DECC pokes the bear again on capacity markets


Maybe it’s getting a bit wearisome to keep on pointing this out and I know that I’m getting a bit like a bear that wakes up when prodded with a stick etc. But …yes it’s the capacity market again. The latest is a press announcement from DECC that ‘Britain’s energy security strategy [is] now fully in place.’ This refers, in case you didn’t know, to ‘the amount of electricity generation capacity the government will procure’ through the capacity market, which as long-toothed readers of this blog will know, will be done through a series of ‘capacity auctions’. These auctions will see Britain’s gas fired power stations, present and future, being invited to bid to receive large amounts of money to persuade them to continue to be available to produce power (i.e. not shut down). As the Secretary of State says in his breathless press release, this is so ‘the ticking time bomb of electricity supply risks’ can be averted.

And now we’ve got the figures and the likely cost to consumers. The Government is aiming, the report says without a trace of a smile, to procure ‘a total of 53.3 GW of electricity generating capacity.’ In case you aren’t up with this capacity game, that is, incidentally, TWICE the amount of new gas fired power capacity that DECC estimated in its 2012 Gas Strategy would be needed by 2030. It’s also about 20% more than the total amount of gas capacity the Department estimated would be likely to be installed by that date. So yes, you could say that this is quite a secure amount of gas fired power stations to procure, since it seems that every conceivable source of gas fired power between now and 2030 will get free money to persuade it to be there.

And of course, thanks in passing to the redoubtable Emily Gosden, writing in the Telegraph about the announcement, we know the cost to consumers of this bonanza for gas fired power stations – on average £13 a year on bills. DECC had initially put the figure out as £2 on their press release, but accepts that, well yes, that is net of some very heroic assumptions about what may turn up in advantages on price as a result of the policy, so it really should start at…£13.

Ah but this must all be OK, says DECC because (back to the press release again) the whole shebang has been OK’d by experts: ‘the analysis supporting the decisions made today has been impartially scrutinised and quality assured by the panel of technical experts for the enduring regime’. Well…up to a very small point. When you read the small print of the Panel report, it is made clear that, according to the terms of its establishment, the Panel:

‘has no remit to comment on EMR policy, Government’s objectives, or the deliverability of the EMR programme. The Panel’s Terms of Reference mean it cannot comment on affordability, value for money or achieving least cost for consumers. These matters are excluded from the Panel’s scope and therefore from this report.’

So not much to comment on at all really.

Which I suppose is just as well, because if the panel did have such a remit, it could not have failed to turn up the infamous 2011 impact assessment on the comparisons between a capacity market and a strategic reserve, the option for energy security which in the words of DECC at the time,

 ‘is a targeted capacity mechanism. The system operator tenders for capacity to be part of the strategic reserve. The capacity is then kept outside the market and only deployed at times of scarcity i.e. when there would be blackouts or brownouts in absence of the reserve being deployed.’

Far more sensible you might think, and it has the advantage of ‘being a smaller intervention in the market and of having a smaller impact on bills’ (DECC’s words in 2012, again). Just how much smaller is shown in comparative costings in the 2011 Comparative Impact Assessment, where the proposed capacity market is projected to come out at a cost per year of about what has now appeared.  The strategic reserve comes in at about ONE FIFTH of the cost. It was rejected as an option after a series of ‘qualitative’ analyses, which I know had at least one former DECC civil s
ervant scratching his head at the time when he reported (to me) ‘ all the time during this period it was clear to all of us that the strategic reserve was the right way to go. How we ended up with this, I really do not know’.

Well we have and it’s going to cost us. It strikes me as rather like announcing that you are going to concrete over the Somerset Levels to a height of six feet and then proclaim that ‘a flood prevention strategy is now fully in place’. It really is such a silly long term policy that I cannot believe it will last for the time it will take to procure all this 52.5gw of gas fired power stations. But you never know: stranger things have happened.


3 thoughts on “DECC pokes the bear again on capacity markets

  1. Lets say that 53 GW of Capacity can be built at £1000 per kW installed minimum. That’s a minimum capital outlay of £53 billion. DECC are saying in their impact report that the annual cost of this will be under a billion pounds per year to consumers (26 million households x £13 = £338 million, with costs to businesses unstated)

    If £53 billion is invested in a treasury bonds generating a yearly return of £338 million, the effective interest rate would be 0.64%. The actual rate at the moment being more like 2% on UK treasury bonds.

    The operations and maintenance costs of keeping these plants ready for action at a few months notice has not been included in these calculations. Also I haven’t made an adjustment for depreciation.

    Lets say a 53 GW of capacity is naively depreciated by equal yearly amounts to zero over 40 years. That’s [£53 billion / 40 =] £1.35 billion per year on its own.

    Do the government figures assume that most of the capacity market players will see a substantial amount of profitable generation income each year from assets bid into the capacity market, offsetting the fixed costs?

    They must do otherwise
    (a) the government sums do not add up, or
    (b) there are substantial undisclosed costs to businesses in the pipeline as well.

  2. One way or another investors will want to see a return on capital. Lets assume that the desired return is 10%. That’s £5.3 billion net profit minimum on capital of £53 billion minimum.

    This profit either as to come from selling electricity or capacity market payments. Lets assume for the sake of argument that electricity is sold at cost and all income comes from capacity market payments.

    Lets assume that all the costs of the capacity market are paid by consumers (assuming all increases in business costs are passed on 100% to consumers)

    Therefore just paying for the return on capital on the capacity market will cost consumers £203 per household per year.

    This will be reduced by the difference between generating costs and electricity market wholesale costs multiplied by the amount of electricity supplied by the capacity market. Lets estimate this difference to be £20 per MWh

    Offset Income to the consumer
    Capacity market capacity factor
    0% £0 per household
    10% £36 per household
    20% £72 per household
    30% £108 per household
    40% £144 per household
    50% £180 per household

    So it looks like the capacity market assets will have to achieve an electricity generation capacity factor of well over 50% to come anywhere near the government figures quoted. The governments figures don’t make sense from this point of view either.

  3. It seems that nobody at DECC has even noticed that overall energy use has declined by 12% during this decade- and even per capita electricity sales are down 10% since 2000….

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