Draft Energy Bill: Pre-legislative Scrutiny - Energy and Climate Change Contents


Recommendations


1.  We recommend that in order to increase confidence and ensure that there is an opportunity for rigorous Parliamentary scrutiny, the Government should publish draft secondary legislation, including a model Contract for Difference, in time for formal consideration of the Bill. (Paragraph 26)

2.  We note that despite the Secretary of State's assertion that the objectives of the Bill were clear, they are not set out formally on the face of the Bill. (Paragraph 29)

3.  We welcome the Secretary of State's clarification that if faced with a choice between meeting legal climate change obligations and sticking within the levy cap, the Government would give primacy to statutory climate obligations. The investment community would have been further reassured had HM Treasury been able to confirm this. Because HM Treasury have told us that DECC spoke for all of Government in its evidence, we consider this a cast iron commitment to the primacy of statutory obligations over the Levy Control Framework. We would welcome an explanation from HM Treasury about how the working of the levy cap over the forthcoming funding period will be amended to make it compatible with the requirement to meet legal climate change obligations. (Paragraph 32)

4.  It is right to prioritise the decarbonisation of the electricity system because this is likely to deliver the most cost effective route to meeting our 2050 climate change targets. Although statutory carbon reduction targets are set out in the Climate Change Act 2008, these are economy wide, rather than sector specific. We conclude that providing greater clarity about the contribution that the power sector is expected to make towards meeting these targets would help to provide certainty to investors. The Government should set a 2030 carbon intensity target for the electricity sector in secondary legislation based on the recommendation of the Committee on Climate Change. (Paragraph 37)

5.  We recommend that the Committee on Climate Change should be made a statutory consultee to the EMR delivery plan in order to assess whether the proposals are in line with legally binding carbon budgets. (Paragraph 38)

6.  We further recommend that the Committee on Climate Change should be given a role in advising whoever is the Transmission System Operator in the development of the delivery plan to ensure that it is in line with legally binding carbon budgets. (Paragraph 39)

7.  We recommend that Clause 1, subsection (1) of the Bill be amended to read "The Secretary of State may make regulations about contracts for difference for the purpose of encouraging low carbon electricity generation in order to achieve legally binding carbon budgets at least possible cost to consumers". (Paragraph 43)

8.  We recommend that Clause 8, subsection (2) be amended to add "[…] (d) a 2030 target for carbon intensity of the electricity sector compatible with meeting statutory carbon budgets and the 2050 target (e) a reliability standard". We believe that setting a decarbonisation target should be a duty on the Secretary of State. However, the current wording of Clause 8 (the Secretary of State "may" by order provide for […]) suggests that the introduction of "other targets" would be at the Secretary of State's discretion. Therefore we recommend that the Bill be amended to make this a statutory obligation within a fixed timeframe, possibly by way of further amendment to Clause 8. We note that a carbon intensity of the order of around 50gCO2/kWh by 2030 is compatible with legally binding carbon budgets. (Paragraph 44)

9.  We recommend that Clause 9, subsection (1) be amended to add "[…] (e) the Committee on Climate Change […]" and that Clause 44, subsection (4) be amended to add "(d) the Committee on Climate Change". (Paragraph 45)

10.  We recommend that Clause 20, subsection (1) of the Bill be amended to read "The Secretary of State may by regulations make provision for the purpose of providing capacity to meet the demands of consumers for the supply of electricity in Great Britain, while achieving legally binding carbon budgets at least possible cost to consumers" (Paragraph 46)

11.  We recommend that the long title should be amended to read "Make provision for contracts for difference and investment instruments in connection with encouraging low carbon electricity generation in order to achieve legally binding carbon budgets and provide security of supply at least cost to consumers […]". We recommend that the long title should be further amended to delete "contracts for difference" and insert "support mechanisms". (Paragraph 47)

12.  The draft Bill and its associated documents are fundamentally flawed by the lack of consideration given to demand-side measures, which are potentially the cheapest methods of decarbonising our electricity system. Responsive demand features only to a limited extent in the proposed capacity market, a subject we discuss in Chapter 5. Reducing overall demand, meanwhile, is entirely absent from the Bill. Indeed, the Secretary of State admitted to us that "there is a lot of work we should be doing and are doing on that". We recommended, over a year ago, that "demand reduction should be placed at the heart of EMR". It is completely unsatisfactory that DECC's work was not completed in time to be published alongside the draft Bill. This suggests that DECC is still failing to give enough priority to ensuring that demand-side measures contribute to our energy policy goals. We are concerned that adding last-minute measures to an already pre-determined structure of a Bill may severely limit what can be achieved on demand reduction and management through EMR. (Paragraph 50)

13.  We note that DECC's draft report on capturing the full electricity efficiency potential of the UK identified approximately 155TWh of demand reduction potential in 2030 (which represents around 40% of total demand). Of this potential, current policy is estimated to capture only around 35%. We recommend that permanent end-use reduction in electricity demand should feature much more prominently in the Bill in order to realise some of the remaining 65% savings. (Paragraph 51)

14.  We note the publication of DECC's draft report on capturing the full electricity efficiency potential of the UK and recommend that measures to encourage permanent end-use reduction in electricity demand are included in the Bill. We recommend an amendment to the draft Bill to provide the Secretary of State with powers to introduce a Feed In Tariff for energy efficiency, if this cannot be achieved through existing legislation. The Bill should also include stronger measures to encourage flexible, responsive demand, as we discuss in more detail in later recommendations. (Paragraph 58)

15.  The EMR provisions as they stand are likely to undermine Ofgem's efforts to increase competition in the wholesale markets. We therefore recommend that the Government amend its current proposals to avoid the likelihood that they will lead to more- not less- vertical integration and consolidation in the market. (See Chapter 3). (Paragraph 64)

16.  The Coalition Agreement states that "We will encourage community-owned renewable energy schemes where local people benefit from the power produced". However, the Renewable Obligation has not delivered community-owned schemes and the proposed CfDs are also unlikely to work for community schemes. A simple Fixed Feed-in Tariff would be a more appropriate form of support. We therefore recommend that this Bill provides for the Energy Act 2008 to be amended to allow for the eligibility threshold for small-scale FiTs to be extended to at least 10MW and potentially up to 50MW in size. (Paragraph 70)

17.  We consider that suggestions that small suppliers might be exempted partially or wholly from obligations to post collateral have merit and recommend that the Government takes steps to ensure that small suppliers are not disadvantaged. (Paragraph 87)

18.  We recommend that the Government abandons the multiparty concept and reverts to a single counterparty payment model, with a contract and counterparty design that is legally enforceable. (Paragraph 94)

19.  The main purpose of the reforms was to reduce the cost of capital for investors. The nature of the counterparty will affect the cost of capital (see paragraph 97). In our view, a counterparty model that is underwritten by Government would be the best way to instil investor confidence and reduce financing costs. (Paragraph 95)

20.  DECC must fully assess the implications of a single counterparty without government underwriting on suppliers' balance sheets and on the cost of capital before adoption of this model. This should include an assessment of what impact this model would have on smaller suppliers to ensure that this counterparty model would not threaten the viability of these businesses. (Paragraph 96)

21.  We believe that the nature of the counterparty will have an impact on the cost of capital. DECC's claim that the nature of the counterparty would not affect the outcome of the Impact Assessment (IA) merely reflects the lack of sophistication in the original assessment, rather than the likely real-world impact on the cost of capital. (Paragraph 99)

22.  DECC must update its methodology as well as the figures when revising the Impact Assessment (IA). The model needs to reflect real world approaches to capital pricing and should incorporate the impact of new risks on the cost of capital (including counterparty risk, development risk, risks to credit ratings and basis risk). The IA should specifically address the issue of how Government-underwriting (or lack thereof) of the CfD counterparty affects investor risks and costs. (Paragraph 102)

23.  Rationing the number of CfDs under the levy cap increases development risk. We recommend that DECC introduces a two-step or pre-registration process to give developers greater confidence that they will be able to obtain a CfD before reaching Final Investment Decision. (Paragraph 109)

24.  The Government should clarify what will be defined as falling within the Levy Control Framework at an early date. (Paragraph 112)

25.  It is essential that the Government makes clear how choices will be made by the agent allocating contracts, in particular in allocation between technologies. We recommend that reporting against the delivery plan should include details of commitments already entered into at FIDs or during FID-enabling discussions, and is transparent to other players in order to assist long term planning (Paragraph 113)

26.  We recommend that in order to provide greater confidence to developers, Government should set out (a) the level of the funding that will be available under the Levy Control Framework until 2020, (b) whether the present rules on headroom will remain as they are or will be amended to provide more flexibility for levy allocation over the next spending period; and (c) whether the present mechanism of capping expenditure annually and longitudinally by line will be maintained or relaxed during the next spending period. We note the Committee on Climate Change's suggestion that funding available under the Levy Control Framework until 2020 should be around £8 billion in 2020. (Paragraph 115)

27.  Auctions may be useful but they are not the only means to secure cost reduction. We recommend that DECC should learn from experiences overseas and consider setting out a planned reduction pathway for strike prices. This would guarantee a reduction in the level of subsidy paid by consumers over time. (Paragraph 117)

28.  Access to market for independent generators under the CfD arrangements is an extremely serious issue that must be resolved before a Bill can be introduced. We recommend that DECC expedites its review of evidence on access to the electricity market for renewable generators to ensure that a solution to this issue is identified before the Bill is introduced to Parliament in the "autumn". (Paragraph 124)

29.  We recommend that as part of its review of access to market for independent generators, DECC should examine the following options: introducing a buyer of last resort; introducing an incentive for suppliers to source energy from low-carbon generation; extending the micro-gen FiT to projects up to 50MW in size; and holding open the RO for new entrants in the event that the PPA market disappears. (Paragraph 128)

30.  We are concerned that the proposed process for setting the nuclear strike price lacks sufficient transparency. The perception that decisions are being made "behind closed doors" could be highly damaging to the low-carbon agenda and may further undermine consumer trust in energy companies. It is essential that the negotiations deliver, and are perceived to deliver, value for money to consumers. We recommend that an independent panel of experts should be appointed to oversee the negotiations and to report to Parliament on the adequacy of the outcome and value for money for consumers. (Paragraph 134)

31.   Since there is little competitive pressure or prospect of moving to auctions for new nuclear, we are concerned that the strike price for nuclear could be driven upwards. We hope that industry claims that the cost of nuclear is competitive with other forms of low-carbon energy will be reflected in the offers they put forward during strike price negotiations. We do not believe that a nuclear strike price higher than that given to offshore wind would represent good value for money to the consumer. The Secretary of State should not agree to contracts of this nature. (Paragraph 136)

32.  Government should provide clarity on the strike price level beyond 2017 as soon as possible in order to provide certainty and help secure investment for emerging technologies, such as wave and tidal power. (Paragraph 139)

33.  We conclude that state aid as well as political considerations have influenced the design of the CfD package, and have caused policy and financial support for nuclear to be rolled up with that for renewables. Logic suggests that the Government should differentiate nuclear from other low-carbon technologies within an overall FiT regime. The Committee will consider further the building of new nuclear and its associated challenges later in the year. (Paragraph 145)

34.  Given that the Government (and the Committee on Climate Change) see nuclear playing a key role in the future energy mix, Government should consider how carbon and security objectives could be delivered if no new nuclear is forthcoming. (Paragraph 146)

35.  We share the concerns of many witnesses about the transparency of the FID-enabling process. Hinkley C is the first project to be considered under the process. We recommend that DECC ensures that any contract terms agreed are published as soon as possible. We also recommend that, as with setting strike prices under the CfD mechanism, an independent panel of experts should be appointed to oversee the investment instrument negotiations, and should report to Parliament on value for money for consumers (see paragraph 134). (Paragraph 153)

36.  The deferral of a firm decision to implement a capacity market creates uncertainty and risks a hiatus in investment. The Energy Bill should be based on a clear Government position on the circumstances in which a market will be introduced, and how this will be reviewed and updated over time. The Government should set out an enduring reliability standard, which, along with a decarbonisation target for electricity, would provide a clear framework for the System Operator to work within when operating a capacity market. (Paragraph 164)

37.  We are extremely concerned that the capacity market proposals are based upon out-dated assumptions and an insufficient analysis of the future risks to reliability. We recommend that the Government undertakes much clearer analysis of the problem that the capacity market is trying to solve, particularly the integration of the large volume of intermittent generation that is likely to be required to decarbonise our electricity supplies, and of the role capacity payments can play in furthering demand side response and reduction measures. The enabling legislation in the Energy Bill must be able to meet our future reliability challenges. (Paragraph 171)

38.  We recognise that a more thorough assessment of cost-effectiveness must await the publication of detailed capacity market proposals. DECC should conduct further analysis on the costs of the capacity market to ensure it is not significantly higher than alternative options such as a strategic reserve. The Government should clarify how the Energy Bill will ensure that the capacity delivered by auctions will have the appropriate characteristics, such as flexibility, and how this relates to the System Operator's existing system balancing role, in order to ensure that costs are minimised. (Paragraph 175)

39.  As we recommend in paragraph 223, it is vital to have an understanding of the likely impact of EMR of the future role for gas generation. DECC should conduct modelling work to assess the combined impact of the capacity market and the EPS on emissions and security outcomes under different scenarios. This should include both a "dash for gas before 2015" scenario and a "no new gas before 2015" scenario (Paragraph 183)

40.  We recommend that the Government, in its forthcoming Gas Strategy, considers the interrelationship between electricity market reform and the capabilities of the gas infrastructure, in particular the potential need for more gas storage. (Paragraph 184)

41.  As innovative technologies, demand-side response and storage technologies should be recognised and defined explicitly in the Energy Bill. Support for innovation is given to the supply-side, for example by the banding of the Renewables Obligation, and the Bill should provide similar support to demand-side and storage technologies. DECC should investigate the legislative and other barriers to storage identified by our witnesses, and remove any that prevent it from competing fairly in the market. (Paragraph 191)

42.  The Government should clarify how the capacity market will be made compatible with increased interconnection and the move to a more integrated European electricity market. (Paragraph 193)

43.  We do not believe that it is appropriate for a private company—which is ultimately motivated by profit making—to act as the EMR delivery body. DECC's proposals for the System Operator to take on this role will result in considerable conflicts of interest for National Grid and could result in unnecessary additional costs to consumers. We recommend that National Grid should be removed from this role and replaced by establishing a new independent, not for profit company. (Paragraph 198)

44.  The Government's intention to review the EPS in 2015 is another source of uncertainty for investors. It may even cause a "dash for gas" itself, if investors rush to build gas plant before the review. We are concerned that DECC's decision to grandfather the EPS until 2045 is not compatible with our long-term decarbonisation objectives. If too much new unabated gas-fired plant comes forward under these arrangements, future governments could be faced with a tough decision either to miss the carbon budgets or to set an extremely high carbon price, which would ultimately increase costs to consumers. We recommend that a shorter grandfathering period commensurate with decarbonising the electricity system by 2030 should be adopted. (Paragraph 204)

45.  CCS is a special case and it is important not to risk delaying or undermining the development of the technology. But DECC should ensure that the Bill provides sufficient safeguards so as to avoid the unintended consequence of undermining decarbonisation. There may be merit in the inclusion of a minimum proportion of emissions to be captured by CCS plants in clause. 37 (Paragraph 207)

46.  We believe that any decision to exempt plant from the EPS on energy security grounds should be subject to Parliamentary scrutiny, even if this scrutiny has to be retrospective. (Paragraph 209)

47.  In order to prevent this from happening, it may be necessary to consider pushing back the closing date for the RO (currently planned for 2017), for example to 2020, to reflect any slippage in the EMR programme. We note that an extension of the RO to enable slippage to be accommodated would not compromise the government's intention to combine underwriting for all low carbon technologies, since the date of 2018 as the year in which new nuclear power comes on stream has already slipped substantially. (Paragraph 211)

48.  Delivery according to timetable is crucial if we are to meet our climate change and renewables targets and retain security of supply for 2020. We are extremely concerned that DECC's delivery timetable has already slipped, and that there is still a great deal of work that needs to be done to finalise the legislation. In addition, there is a risk that state aid clearance will delay the implementation of the new support measures. If questions about CfDs are not resolved swiftly, there is a real risk that new low-carbon projects in the pipeline will dry up, potentially jeopardising our 2020 targets. The Government must ensure that there are no further delays to the Bill and should aim for its formal passage in Parliament to be completed before the end of the current Session. If delays do occur, it may be necessary to delay closure of the RO in order to reflect slower progress in finalising the details of EMR. (Paragraph 213)

49.  We do not believe that a backup plan is necessary at this stage. However, if DECC does not resolve the outstanding questions regarding the CfD payment model, allocation of CfDs and routes to market before the autumn, it may be necessary to consider keeping open the option to extend the RO and/or convert it into a PFiT. (Paragraph 216)

50.  Some investors are concerned that there may not be sufficient acceptance among members of the public for the EMR proposals to be delivered successfully. There is therefore a fear that a future Government may renege on commitments as a result of political pressure from the electorate. his is driven by the perception in some quarters that the Government is failing to warn consumers about likely increases in electricity prices. In order to increase confidence, DECC should spell out the provisions for recompense should the CfD be dismantled as the result of circumstances beyond its control. (Paragraph 220)

51.  It is vital to have a clearer understanding of the likely impact of the EMR proposals on the future role for gas. We hope that the Government's forthcoming Gas Strategy will provide clarity about both the Government's vision for the role of gas in the electricity system, and how the EMR proposals will deliver this in practice. There would be merit in assessing the combined impact of the capacity market and Emissions Performance Standard on energy security and climate change objectives. We recommend that DECC conducts modelling work before introducing the Bill to investigate the combined impact of the capacity market and EPS on emissions and security outcomes under different scenarios. This should include "dash for gas before 2015" scenario and a "no new gas before 2015" scenario. (Paragraph 223)





 
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Prepared 23 July 2012