Sussex Energy Group’s response to the Governments call for evidence on reforming electricity markets

By Dr Malte Jansen, Prof Steve Sorrell and Siobhán Stack-Maddox

To meet the UK’s net zero goals, the electricity system must decarbonise by 2035 while accommodating a 50% increase in electricity demand. Shifting towards intermittent wind and solar generation – while at the same time avoiding supply interruptions and minimising costs to consumers – represents an unprecedented challenge. This transition will require far-reaching changes in the design and operation of electricity markets, alongside substantial support for emerging low-carbon technologies. The ongoing Review of Electricity Market Arrangements (REMA) provides a cornerstone of the UK Government’s response to these challenges.

Earlier this month, the Sussex Energy Group gave some input into these plans by responding to a call for evidence – input that we hope the UK Government takes into account. Here’s a summary of what we said. 

Three key areas to improve

Broadly, our comments and recommendations centred around three key areas where we felt the Government’s plans could be improved. These are: 

  1. Capacity Market Reforms 
  2. Contracts for Difference (CfDs)
  3. The Broader Energy Market 

Let’s go through these one at a time. 

Capacity Market Reforms

In capacity markets, the goal is to ensure there is enough electricity generation capacity to meet future demand, particularly during peak periods. To achieve this, auctions are held where different types of capacity resources (such as CCGTs, battery storage or demand-side response) bid to provide this capacity. Successful bidders win long-term capacity contracts, through which they are paid for being available.  When it comes to the government’s plans for reforming these markets, we had four observations.

First, we support the redesign of the capacity market to support low-carbon capacity and other forms of flexibility, but we disagree with the proposed auction design. The REMA consultation recommends a ‘single auction with minima’ design to support low-carbon capacity. The idea would be that a single auction is held, but certain minimum capacity requirements (minima) are set for different types of resources. These minima ensure that a specified minimum amount of capacity is procured from particular categories, such as low-carbon capacity 

We suggest that the alternative, ‘single auction with multipliers’ design scores better against several criteria. Single auction with multipliers is an approach where a single auction is conducted, but different capacity resources are assigned multipliers that adjust their value or weight in the auction. These multipliers are used to reflect the relative importance or contribution of different types of resource. For example, long-duration resources may be given a higher multiplier than short-duration resources. 

Second, we recommend giving much more attention to the broader dimensions of flexibility such as ramp rates, the provision of ancillary services and sustained response. 

Third, we suggest giving more careful attention to how different policies may interact. As things stand, the proposed capacity market reforms would likely benefit technologies like batteries but not key flexibility options like electricity generation with carbon capture and storage, hydrogen to power (H2P) and long-duration energy storage. These options are currently the focus of separate proposals to provide dedicated support mechanisms. Successful decarbonisation hinges on the success of those mechanisms. But, in its current form, the REMA consultation provides little detail on how these mechanisms will interact with the capacity market, or the anticipated timeline for their replacement by the capacity market. 

Finally, we question whether there is a need to invest in new gas-fired plants. The consultation emphasises the need for unabated gas-fired plants up to 2035, but the volume of capacity required is highly uncertain. For example, the lower end of estimates suggests that existing gas-fired capacity may be sufficient to ensure supply security to 2035. The proposed emission targets and limits to operating hours are welcome but could potentially be tightened as they are too lenient for the typical operating patterns of peaking plant. However, in conditions of supply shortage, we would expect security to take precedence over emissions.

Two changes to how Contracts for Difference (CfDs) are used

We also commented on the government’s plans for Contracts for Difference (CfDs). CfDs are agreements used to support renewable energy projects like wind and solar farms. They ensure that these projects get paid a stable and predictable price for the electricity they produce. They have proved highly successful in supporting the deployment of renewables to date and will continue to play a central role up to 2050. 

In our response, we focussed on two elements of CfDs in particular. First, REMA outlines the option of partial payment CfDs, which could offer greater flexibility and encourage a more diversified project portfolio. A project could either participate as a ‘merchant wind farm’ based on wholesale spot markets and/or corporate power purchase agreements. Alternatively, the project could bid for entering a CfD. The partial payment CfD allows the combination of both options within a project. The idea is appealing, as it allows for varying shares of merchant and CfD-backed parts of the wind farm, which should reduce finance risks. In our view, this idea has some promise, but the devil is in the details. Policy design requires careful balance to avoid giving disproportionate benefits to private corporations.

Second, REMA also proposes to base the CfD support on the ‘deemed’ electricity generation from a wind or solar project, rather than the actual generation. Deeming is the use of proxy methods to estimate what the project would generate based on the characteristics of the wind or solar resource in that location. We question whether the benefits from deemed generation justify the additional costs of implementation. We also suggest how the government can minimise the risk of developers ‘gaming’ the rules for deemed generation. 

Broader Energy Policy Integration

The success of the government’s proposed electricity market reforms depends also on broader energy policy initiatives. We highlight the need for rising carbon prices, large-scale investment in electricity network upgrades, measures to reduce delays with grid connections, accelerated planning consent, investment in green/blue hydrogen production and the roll-out of infrastructure for the transport and storage of both carbon and hydrogen. 

We place particular importance upon policy support for hydrogen storage. This provides one of the few viable options for ensuring security of supply during extended ‘wind droughts’ across the UK. Hence, the success of REMA hinges on coordinated efforts across multiple policy domains to ensure a flexible and resilient electricity system.

We stress that the complexity of this policy landscape, involving multiple initiatives and institutions, makes policy coherence a significant challenge. Effective coordination is essential to incentivise distributed low-carbon flexibility and ensure a diverse portfolio of flexibility options is available to meet future demand.

More detail can be found in our full response. Please get in touch if you would like to discuss any of these topics with us. 

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The views and opinions expressed here are solely those of the individual authors and do not represent Sussex Energy Group.

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