3 Providing value-for-money for consumers
The
role of National Grid
27. We have previously raised concerns about potential
conflicts of interest between National Grid's existing role (as
the System Operator and owner of the transmission network) and
its newer role as EMR delivery body. Following our pre-legislative
scrutiny, we called for National Grid to be removed from its EMR
role and replaced by a new independent, not-for-profit company,[77]
a recommendation which was not taken up by Government.
28. As National Grid recommends the amount of capacity
to procure in the Capacity Market to the Secretary of State, there
is a risk that it has an incentive to over-procure capacity.[78]
Some stakeholders were satisfied that DECC had dealt with this
potential conflict of interest effectively.[79]
However, new conflict of interest issues have arisen following
the Government's recent confirmation[80]
that interconnectors would participate in the second four-year-ahead
Capacity Market auction in 2015. While this was necessary in order
to meet State Aid approval conditions that generation from other
countries should be included, the inclusion of interconnectors
raises additional issues.[81]
Stakeholders have voiced their concern that this may prevent a
level playing field because interconnectors represent transmission
capacity rather than generation capacity and are exempt from certain
charges faced by other Capacity Market entrants (such as a number
of grid charges and the carbon price floor, which have to be paid
by UK-based generators).[82]
Additionally, National Grid is itself a shareholder in a number
of interconnectors, and E.ON expressed concerns about "National
Grid running the Capacity Market as the Delivery Body, advising
the Secretary of State on security of supply assessments and the
capacity demand curve, whilst also benefitting as a participant".[83]
29. A Panel of Technical Experts (PTE) was set up
by DECC to impartially scrutinise and quality assure the analysis
underpinning National Grid's recommendations for how much capacity
to procure in the 2014 Capacity Market auction. Simon Moore,
Infrastructure Policy Manager at Citizens Advice, told us:
The Panel of Technical Experts raised some questions
about how National Grid had come to certain conclusions when it
was preparing its report on how much capacity DECC should procure.
My concern is that the issues that were raised were not well responded
to, either by DECC or by National Grid, in a particularly public
or clear fashion.[84]
Professor David Newbery, Emeritus Professor at the
University of Cambridge and member of the Panel of Technical Experts,
expressed his view that the decision on how much capacity to procure
had been "overhasty" and may have been better informed
by waiting "to see how we get through this winter, what was
the demand-side response and how we are going to deal with the
interconnectors".[85]
30. Mark Ripley accepted that load connection to
the network adds to National Grid's asset base[86]
but he defended the analysis underpinning the capacity procurement
recommendation, stating that the company was not "incentivised
on that".[87] He
added that there had been a "regular dialogue" with
the PTE.[88] The Minister
explained the difference between National Grid's execution role,
and the policy decisions that remain in the hands of the Government.[89]
He emphasised this difference in relation to the role of interconnectors
within the Capacity Market:
We will decide the policy framework within which
interconnectors operate, along with Ofgem, who have a very important
role. Grid have their statutory responsibilities in terms of connection,
but the policy decisions will be taken by us and Ofgem.[90]
31. Ofgem, as regulator of the electricity market,
is responsible for overseeing the performance of National Grid
in its EMR delivery functions.[91]
It will publish an annual report showing how well National Grid
has performed, and where appropriate provide assessments in relation
to key performance indicators.
32. Despite National Grid's delivery functions being
set out in secondary legislation and enforceable by Ofgem,[92]
we have heard that there is confusion and concern about how it
will be held accountable in practice.[93]
Mark Ripley explained that Ofgem had put in place "some operational
incentives" and that National Grid was "subject to the
same level of scrutiny from Ofgem in our EMR duties as we have
for all of our other licensed duties, which is a well-known and
established framework".[94]
He added that National Grid had "a long history" of
managing the potential conflict of interest between their core
regulated businesses and their non-regulated businesses, and that
risks were "well mitigated by both the arrangements [they]
have in place as an organisation and the design of the qualification
and auction process".[95]
Dermot Nolan, CEO of Ofgem, told us that he would like Ofgem to
be "very centrally involved" in DECC's review of EMR
in the summer.[96]
33. We remain concerned about potential conflicts
of interest between National Grid's executive and advisory role
within EMR, and its commercial incentives-particularly given the
move to include interconnectors in future Capacity Market auctions.
The Panel of Technical Experts (PTE) and Ofgem have important
roles in holding National Grid to account.
34. The questions raised by the PTE in its scrutiny
of National Grid must be responded to publicly so that there is
a clear line of sight between National Grid's original analysis,
scrutiny by the PTE, and subsequent policy decisions by DECC and
Ofgem. We recommend that DECC's upcoming review of EMR should
include a point-by-point response to the issues raised by the
PTE. The review should look again at how conflicts of interest
are dealt with. We also expect DECC to set out what steps will
be taken to ensure that National Grid does not have an unfair
commercial advantage when interconnectors participate in future
Capacity Market auctions.
Demand-side response
35. Demand-side response (DSR) could provide an important
contribution to managing security of supply and cutting energy
consumption. It offers a cheaper and greener alternative to building
new generating capacity and could make a meaningful contribution
towards security of supply.
36. There remains some lack of clarity as to the
exact definition of what technologies are considered by DECC to
be included within demand-side response measures. For example,
back-up diesel generation is in our view not genuine demand reduction
but localised generation. While Mark Ripley, from National Grid,
categorically stated that diesel farms were not included in the
definition,[97] the Minister
acknowledged that "demand-side response is defined in the
system as reduction in demand from behind the point of the consumer's
connection. It is hard for the Grid to be able to differentiate
between different types".[98]
Baroness Verma also wrote to us that:
Demand-side response (DSR) is the active voluntary
reduction in the amount of electricity a user is taking from the
grid at a given moment in time. This can be achieved through the
use of on-site (back-up) generators; shifting a business operation
to another time of day; or reducing demand by switching off or
turning down electricity use. […]
These providers-whether generation or load reduction
services-can be referred to as "demand side" providers.[99]
37. We recommend that the definition of demand-side
response should exclude consumers turning on their own generation
assets such as diesel generators. This agreed definition should
be consistently and immediately applied by DECC, Ofgem and National
Grid.
38. We have regularly outlined our concerns about
the unfair treatment of DSR in the Capacity Market,[100]
and contributors to this inquiry outlined similar concerns that
demand-side response had not received sufficient attention and
was disadvantaged compared to generation capacity.[101]
In particular, DSR providers can only bid for one-year contracts,
whereas new generation can receive capacity agreements of up to
15 years.[102] Tilting
the playing field against a nascent technology like DSR is exactly
the opposite of the approach usually followed by DECC.
39. The restriction of DSR contracts to one-year
was described as a clear barrier to the development of the industry,
as the timeframe is simply not long enough to incentivise businesses
to change their practices.[103]
Citizens Advice explained that the current approach ran the risk
of locking Britain into long-term contracts with new-build power
stations that may not be needed and that "some DSR may be
blocked from coming forward, even if it turns out cheaper on a
year-by-year basis".[104]
Evidence from markets in other countries, where equal contract
lengths are awarded to both generation and demand capacity, suggests
that DSR can make significant contributions, without being at
the expense of new generation.[105]
Sara Bell, CEO of Tempus Energy, explained that:
To ask different resources to compete on uneven
grounds does not make a level playing field. The reason why the
contract length is the same in other markets is to create that
level playing field. Demand-side customers, when they become flexible,
need technology. They need to make that investment but, much more
importantly, they need to, as a company, buy into the value of
being flexible.[106]
40. Less than 0.4% of the capacity procured in the
2014 auction was awarded to DSR.[107]
DECC expects DSR to primarily bid into the first one-year-ahead Capacity
Market auction in 2017, for which a small amount of capacity has
provisionally been set aside.[108] However,
concerns were raised that the capacity procured during the 2017
auction runs the risk of being reduced in the event that it transpires
that too much capacity was procured in December 2014.[109]
Professor Newbery warned that:
We might then find that because we have procured
so much, there is not much space left and the price at which we
could have got [capacity] will be substantially lower. Then we
will say, "What a pity. It would have been a good idea to
wait until we got these cheaper options on the table".[110]
Jonathan Mills, Director of EMR at DECC, acknowledged
that the amount of capacity to be procured in the 2017 auction
could be reduced:
I think the main way in which we are managing
the risks of procuring too much or too little are the T-1 auction.
We have not bought everything that National Grid say they think
we will need in the delivery year at this stage. We left some
open to be bought in T-1. Should we find that demand forecasts
have lowered or there is more other plant on the system outside
the capacity market, then we have the option of reducing the amount
that we procure at that stage.[111]
41. While acknowledging the cost-reduction potential
of demand-side reduction and being "pleased to see that there
was some demand-side reduction successful in the auction,"
the Minister warned that "we have to be very careful what
we mean by demand-side reduction, because often it is localised
generation that is not in major plant".[112]
He added that DECC "had extensive discussions with the DSR
fraternity" and that "some of the concerns that they
had will be part of the review over the summer".[113]
42. DECC is still failing to ensure that demand-side
response (DSR) measures are on a level playing field in the Capacity
Market. If we do not invest in DSR today, we may be forced to
pay for more expensive generation capacity that we do not need
in the future, thereby locking ourselves into a pattern of higher
costs and, potentially, higher emissions.
43. We recommend that DECC's review of EMR makes
it easier for DSR to have a much bigger role in future Capacity
Market auctions. DECC should consider increasing the contract
length of DSR capacity agreements in the next Capacity Market
auction. We also recommend that DECC set out a more detailed strategy
on how to help the DSR market grow to reach its full potential,
in line with its proclaimed approach of supporting early stage
technologies.
77 Energy and Climate Change Committee, First Report
of Session 2012-2013, Draft Energy Bill: Pre-legislative Scrutiny,
HC 271-I, para 198 Back
78
Citizens Advice (IEM 005) para 3, 5 Back
79
Q69 [Andrew Buglass], Q138 [Sara Vaughan] Back
80
Department of Energy and Climate Change, 'Interconnectors to participate in the Capacity Market from 2015,'
accessed 3 February 2015 Back
81
Q109 [Sara Vaughan, Rupert Steele] Back
82
Q137 [Sara Vaughan], Q153 [Rupert Steele] Back
83
E.ON (IEM 017) para 23 Back
84
Q69 [Simon Moore] Back
85
Q68 [Professor David Newbery] Back
86
Q228 [Mark Ripley] Back
87
Q216 [Mark Ripley] Back
88
Q219 [Mark Ripley] Back
89
Qq246,248 [Rt Hon Matthew Hancock] Back
90
Q291 [Rt Hon Matthew Hancock] Back
91
Ofgem (IEM 006) Back
92
Department of Energy and Climate Change (IEM 023) para 52 Back
93
RenewableUK (IEM 040) para 15, Q109 [Chris Elder] Back
94
Q175 [Mark Ripley] Back
95
Q217 [Mark Ripley] Back
96
Oral evidence taken on 27 January 2015, Q14 [Dermot Nolan] Back
97
Q226 [Mark Ripley] Back
98
Q295 [Rt Hon Matthew Hancock] Back
99
Letter from Baroness Verma to the Energy and Climate Change Select Committee
(January 2015) Back
100
Letter from the Energy and Climate Change Committee to the Rt Hon Matthew Hancock MP
(September 2014), Energy and Climate Change Committee, First Report
of Session 2012-2013, Draft Energy Bill: Pre-legislative Scrutiny,
HC 271-I, para 50, Energy and Climate Change Committee, Fourth
Report of Session 2010-2012, HC 742, Electricity Market Reform,
para 59 Back
101
Citizens Advice (IEM 005) para 18, Tempus Energy (IEM 015) para
22, Q122 [Sara Vaughan], Q146 [Sara Bell] Back
102
Department of Energy and Climate Change, Implementing Electricity Market Reform (EMR)
(June 2014), p 103, Citizens Advice (IEM 005) para 18, Tempus
Energy (IEM 015) para 22 Back
103
Q122 [Jeremy Nicholson], Q146 [Sara Bell] Back
104
Citizens Advice (IEM 005) para 18 Back
105
Q90 [Professor David Newbery], Q141 [Sara Bell] Back
106
Q146 [Sara Bell] Back
107
National Grid, Final Auction Results (January 2015) p 7 Back
108
Department of Energy and Climate Change (IEM 023) para 48 Back
109
Citizens Advice (IEM 005) Back
110
Q87 [David Newbery] Back
111
Q301 [Jonathan Mills] Back
112
Q289 [Rt Hon Matthew Hancock] Back
113
Q289 [Rt Hon Matthew Hancock] Back
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