1. HOW THE UK IS INNOVATING WITH
ELECTRICITY MARKET REFORM
The basis for major new nuclear investment
January 2014
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Presentation title - edit in the Master slide
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2. Objectives and Agenda
Overview of session
• How the electricity market works in the UK
• EMR – our strategic approach and objectives, what we are trying to achieve
• EMR – relating to new nuclear, drawing on the key terms agreed with EDF
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Electricity Market Reform
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3. UK‟s commitment to liberalised competitive
markets
The UK has led the way in the introduction of competition into electricity markets
• Privatised gradually from 1990
• Significant generation investment in 1990s – in particular in CCGTs
• Reform of the wholesale market – “New Electricity Trading Arrangements”
(2001)
• In 2005, NETA became BETTA incorporating the Scottish market
• Unbundling and EU Third Package
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Electricity Market Reform
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4. Size of the market
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Electricity Market Reform
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5. Financial and physical markets
Generators
Transmission
Distribution
Suppliers
(retail)
Wholesale markets
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Electricity Market Reform
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6. Generation
Generators
Transmission
Distribution
Suppliers
Major players account for c.60% of market - E.On, EDF, RWE, SSE, SP, Centrica. Also small number of
independents such as Drax, Independent Power etc.
Competitive market, not subject to price regulation.
Subject to environmental legislation to control Carbon emissions and the treatment of other by-products of
Generation
Accounts for approx 50% of final electricity bill.
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7. Transmission
Generators
Transmission
Distribution
Suppliers
Winter peak demand c.60GW
England and Wales owned and operated by National Grid plc.
Scotland: system operated by National Grid but owned by Scottish Power and SSE.
Natural monopoly: Subject to Price Controls set by Ofgem, the regulator
Licence involves technical and contractual obligations to allow fair access by companies and effective operation
of the system.
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Electricity Market Reform
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8. Distribution
Generators
Transmission
Distribution
Suppliers
Over 300,000km of overhead line and c.500,000km of underground cable
Distribution is arranged into regions, but those are now owned by six main companies
Like transmission, Distribution is a natural monopoly: Subject to Price Controls.
Running it and maintaining it costs around 17% of each electricity bill.
There are also smaller, independent distributors with slightly modified licences – currently 6 IDNOs. Those
operate distribution networks to small housing developments and industrial estates etc eg. Manchester‟s Media
City.
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Electricity Market Reform
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9. Supply
Generators
Transmission
Distribution
Suppliers
Competitive market with over 40 licencees
26m domestic electricity customers, over half dual fuel.
Dominated by six (vertically integrated) companies: Npower (RWE), E.On, Centrica, SSE, SP and EDF
Some small „niche‟ suppliers (in domestic market, mostly innovative or green suppliers)
Supplier obligations to comply with licence within the regulatory framework.
Rules to prevent anti-competitive action such as cross subsidy.
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Electricity Market Reform
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10. How the system balances
Generators
System Operator
(National Grid)
Balances
generation and
demand efficiently
Regulated by
Ofgem
Residual pool managed by System
Operator through balancing mechanism
Balancing
mechanism
Matches
generation to
demand
Ensures delivery
at times of system
stress
Costs recovered
from generators
through charges
Suppliers
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Electricity Market Reform
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11. ElectricityElectricity trading
Trading
Gate closure: positions notified to
grid; open market trading ends
Forward Trades
Balancing
Mechanism
Prompt
OTC and Bilateral,
often via Brokers
Delivery of
electricity
Exchanges
Within -day
hours ahead:
Season
ahead
Month
Ahead
Week
Ahead
•Bulk of trading, to remove
volatility, provide security
•Reflects long term market
fundamentals
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11
December 2013
Day
Ahead
•Last minute adjustments,
wind, peaking marginal plant
•Reflects shorter term market
fundamentals
Electricity Market Reform
3
2
1
1hr
30
mins
Distress
markets
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12. Governance and operation of the system
Government
•
Government
establishes a
transparent and
stable legal
framework,
Decides which
activities should be
licensed
Sets objectives of
independent regulator
•
•
Independent
Regulator: Ofgem
•
•
•
•
•
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Protect the interests
of consumers through
competition.
Administers licensing
regime to achieve
policy objectives.
Regulates monopoly
companies which run
the gas and electricity
networks – sets price
controls
Has role in enforcing
competition law in
energy sector.
Independence is a
part of EU law
System Operator:
National Grid
•
•
•
•
Balances generation
and demand
efficiently Regulated
by Ofgem
Matches generation
to demand on a
second by second
basis
Ensures delivery at
times of system
stress (margin c. fifth
of generating
capacity)
Costs recovered from
generators through
charges
Electricity Market Reform
ELEXON
•
•
Effective and efficient
implementation of the
Balancing and
Settlement Code.
Rules and
governance
arrangements for
electricity balancing
and settlement in
Great Britain.
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13. Agenda
Overview of session
• How the electricity market works in the UK including
• EMR – our strategic approach and objectives, what we are trying to
achieve
• EMR – relating to new nuclear, drawing on the key terms agreed with EDF
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14. What we are trying to achieve
• Decarbonisation, security of supply and affordability to consumers
• Planned course of action to achieve 2020 targets, on path to 2050
• To meet these challenges an estimated additional 40 – 70GW of new low
carbon capacity will be needed by 2030
• Energy is essential for economic growth – it‟s th biggest infrastructure sector
• Current market arrangement and incumbent investors are unlikely to be able to
deliver the required investments
• Transition to a competitive market
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15. Electricity Market Reform
Contract for
Difference (CfD)




Long term price certainty (“strike price”), indexed to inflation
Private law contracts with Government-owned counterparty
15-year contracts for renewables (except biomass conversion)
CCS and nuclear projects also eligible
Capacity
Market



New contracts for capacity
First auction in 2014 for delivery in 2018/19
Open to supply-side and demand-side measures including storage.



Long-term certainty of the cost of carbon
Started April 2013
Price (in 2009 terms): £16/tCO2 in 2014 rising to c. £30/tCO2 by
2020


Regulatory cap restricting CO2 emissions from new power stations.
450g/kWh allows new CCGT but not new unabated coal-fired
power
Carbon
Price Floor
Emissions
Performance
Standard
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16. The complete market reform framework
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17. CfD introduces a number of benefits for
developers
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2
3
4
5
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 Reduced wholesale electricity price exposure by
providing a fixed strike price to developers, therefore
stabilising project revenue
 Robust and reliable private law contractual
arrangement providing developers with a clear set of
rights and obligations, and recourse to arbitration/expert
determination processes to resolve disputes
 Robust single counterparty owned by government and
set up as a
limited liability company
 Early certainty and security of support levels in the
project
development process
 Provision of an element of protection against those risks
that are outside the developer’s control (e.g. change in
law, force majeure, grid connection delay)
Electricity Market Reform
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18. Robust single contract counterparty
Key characteristics
Control over the CPB
• Single counterparty body (“CPB”) set up as a UK
limited liability company owned by UK government
• Likely to have a settlement agent balancing
payments between suppliers and generators
• SoS has significant control up front over design
of contracts, agreeing strike prices and setting
maximum costs.
• CPB will need to seek consent of SoS before
agreeing to certain matters under the CfD
• However, SOS has no rights under the contract
and cannot impose any settlement or decision on
the generator
CfD levy
CPB support mechanisms






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CPB will have the duty to raise a levy from UK
suppliers to fund ongoing obligations under the
CfD
Suppliers will be bound by a licence obligation
to honour levy raising requests from the CPB
Penalties or ultimately revocation of their
supply licence for failure
CPB levy powers will be set out in primary
legislation
CPB will be set up as an insolvency remote
vehicle.


Notwithstanding the limited probability of default
(given the remote risk of CPB insolvency), we
have sought to design a system that limits any
potential losses to generators
The various lines of defence that protect the
CPB from any unsecured losses upon a
supplier default occurring are:
Supplier Collateral, Mutualisation, Supplier of
Last Resort, Energy Supply Company
Administration regime and potentially an
insolvency reserve fund.
Electricity Market Reform
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19. Sustainable framework: Stability for investors and
protection of the consumer
LCF trajectory
2015/16
2016/17
2017/18
2018/19
2019/20
2020/21
£4.30bn
(2011/12 prices)
£4.90bn
£5.60bn
£6.45bn
£7.00bn
£7.60bn
 Levy Control Framework (“LCF”) is a budget which sets out the maximum
support for low carbon generation on an annualised basis. This include
obligations under CfDs. The LCF is sized to enable us to meet our 2020
renewables target.
 Transparency provides clarity for investors about the likely availability of support
for a project commissioning in a particular year.
 It is likely that regular information on remaining CfD budget will be available once
allocation is under way..
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Electricity Market Reform
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21. Stage 1:
Administrative
price setting
Stage 4: Lowcarbon
investment
driven by high,
sustainable
carbon price
Long-term
vision is for
low-carbon
technologies
to compete on
cost
Stage 2:
Technology
specific
competition
Stage 3:
Technologyneutral
competition
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22. Timetable
Final design
Legislation
Publications
 Consultation on
EMR
implementation
 Final Delivery
Plan
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 Energy Act
2013
 Secondary
legislation laid
in Spring 2014
Electricity Market Reform
System
 Contract for
Difference,
including
payments and
settlements
goes live
before
end 2014
 Capacity
Market,
including
auction design
Electricity Market Reform
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23. … and it‟s happening
The first practical point is that this is the year that EMR really happens. We
are on track for our delivery timescales. We have already published draft
secondary legislation (in October). In December we finalised the strike
prices for the CfDs and published 300+ pages of near-final contract. In the
next few months we will be:
• putting our finalised secondary legislation into the House and seeing it take
effect (by the end of July, when the House rises);
• at that point seeing the counterparty body go live;
• we are in the midst of the process to appoint a Chair to the CPB;
• we will be ready to sign investment contracts under the FIDeR programme
around Easter;
• the first allocations of contracts under the enduring regime will happen in
October or November; and
• the first capacity auction will take place in December
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24. … and it‟s happening
Second, and perhaps more interestingly, it’s not just a story about
jam tomorrow. The investment is starting to happen now. In
particular:
• EMR underpins the Hinkley deal, as you know. The fact that EDF are
prepared to commit to a multi-billion pound project is a massively positive
sign for the arrangements we‟re setting up;
• similarly the very high level of interest in the FIDeR programme – including
some very big projects in offshore wind and biomass – shows that we are at
the point where EMR is starting to unlock investment in renewables; and
• while this isn‟t something the Government would take a view on a number
of analysts I‟ve spoken to have commented on the activity around projects
changing hands with interested developers taking projects off those who
aren‟t going to take them up – we‟ve already seen Horizon and more
recently Race Bank, and there are a number of others in the ether.
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Electricity Market Reform
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25. Objectives and Agenda
Overview of session
• How the electricity market works in the UK
• EMR – our strategic approach and objectives, what we are trying to achieve
• EMR – relating to new nuclear, drawing on the key terms agreed with
EDF
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Electricity Market Reform
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26. New nuclear and CfDs
• The UK Government‟s intention is that future Contracts for Difference (CfD)
allocation for nuclear projects takes place through competitive project
selection processes, wherever practical and effective.
• This is in line with the UK Government policy of increasing competition
within and between low-carbon technologies, which over time will assist
with meeting Government‟s goals for least-cost decarbonisation of the
power sector over the longer term, and should also facilitate more effective
management of the Levy Control Framework.
• Bilateral negotiation remains an alternative for nuclear CfD allocation where
competitive processes are not practical. In such circumstances, any final
allocation decision would still be subject to strict value for money
considerations and an assessment of overall budget constraints. It is open
to Government to amend any budget allocation between technologies,
which may be an important way to foster inter-technology competition and
maximise value for money.
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27. Bilateral negotiation – Hinkley Point C
• During the transition from the existing market to CfDs under Electricity Market
Reform, the UK Government has been aware of the risk of an investment hiatus
whilst the institutions and legal framework necessary to manage CfDs are
established.
• To avoid an investment hiatus, the UK Government introduced a „final
investment decision enabling‟ (FIDe) process under which developers whose
projects were at serious risk of significant delay or cancellation, to approach the
UK Government with the aim of receiving an „Investment Contract‟ which would
be an early form of CfD.
• For nuclear, EDF Energy approached us about an Investment Contract for its
new nuclear project at Hinkley Point C. Since March 2012 the UK Government
has been in discussion with EDF about the terms of an Investment Contract
suitable for Hinkley Point C. We have been clear that an investment contract
must be value for money and affordable to energy bill payers.
• On 21 October 2013, the negotiations were sufficiently far advanced to
announce that there had been agreement with EDF on the key commercial
terms including Strike Price and duration of the proposed contract.
• This agreement remains subject to further negotiation on the investment
contract itself, EU State aid clearance and the passing of the Energy Bill
through the UK Parliament.
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28. Hinkley Point C agreement
• A “Strike Price” of £89.50/MWh fully indexed to the Consumer Price Index.
• This price benefits from an upfront reduction of £3/MWh built in on the
assumption that EdF will be able to share the first of a kind costs of the EPR
reactors across the Hinkley Point C and Sizewell C sites. If EdF does not take a
final investment decision on Sizewell C, the Strike Price for Hinkley will be
£92.50/MWh. The development of Sizewell C will be subject to relevant consent
and regulatory and other approval procedures at the appropriate time.
• A contract difference payment duration of 35 years, from the earlier of the point
at which each reactor at Hinkley Point C becomes commercially operational and
the last day of the target commissioning window for that reactor, subject to
satisfaction of certain conditions.
• A range of gain share arrangements, adjustment, re-openers and protections to
reflect the fact that over the 35 year duration the market, legal and political
contexts are likely to change, and to prevent the developer either being
overcompensated or undercompensated.
• We believe that an investment contract based on this agreement will be value
for money, fair and affordable as well as consistent with EU State aid rules.
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29. Links to policy detail
Publications relating to policy decisions about the CfD and draft strike prices; and the
Capacity Market
https://www.gov.uk/government/news/new-energy-infrastructure-investment-to-fuel-recovery
Publication of the draft delivery plan for consultation
https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/223650/emr_d
elivery_
plan_consultation.pdf
Publication of CfD contract details and allocation process
https://www.gov.uk/government/publications/electricity-market-reform-contracts-fordifference
Department of Energy and Climate Change
3 Whitehall Place
London
SW1 2AW
https://www.gov.uk/government/organisations/department-of-energy-climate-change
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30. Dr. Tim Stone CBE
tim@alpha-n.co.uk
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