Viewpoint: Broader language needed to explore social costs

Last year ended with new low prices in offshore wind auctions regularly being posted. It means offshore wind has joined onshore wind right at the heart of the electricity mix debate.

Some have castigated auctions winners for their recklessness or speculated about elaborate bidding strategies. Others have raised concern about what messages governments will take from the new lows. This is especially the case for those governments that committed to projects at much higher subsidy rates not that long ago.

We have published our explanations of how we think players have managed to bid so low. These are mainly focused on proactive, pipeline approaches from the market leaders, early adoption of latest technology, a more positive view about incorporating uncertain future operations and maintenance technology into cost models, and the availability of low-cost finance.

But the developers of these new low-price projects need to find ways to tell the story of their cost reductions.

Obviously, not in a way that gives away all their commercial advantage, but at least to an extent that enables all to have confidence in the sustainability of the approach and in the reasonableness of prices that are already fixed. This is important as all electricity users will be contributing to these prices for many years to come.

The great positive of these lower prices is that they add another viable, local, high-volume generation technology into the mix where conditions are suitable for offshore wind. The next step is to better inform the selection of that mix.

We have for a long time dealt in levelised cost of energy (LCOE) — the revenue per megawatt hour required to obtain a "market" rate of return on investment over the life of a project. This has been useful in comparing technologies and projects within the wind industry. We have also used it to compare cost trajectories between different forms of energy generation.

In the UK, a recent government-backed review has supported building a first tidal-lagoon project. The firm behind the project, Tidal Lagoon Power, has suggested a 90-year contract at about £90/MWh (€103/MWh), a bit below what the UK government has committed for the Hinkley Point C nuclear plant over 35 years.

All indications are that the next offshore wind auction round will beat that, with a commitment for only 15 years. This suggests that £90/MWh is going to look very expensive if still being paid out so far into the future when offshore wind and other technologies will have taken significant further cost reduction steps.

After 25-30 years, the generating assets of an offshore wind farm can be repowered at much lower cost, with the additional benefit that the transmission assets could be refurbished and re-used, providing further savings compared to the original Capex.

Quite rightly, however, tidal-lagoon players argue a significant benefit in producing energy at times that can be predicted many years in advance. It is vital that such benefits are properly reflected in any comparison of technologies, in creating an efficient electricity mix.

Costs and benefits

We have pushed for many years to increase the focus on LCOE, working to establish a common language that enables different innovations, projects or studies to be compared. I think it is now time also to develop a broader language, say of social cost of energy (SCOE).

This still needs to take into account the endogenous (industry-internal) factors such as capital and operational costs, energy production, project lifetime and cost of money, but it needs to go further. For any government seeking to more rationally consider energy generation across a range of technologies, various exogenous (external) costs and benefits also need to be taken into account. These include:

  • system support benefits/balancing costs
  • climate and other environmental impacts
  • local employment and other value creation
  • impact on local amenities
  • fuel, raw material, R&D and other less-direct subsidies

Immediately, challenges appear. For example, what will the energy system look like in 20 years' time, such that balancing costs can be reasonably evaluated?

We think, however, that it is time to develop this broader language and establish a more inclusive, shared understanding of the full, real social cost of electricity generation by different technologies. With this we can then communicate simply but accurately enough to be of use to decision makers within industries and governments, globally.

The wind industry needs to show leadership in providing transparent and fair estimates of social costs, now and looking into the future.

Bruce Valpy is managing director of BVG Associates