessarily the cheapest way of cutting carbon. Does that make sense?
David Handley: Yes, absolutely. That is why the process of a review is particularly important. At the moment, the evidence suggests that the electricity sector is the cheapest place to achieve that decarbonisation. If the evidence suggests otherwise and that there is alternative, it should be for a review.
Q 185 Gregory Barker: If you accept that the electricity sector is the cheapest place to make that reduction, which it may well be, it does not necessarily follow that renewables or nuclear is the cheapest way of doing it. It may be that, to get the reductions that are implicit in the climate change targets, you could have a further push on energy efficiency, for example.
Q 186 Dr Whitehead: You mentioned the route to market of the independent generators and suppliers, Mr Handley. We know that power purchase agreements in the present market seem to be disappearing and that there may be question marks over how—I think this was the purport of your answer—independent generators and suppliers get to market under the CFD regime.
There is also the question of Ecotricity and the extent to which independent suppliers can hedge and provide collateral as far as a post-CFD regime is concerned. Do you regard those as almost irresolvable issues as far as independent and small generators are concerned? Are there ways forward that you think can be pointed to as far as future regimes are concerned?
Asif Rehmanwala: It is a very big challenge for us in terms of the renewable generator. You have a perspective where you might not be able to achieve the right price because of not being able to attain the reference price. You have a cash flow issue there. You have an issue of not attaining the level of reward that you had expected from your generation. First and foremost, you have the access to the market issue through the PPA, as you mentioned, and you also have a liquidity issue. They are all intertwined issues for the generator. You also mentioned suppliers. For the small suppliers, the cash flow issue is very real between payment to the counterparty body versus returning the money from customers, and that could be very untenable for such suppliers. There are risks on both sides—generator and supplier.
David Handley: For us, the ability to source and route the market is one of the key fundamental things lacking from the Bill, as it stands. Currently, as an independent generator, in order to get a secure route to market that is financeable, we have to receive a long-term contract with typically a triple B credit rated utility or large supplier. There is a very restricted market of people who can provide that.
Currently, there is an alternative solution, which is held as a back-stop power, called the short-term auction market. It could use the existing NFPA—Non-Fossil Purchasing Agency—structure and combine that with the contract for difference. If you literally just link those two cogs, you have something that can really drive investment forward, manage balancing risk, and create a financeable structure. We would certainly urge for that to be taken out of the back-stop power and implemented up front alongside the first CFDs. For us, that is an absolutely business-critical issue.
Q 187 Dr Whitehead: Do you think there is any mileage in considering a continuation and expansion of the present system, particularly for independent suppliers where those with a customer base below a certain size do not pay in to cover CFDs for the future?
Asif Rehmanwala: We have certainly argued for that in the past. On the threshold being 250,000, as it is for other obligations, we believe that that is absolutely fundamental. We have heard at least one of the big six players say that there would be an impact on their credit rating through the cash flow impacts on being a supplier. That has exacerbated these aspects for a small supplier—very much so. It is difficult to understand and know exactly what that impact is cash flow-wise, but some of the modelling that we have done makes it look like it could be very difficult for a small supplier such as Ecotricity. Therefore a threshold of 250,000 customers to not be involved would be very welcome for us.
Q 188 Mel Stride (Central Devon) (Con): I just want to press you a little further on the question that Dan Byles was driving at earlier about the effect of having a 2030 decarb target now on consumer costs. If we had that in the Bill now, would you expect costs to rise, stay the same or be lower than otherwise?
Danielle Lane: The expectation is that the more certainty you create for the supply chain, the more opportunity there is to drive down costs within the framework. We are looking particularly for things such as offshore wind. We are looking at long lead time items to make investments a long way ahead. That is particularly the case for the supply chain. If you want to get innovation and development, you need to have a certain framework in which you are operating. The 2030 target would help towards that. It is not the only thing, but it would certainly help.
Q 189 Mel Stride: Would you not accept that if you look at the whole picture, and not just your particular sector, as it were, then having that target—that straitjacket; that extra restriction in terms of the way the market operates—might impose costs overall that ultimately the consumer would bear?
David Handley: It depends on how you are calculating that cost-benefit equation. If you are looking at the full economic impact across the economy, I suspect that the broader supply chain provision and the signals for sourcing those jobs in the UK—
Q 191 Gregory Barker: I think that we are looking at directing the impact on consumer bills. We have just settled the levy control framework for the next few years. Clearly, if we were to increase substantially the level of renewables, particularly offshore wind, it would require a substantial increase in the levy control framework, which would have an impact on consumer bills. I totally accept that there is a wider economic benefit, of course.
Danielle Lane: I do not know that that is necessarily the case, given that not just offshore wind but the entire industry has been set a very clear case that we need to drive costs down and that we need to become cost-competitive with other forms of technology. The clarity that the levy control framework budget has brought is an understanding that there is not an infinite amount of money to go round for everybody for every project that comes forward, and that only the best projects and the most economic and efficient projects should happen.
Q 193 Tom Greatrex: Mr Handley, you referred to PPAs. Can I come back to the point that I think you were making in relation to the back-stop powers within the Bill? I am looking particularly at clause 35(3). Were you saying that that was not a back-stop power, but actually a power to be used, after the Bill becomes an Act, that would solve the issue around PPAs?
David Handley: This is where, effectively, some guidance from the Government on how the powers in the Bill actually feed through to a solution would be very welcome. At the moment, if you look at annexe A, the Government have maintained three back-stop solutions. One of them is an obligation to offer terms, but they expressly state that prices and the financial terms would be excluded from that obligation. Effectively, therefore, it would be an obligation to offer contracts, but not at what price. There is also a PPA provider of last resort, which appears to be ruled out, and a short-term auction market. The obligation to offer terms is clearly allowed for within that clause, and if that obligation were to include a determination on price, it could work, but without that, it probably will not. We appreciate, welcome and look forward to the short-term auction market, which is a market structure that is in place in line with the first operational CFDs. For us, that will make the whole structure work; it will join those two cogs together.
Q 194 Peter Aldous: This morning, when we had three of the big six in, they were more relaxed about the lack of a decarbonisation target than you appear to be. We have also heard about the concern of the independent renewable generators about the need for an early introduction of the short-term auction market. Are the investors in supply chain companies and independent generators looking for additional methods of support in order to be able to invest in the sector?
David Handley: The two are very different. The short-term auction market is about putting generation equipment on the ground and doing it in the cheapest, most cost-effective way so that the cost to the consumer is brought down for that plant. The decarbonisation target is about a longer term signal to the supply chain, people who are looking at their own start-ups and people looking at what direction the decarbonisation path is taking. They are very different things. The short-term auction market is about delivering efficiency, liquidity and contracts that work to the energy market reform package.
The Chair: May I direct hon. Members’ attention back to the list of topics on the green sheet of paper? Does any colleague want to ask questions about community energy projects or contracts for difference?
Q 195 Mr Weir: Are you satisfied that the provision for contracts for difference will provide the same certainty as the existing ROCs? Do you have any concerns about the proposal to close ROCs by 2017?
Asif Rehmanwala: Yes, we have some concerns regarding CFDs versus the RO and ROCs. The way the allocation of CFDs at the outset has been described is that you
Asif Rehmanwala: That is difficult. I guess it would be what the criteria for where CFDs are attained after spending on planning permission and grid connection look like, how affirmative the answer is likely to be, and what level of risk there is of not attaining a CFD in a particular round for a small generator. I guess it is only the experience of those things when they happen that will alleviate that worry. Clearer criteria and so on as part of the secondary legislation will help, but until we actually go live into the market, it is difficult to understand that those risks can be alleviated.
Danielle Lane: We welcome CFDs, and we have done for the past two years. I would share some of my colleagues’ comments, though, that the detail of the allocation is critical. We recognise that this is an enabling Bill, but understanding what the secondary legislation, guidance and any industry codes that need to come out of this will look like, how they will work, and what kind of processes will be in place to judge projects against each other—if and when we come up against a more administrative process than first come, first served for a CFD award—are all important questions to which we do not have the answers at the moment.
Q 197 Mr Weir: The rationale behind closing ROCs in 2017 was to give a three-year period, in effect, when the two systems are running side by side. Do you feel that will give sufficient time for you to be satisfied on these issues? Are you concerned that when the strike price is set, for example, it might derail that?
Danielle Lane: There is a very tight time scale between now and mid-2014 in which to deliver all the detail that is necessary. I think there is fair concern that if we do not get that, there could be problems with the 2017 end date. However, I do recognise that we would also be asking for certainty if we did not have an end date, and you have to pick a date. We will work very hard with DECC and the rest of the industry to ensure that that delivery is made.
David Handley: From our perspective, under the RO, we have seen PPA terms deteriorating consistently over the past two to three years. We are very concerned that that deterioration will carry on. If that route to market can be resolved under the CFD, we would be keen to move towards that new system, because it will deliver lower costs if it can work properly.
The Chair: Three colleagues want to ask further questions broadly in this area. I again invite colleagues who particularly want to ask questions about some of the matters further down the list—the renewables obligation, about which we have talked a good deal, access to markets and liquidity—to send me a note.
Q 198 Mr Hayes: On the subject we have been debating for a moment or two—the clarity that CFDs bring in, in the way you have just described, Mr Handley—presumably you support the changes made to the final Bill from the draft Bill in terms of access to CFDs for renewable companies. Why do you welcome them and what practical differences will they make?
David Handley: Just in terms of clarity, can I confirm that that is with regard to the provision of the counterparty, which is certainly something we support quite strongly? We think that is a good additional step forward. In order to access the CFD itself, this comes back to the route to market and whether you are able to sell the electricity at a viable rate to allow you to achieve the returns set out by the contract for difference. Assuming that we can resolve that, yes, it is a significant step forward.
Q 199 Graham Jones: On the community energy projects, I understand that one of the Cheshire authorities is looking at a combined heat and power solution for the region. What impact will the Bill have on medium-sized energy projects such as that and others that may be brought forward by community groups or commercial organisations?
David Handley: We find the structure potentially very complex, and we are quite a large organisation. The ability to negotiate this route to market is one of those critical things. For a community organisation that does not have that in-house expertise or may not have access to it, this presents a series of challenges that may not be adequately addressed.
Danielle Lane: There is an element of development risk here that was already there under the RO. However, under the previous regime there was more of an assumption of a guarantee of an RO, whereas now it is much more explicit that not all projects will win in terms of a CFD, at least in later years. The risk for community-led projects is that a lot of goodwill and finance needs to be raised to get the project through to consent, and then they do not actually achieve the CFD. That is a risk for them that they need to understand fully before they enter into this process.
David Handley: When I think of community groups, I am thinking effectively of that 5 to 10 MW threshold. I am aware there are probably things that would go above 10 MW, but they are probably getting increasingly rare.
David Handley: It is as diverse as the different communities which implement them. You are right: 10 MW would be very substantial, and I would be surprised if there were many. However, in the case of wind and biomass: yes, absolutely.
Q 202 Gregory Barker: The last Labour Government set the FIT scheme at a 5 MW cut-off. Are you arguing for raising the FIT scheme threshold, for another course of action to simplify contracts for difference or even for bringing in some other mechanism?
Asif Rehmanwala: Probably two different things. The contracts for difference mechanism, as my colleague said, would make the route to market easier in terms of planning and getting through the stages of making a community energy project viable. The FIT rate would determine the economics of that project. I think they are two different things, but both are very important for making the project work.
Q 203 Gregory Barker: I am a huge advocate of community energy and distributed energy solutions, but standing back, in terms of size, trying to amend contracts for difference for a range of projects that would add an additional 5 MW is perhaps using a sledgehammer to crack a nut, even with the best will in the world. I wonder whether we are missing something here.
David Handley: The issue faced by the community energy generators is effectively on a scale. You have the larger independent generators, such as RES, such as many of the colleagues we work with, who have specific issues. It gets magnified as you move down to those smaller-scale facilities. You can increase the feed-in tariff, for example, and that might capture a section, but you will still need a solution which deals with the rest of the independent generation—the larger-scale generators.
David Handley: From our perspective, the issue of the route to market is not so much a size definition but rather a finance definition. Anybody looking to attract that long-term finance which the EMR is looking to bring into the market— anybody looking for a project finance route to build their projects—is going to require a long-term PPA. It is for that constituency of projects that there is a specific problem, which then materialises in increases, and I guess that the risks multiply as you bring it down to the community scale.
Q 205 Sir Robert Smith (West Aberdeenshire and Kincardine) (LD): Back on the question of the RO extension, isn’t the consequence of such an extension that it will put more risk of cost on to the consumer, and therefore it is better to get the transfer to CFD done efficiently and effectively?
Danielle Lane: Yes, it is fair to say that we would rather have a clean end date. My concern is only that if there is any delay in implementation, we may be left without any support. That is a risk that we are aware of, but I would rather see a very clean transition between the two schemes.
Q 206 Ian Lavery: There was a lot of industry support for both the capacity market and the strategic reserve, and the capacity market was put into the Bill. Will that have any cost implications for the consumer?
Danielle Lane: The current proposals that have been outlined by DECC and the expert group are that the cost of the capacity will be levied and collected through the suppliers in proportion to market share, so that is a direct cost that would need to be passed on to consumers.
There is an expectation that there may be a difference in the electricity price in the wholesale market as a consequence of a payment to the generator through the capacity market, but it is to be seen whether it is the right amount. There is a risk that you do not see a reduction in the cost to the consumer. I have to say that we did not support introducing a capacity mechanism at this time.
Asif Rehmanwala: I agree with my colleague; our belief is that it will significantly increase the cost of energy to consumers. The wholesale market will be driven by market fundamentals, as it always is, and an additional capacity mechanism will be an additional cost over and above that. As my colleague says, the wholesale market is unlikely to be impacted. The price of the wholesale power—gas, in this case—is unlikely to be affected by having a capacity market mechanism in place.
Q 208 Dr Whitehead: In terms of the impact assessment of strategic reserve options and capacity market options, the present proposals on the capacity market seem to be about twice as costly. Are you taken by the idea that, although twice as costly for other qualitative reasons, the capacity market may produce a better outcome than strategic reserve, even though the cost to customers is apparently so much higher?
Danielle Lane: One of the questions that we had, which still remains, was that the argument against a strategic reserve is that it could be a slippery slope to having a market-wide mechanism, so instead we are going to implement a market-wide mechanism. It does raise the question as to why we chose to make sure at the bottom—
Danielle Lane: Yes, and it has never really been explained to me why that is more efficient. We would rather have seen the delivery of a better, more liquid power wholesale market than a further intervention and the introduction of a capacity market. I do not really
Danielle Lane: That is a good question. I think that it very much depends on the out-turn of any discussions that DECC has with those people who apply for them. It is difficult to say at this point because we do not have visibility of how those discussions may be going.
The Chair: Order. I have to draw a halt now to this panel. Thank you to all three of you for coming to answer our questions. My apologies to the Minister for not being able to bring him back in, but I have an inflexible Standing Order here, and I have to obey the times on it. I invite the next three witnesses to come and take their places.
Examination of Witnesses
Nigel Cornwall: Good afternoon. I am an independent energy market consultant. We tend to work with smaller players on the generation and the supply sides of the market, and have recently done a report for Co-operatives UK on the impact of EMR on community energy.
Q 211 Mr Hayes: Professor Helm, you have been something of a critic of the Bill—you certainly were at its draft stage. Have you marked the improvements that have been made to the final Bill, from the draft Bill, particularly given that one of your early criticisms was that the draft Bill was too complicated? By any measure the Bill is rather less complicated now.
Professor Helm: There might be some—in my view, marginal—changes to the complexity of the Bill, but the fundamental point is that it was extraordinarily complex, and it remains so. The reason it is so complicated is its history: after 12 years of moving towards this Bill,
Separating out the contracting for capacity from the FITs means we have an overelaborate set of mechanisms. In the history of energy policy, when you have very complicated structures like this you end up with both higher costs than you intended and unintended consequences. To me, the unintended consequence is that this is an extraordinarily expensive way of achieving what are some pretty straightforward objectives: security of supply and decarbonisation.
Q 212 Julie Elliott: Professor Helm, the Government have refused to reform the energy market by introducing a pool in the Bill. Can you tell the Committee whether you think a pool would increase or reduce completion, transparency and liquidity?
Professor Helm: I have always thought that the original pool, at privatisation, was an extremely transparent, liquid and open market, which encouraged entry because anyone could buy or sell at the pool prices. In the world that I would envisage, there would be, as there have been in energy markets for the last century, in principle, a capacity payment and an energy payment. I would merge the FITs and the capacity mechanisms in the Bill into a single auctioned set of contracts and the residual would be a pool that would be open, transparent and clearly opened entry. So that would be an extremely good thing.
There is an open question as to whether, with the contractual complexity being put in place, the current wholesale market will end up being a bit like a pool. But if it is, why not do it properly and in particular give any generator the right to sell at the pool price and any potential supplier the right to buy at the pool price as we had originally before the complexity of NETA and bilateral contracting and all the opaqueness and illiquidity that resulted? So yes, I think going back to the pool would be a great thing to do.
Q 213 Mel Stride: Professor Helm, it is nice for me personally to see you here today. You will not know this or remember this, but about 30 years ago you tutored me in economics, and so successfully that I aspired to the dizzy heights of becoming a Conservative MP.
Q 214 Mel Stride: I think you should count me as one of your great successes. My question is this: you have called, quite rightly I think, for an Energy Bill for a long time and the certainty that it would provide. It has now arrived. What aspects of it do you particularly welcome?
Professor Helm: The market, as we had it after the 1998-2000 reforms which brought in NETA etcetera, is deeply flawed. If we want to achieve essentially three
So it is pretty straightforward. What you want—in some sense the Bill has this—is a contracting framework competitively to auction contracts consistent with the security of supply total requirement for investment and the decarbonisation outcome. What I do not like about the Bill is that it tries to do that in one of the most complicated ways that I can envisage. It is wide open to every lobbyist to turn to the Government to ask for support and a better FIT for their kind of outcome, and it is wide open to the problems of the interaction of trying to run a capacity market on one side and a set of FIT contracts on the other.
So the core idea is fine. It is just that the Bill should strip away a huge amount of the complexity, a huge amount of the derogated powers and rely on the market to carry out auctions so that the Government, National Grid and everyone else do not have to sit round trying to calculate what they think the strike price is, forecast the electricity price going forward and work out what the subsidy is for each technology. Let us just achieve the objectives the cheapest way by auctioning those contracts. It has already spawned a whole industry. First the energy companies moved back to bases that are near to Whitehall. Now we have all sorts of people in the business of forecasting prices, lobbying on different components. This is just the beginning of a process which is wholly unnecessary to achieve the objectives of the Bill.
Professor Helm: Almost certainly not. If you look at what is being created here, the unintended consequences, the scale of the costs compared with the fact that consumers probably will not be able to pay for the outcome and even if they are willing to pay for it, they might not be willing to vote, with due respect, for politicians who are going to force them to pay. If you look at the underlying consequence of this, if I was an investor I would expect this thing to be changed, altered and the rug to be pulled from under it some time in the future. That is why I think, for example, after the next election and after this Bill, we will be into another energy policy review and another one after that. Whatever the contractual form says, whatever the frame of the Bill is, if it ultimately produces costs and outcomes that are neither sensible nor sustainable in terms of people’s ability to pay, things will get revised ex post, as the Spanish and even the Germans have discovered. The paradox is that it does not reduce the cost of capital. It has actually made the world a lot less certain than it
Q 216 Mel Stride: In terms of the argument about whether the decarbonisation target should be on the face of the Bill or handled through secondary legislation, as an economist do you believe that if we set the target now it will, on balance, lead to greater costs for the consumer, about the same costs or lower costs?
Professor Helm: There are three very short points. There is a question about whether a unilateral UK target on carbon makes sense in the current global climate change context. We decided to do that. It is in the Climate Change Act, and it is very clear. I think about the Bill in terms of how to achieve the outcome of that Act. The Act is very carefully crafted and it provides for carbon budgets. The carbon budgets have to meet the overall objective, which is the 2050 target in the Climate Change Act. So you do not need anything extra.
The question is, what are you doing? Are you trying to decide now what the fifth carbon budget will contain? Will you then override the democratic process of going properly through Parliament, which requires your approval, because you already know the answer? Or are you saying you are going to do this but you might change it if you change the carbon budget?
I think it is unnecessary to add this on. To me, it increases the level of uncertainty. The case for doing it would be because you do not believe that the Climate Change Act or the carbon budgets are properly constructed. I happen to think that they introduce quite a lot of flexibility, and they are quite well done. I was therefore very supportive of the Climate Change Act. I do not think we need anything extra.
There is a twist at the end of that, which is that if you put a 2030 target on the face of the Bill, the levy control mechanism may turn out to be inconsistent with that target. There would then be a question about which has primacy. That creates a difficult, complex component of the Bill. I return to my question: why would you want to do that? It is already in the Act. You have to distinguish between the politics of the battle between limiting what people pay, with a view to their ability to pay, and the overriding target trajectory. I do not make any judgment about that, but we should be clear as to what the advocacy of this additional target is really all about.
As I say, I think it is about the trade-off with the levy control. There is a deep argument about what happens to our very serious and important attempts to decarbonise society if we run ahead without considering whether customers can actually pay for what is being required. That is a very serious issue, which is underestimated in the advocacy for bits of this Bill. As I say, because it is so complicated, it is bound to be more expensive than it would have been in a simpler mechanism.
Q 217 Tom Greatrex: With all due respect to Professor Helm, there are two other witnesses. I am keen to ask both Professor Mitchell and Mr Cornwall—perhaps not at quite the same length—whether you share the
Professor Mitchell: I do not agree at all. I think Dieter is talking about economic theory. If you look at the evidence, investors ask for long-term, clear targets that they can work towards with their supply chains. At the moment, we have the levy control framework that goes up to 2020. After that, there is a cliff. We do not know what goes beyond that. Everything flows from there being the 2030 target. Without that, there is not going to be any kind of clear guidance about what these generators and investors should do.
Professor Mitchell: I am sorry, I understand all of this in this kind of very nice, theoretical, apolitical world: we have got the Climate Change Act, and that is great. The reality is, if you look at what has been happening in Britain over the last 10 years in terms of energy policy, there have been enormous disagreements. If you look at what has been going on just in terms of the EMR over the last two years, we have a lobby full of nuclear industry, strong movements for renewables and now a gas strategy coming out of the Treasury. It is an incredibly uncertain world for those who wish to invest, going into the long term.
In practice, if you want to get investors to come in with large amounts of money, you have to give them certainty going into the future. Unfortunately, in the UK, the last few years have caused there to be uncertainty. I would also say that the UK is in an unusual position compared with most countries in that it is not a unitechnology-focused country; France is supportive of nuclear, while other countries have no new nuclear. In those countries, it is much easier for investors to know what will go on in the future. In Britain, because we have got so many technologies going on, nobody really knows what will be the primary technology.
Somebody was talking earlier on about a feed-in tariff and whether renewables should have priority access for their generation. In other countries, de facto, that is the case. Actually, in Britain, because of the way that we operate our system, de facto it is nuclear. There is huge amount of uncertainty and we have to move beyond nice, theoretical arguments and really make things clear. There needs to be a long term, strategic framework that people can feel confident about because, as we have heard, there are other markets.
Nigel Cornwall: I have a very different perspective. I am more focused on how mechanisms work and how we will deliver existing targets. It is a huge ask to get to 2020, and get projects on the ground and make sure that the levy monies that are being made available are spent. Worrying about what happens 10 years beyond that, while that is a factor, is avoiding the issue.
On another point, I would be very unclear about how you could set a target before you have all got the institutional support from the fifth carbon budget, because whatever you set will be wrong. Somebody has already mentioned the potential conflict with the levy control framework: you would just be resetting targets on an
Q 219 Mr Hayes: Confirming all my prejudices against intellectualism, we have two academics in the room and they disagree. Presumably, if we had more academics in the room, we would have more disagreement. Professor Helm, you say that a 2030 target in the Bill would be unhelpful, but, Professor Mitchell, you say that that would be helpful. Interestingly, one argument is the antithesis of the other; you, Professor Helm, say that it would add to uncertainty, while you, Professor Mitchell, say that it would add to certainty.
Let me be clear about this: Professor Helm, you have argued repeatedly over a long time—I have read your stuff and it is wonderful—that we have got energy strategy wrong. When did we ever get it right? You criticise it now, going forward, but you have been a critic of it for a long time. Was it right in 2005, 2001, 1997? When was energy policy right post-privatisation? Or did it never go right after privatisation?
Professor Helm: Let me answer in two parts. The first part is that there is no perfect energy policy and there are good reasons for that. In particular, at any point you are a prisoner of past decisions, because you inherit a capital structure that lasts for a long time into the future. So I have never suggested that if I am criticising an existing structure that it is against some perfect benchmark. I have already pointed out in answers that I thought the pool was extremely well designed. I was extremely supportive of privatisation. I came forward with a number of suggestions of how to promote competition and entry into the industry through time. It is absolutely right that I was a trenchant critic of NETA and the move away from the pooled structure and predicted that we would end up in some of these difficulties that we are in now.
Going forward, I have suggested that what is also wrong in that framework is that when one put on top of it a decarbonisation target and an expiry of the excess capacity we want, that we had to have a contractual framework in place. I advocated right through the period up to the last election and with the previous Secretary of State but one under the previous Government that such a contractual framework was necessary. Much of what was and still is in the spirit of the Bill is exactly of that form.
It seems perfectly fair for me to argue that, whereas it is a good idea to have a contractual framework, there is an enormous premium on simplicity and using the market rather than Governments to decide who should build what, where and at what prices. What I suggested—and I am trying to be constructive—is that this could be simplified very considerably. Simplifying it will reduce costs, the market will sort out the outcome of this, there are market-based contracts in my frame, they will achieve the CO
2target, because the contracts will be sculpted in that form, and in addition they will ensure that there is sufficient capacity on our system so that there is excess supply to absorb shocks.
With due respect, I cannot see why that is a kind of academic point in particular. It seems an entirely constructive attempt to help shape energy policy and try to achieve the objectives that I think everyone shares and that are in the Bill.
Q 220 Mr Hayes: I did concede in my preface that it was due to prejudice. On the point about the journey towards a market-driven system, you refute the argument that I have seen your case that this could be the journey towards the destination you seek. Surely, given where we are and previous failures of public policy, the transition you describe to a more market-sensitive, more market-responsive system does have to be just that, a transition. Moving to auctions is critically important in your model and, you will be relieved to know, I agree with you. How would you chart in the Government’s shoes the path to that more market-driven, auction-based system?
Professor Helm: The first thing to say is that in a few years’ time someone will say, “I wouldn’t start from here.” I am trying to ensure that you don’t start from here. If you create two markets and two structures and all the contractual framework that goes with that, it is quite hard to simplify. In the history of energy policy there are very few examples of where the next round of reforms did not complicate further what you already had.
The idea that you can move from the complex to the simple is, in my view, pretty naïve, but let us say that you want to do that. First, put in frame a unified contract form rather than distinct ones. That seems to me extremely important. Secondly, I do not see why you cannot auction contracts; why you have to wait. DECC’s argument is that you have to wait while these technologies mature. If we look at the lobbying and support for the various bits of technologies, the really interesting thing is that the things that are being lined up for direct contracts should in principle be pretty mature technologies. There are lots of immature technologies for which you might want to advance that argument, but you have taken pretty standard ones and not provided for an auction at this stage. If you are really serious about migrating to auctioning FITs and presumably migrating to a sensible integrated separate auction for capacity markets, you should be extremely careful about the design start line and ask yourself why different low-carbon technologies cannot be asked to bid how much it would cost to reduce CO
2emissions from the alternatives that are available.
The answer to that question by the way is that it would reveal the scale of subsidies and the inefficiencies of the current way in which we are trying to achieve decarbonisation. If the objective is decarbonisation, we have to do it in a way that consumers can afford, otherwise they will not stay on board. The politics of this thing will then come unstuck later on, and people who care passionately about doing something about climate change will find that we have not achieved that objective.
Q 221 Mr Hayes: Thank you for that. I will not ask any further questions, except to say that I am not sure about your philosophical quote about the complex and the simple. After all, Socrates said that that journey we come to terms with through our understanding of reality, so I am not sure that I agree with you about that. But let us leave that.
Professor Helm: I did write a history of energy policy, and I meant that point as a deep observation about policy formation and the way it goes forward. At each stage of reform, we tend to make things more complicated until they become so complicated that they sink under their own weight and we step back with the radical reform. That is my view.
Q 222 Laura Sandys: Professor Mitchell, in a previous life I was a member of the Energy and Climate Change Select Committee, and we talked to a lot of the investors. They actually said that, unlike in many ways a pure market base would be very much as Professor Helm describes, because of the requirement of the investment that we needed after many, many years of lack of investment and because of the risks in attracting that infrastructure capital, one required a different structure that, on one hand attracted the investment and then at the secondary level in many ways paid for the energy itself. I do not know whether you recognise from your discussions not with developers but with pre-investors, that true money sees that this particular market structure is required as it is not really a true pool-type market as Professor Helm outlines. Will you comment on that?
Q 223 Laura Sandys: The investors who we spoke to were very clear that an open pool to attract the level of investment that we needed into the system after years of no investment required something a little bit different and much longer-term, with contracts into the future rather than an open pool system that would not be able to attract the investment that was required for infrastructure in the energy sector.
Professor Mitchell: We are where we are. We have EMR before us. The Minister was talking about whether or not energy policy had ever been right. Over the last 20 years, in fact, we have been moving in the right direction. We now have very inspirational targets. We have a climate change Act. We are moving in the right direction. The Minister also said that there was a difference between academics. Yes, there are always differences between academics, but the kind of arguments that I have put forward are about technology policy and innovation policy absolutely based on evidence of what has worked elsewhere. It is not theory.
In relation to your question, you need to set the market in such a way that it works. We need to set about having a socially constructed market, which is going to lead us to the sustainable and secure outcome that we want. Whether or not this is exactly the right way forward, this is what we have got and we are moving along that path.
Nigel Cornwall: There has been a lot of conversation about market structure and pools against NETA. I have worked very closely with both systems. Both have strengths and weaknesses. The pool had many defects, which was why it was abolished. NETA lacks transparency and is
Q 224 Dan Byles: I have two questions for Professor Mitchell. I just want to challenge you on some of the things that you said earlier. First, I do not understand why you are saying that the carbon budgets in the Climate Change Act, which are a series of Government targets, are airy-fairy and theoretical, yet a 2030 decarbonisation target, which is another Government target, is somehow gritty and not airy-fairy and theoretical.
Professor Mitchell: I was not saying that they were airy-fairy. The carbon budgets are an important part of a long-term framework. I do not think that just having carbon budgets will be enough to cause long-term investment to come along.
Q 225 Dan Byles: But you said that it was about making sure that people understood that we had a definite place that we were going to and you also said that investors needed certainty. You implied that it was too theoretical—that was the word that you quite scathingly used—to do it through the Climate Change Act.
Professor Mitchell: In terms of evidence base, we know how to develop technologies. You have to have sector-specific targets. It is not enough to say that our total carbon budget for the UK will come down to this level; that a carbon tax will take us there; and that we should just let the market work out. You have to have clear sector-specific targets so that the investors for that sector know where they are going. So, it is carbon for energy, and then technology-specific support mechanisms for those technologies. Dieter has often talked about R and D—how it is the way forward and how you let it move forward. That is not specific enough. Again, you have to have R and D, but you have to have it with specific market support mechanisms. That is evidence based. That is what I am saying. From other countries elsewhere, we know that it is those mechanisms that are most successful in bringing technologies forward.
Q 226 Dan Byles: You did contrast the UK with other European countries, none of which have a 2030 decarbonisation target. You seemed to imply that it did not matter, because you said that other European countries had more certain signals. Would you say that people in Germany could see it coming that they were going to switch off all their nuclear power stations and decide to build 20 GW of unabated coal? Was that part of their certain strategy that people could see coming?
Professor Mitchell: Coal use has gone up across Europe, mainly because of shale gas in America. Earlier, the woman from DONG was saying that investment depends on a series of factors. I would call that the enabling environment that is needed for a technology to come forward. Other countries, which may not have a decarbonisation target, will have a series of other factors, which together give a great deal of confidence about where that country is heading, and that is based on evidence.
Q 227 Dr Whitehead: Professor Mitchell, you said in a note recently that, “Without care, the Bill will give too much support for capacity simply to be there and this will provide too much support for gas.” You then qualified that by saying, “That being the case, perhaps without a decarbonisation target and a low-level EPS—”. Are you suggesting, with that formulation, that if you have a particular sequence of things in the Bill, things then become more possible than otherwise? So perhaps if you had a low-level EPS and a decarbonisation target in the Bill, you could have a capacity market working well, but otherwise you might accidentally provide too much support and therefore perhaps you need a capacity reserve arrangement or suchlike. Are there combinations of choices in the Bill that you consider might achieve the best outcome?
Professor Mitchell: Capacity is obviously a complicated issue. If you have a great deal of renewables, you will need to have the capacity for balancing. For those people investing in that, they may not be using those new plants very often, so they have to feel confident that they will be paid enough to cover their costs. If you want to have a sustainable future, you will have to bring on that extra capacity, whether it is generating plant, interconnectors, storage or whatever.
What I was saying in my submission was that if you have put in place a decarbonisation target and a low-level EPS, and made clear what will happen up to 2030 in terms of the levy control framework, you are making your path much clearer in terms of where you are going. Therefore, the question of having a general capacity payment, which just pays money—it is incredibly expensive, we know, but it is simple; it pays money for people to be there—will have less risk of just helping the incumbents and just providing a gas plant.
In general, I prefer a targeted capacity-type mechanism where, when you need capacity, your system operator auctions for it. However, if you do not have a strong decarbonisation target in place and you do not have a low-level EPS, you absolutely must not have a general capacity payment, because you are not making sure that that path is clear. Again, you are creating obfuscation.
Q 228 Dr Whitehead: Would you care to elaborate a little on the extent to which, under those circumstances, that cost may not be controllable in terms of how much gas comes on the system? Is that a fundamental concern of yours in the capacity market under the present arrangements, or are there ways in which that apparent high cost could be ameliorated?
Q 229 Dr Lee: Recently I have been playing around with the 2050 calculator on DECC—David MacKay’s team’s calculator—and however hard I try, it keeps coming up with a significant proportion of nuclear required by 2050, whichever way you look at it. Do you think that the provisions in the Bill around contracts for difference create the environment in which that nuclear can be delivered? If not, why not? Is there anything in the Bill to which an amendment could be attached or the Government could be persuaded to perhaps tweak
Professor Helm: The first thing to say about the 2050 calculator—this is a very important point to bear in mind about the Bill—is that we have only the haziest idea of what technology will look like by then. We know that none of the existing technologies, particularly in the renewables technologies, can crack climate change as they are. We need new technologies. There is no possibility that we can build enough wind farms or solar panels of current technology around the world to make much of a dent on actual global warming. It does not mean that they are not desirable in different locations; we need new technologies.
We also know that there is an enormous amount of technical progress taking place at the moment in every lab you can think of. All sorts of things from smart technologies on the demand side, to next-generation solar, through to artificial photosynthesis—all sorts of stuff. It’s absolutely crucial that we drive those forward. The next generation renewables will be needed to achieve this outcome. I have grave reservations about whether the current generation can or will do that, as indeed have others who have written more extensively on this subject.
Now, that means that any prescribed plan to 2030, any attempt to play with this number of wind farms, and that number of solar panels, and this number of nuclear power stations to get to 2050 is like standing in 1940 and trying to describe what information technology will look like in 1980. It’s absurd. Design your policy where you know which technologies you want: we need this number of nuclear power stations, that number of gas stations, and so on. That is what is very dangerous in this frame, because the next step is “Let’s decide that we want these things that the lobby groups are most careful at pressurising us for,” because enormous economic rents are being provided through this process.
In that context the nuclear issue is special. I say special for the following reason: no private sector market system can ever develop nuclear power because a limited liability company cannot be put in place to take unlimited liabilities of potential disasters in the future, of long-term waste, and so on. It is always a political act to have nuclear power. That is why the only countries that successfully develop nuclear power are where there is a clear political framework around the development of those nuclear power stations. I think that if the Bill was an attempt to try to get nuclear inside the same things as the ROC banding and call it low-carbon, and generate a broader framework for doing it, that is really beside the point.
My answer would be that I am very agnostic about nuclear, and very agnostic about the cost of the current generation of nuclear power stations which are proving much more expensive than people imagined. In the end, it is a political decision as to whether to do that and then either do it properly and have a proper programme of nuclear power stations with the supply chain and all the things that go with it, or do not do it. Trying to have a market in this stuff and try that reactor, and try this reactor, seems to me to be a recipe for a very expensive outcome.
Professor Helm: Well no, you can sign FITs. The problem with this Bill is that it gives enormous powers to the Secretary of State to do what they like subsequently. I find that deeply worrying from an investor point of view, because they will change their mind as they go along. It does provide the facility to sign a set of FIT contracts on behalf of customers into the future for as many nuclear power stations as the Secretary of State might think are desirable. Before you do that, it seems to me that there ought to be some form of parliamentary control over that process, and some broader political framework for developing a nuclear industry if that is what you want to do.
The Chair: The two Front Benchers both want to get in, so forgive me Dr Lee, I think I ought to call Luciana Berger. [ Interruption. ] I know everybody would like to pursue questions, but Luciana Berger has not come in, nor has your Minister, Gregory Barker.
Q 231 Luciana Berger: If I can ask Mr Cornwall in particular—and the other panellists if they want to add something—a question on small and medium community energy projects. Mr Cornwall, could you perhaps share with the Committee the impact you believe the Bill will have on small and medium-sized energy projects, particularly co-operatives, those owned by community groups, local authorities and commercial organisations?
Nigel Cornwall: I think there is a black hole in the Bill with regard to market access, particularly its impact on smaller players, generators and suppliers. The package is premised on CFD FITs which are very complicated; most of the people I work with would not know what one is and it takes a long time to explain it. We talk about market models. The market starts, to all intents and purposes, at 100 MW; we are talking here about a potential plethora of schemes that exist at the 5 MW 10 MW and 15 MW level. The current FITs—the fixed FITs—will not address them, and there is a risk that that will become a cap to development. Personally, I would like to see as an option the ability for developers to ask for FITs above that level—you may have to fine tune the focus—and I also support the proposal for a green power auction.
I particularly apologise to three colleagues—Gregory Barker, Peter Aldous and Sir Robert Smith—for not getting you in. If you signal early in the next panel, I will give the three of you priority, since you were squeezed out by lack of time.
Examination of Witnesses
Q 233 Mr Weir: I have a question for Dr MacLean. You are clear in your written evidence about the need to extend the renewables obligation in connection with contracts for difference. Some of the other generators seem to be less concerned about that. Do you think that the plan to run the two in conjunction for a period of three years would get over your objections or allay your concerns about the transfer over to contracts for difference?
Dr MacLean: On that point about running in parallel, you need to recognise that the decisions that need to be made from now on do not really offer a choice of parallel schemes. From this year onwards, you are going to be making decisions on most projects that will not be ready in time to get access to the renewables obligation. Over the past year or so, you have seen quite an acceleration in projects that people wanted to push through in order to get the certainty of RO support.
Since you apply for a CFD at the same time as you make your decision on the project and you get the RO once your project has started generating, which is about three years on, for any project with more than a three-year build you are going to have to make a final decision in the next months. That is why we are concerned. Other witnesses have said that they hope everything will go well, that the new system will be in place and that it will be all fine and well, but we are saying that, if that is not the case, we need to be clear that there will be an alternative option.
It seems sensible to have a criteria-based transition, so that if the CFDs are successfully implemented and operating, you move over to that system. We would be quite happy with that, but at the moment it has got to the stage where we see projects not going ahead any more. Other witnesses today, particularly in the finance session, said that the hiatus has already started. It will not stop until we get clarity either that the CFD is there, but that will not come quickly, or that there is an alternative, and we think that keeping the option of access to the RO would offer that quite simply.
Q 234 Mr Weir: What information, or what progress would you require, to be satisfied that CFDs will be up and running in a satisfactory time scale? We were told this morning that the indicative strike prices would probably be set by the summer, with the final strike prices hopefully by the end of the year. If that happens,
Dr MacLean: Certainly, having the strike price gives you an idea of what the economics will look like, but, as Andrew Buglass said, there are two things: the reward and the risk. The reward will become clear when we have the strike prices, but a lot of the risks are associated with details that we will not see until secondary legislation or regulation are in place. That has been a common experience, whether with smart meters, the green deal or the energy company obligation: all the detail and the final assessment of the risks is possible only then. Even with clarity on the strike price this year, we will not have clarity on these other elements until well into next year. Indeed, on the Government’s own fairly optimistic time scales, the first contracts are not due to be let until into 2015. That is why we are concerned: that is far too late for a number of the projects that we would be working on.
Q 235 Peter Aldous: Looking at the two presentations, you have slightly different takes on the pros and cons of the Bill. Sarah Merrick, looking at your concerns, you have highlighted a need for timeliness, for smooth transition with regard to RO investments and also the 2030 target. Could you elaborate on why you believe that there is a need for a 2030 target?
Sarah Merrick: Vestas thinks that it is crucial to have a 2030 target. In the written evidence that I submitted, I highlighted DECC’s projections for renewable energy deployment out to 2030, and there is a quite considerable cliff edge after the 2020 targets are met. In terms of the supply chain ramping up, being faced with such a cliff edge creates a lot of uncertainty for the supply chain. A 95% fall over three years is drastic; it increases risk and, ultimately, it would increase costs. A 2030 target could help maintain a smoother deployment trajectory, which, for the supply chain, would be very important.
Sarah Merrick: The CFD that is being introduced by the Bill gives long-term certainty to the projects which are successful in securing a contract; individual projects will have relatively secure revenues for 15 years. When you look at the deployment projections in the supply chain, especially with the investment being more up front for wind, it is a lot more challenging; when you have got deployment falling off a cliff edge in 2020, that makes it a lot more difficult. Vestas were one of quite a large number of manufacturers—not just wind manufacturers, but nuclear and carbon capture and storage manufacturers as well—which wrote to the Secretary of State in the autumn to raise concerns. It is not just the wind supply chain, but the wider low carbon supply chain that is concerned.
Dr MacLean: Can I just follow up on that? I think that it is extremely important. Clearly, there is a difference between the needs of project developers and the supply chain. If we are looking to get the economic and employment benefits from all of this investment, it is absolutely essential that we attract that investment into
Only with the clarity that we get with longer term targets is that aspect of it going to be deliverable. Having the jobs here for this investment is a key part in getting public sign-on and acceptance of the investment and some of the costs associated with that. So, playing our role in all of that, we see the importance of it. With any projects that we are taking forward, people ask about the jobs and where the equipment is coming from, and that is why we need the longer-term certainty that a 2030 framework would give us.
Dr MacLean: The publication of the levy control framework certainly went a long way to allay a number of the concerns that investors had about an early conflict between the availability of contracts and the LCF. On some of the base case assumptions that DECC has in its modelling, it looks like the level of the LCF should be okay.
However, I would echo what earlier witnesses said, that after some of the LCF is used up, and it will be unclear exactly how that would be measured, we move into limited allocation rounds, and by 2017 we move to auctions anyway. And that route-to-market issue is a major one; whether it is a blockage to the route to markets by the level that the LCF is set at, or whether it is the mechanism for allocation, that becomes a concern. At the moment, it looks okay but we really need to hear the detail about the allocation and we need to think very seriously about the auctioning proposals.
Sarah Merrick: I would echo what Keith said. I think that, as it stands, the £7.6 billion in 2020 is one figure; we know the number today and we know the number then. It is certainly very useful, in terms of making that figure come alive for the industry, to see what the profile is between now and 2020, rather than just having the 2020 figure.
It is also important for there to be a lot more clarity over exactly what is covered by the LCF. There are certainly concerns within the industry that the electricity demand reduction programme could possibly be included in it, and the cost of that is unclear. So, whatever other policies are included in the framework needs to be set out very quickly, and costed within it, so that ultimately the renewables sector knows what figure will be left.
Q 238 Tom Greatrex: Dr MacLean, I am not sure whether they are your counterparts, but this morning some of the representatives of other utilities expressed the view that moving to a single-party counterparty was a positive development from the draft Bill to the Bill. I asked them this question, so I want to put it to you as
Dr MacLean: We certainly welcomed the response of the Government to the comments made by very many people about the need for a single Government-backed counterparty. It is slightly surprising, and raises questions in itself, that that is not necessarily reflected unambiguously in the Bill. I think that, as became clear from your questioning of some of the other witnesses, many people have read the policy intent and few people have read the detail of what the Bill actually delivers, since the Bill explicitly opens up, or keeps open, the multiparty option, and consistently talks about “a counterparty” rather than “the counterparty”. There is no mention of Government backing and no mention of creditworthiness. We are concerned that that lays the way open a change in the future.
We are particularly concerned because other parts of the Bill go to great lengths to discuss how the powers can be transferred from one counterparty to another, and how a counterparty can actually hand in its notice of only 28 days. We believe that that is not just a theoretical possibility. The Government themselves have said that one of the reasons they need to go down this route is that they want the counterparty to do things that nobody would do of their own free will, yet we are asking directors of a public company potentially to act in a way that is adverse to that company—the reality is that they may be asked to pay money that they have not got, or do other things like that—which might well mean that they would exercise the need to hand in their notice of 28 days. So it is an unnecessary instability and an unnecessary lack of clarity. We feel that, with a bit of amendment, the clauses could deliver the certainty and the policy intent that was so welcomed by others but not reflected in the drafting.
Sarah Merrick: We certainly welcome the move to a single counterparty. The potential for multiple counterparties being introduced at some point is not something that we have been looking at. We have been focusing on other areas of the Bill.
Q 239 Stephen Gilbert (St Austell and Newquay) (LD): If I could return to the question of the decarbonisation target, I assume that you both welcome the fact that the Bill includes a clause that allows the Secretary of State to introduce a decarbonisation target, which is something that we have not seen until this point.
Sarah Merrick: Our view on that is that introducing a power to set such a target, which would then be enacted in 2016, just prolongs the uncertainty over the target. It is very difficult to see the justification for delaying the decision by three years, especially when you look at it in the context of the 2020 cliff edge, which I outlined and illustrated in my written evidence. It is four years before that cliff edge hits.
Sarah Merrick: Clearly it is better than it not being in there, but it is very difficult to see the justification for delaying the use of that power. Clearly we would welcome the power; it is the delay that is the issue.
Dr MacLean: I think it is just about setting the right signals for long-term investment. As I said before, we want to ensure that we get the economic and employment benefit from this, and if the major investors, who have a choice of which country they invest in, are saying that this is not giving them the clarity that they might have in Germany or Denmark, we should listen to them.
Q 241 Stephen Gilbert: But would you accept that there is a clear direction of travel with the 2050 target that we have talked about, the fifth carbon budget, and the power in the Bill of the Secretary for State to set a decarbonisation target? There is a clear direction of travel that should give investors certainty.
Dr MacLean: We have always been supportive of the measures that have been taken, whether it is the Climate Change Act or others. We have seen the success of the 2020 targets in reaching totally unexpected levels of investment in renewables. In the last couple of years for which we have statistics, 2011-12, the overall level of investment, and the overall level of investment in renewables, actually got to a level that, if we maintained it, could deliver the £110 billion investment figures. That just shows the power of the targets, because nobody would ever believe that that was possible with regard to renewables. That is on the back of clear targets and a clear framework.
Q 243 Luciana Berger: Do you believe that the rate at which the EPS has been set is appropriate? What impact, if any, do you think the EPS will have on the UK’s ability to meet our long-term climate change targets?
Dr MacLean: We have supported the introduction of the EPS. We think that having the level set as it is at the moment is sensible in reinforcing all the other policies that are there. It makes new investment in coal pretty much impossible. It certainly gives a clear signal to switch from coal to gas, which is one of the things the Climate Change Committee said will improve the merit order and the carbon intensity of our generation very quickly. So that makes sense, and the way it is done is clear and unambiguous in terms of the duration. We are supportive of it.
Q 244 Dan Byles: Dr MacLean, you said that the high levels of renewable investment were a result of the target. Do you not think they were as a result of the subsidies that were paid to people to put this investment in place?
Dr MacLean: The combination of getting the RO right, having the targets and the confidence to invest made all the difference. We have seen that not just in the UK, but in other European countries where the rate of investment in renewables accelerated enormously after the agreement which introduced the binding targets.
Dr MacLean: Semi-quantitatively. A number of important pieces of work have shown how we can get the costs down for offshore wind, and how we can get them down significantly to get on a trajectory to get off subsidy. That is our overall aim. We do not like having subsidies; it just means that instead of market factors we can control, we have lots of political intervention which we cannot. So our objective is to get off the subsidies. We think that having a clear framework, which allows the work that has been outlined to be done, this very clear programme of cost reduction, will benefit consumers because it will mean that we will have a low-carbon form of generation at a competitive cost.
Dr MacLean: Inasmuch as the cost reduction work has been done which shows the steep downward trajectory that we can achieve for offshore wind, yes we have. In terms of the specific role that the 2030 target can play in that, no we have not.
Dr MacLean: I have to say that, unfortunately, the measures have been successful in making sure that not a single offshore wind turbine manufacturer got an order at all last year, other than a framework contract for Siemens. We are in a very real situation at the moment where without orders, what incentive is there for a manufacturer to invest in the necessary R and D or manufacturing facilities?
Sarah Merrick: Nor necessarily a 2030 decarbonisation target, but Denmark has a 2050 target of having all of its energy fossil free, and that does not include nuclear. So in terms of comparing the UK ambition with other countries’ ambitions—
Sarah Merrick: But it has a 2035 target of decarbonising its power and heat sectors as well. It breaks it up as well; it is not a single headline target. It has to be broken down into manageable pieces which investors can make investments on the back of.
Dr MacLean: We are arguing for a framework. It is not one single thing that will deliver that. It has to be the framework that gives that clarity. Certainly the European Commission is trying to move down that route at the moment. Unfortunately, despite many of the member states looking to go down that route at the moment, the UK and Poland are probably the ones making agreement towards that most difficult.
Q 252 Dr Whitehead: Do you think it is necessary to introduce amendments into the Bill to deal with demand-side reduction in the way that we think is now being proposed; and if you do think it is necessary, how do you think the Bill could best encompass demand-side response and demand-side reduction? Should demand-side reduction perhaps be introduced through a FIT mechanism or contracts for difference, which Sarah Merrick mentioned would be in the levy control framework, or perhaps through what you might call decapacity payments through the capacity mechanisms? Do you have any views on that?
Dr MacLean: Perhaps I can split this into two parts. I think the demand side can play a role in reducing energy, and it can play a role in energy security on the capacity side. In its role on capacity, I think it needs be about having proper access to the capacity mechanism. For energy reduction, alternative measures are needed. We have been supportive of legislation to introduce something to deal with this at the high-level principle. At the moment there is not sufficient detail on the proposals, three of which are under discussion at the moment, to be able to say which one is likely to be best. I think we would have to wait and see what the detailed proposals were before being able to commit and say yes, we support that specifically, but in principle, yes, we would be supportive.
Q 253 Gregory Barker: Would that general support extend to sharing the levy control framework with energy efficiency measures that could potentially undercut renewables, and deliver carbon reduction more cost-effectively?
Sarah Merrick: As I mentioned earlier on, we want a lot more clarity on what is included in the levy control framework. We understand that there has been discussion of the electricity demand reduction scheme being included. I think it is a risk, knowing what impact it is likely to have on the levy control framework. We want to see as soon as possible exactly what impact it is likely to have,
Sarah Merrick: I think ideally it would be in a different pot. When the £7.6 billion has already been announced it is difficult to then start adding new policies to it. Ideally it would be treated separately.
Dr MacLean: I have no problem in principle about doing what is economically sensible on the demand side. If it is a better economic proposition we should be doing it. It has always been a surprise how slow we are to do that. In the 2020 framework we had it was quite surprising to us that we had binding carbon targets and binding renewable targets, but non-binding ones for energy efficiency. It seemed to be the wrong way round. If there is an opportunity in this Bill to get more focus on the demand side and what can be done there, in an economically rational manner—and a lot of the measures on the demand side are more attractive economically—then clearly we would support that.
Q 255 Dr Whitehead: If, however, one were to say that the capacity payments are not in the levy control mechanism, whereas CFDs are, might that influence your view as to where the de-capacity payments might be placed?
Sarah Merrick: Ultimately, it depends on whether what is left in the levy control framework for renewable schemes is sufficient. Whatever other mechanisms are included in it, it has to support as many projects as we need to meet our 2020 target. It looks as if the £7.6 billion in 2020 could be okay, but that is subject to whatever else is included in that and the cost of those policies.
Q 258 Mr Weir: I have another point on the contracts for difference. Dr MacLean, in your written submission you were critical of the variable levies on energy suppliers to fund CFDs. You said they introduce a major risk that will inevitably affect energy bills. Could you tell us a little more about your concerns? In particular, do you have any alternative suggestions about how they might be funded?
Dr MacLean: The problem we see is that the introduction of CFDs brings with it a volatility in the amount of money that needs to be collected, which we do not have under the RO system or the FITs. The Government have clearly said they do not want the counterparty to
Our alternative proposal is that the counterparty sets a fixed levy per megawatt, which the suppliers collect on its behalf. If any financing of the shortfall or banking of the surplus needed to be done, the counterparty should do it. If the counterparty is Government-backed, it could do it at a fraction of the capital cost at which a supplier could do it. We, as the second-largest player, think it is significant enough to impact on our credit rating, but we heard from the small suppliers this afternoon that it goes to the very existence of the small suppliers.
We are just increasing the barriers to entry. Creating an exemption is treating the symptoms, rather than curing the problem. Creating an exemption for something like that is really just creating a haven for consumers who do not want to pay the levies and increasing the costs even more for those who are with a non-exempt supplier.
Q 259 Peter Aldous: Looking at chapter 6, on access to markets and liquidity, do you think the Bill contains sufficient incentives at present to increase the number of independent generators? This question is mainly focused at Vestas.
Sarah Merrick: That is not a part of the Bill that we have looked at specifically but, in general, obviously we are very aware of independent generators’ concerns about access to market. In terms of delivering CFDs, we see that lots of the developers and eventual operators of the projects that will be operating the CFDs will be independent developers, and it is absolutely vital that they have fair access to the market. In terms of whether or not the provisions in the Bill will deliver what is needed, there is a lot of discussion about that. We are just very clear that independents need to have a viable role within the electricity market.
Dr MacLean: There are significant issues with chapter 6. We sympathise with the sentiment that we may need to do something, but the powers that are taken in chapter 6 are rather like the powers in chapter 3 on the capacity mechanism. They are so widely enabling that they allow anything to be done anywhere at any time for eternity. That is a real concern because it means that, even if a sensible reform were made, the powers in the Bill will remain there for other reforms to be made in the future.
We feel that, if it were necessary, because we do not know exactly what we need to do at this stage, to take such wide-ranging powers, it is absolutely essential that there are sunset clauses associated with them and some other form of guidance as to what they must be used for at the same time, otherwise they become very dangerous and just undermine that confidence that we are trying to create.
Dr MacLean: I am sure that somebody could come up with a Del Boy wheeze that might work. Certainly our analysis would make it very difficult to predict and reliably hedge the movement. It is not the underlying movement in the power price, which we can hedge and which we do hedge, it is the combination of volume from each technology at a different strike price, which is pretty impossible to predict.
Our worry is that we are asking participants in a competitive market to make these predictions. If we take sensible, careful levels and price accordingly, and somebody else does not, we are likely to lose the customers who were paying the right levy to a supplier who would be under-collecting. That would compound the problem for the supplier who was under-collecting because it
The Chair: Are there any further questions from members of the Committee? If not, that brings us to the end of our business for the day. I thank the two final witnesses of the day, Dr MacLean and Sarah Merrick, for joining us and answering our questions.