MEETING NOTES

Explanation of  Subsidy Mechanisms

 

1) Contracts for Difference

Renewable generators are paid an index linked, guaranteed price for 15 years. As the contracts are legally enforced, the government cannot cancel them. However the generators can withdraw at any time on payment of a small penalty charge.

2) Renewables Obligation

This is the subsidy mechanism for most renewable electricity generation commissioned prior to 2017, when it was replaced by Contracts for Difference (CfD)

On average, this subsidy is worth about £69/MWh to renewable generators, Wind farms account for two thirds of the subsidy.

3) Capacity Market

This covers payments to generators to provide standby capacity, for when intermittent renewable generation is low.

There are other costs incurred by the National Grid in order to manage intermittency and these are also passed onto energy bills, but not included by the OBR. The cost is estimated to be at least £2bn.

4) Feed in Tariffs

Subsidised payments to small generators

5) RHI

Grants paid for installation of renewable heating technology, such as biomass boilers. Unlike Environmental Levies, which are added to energy bills, RHIs are taxpayer funded

6) Climate Change Levy

Electricity generators must pay this levy to government for the fossil fuels they use.

7) Emissions Trading System

Electricity generators, energy intensive businesses and domestic aviation must purchase carbon allowances to cover their emissions.

 

Policy Suggestions

1. Renewables Obligation

As well as being paid subsidies of £69/MWh, renewable generators also receive income from sales of electricity, which till the last few months used to be around £50/MWh – in other words a total income of £119/MWh

However, current market prices are close to £200/MWh , meaning the same generators now have income of at least £269/MWh.

This extra income is windfall profit and should be taxed, just as the Labour Party has suggested for North Sea oil. Average power prices in 2021 were about £100/MWh, So a tax rate of £50/MWh, for instance, would yield tax revenue of about £4.0bn, and should be raised on 2021/22 profits. (This would reflect the market price rising from £50 to 100/MWh).

Going forward, given the uncertainty and volatility of electricity market prices, it would be easier and simpler to reduce the value of the Renewable Obligation Certificates (ROCs), which actually generate the subsidy. Currently a price of £50.80 for each certificate is set, but there is no reason why this should not be much lower, say £10.

At the same time the number of ROCs that energy suppliers have to present should be reduced from the current level of 0.492/MWh – this would have the effect of flooding the market with unsold ROCs, thus making them worth much less.

As energy suppliers pass the cost of ROCs onto consumers, these two actions will reduce bills. For instance, a price of £10 would reduce bills by £4.8bn.

1. Capacity Market

The cost of the Capacity Market, together with other grid balancing measures, is probably in the region of £3bn a year. These costs are directly attributable to intermittent renewable generation – wind and solar – and would not be incurred otherwise.

Therefore these costs should be charged to wind and solar farms, as an “Intermittency Tax”, charged per MWh. Saving £3bn.

1. Climate Change Levy

This should be abolished – saving £2bn

1. Emissions Trading

It is of great concern that the cost of this is projected by the OBR to rise from £0.9bn this financial year, to £4.9bn in 2022/23. I suspect however that part of this increase is already baked into current market prices.

My recommendation is that the cost should be frozen at £0.9bn, The current price for UK Carbon Allowances is £84/tonne, more than double the level of a year ago. Therefore a ceiling should be set of, say, £35/tonne.

Not all of this saving will be passed through to electricity bills, as some will accrue to industry. Nevertheless, we could estimate a saving on £1bn on bills.

1. International Climate Aid

I an advised by the Foreign Office that the budget for Climate Aid is £11.6bn for the five years 2021/22 to 2025/26, ie £2.32bn a year. As this is funded from the Overseas Aid budget, which is fixed, this does not represent new money. Instead it is taken from other parts of the ODA, such as for genuine humanitarian needs.

Nevertheless I suspect most of the public would be horrified to learn that they are paying billions to build wind farms in Africa, while also having to subsidise British ones at the same time.

My suggestion would be to use the 2022/23 allocation to fund the cost of abolishing the Climate Change Levy. If affordable, payments could be increased in future years to catch up.

 

Summary

The above savings can be summarised:

                         £bn

ROC Windfall:              4.0

ROC Price Reduction 4.8

Capacity Market           3.0

Climate Change Levy  2.0

Emissions Trading       1.0

TOTAL                             14.8

This would be at little or no cost to the Treasury, and if applied solely to domestic bills would equate to about £550 per household. This would offset most of the increase in the energy price cap just announced.