McCrone: What is a nation’s real cost of renewables support?

Angus McCrone, Chief Editor

Bloomberg New Energy Finance

 

What do the minerals tourmaline and cordierite, and the much-discussed contemporary garment #TheDress have in common? The answer is that they look different depending on who you are and where you are standing.

It is rather the same with energy policy. Subsidy support for renewables is either a vital step towards a low-carbon future and the full commercialization of new technologies; or it is an excessive burden on electricity bill-payers and taxpayers.

So how much does supporting renewables cost, at a national level? Some countries crunch their own estimates and publish them. For others, governments release enough subsidiary data to make it possible for others to estimate the bill.

Spain, ahead of its decision in 2010 to impose retroactive cuts in support for existing projects, said that the annual tariff deficit associated with renewables was running at about 5 billion euros. The U.S. has had a variety of support mechanisms at different times, but one of the two principal ones – the Production Tax Credit for wind – cost the country just over $2 billion in lost tax revenue in 2014, according to Bloomberg New Energy Finance estimates.

In Japan, the cost of the feed-in tariff program in 2014 was 728 billion yen ($6.9 billion at the exchange rate then) relative to the cost of thermal generation. In Germany, the 2014 retail electricity price was 291.4 euros per megawatt-hour, of which the EEG surcharge for renewables support was 62.4 euros, making a total cost to the nation of 19.2 billion euros. For the Netherlands, the stated cost of the SDE+ and other programs in 2014 was 602 million euros.

In the U.K., the Conservative government makes particularly big play of the cost of renewables support, to the point where its estimate, known as the Levy Control Framework, has almost become the lodestar by which the country’s energy policy is steered (see below).

The focus on cost disclosure makes sense. Greater emphasis on this might have forced the design of more flexible support policies in the 2007-11 period, when several European countries let solar booms run out of control on the back of cheaper hardware and over-generous subsidies.

However, for a country to have a well-informed political debate about energy choices, it needs to have a more holistic view of costs and not just a simplistic number based on megawatt-hours times the stated value of the support mechanism per unit. Here is my checklist to try to get to that holistic view:

1. Any cost estimate should cover the gross cost of subsidies, as mentioned above for different countries, but also the net cost after taking into account the impact of wind and solar generation on wholesale power prices.

In most developed economies, wholesale power prices have been plunging. Some of this reflects other issues such as weak electricity demand or, in the U.S., the impact of cheap shale gas on gas-fired generating costs, but the impact of zero-marginal-cost wind and solar generation when the wind blows and the sun shines is also influential. In the U.K., baseload forward day-ahead prices have fallen from the 60-100 pound per kilowatt-hour range in 2008, via an eight-year average of 47.35 pounds per kilowatt-hour, to just 35.75 now. This is bad news for incumbent fossil fuel generators, having to buy coal or gas to keep generating, but it is good news for electricity bill-payers. These wholesale prices are too low, on their own, to offer economic returns to investment in any new power capacity – fossil, renewable or nuclear.

2. Figures for the cost of support to renewables should be compared directly to the cost of support for other energy technologies. Bizarrely, the two are rarely looked at together in a national context. However, if a country is providing generous tax incentives for oil and gas exploration and production, or subsidies for transport fuel or electricity, then that figure should be part of the debate – the OECD, for instance, has estimated that the Chinese federal government provided 183 billion yuan ($30 billion) of support for “petroleum fuels price reform support” in 2014.

The cost comparability point also goes for nuclear. New reactors get the go-ahead around the world on the basis of power contracts that may be above market prices, or on the basis of arrangements that effectively leave some of the costs (disaster insurance, waste storage) as a liability to the taxpayer.

3. The debate should focus not just on current annual levels of support, but also the duration of that support. A renewable energy subsidy mechanism may last for 10 years (the U.S. PTC for instance) or 15 years (the U.K. Contract for Difference program) or 20 years (the German feed-in tariff) but, after that, projects become wholly dependent on market power prices for the remainder of their life.

And even then, there is the potential to extend the life of projects by refurbishing them, or to repower them. Either way, it should be possible to use existing grid, substation and road infrastructure and possibly even foundations, so the incremental capital cost is much lower than the original outlay. If wind farms and solar parks get a new lease of life in this way, then – like hydro-electric dams with their high upfront capex – they may well make possible much lower electricity prices in the long term.

4. The argument should address the balancing cost of variable wind and solar generation. This is just as slippery as the impact of renewables on wholesale power prices, but there is general agreement that balancing does involve some cost.

In its recent Technology Outlook, BP estimated that the “integration cost” of providing back-up to wind and solar using gas-fired generation is equivalent to between $8 and $30 per megawatt-hour, depending on location. Bloomberg New Energy would posit that this figure is too high, and will decline rapidly, with grids becoming increasingly adept at predicting solar and wind generation and a new generation of smart devices likely to be able to charge when electricity is plentiful and not charge when it is scarce. There is a view, expressed by Enel among others, that wind and solar projects should pay for the ultracapacitors and batteries necessary to be able to adjust output in the very short term to meet frequency regulation requirements.

5. The debate over rising electricity bills should focus not just on what families are paying per kilowatt-hour, but also on how much they are consuming. It sounds obvious, but if demand is falling due to technological and other factors, then the real impact on consumers and businesses of a jump in per-unit bills is much reduced.

Just as #The Dress looks blue to some people and gold to others, an electricity bill can look exorbitant to those who look at rising costs per unit and balancing costs, but less to those who concentrate on the sum actually leaving their bank account.

U.K.’S LCF – A Low-Credibility Figure?

Last week, U.K. Energy Secretary Amber Rudd presented a “course correction” for the country’s policy on power generation into the 2020s. Her speech proposed the closure of unabated coal by 2025, and made priorities of building new gas and nuclear capacity. On renewables, she said that policy costs on bills “had spiralled”. She left the door open to supporting offshore wind if, and only if, cost reductions accelerate, but implied that there would be no subsidy for new onshore wind or solar projects after the current programs expire.

The government’s point of view on “spiralling” costs is based on its Levy Control Framework, or LCF. A joint creation of the Treasury and Rudd’s own Department of Energy and Climate Change, this calculates support for renewables based on the value of green certificates issued, and the difference between tariffs guaranteed under the feed-in tariff and Contract-for-Difference programs and a “reference price”. The latter is based on the wholesale electricity price.

The LCF arithmetic, the government said this summer, showed that “forecast spend on renewable energy subsidy schemes is set to be higher than expected”, at 9.1 billion pounds in 2020-21 as opposed to the 7.6 billion-pound limit it had set [1].

U.K. electricity bills have indeed been rising, and green energy subsidies are one reason bills have increased. Between 2010 and 2014, average household bills based on an assumption of fixed kilowatt-hour consumption levels increased from 474 pounds to 592 pounds, a jump of almost 25 percent. The issue of surging utility bills became a political issue in the U.K. during that period, although electricity was not the only culprit – gas bills rose even faster, by a total of 33 percent over the five years.

Let us see how the LCF stacks up against my five-point checklist above:

1. Does the LCF take account of the impact of wind and solar generation on wholesale power prices? No.

In fact, since two of the U.K.’s three subsidy schemes (the small-scale FiT and the new CfD) are based on paying a flat rate for renewable electricity, the more successful wind and solar are in driving down wholesale prices, the higher the subsidy the LCF says that they are receiving.

In the case of the third renewable power subsidy program, the Renewables Obligation, estimated to account for 3.4 billion pounds of the 4.3 billion-pound total for the LCF in 2015-16, the calculated value of the subsidy does not change if wholesale prices change. However, here also, renewables get no credit for the downward influence they exert on wholesale power prices.

2. Does the government discourse over the LCF also embrace the cost of supporting other energy sources? No.

In his 2014 Budget report, Chancellor George Osborne wrote: “The government has already provided significant tax incentives for oil and gas projects that have unlocked billions of pounds of investment – around 7 billion pounds in 2013 alone.” In the March 2015 Budget, he announced changes in tax on oil and gas equivalent to a loss of 395 million pounds of revenue in the 2016-17 financial year.

And then there is nuclear. The deal being offered to the 3.2-gigawatt Hinkley C nuclear project, due to be completed in 2023, at a cost of 18 billion pounds (in 2012 money), is a 35-year tariff of 92.50 pounds per megawatt-hour (again in 2012 money). That compares to the current wholesale electricity price of around 36 pounds. If wholesale electricity prices were to stay at current levels, then the subsidy for Hinkley in 2023 alone would be 1.5 billion pounds in 2012 money. Over 35 years, it could be equivalent to that of subsidising more than 30 gigawatts of onshore wind (2.5 times the total installed) for 15 years at the February 2015 auction CfD strike price of 80 pounds.

3. Does the LCF take into account the duration of support? No.

The subsidy “hump” for renewables will pass. Analysis by Bloomberg New Energy Finance, in a Research Note late last year entitled EU Renewables Subsidies – the Cost now and out to 2030, showed that the annual cost of U.K. renewables subsidies would rise sharply to around 2021, mainly because of offshore wind roll-out, then more slowly to the end of the decade, with the peak bill likely to be around 2030. After that, it should fall increasingly quickly as more and more projects come to the end of their subsidy period. There will be no passing subsidy hump for the Hinkley nuclear reactor – unless wholesale electricity prices trend up through the 2020s, 2030s and 2040s.

4. Does the LCF take into account the cost of balancing wind and solar? No.

Rudd’s said, enigmatically, in her speech last week: “Intermittent generators should be responsible for the cost to the system when the wind does not blow or the sun does not shine.” This could mean anything from requiring renewable generators to fit short-term balancing equipment or pay a charge; to forcing them via a levy to meet the entire cost of back-up fossil fuel generation. The former might make sense; the latter would be a draconian move, and would logically have to involve fossil-fuel, hydro and nuclear plants having to pay levies every time they stop for unscheduled maintenance.

5. Does government rhetoric over the LCF take into account the fact that electricity demand is falling? Not really.

Statistics from DECC on electricity bills assume fixed consumption levels per household. However, an article in the March 2015 edition of the department’s Energy Trends report shows that average household electricity consumption fell by 11 percent over 2010-14. If that is taken into account, then average bills actually paid by households increased by only 15 percent, not 25 percent, over those five years. The reason the LCF has been catapulted into the center of decision-making on U.K. energy is because of the perception that electricity prices have been rising fast and the expectation that they are going to continue to do so. That perception about recent history is only half right.

Above, I asked the question of whether the LCF is a low-credibility figure. Let’s be polite and say that it is very much a partial view.

For all the political fuss, the current size of the LCF is about 67 pounds per person per year – about half a cappuccino per week. Is that a huge price to pay for a shift to a 25 percent clean, energy-secure share of generation?

[1] Figures are expressed in 2011-12 prices.

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