Adapting energy markets to a low- carbon future David Newbery 12 th - PowerPoint PPT Presentation

Adapting energy markets to a low- carbon future David Newbery 12 th ACCC Regulatory Conference Brisbane 28 th July 2011 http://www.eprg.group.cam.ac. uk

Outline • The Challenge: climate change • What is needed to deliver low-C electricity? – What is wrong with carbon trading as in ETS? • Delivering low-C at reasonable cost – Contracts to lower cost of capital – address carbon pricing – care in designing renewables support • UK’s Electricity Market Reform and Ofgem’s Low Carbon Network Fund Newbery IIB 1 D Newbery ACCC 2011 2 2

Height is emissions/head, areas give total emissions (MacKay, 2008) D Newbery ACCC 2011 3 http://www.withouthotair.com/

Peak CO 2 -warming vs cumulative emissions 1750 – 2500 6 If we want a 50% chance of less than 2C rise we can only emit 5 another 500 Gt C ever peak CO2-induced warming relative to 1750 unlikely 4 Now most model predictions in this range 3 . Median prediction 2 1 Unconventional oil Coal resource and gas High Low 0 0 0.5 1 1.5 2 2.5 3 3.5 4 4.5 5 Gas Coal Oil cumulative post-1750 emissions (trillion tonnes carbon) reserves D Newbery ACCC 2011 4 After MR Allen et al. Nature 458 , 1163-1166 (2009) doi:10.1038/nature08019

Total cumulative emissions determines global warming • Delaying peak requires a faster subsequent decline • peak should be before 2020 Source: ENEP Emissions Gap Report 2010 D Newbery ACCC 2011 5

Policies to mitigate climate change • GHG emissions are a global stock public bad – uncertain distant damage with uneven impacts => very hard to agree coordinated policies – damage regardless of emissions location, persistent => damage moderately independent of date of emission – much irreversible over historical time scales • Solution: uniform charge for GHG emissions, – rising at discount rate: Australia has right approach – reset in light of new information Newbery IIB 1 D Newbery ACCC 2011 6 6

Failures of EU emissions trading • Current ETS sets quota of total EU emissions – Weitzman argues for tax/charge not quota • EU Renewables Directive increases RES => increased RES does not reduce CO 2 => reduces price of EUA => prejudices other low-C generation like nuclear • Risks undermining support for RES Solved by fixing CO 2 price instead of quota or choosing a carbon tax! D Newbery ACCC 2011 7

ETS is neither stable nor supports adequate carbon price EUA price October 2004-May 2011 Crashed when use revealed 35 OTC Index First Period Second period Dec 2008 30 Second period next Dec CER 09 25 Euro/t CO2 CER 2010 20 15 Second period 10 start of ETS 5 0 Oct- Apr- Oct- Apr- Oct- Apr- Oct- Apr- Oct- Apr- Oct- Apr- Oct- Apr- 04 05 05 06 06 07 07 08 08 09 09 10 10 11 Depressed by Renewables Crashed as no banking D Newbery ACCC 2011 8 Directive and then recession

Costs of errors setting prices or quantities £/tC Correct MC MC With quota would produce efficiency loss up to here from quota Start of ETS at high cost Best estimate of Marginal Cost of abatement t* efficiency loss t from tax With tax would MB, Marginal benefit from produce here at abatement low cost Q* Q Reductions in emissions Newbery IIB 1 D Newbery ACCC 2011 9 9

Renewables target undermines CO 2 price 2020 projected CO2 price 70 2008 projections 60 2009 projections after Renewables Directive and 50 Renewables recession depresses Euros/tonne CO2 C-price 40 30 20 10 0 with 12.5% renewables with 20% renewables 2009 projections D Newbery ACCC 2011 10 Source: Committee on Climate Change, 2008 and 2009

Making carbon prices credible • Carbon taxes - can be readily changed • Emissions trading + banking=> rising price floor – but vulnerable to shocks - credit crisis, Fukushima,.. => Carbon Bank trades EUAs to stabilise price? • need credible future C price over 20+ yrs – €25/EUA 2010 => €34 in 2020, €61 in 2040 ... – Make it credible: write CfD on this path – or write a contract for low-C generation make low carbon investments financable D Newbery ACCC 2011 11

2020 CCC’s ESI carbon targets are challenging 183 Mt Start of ETS 100 Mt = 55% 2006 Almost decarbonised - France shows it is possible D Newbery ACCC 2011 12

Rapid decarbonisation of electricity is possible - with nuclear power CO2 emissions per kWh 1971-2000 1000 USA 900 Italy UK 800 Europe 700 France 600 gm/kWh 500 400 300 200 100 0 D Newbery ACCC 2011 13 1970 1975 1980 1985 1990 1995 2000

Background to EMR • Security of supply: reserve margin falling fast – 12 GW coal decommissioned by 2015 because of LCPD (20% of peak demand) – 6.3 GW nuclear decommissioned by 2016 – extra flexible generation needed to handle wind • Climate change challenge: reach <100gm/kWh 2030 – Renewables falling short of targets – Nuclear not attractive at current CO 2 price • Cost rising: 2020 targets might cost £200 bn = £760 per household/yr, current elec bill = £450/yr D Newbery ACCC 2011 14

110,000 interconnect More capacity needed by 2015 or 100,000 other RES 90,000 other 80,000 demand biomass 70,000 offshore 60,000 wind 50,000 onshore Start of ETS wind 40,000 gas 30,000 nuclear 20,000 new coal 10,000 old coal 0 2020 middle 2020 SKM (2008) mid-scenario projection D Newbery ACCC 2011 15

UK climate change policy • 2027 legal target: 50% C reduction from 1990 • Zero-C generation faces more risk than fossil – electricity price set by gas or coal • Renewables support is expensive • return depends on electricity price – set by gas and carbon price – and scarcity of ROCs - rewards failure need to de-risk zero C investment D Newbery ACCC 2011 16

UK price movements: 2007 to 2009 in € 120 100 Electricity forward 2010 (€/MWh) Gas cost forward (2010) + EUA 80 Coal cost forward (2010) + EUA EUA price in €/tCO2 €/MWhe 60 40 20 0 1-Jan-07 1-Apr-07 1-Jul-07 1-Oct-07 1-Jan-08 1-Apr-08 1-Jul-08 1-Oct-08 1-Jan-09 Correlation of coal+EUA on gas+EUA slightly higher at 96% D Newbery ACCC 2011 17

UK ROC, EUA, and electricity prices £120 ROC+RPD 1 yr centred MA windfall RPD £100 ROC profits £80 £/unit £60 ROC price stable £40 £20 £0 3 1 1 1 1 1 1 1 1 Q Q Q Q Q Q Q Q Q 2 3 4 5 6 7 8 9 0 0 0 0 0 0 0 0 0 1 0 0 0 0 0 0 0 0 0 2 2 2 2 2 2 2 2 2 D Newbery ACCC 2011 18

EMR White Paper 12/7/11 • To de-risk and incentivise low-C investment => Long-term contracts for credibility => C-price floor to underwrite wholesale price – ensures nuclear is not “subsidized” => Capacity payments - targeted or general? => EPS 450gm CO 2 /kWh to deter unabated coal • “technical update” by end of year – details of capacity mechanism – “more details” on contracting institution Aim at law on statute book by spring 2013 D Newbery ACCC 2011 19

Long-term contracts • Electricity price is driven by fossil prices – exposes nuclear and renewables to market risk • CO 2 price unpredictable, not credible • => long-term contract enforceable in courts • but technologies differ and so should contracts => simple FIT for on-shore wind => auctions for off-shore wind? => Complex contract for nuclear? Contracting institution left for consultation D Newbery ACCC 2011 20

Carbon price floor • Needed because EUA price is volatile, too low and lacks longer-run credibility – undermined by 20-20-20 Directive and recession • to bring C-price up to appropriate level – reduce implicit subsidy to CO 2 emissions => ensures wholesale electricity price adequate to support mature low-C investment • => nuclear power will not then be subsidized Introduced in Budget March 2011 D Newbery ACCC 2011 21

UK’s Carbon Price Floor EUA price second period and CPS £(2009)/tonne to £70/t by 2030 £30 £25 second period forward price Carbon Support Price £20 £(2011)/EUA £15 £10 As at 1 Jun 2011 £5 £0 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18 Jan-19 Jan-20 D Newbery ACCC 2011 22 Source: EEX and DECC Consultation

Projected levelised generation costs 2017 NOAK 180 extra for DECC C02 central Off-shore case 160 extra for 10% CCGT wins, wind most interest 140 nuclear (n th expensive CO2 costs £20/t of a kind) viable 120 CO2 T&S CCGT at 100 £.MWh £20/t CO 2 Decommiss- 80 ioning fuel costs 60 variable opex 40 20 Fixed Opex 0 Capital Cost T S C S d d R S D 3 G C C n n R C G C 7.5% W i i w C C C C w F G d P C + + + I n + e e r l i T D l a C r r w s a a o G o G a e o o C h h e l C C C G F c s G s r u C + f o n C f I N h O O l S l a s a A o f o f C C O 23 C S A