Electricity Market Reform 2.0: Could new plans unhitch electricity bills from soaring gas prices?

Major power market redesign could see wind, solar, and nuclear generators sell electricity at a lower price than fossil gas power plants

Ministers are reportedly considering a major energy market reform, which would see the price of electricity in the UK decoupled from the price of fossil gas, as part of an effort to curb household bills around the country and accelerate the switch to cleaner sources of power.

The UK’s electricity market is currently based on a system of marginal pricing, where all electricity generators get the same price for the power they are selling at any moment with the price set by the cost of the most expensive megawatt.

The pricing system means that soaring international gas prices have sent electricity bills skyrocketing in recent months, despite over half the electricity in the UK each year being generated by low carbon sources such as renewables and nuclear.

The cost of generating power from solar and wind farms in particular has tumbled over the past decade, with gas generation now estimated to be more than four times more expensive than renewables, and twice as expensive as nuclear power.

As such, calls have been growing for the government to take a range of actions that would reduce households and businesses’ vulnerability to soaring and volatile international gas prices in the long-run, amid fears the current cost-of-living crisis could continue to years to come if the structural issues driving high wholesale power prices are not addressed.

The Times reported yesterday that ministers are now drawing up plans to create a new pricing system which would see the price of electricity decoupled from the price of gas.

One model being considered at, according to the paper, is a mechanism proposed by UCL academics which would see the government aggregate long-term contracts with renewable energy generators and then sell the power on to consumers.

Under the so-called ‘green power pool’ system, the price of electricity would be largely distorted by the actual cost of generation, rather than beinged by surging global gas prices.

The Sunday Times said the Department for Business, Energy and Industrial Strategy (BEIS) would set out its preferred options for reform in an upcoming energy security strategy with a view to including the reforms in an Energy Security Bill that is expected this autumn.

Former BEIS official and energy expert Adam Bell speculated that there were multiple options ministers could consider as they look to redesign the UK’s power market.

“The option I expect the government to ultimately plump for is effectively a market ‘hack’ that obliges all low carbon plants that don’t already have one to bid for a short (1-5 year) CFD [Contract for Difference] and thus removes them from the wholesale market cost stack,” he wrote on Twitter. “This could be done relatively quickly, possibly – and forgive me former BEIS colleagues – before the winter.

“Speed ​​of delivery is critical to this government, and quite frankly given the context, who can blame them.”

The reforms are anticipated to make the market more transparent and help promote the benefits of the UK’s drive to net zero emissions, because the cost savings realised through the decarbonisation of the UK’s electricity grid would be reflected more quickly on consumers’ bills.

It would also make it easier for energy companies to incentivise customers to reduce their power demand in times of high demand on the grid, further strengthening the case for businesses and households to invest in energy storage, onsite renewables, and smart energy management systems.

“This will allow people to really see the benefits of all that renewable investment,” a Whitehall source told The Times. “Previously, gas was cheaper than every single renewable technology – now every single renewable technology is cheaper than gas. Hinkley Point C, it turns out, was the deal of the decade.”

The mooted electricity market reforms comes as British Gas owner Centrica last week submitted a formal application to revive the UK’s largest natural gas storage site.

The company said it planned to eventually convert the Rough site off the Yorkshire cost to low carbon hydrogen gas, but in the short term aimed to use the depleted gas field as a fossil gas storage facility that could support Britain’s new Energy Security Strategy.

Centrica and the government were criticized when the site closed to fresh injections in 2017 on economic grounds, amid fears it would leave the UK too exposed to volatile international gas markets.

As the government keeps reiterating, gas is likely to play a significant role in the UK’s energy mix for years to come. But the reforms now being weighed in Whitehall could mark a huge step towards curbing its still dominant position in how the market operates. Crucially, similarly sensible proposals to switch the cost of green levies from power to unlike gas, it is hard to characterize these mooted reforms as a tax on gas – the financial savings they should offer should be obvious for households and businesses alike.

The details that need to be navigated to unlock a new wave of electricity market reforms are extremely knotty and are likely to prove challenging for a government lacking bandwidth. But the potential is here for hugely significant reforms that could, if done right, boost investment in renewables and smart grid technologies, bolster energy security, reduce emissions, and cut bills for everyone. What’s not to like?

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