Initial concern about the fate of offshore wind energy under the UK's new system of renewables support (page 21) has been replaced with cautious optimism. But "the devil is in the detail" is a typical summing up of the government's framework for the renewables market of the future. A minimum standard of 10% of renewables electricity supply portfolios -- a support mechanism known as the Renewable Portfolio Standard in the United States -- is being proposed by government, backed by trade in green energy certificates to put a price (and bankable returns) on the environmental value of clean electricity.
But there are too many uncertainties to safely predict just how the mechanism will impact the industry. "A structure is in place but there is no flesh on it and there is a lot to play for," comments Catherine Mitchell from the Centre for Management under Regulation at Warwick Business School.
In particular, the "buy-out option," which allows suppliers to comply with the obligation by paying a penalty each year instead of supplying green electricity or buying green certificates, is a subject of hot debate. The suggested level of the penalty -- the cost to suppliers of buying out their obligation -- is close enough to market prices to effectively determine the value of renewable electricity. This is because the buy-out price, on top of the market price of the physical green power supplied to customers, effectively caps what suppliers are willing to pay. Initially, the Department of Trade and Industry (DTI), the author of the policy, expects a buy-out price of a minimum £0.02 for every kilowatt hour by which a supplier fails to meet its obligation. With a base-load electricity price of, say, £0.023/kWh, the price cap is around £0.043/kWh.
As controversial as the penalty's size is what will become of the income raised by it. The DTI wants to recycle the buy-out receipts to electricity suppliers. There are two main options on the table for doing so. First, the receipts could simply be recycled back to all suppliers depending on their share of the electricity market -- a practice already dubbed the "brown smearback." Second, and a seemingly more logical solution, is a plan to recycle the money on the basis of how much renewables power suppliers buy -- thus providing an incentive for all suppliers to buy renewable electricity or green certificates. In this way the "bad" suppliers of dirty electricity would be paying the "good" suppliers of green power.
It is the buy-out option which has drawn most criticism since it allows suppliers to duck their obligation. David Porter of the Association of Electricity Producers is scathing: "Two-headed llamas don't travel very far: suppliers can't be pushed to meet a growing obligation and at the same time be given an escape route." But if they are to be allowed to buy out their obligation, the money raised must go to renewable energy projects, he adds.
Mitchell agrees that the £0.02/kWh penalty is set too low and will "mess up the market." It is not high enough, she says, to deter suppliers from failing to meet their obligation. Neither does it allow support for the more expensive technologies.
At a seminar in London organised by the Confederation of Renewable Electricity Associations on February 17, Godfrey Bevan of the DTI gave an insight into the thinking behind the buy-out concept: "The government does not want to leave a totally open-ended commitment on suppliers," he explained. Responding to the criticism that the buy-out price will stand in the way of the UK reaching 10% from renewables, he argued that the target is achievable as long as there is a supplementary mechanism to bring on energy crops and offshore wind.
Not all are hostile to the buy-out option. From a financier's point of view, the £0.02/kWh boost makes renewable projects more attractive to investors, argues Jonathan Johns from accountants Ernst and Young. It helps compensate for the lack a NFFO contract, which had the security of a 15 year must-take guarantee. But suppliers' obligation targets must be onerous enough to stimulate sufficient demand for new renewable capacity, he warns.
A second important strand of the policy is exemption from the Climate Change Levy (CCL) for renewables power. The CCL comes into effect in April 2001 and will tax the business use of energy, adding £0.0043/kWh to electricity from fossil fuels and nuclear. Large electricity users, however, will be allowed an 80% discount from the levy in exchange for implementing energy saving measures.
"UK industry should quickly realise the financial and environmental benefits of switching to energy from renewables," says energy minister Helen Liddell. "More and more companies are realising that economic development need not be at the expense of the environment."
The CCL is to be broadly "revenue neutral" with no net gain to public finances. Instead, profits will be ploughed back into business via a 0.3% cut in employers' National Insurance contributions. But £150 million from levy profits will be channelled into energy efficiency, including £50 million for provision of energy efficiency advice, promotion of low carbon technologies and renewable energy projects.
A lot more scope
Taking an upbeat view of the government's plans is Peter Musgrove of National Wind Power. He believes the proposed percentage obligation to be a huge improvement on the NFFO which, he claims, has been the wind industry's "biggest handicap." He points out that the value of renewable electricity under the percentage obligation of £0.043/kWh up to the price cap -- providing the buy-out price remains at a minimum of £0.02/kWh -- is higher than the average price under the latest NFFO round.
"It is not enough to make offshore wind work, but as far as wind on land is concerned it's an important step forward." This will mean that developers are not constrained to go for the windiest locations. "It will allow us to take forward sites down to an average wind speed of 7.5 metres/second," he says. National Wind Power also believes the price offers scope to large developers for involving local communities in wind projects.
Dale Vince from Ecotricity, a green power marketer, is equally enthusiastic about the new policy -- particularly the requirement for regional targets for renewables development. "It is very positive stuff, a real example of joined up thinking." The new mechanism is a big improvement on NFFO, he believes, and as the market shakes down, players will find that it creates many opportunities.
"It is positive change that is creating a real demand and it will stimulate quite a lot of new renewable development." Vince is optimistic that some suppliers may choose to take a longer view on renewable electricity, offering 20 and even 30 year contracts. But he questions what will happen to supply companies' green tariffs under the new percentage obligation. Several, for whom marketing renewable energy is merely a "green fig leaf," will discontinue their green offerings, he believes.
A group at risk
Small independent generators are the group most at risk from the proposals, warns the financial community. Not only will they find it harder to obtain finance -- particularly in the early stages until banks are comfortable with the new arrangements -- but they will also suffer more from "balancing charges" under new electricity trading arrangements being introduced later this year. These are incurred when generation and demand levels do not match. Wind is particularly hit by these charges, since plant operators cannot predict with sufficient certainty their supply to the grid ahead of time. "In order to be attractive to financiers, projects will have to be structured correctly and be of sufficient size," says Adrian Lloyd of Halcrow Gilbert.
He points out that the new market structure will particularly suit renewable development subsidiaries of electricity companies with a supply arm by enabling them to realise the full value of the buy-out receipts which are to be recycled back to suppliers. To survive in the new market, small projects will have to group together or link up with a professional "aggregator" of customers. "The future points to amalgamation and aggregation of smaller projects. The small independent company will be a thing of the past," says Lloyd.
The cost of it all
Liddell expects the obligation to add around 2% to electricity bills -- which otherwise are predicted to fall by some 10% under the market restructuring. Nonetheless, she intends to ask consumer bodies whether this rise, about £1.35 on a typical quarterly bill, is acceptable. Not all analysts accept this figure, accusing the DTI of exaggerating the predicted cost of renewables.
This view is backed by a House of Lords report last year that put the cost at £0.006/kWh, which would add just 1% to all electricity bills (around £3 a year for the average domestic consumer). This is based on the DTI's own figures from its renewables consultation. A public consultation on renewables was launched in March 1999 to contribute to debate on the government's overhaul of utility regulation and its reform of renewables policy.
The final cost of the policy to consumers, however, is far from being the main issue of the many yet to be resolved. As Mitchell points out, nobody knows if the government's target will remain at 10% if it proves to be incompatible with Liddell's demand for keeping down costs. Other uncertainties highlighted by Mitchell are whether green certificates are to be tied to the physical sale of renewable electricity, or whether they can they be stored up for future use; will they be eligible to be sold only in Britain or could they be traded across European borders? What will the transitional arrangements be to allow current NFFO contracts to continue to be honoured? And how will the more expensive technologies, such as offshore wind and biomass, be brought to the market?