Select Committee on Environmental Audit Appendices to the Minutes of Evidence

Annex C

  The Consultation Document has made a number of specific suggestions for changes to NETA that may assist small and renewable generators. This annex examines each in turn.


  This is the key issue within NETA. Although price spreads have reduced over time they are still very high and the modifications that have been proposed to date are unlikely to be able to reduce them to an acceptable levels. As has been noted in Annex I, it is a practical impossibility to create prices that are fully reflective of costs. However, the situation is made significantly worse by having dual price cash out. Although the principle of cost reflective imbalance charges is both important and laudable, no one has yet come up with a practical means of achieving it. This is a fundamental problem with the NETA concept.


  Annex A has discussed in some detail why the NETA system reinforces the competitive advantage of large players. Effective consolidation would provide welcome relief to small players, but will still involve costs that leave small players disadvantaged. Indeed, the relative negotiating strength of the consolidator and the party wishing to purchase the consolidation services would suggest that the majority of the commercial benefit created by consolidation would be captured by the consolidator.

  Thus, although effective consolidation would be helpful, it does not go nearly far enough.


  Ex-post trading is a significant aid to ensuring that the imbalance charges paid by individual parties more closely reflect the actual costs incurred by NGC in balancing the system for energy reasons. Essentially, parties with offsetting imbalances would be able to take credit for the degree of the offset. This would have the potential to reduce the imbalances of individual parties by as much as or more than the introduction of effective consolidation and would be available to large as well as small players. This may be seen as a substitute for consolidation. However, it would not provide the same administrative savings that might potentially be provided by consolidation. Ex-post trading has the added advantage that it would remove the significant financial problem that has been created by parties' errors in notifying their contractual position. There is no reason to believe that ex-post trading would create any significant disincentive to trading out of imbalance prior to gate closure.

  Ex-post trading should certainly be pursued.


  The Consultation Document states "this would also go against one of the core principles of NETA which is to incentivise participants to contract bilaterally in advance of gate closure, in order to minimise the actions which the system operator must take to manage the system." This logic is fundamentally flawed. Offsetting balances have no impact on the requirement for NGC to take action to balance the system. Further, there will be many occasions when it is more economic for NGC to take balancing actions than for individual parties to do so.

  In a system with a single cash out price, parties would be incentivised to balance to the point where it is both sensible and economic so to do. Parties would undertake this balancing because of the significant risks that would be inherent in relying on the imbalance price to settle an imbalance. For example, if the system is fundamentally long, any party maintaining a significantly long position could be cashed out at very disadvantageous prices. Since most individual parties do not have the information to forecast whether the system will be long or short, particularly close to real time, the potential for gaining through arbitraging individual positions against system positions is limited. If parties of sufficient size have the information required for such arbitrage to be effective, then powers exist under both licences and competition law to control the adverse effects of gaming.

  A single cash out price would create a more efficient market and would remove significant elements of the competitive disadvantage of small players within NETA and, therefore, should be pursued. However, the method of calculating that cash out price will require careful consideration.


  The provision of a deadband for balancing is a necessary protection for small players because of the penal level of price spread created by the dual cash out in conjunction with Balancing Mechanism prices that fundamentally do not reflect costs. However, the modification is targeted at ameliorating the symptoms rather than addressing the root causes and in the long-term may simply encourage large players to disaggregate their portfolios and hence remove all parties from balancing. Although such a result would have the same effect of introducing a cost reflective single cash out price, it would be more efficient administratively to introduce a single cash out price based on sound principles. A modification that provides a deadband would be a helpful short-term stopgap while single cash out pricing, ex-post trading, effective consolidation and revised methods of calculating the imbalance price are put in place. However, the Panel has considered a modification that would provide a small deadband and rejected it because it proved impossible to see a workable threshold level.


  There should be a presumption against treating any party or class of parties more advantageously than any other. This proposal should not be pursued. In any event, other changes such as a single cash out price, ex-post trading and effective consolidation should significantly reduce the value of the revenue surplus. Indeed, the surplus may frequently be negative once a single cash out price is in place.

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