Renewable electricity: A “subsidy free” future?

In 2017’s Autumn Budget, the Chancellor announced a new Low Carbon Levies Control (“The Control”) to replace the Levy Control Framework (LCF). This Control introduces a moratorium on all new low carbon subsidies for electricity generation until the aggregate of existing commitments falls. The Treasury estimates this won’t be until 2025. The Government doesn’t rule out new levies “where they have a net reduction effect on bills” which leaves open the possibility of “subsidy-free” contracts for renewable energy.

So, what does this announcement mean for low carbon generation, and what could a subsidy-free future for renewable energy look like?

From the LCF to the Low Carbon Levies Control

Government policy has been to finance a number of energy and climate change policies (including the Feed-in Tariffs scheme, the Renewables Obligation, Contracts for Difference and Warm Homes Discount) through levies on energy companies, rather than funding the schemes directly through general taxation. Energy companies then, in effect, recover the cost of these levy-funded schemes from consumers through bills. The amount that could be passed on to consumers was previously capped through the Levy Control Framework, established by the Department of Energy and Climate Change (DECC) and HM Treasury in 2011. As the chart below shows, the cap started at just over £2 billion in 2011/12 and rises to £7.6 billion in 2020/21 (in 2011/12 prices).

graph-showing-the-levy-control-framework-budget-and-expenditure-between-2011-and-2021

The 2017 Spring Budget trailed the end of the Levy Control Framework (LCF) after forecasts showed that spend on renewable electricity subsidy schemes was set to be higher than budgeted for (see Office for Budgetary Responsibility (OBR) forecasts from November 2015, March 2016 and November 2016 and the chart above for actual and projected expenditure under the cap). The Chancellor then confirmed a new framework at the Autumn Budget 2017: the Low Carbon Levies Control.

This Control specifically rules out new low carbon levies until 2025 when the Treasury forecasts the aggregate cost of all existing levies to be falling “in order to protect consumers.” It’s therefore not expected to stop firms signing contracts for power stations coming online after 2025, and does not affect existing money, including:

chart-showing-forecast-expenditure-on-low-carbon-levies-between-2016-and-2025

The chart above shows that the bulk of the costs by 2024/25 are the costs committed under the Renewables Obligation, whilst spending on CfDs is due to increase as more projects come online in later delivery years. These forecasts don’t include the up to £557 million for additional CfDs, as decisions on future auctions and commissioning windows hasn’t been taken.

The Government doesn’t rule out new levies under the Control where they have a “net reduction effect on bills” and are “consistent with the government’s energy strategy”. This has left some to speculate about a subsidy-free future for renewables. At the same time, there are lingering worries about how less developed technologies, such as tidal lagoons, can get to market.

Falling costs for renewable generation

The cost of certain renewable energy technologies has fallen faster than expected, but the overall cost to consumers as a result of Government support programmes have risen.

Even though the costs of renewable energy are falling faster than expected, wholly subsidy-free projects are unfeasible for virtually all projects. Albeit we have seen the “country’s first subsidy-free solar farm,” in order for this project to work financially it had to deploy a number of innovative technologies, make the most of existing supply chains and grid connections, and it is twinned with a battery storage site. This isn’t possible for most projects. Rather, when commentators discuss subsidy-free renewables they are generally thinking of subsidy-free CfDs (or similar guarantees).

So, what’s a subsidy-free CfD?

For a CfD to be considered “subsidy-free” the strike price would have to be agreed at a price below the forecast wholesale electricity market price.

And why would a generator agree a below-market strike price?

By guaranteeing the strike price (even below forecast wholesale prices) investors reduce their risks, and are guaranteed that the project will be profitable when it sells the electricity generated. Recent research (commissioned by Scottish Renewables) has indicated that certain mature technologies (including onshore wind and solar PV) could be brought forward in the UK without the need for any direct subsidy. For a 1 GW wind farm, the research found a subsidy would be required for the first five years (around £8m per annum), but over the project’s lifetime the taxpayer would receive a net payback of £18m. Similarly, a report from engineering firm ARUP found that onshore wind technology had seen such dramatic price reductions that it could now be delivered near subsidy free and much more cheaply than some alternatives.

What has the Government said about subsidy-free renewables?

The Government have not commented on the possibility of a subsidy-free CfD contract such as this, but have welcomed the recent falls in cost of low-carbon generation (such as that seen in the second CfD auction) as evidence that policies promoting low-carbon generation are working.

Describing CfDs as subsidy-free can be controversial, as critics suggest that it would involve some form of Government guarantee and likely payments to be made for at least part of the contract. In addition, any project’s subsidy-free status would depend on accurately forecasting 25 years’ of electricity prices. Some critics even argue that wholly subsidy-free intermittent renewable energy would still receive an indirect subsidy through mechanisms providing guaranteed capacity (such as through the Capacity Market).

When will we see a subsidy-free CfD?

Since the Autumn Budget announcement, the Government has stressed the need to deploy any future subsidy in the technologies that bring forward the maximum benefit for low cost, carbon reduction and technological-export advantage. But neither onshore wind nor Solar PV are currently eligible to bid into the CfD auction, so, at least for the next CfD auction in spring 2019, subsidy-free CfDs look unlikely to be agreed.

The Library briefing Control for low carbon levies has more information on this policy and its predecessor the LCF.

Picture credit: Wind Turbine Sancton Hill by Mark ThompsonCreative Commons Attribution 2.0 Generic (CC by 2.0)