When is tax and spend not tax and spend? When it’s pro gas

One thing sitting with your nose pressed very close to a book of legislative clauses for three weeks is get you thinking about some of the more arcane bits of what is in front of you.  There are several  -ahem- fairly obscure bits of the upcoming legislation that I think are really going to cause trouble in the future, policy implications apart, which I may well set out for your delight in the near future, but for starters here’s a continuing puzzle about how capacity payments are going to be viewed in the Energy Bill.

Now I know I’ve been banging on about the Levy Control Framework  to limit spending based on levies on customers’ bills for some time, and more recently, pointed out that  in the Energy Bill structure, capacity payments  (that is, payments to ensure that people build enough non-renewable capacity in the future) are outside the levy control framework, whereas Contracts for Difference (that is payments to ensure that people build enough renewable capacity in the future) are inside, and will be limited by the allegedly generous £7.5 billion cap in 2020 (see some of my previous stuff on this here).

And indeed this is about the limit of information that we’ve been offered as the Bill has progressed in committee. Ministers just refer to the fact that one set of payments are inside and the other outside, as if they were part of the celestial fixed spheres.  But why should that be so? I have tried asking the top banana in the Department himself: here’s what happened when I quizzed Ed Davey about this in DECC questions in December

Me: Will the Secretary of State explain why he proposes in the Energy Bill to include contracts for difference that are raised from levies in the levy control mechanism, but to exclude capacity payments that are raised by levies from the same mechanism?

Ed: They are intended to do two separate things: contracts for difference are intended to stimulate investment in low-carbon energy and the capacity mechanism is about security of supply.

(Me: Doh, I know that. But why?  – That bit didn’t get asked, of course.)

The answer for Contracts for Difference might have been that they are the successors, at least in part to the Renewables Obligation and are clearly, according to the Treasury’s definition ‘tax and spend’. Here’s what DECC has said about the classification of the Renewable Obligation, and other levies to date:

‘The Office for National Statistics (ONS) has classified the cost of the RO as a tax and the money that is spent on renewable generation as public expenditure. The ONS are also considering the classification of FITs ([feed in tariffs] and WHD [Warm Home Discount], but based on the ONS’s rationale for its classification of the RO and an unofficial (and non-binding initial view offered by the ONS, the Government judges that FITs and WHD are also likely to be classified as tax and spend and so has provisionally included them in the public finance aggregates’.

So why not ‘provisionally include’ capacity payments in the same way? Maybe it’s because they don’t count as ‘tax and spend’? But wait a minute, here are some impact assessments, published by the department on various measures, including capacity payments, upon which my eye lights during the longeurs in Committee proceedings. As I’ve said before, Impact Assessments are usually very helpful and –necessarily – truthful documents when looking at what a policy means.  And sure enough, on the front page of each impact assessment on capacity payments, published and updated over three years, is the filled in form that has to accompany each document detailing the cost of options. And here’s a box you have to fill in headed ‘Measure qualifies as’ And the answer is…..’Tax and spend’.

capacitypaymentimpactassessment

So it is the same, and there isn’t any reason why it is outside the cap. Unless….aren’t capacity payments about building more gas plants? And hasn’t there been a recent Treasury-led ‘Gas Strategy’ appearing, which among other things envisages a radically expanded build of new gas plants? And would that maybe be stifled if the amount of capacity payment money were to be capped through the Levy Control Framework, as set out by the Treasury? I think the time-honoured rule of the unwritten British Constitution might be at work here, which is that ‘everything x is y , unless it isn’t’. This is clearly a case where ‘it isn’t’ which may be OK until the bills for capacity payments, already far more expensive than the cost of a strategic gas plant reserve start to mount up. At which point, I wonder if the Chancellor will have the nerve to ‘cap’ his own policy driver?

This blog piece was first published on the Utility Week blog

That Levieson Report (levies on Demand Side Reduction finance, that is)

By way of a postscript on my blog piece on renewables and the levy control mechanism, the consultative document on Energy Demand Reduction comes tumbling out.  That there is a consultative document , and that it proposes some interesting and viable options for embedding real demand side reduction into energy policy for the future is a real plus, and we can hope that the preferred option is incorporated into the Energy Bill at the earliest possible opportunity.

Our thoughts on what might be the best option could, however be concentrated by  factors outside consideration of ….er…what is the best option.

And why might that be you ask?  Well, you need read no further than the executive summary at the beginning of the report (and here, a large cartoon warning klaxon goes off…) . Yes, it’s that levy control mechanism again. ‘Levy funding for any market-wide financial mechanisms would need to come from the Levy Control framework and support for these electricity demand reduction measures would need to be traded off against support for other measures.’

What does that all mean? To put it simply, ANY of the suite of market-based options  (premium payments, obligations etc) will have to draw their financing from the already agreed ‘Levy Cap’ pool up to 2020, which eagle eyed readers will have spotted (below) is capped at £7.6 billion in 2020, but represents, in real terms, only about £670 billion per year for ‘new entrants’.  So this already rather shrunken pool will have perhaps £100 million drained from it per year to underpin demand side reduction measures as well, which makes the already very dodgy-looking assumptions about the extent to which new renewables can be funded within the levy cap criterion seem even more fanciful.

Reliable sources tell me that DECC was unaware of, or unprepared for the move to insist on this (presumably by Treasury) when they negotiated the ‘triumph’ of the levy cap arrangements up to 2020 in return for throwing away any target for energy decarbonisation by 2030 (and we can see why that was when the ‘Dash for Gas’ strategy is announced tomorrow (Wednesday).

Anyway, back to the best option.  As a coda in the last paragraph of the summary, the scribes from below DECC, as it were, have inserted an interesting line:  they say ‘If an EDR measure is included within the capacity mechanism, it will be subject to the cost control arrangements for it when they are finalised’.

So there’s our guidance then. Go for an Energy Demand Reduction option that places it within the capacity mechanism provisions of the Energy Bill (which, coincidently, is what I suggested as a mechanism in a piece I wrote on Demand side Reduction recently  here) and then we might well avoid an outcome that underwrites demand side reduction by starving support for renewables in the process.  Might. Unless Treasury gets hold of that as well.

Things are not as they seem (3): The Levy Cap, Now with Added Geek Warning

Yesterday, we finally received all the details on the Energy Bill, both inclusions and omissions.  The Bill, its explanatory notes, all the accompanying documents will, I’m sure, make for some heavy bedtime reading for some, before the second reading of the Bill, which I now understand will be on the 19th December. We’re already getting some reactions to it from a variety of quarters, but one aspect that has been curiously unremarked so far relates to the announcement from the Secretary of State last week, that very much set the scene for the publication of the Bill.  This trailed most of content headings on the basis that the Sec of State was announcing a final agreement on the clearly rather rancorous talks that had been going on over weeks between Treasury and DECC about who could do what where and when, and spend what, and, by the way, whether there should be a target for decarbonisation on the face of the Bill, or whether there should be a ‘dash for gas’ instead.

This ‘agreement’ was cast as a hard won outcome for renewables in return, essentially for removing a target from the Bill. Not a bad bargain, many commentators concluded. And here was the evidence, in the small print. The infamous’ levy cap’ limiting expenditure incurred by DECC through levies for renewables such as Renewable Obligation Certificates and FITs, would now run through to 2020. ‘The LCF budget is currently £2.35 billion for low carbon electricity in 2012/13. Under the agreement announced today low carbon electricity spending under the LCF will rise to £7.6 billion in real terms in 20/21’ and will support levies for wind, carbon capture and storage and new nuclear.  This, it was said ‘is broadly consistent with the Committee on Climate Change’s recommendation’.

Looks very good, doesn’t it? £7.6 billion to spend on renewables in 2020, an enormous rise from the present levy spend of £2.35 billion. That is how it is presented, but on a bit of examination, it doesn’t end up looking quite that way

This is because expenditure on ROCs (and subsequently, Contracts for Difference from 2017) is all ‘grandfathered’ each time a new wind farm or biomass plant starts producing energy. That is, the RO continues at approximately the level initially agreed for a set period. ROCs last twelve years; CFDs look like they will last about fifteen years for wind, and perhaps thirty years for new nuclear. So ALL plants that have come on stream since 2008 (that’s almost everything ROCable) will continue to receive levied money through 2020. And this continuing effect is included in the levy control framework. Thus, the cost of levies for renewables becomes cumulative over the period as successive new plants come on stream.

If we count this effect into the framework, something interesting happens. We can roughly calculate how much there is in the levy cap for new plant each year.  This is how it works out for the published figures up to 2015.

Year Cap for ROCs etc Cumulative payment Amount for new entrants
2011/12 £1844m
2012/13 £2352m £1844m £508m
2013/4 £2884m £2352 £532m
2014/15 £3560m £2884m £676m

Now all we know so far is that the 2015-20 cap will ‘rise’ to £7.6 billion by 20/21. It would be nice if Treasury published the full figures, but as far as I know, that hasn’t happened yet. But we can do some indicative plotting of what that crucial ‘new entrants’ money each year might be. Here’s one scenario of how we get to that £7.6 bn figure

Year Cap for ROCs/cfd/Fit Cumulative payment  Amount for new entrants
2015/16 £4240m £3560m £680m
2016/17 £4920m £4240m £680m
2017/18 £5600m £4920m £680m
2018/19 £6280m £5600m £680m
2019/20 £6960m £6280m £680m
2020/21 £7600m £6960 £640m

In other words, almost exactly the same for new entrants in each year as we will have by 2015.…which is by no means insignificant, but at the same time needs to be spread across a wider ‘new entrants’ base each year, and even possibly new nuclear, if it comes on stream before 2021.

However, this level of levy funding nowhere reaches the projections of what we will need to do by 2020, according to the Committee on Climate Change. This is what they said on Wind, for example in their 2012 progress report (p89):

  • Around 0.5 GW offshore wind capacity was added to the system in 2011, slightly exceeding our indicator for 2011. This brings total offshore capacity installed broadly on track at 1.8 GW at end-2011, after additions fell short in 2010.
  • Looking forward, there needs to be a considerable increase in build rates for both onshore (to 1.5 GW each year by 2020) and offshore (to 1.8 GW each year by 2020) to achieve the 27 GW of wind capacity by 2020 set out in our indicator framework.

I’m not sure that a ‘new entrants cap’ that supported half a gigawatt of wind coming onstream in 2011 can easily stretch to support three times that amount each year over the next eight years, let alone accommodate other renewables that may gain ROCs, or later, CfDs. It’s a bit misleading, therefore to present what is essentially a levy cap budget continuation at present levels (better than no budget, I agree…) as reaching Climate Change Committee recommendations.

It looks like DECC may have been sold a little bit of an Andrex puppy on this agreement. Exchanging a continuation of present levy funding for the removal of targets from the Bill doesn’t look like such a good deal, especially since the substantial ramping up of new entrants in the period up to 2020 will be an essential part of reaching anything like a reasonable target for decarbonisation by 2030.

Of course, my admittedly very general calculations, or my assumptions about cumulation could be wrong.  But they would need to be very wide of the mark to restore the effect that the Secretary of State so strongly advocated last week. I will be asking some Questions on this – and it would be helpful if in the meantime, the Department produced an annual breakdown of the cap up to 2020, like they have for the period up to 2015. Then we could see for sure what is going on.