UK: Trading in Renewable Energy

Article by Simon Thorne

Energy policy is under the spotlight. In June last year the Prime Minister asked the Performance and Innovation Unit of the Cabinet Office (PIU) to undertake a review of the strategic issues surrounding energy policy for Great Britain. The PIU published "the Energy Review" on 14 February this year.

The Government intends to issue a White Paper at the beginning of next year setting out its approach to future energy policy in the light of the PIU report, the findings of the Government’s current consultation process and existing relevant Government commitments.

The key elements of current UK strategy include the new electricity trading arrangements, the introduction of the renewables obligation to succeed the non-fossil fuel obligation, the climate change levy and an expanded support programme for renewable energy evidenced by grants and increased capital allowances.

A key aim of Government policy is to significantly reduce greenhouse gas emissions so long as the cost to the consumer is acceptable. The PIU recommended that the target for the proportion of electricity supplied from renewables sources should be increased from 10% by 2010 to 20% by 2020.

NETA went live on 27 March 2001. NETA involves splitting of the licensing of electricity generation and supply into generation, transmission, distribution and supply. A basic principal of NETA is that those wishing to buy and sell electricity should be able to enter into contracts with each other to do so. A role of NETA is to provide mechanisms for near real time clearing and settlement of the imbalances between contractual and physical positions of those producing and consuming electrical energy.

The impact of NETA has been negative on renewables and particularly intermittent renewables (wind power). This is because there is a significant risk of an imbalance between what the generator has contracted to supply and what it is able to actually generate in real time. The risks may be priced into any contract that a supplier offers a generator.

In terms of project financing investors in renewable energy projects are looking in essence for two things: absolute level of income and certainty of income. The new system is far from certain and short-term bilateral contracts will not necessarily be bankable.

As well as NETA there has recently been the introduction of the Renewables Obligation (RO). The RO is an obligation on electricity supplies to ensure that a specified percentage of electricity supplied is met from renewables. The RO is the main mechanism for the Government meeting its stated targets for electricity from renewables. Suppliers are required to incrementally increase the volume of electricity supplied from renewable sources from 3% in 2002/2003 to 10.4% in 2010/2011. The new arrangements gives suppliers the opportunity to buy out all or part of their obligation in any given period as an alternative to supplying renewables generated electricity and/or buying renewable obligation certificates. The intention is that this will act as a safety net and limit the costs to the consumer should the price of renewables be higher than expected. The buyout price from the obligation to be paid to OFGEM rather than supply renewable electricity is 3pence kilowatt-hour.

The climate change levy was introduced under the Finance Act 2000. The levy applies to energy used in industry, commerce, agriculture and the public sector. The levy is administered by Customs & Excise. It is the supplier of the taxable commodity (i.e., electricity) who is required to register and account to Customs for the levy. Taxable commodities include electricity, natural gas, petroleum, coal and coke. The rates charged vary but for electricity the levy is £0.0043 per kilowatt-hour and for gas £0.0015 per kilowatt-hour. The levy does not apply to certain renewable sources of energy such as municipal and industrial waste and landfill gas as well as to domestic use of fuel and power and fuel used by road vehicles. There are provisions for reduced rates for energy intensive users who enter into climate change levy agreements with the Government. The outcome is that these users enter into legally binding agreements to implement energy saving measures for a significant discount from the levy.

As a supplement to climate change levy the carbon emission trading scheme is now up and running with 34 organisations taking on emission reduction targets at an auction held in March. The emission reduction targets for between now and 2006 add up to more than 4 million tons of carbon dioxide. The Government awarded grants in excess of £215M to successful organisations in the auction in return for them entering into commitments to reduce emissions. However, questions have to be asked over whether the scheme is subsidising reductions in emissions that would have taken place in any event and whether if regulation already requires emission reductions, subsidies should be given. There is a proposed EU directive on emissions trading which would be a mandatory scheme that does not provide financial incentive, and provides for automatic penalties and covers electricity generators. There is a high risk that sweeping changes will need to be made before the end of the UK scheme if the EU rules are implemented.