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Can we fix the wholesale energy market this winter to lower prices and should we want to?

There’s a lot of debate on what might be done outside the energy market to relieve consumer bills. We don’t have much to add there, but we have been thinking and chatting around the place about whether temporary fixes could be made to the wholesale market design that would result in lower prices for consumers (and thus less pressure for external political intervention).

The Review of Electricity Market Arrangements (REMA) is intended to discuss and decide on appropriate market arrangements for 2035 in a Net Zero, low marginal cost, renewables dominated market.  It is unlikely it has the scope or capability to intervene in the market arrangements ahead of this winter. Therefore, some new interventions requiring emergency legislation, government actions or within the existing arrangements would be needed.

We’ve come up with a few options and started to think if they could be implemented: we are sure we haven’t thought of everything in terms of either options, the practicalities of implementation or the possible wider consequences of their implementation. Some are also pretty radical and possibly not even sensible; these are very unusual times. Hopefully they show that there are levers that can be pulled within the industry structure as well as without it:

  • Using the state balance sheet to buy energy for the winter, or transferring energy that has already been bought by suppliers to the state. That energy would then be transferred back to suppliers for them to sell on to consumers. Perhaps a single buyer would be able to secure better terms and co-ordinate purchasing decisions with neighbouring markets. This has throwbacks to early energy liberalisation plans of the EU as well as pre-liberalisation Great Britain if the energy were to be sold to suppliers on a common or Bulk Supply Tariff
  • A variant of the above is a long-term hedge through the state with a major gas producer for new volumes. This would require significant duration and spend commitment with the risk of stranding if we turn out to buy at the top of the market. We have seen with Bulb the UK Treasury’s reluctance to hedge for 1.5mn households let alone 29mn
  • Setting a central hedged purchase price for generation fuels, for example a CFD for gas for power stations, as raised by Mike Coulten of Origami Energy. The difference between this CFD price and the market price for gas is underwritten by the state. Spain and Portugal are employing a version of if currently. If we accept gas drives the power market, it would lower overall wholesale electricity prices, essentially shifting money that would otherwise be paid to non-gas generators to the consumer and may be offsetting some of the costs to the Treasury. We’d need to think about leakage (gas for other purposes including power exports), the pricing mechanism, impact on existing hedges and no doubt other things besides  
  • Adapting central BETTA power market systems so that we go back to a pool type market. In practice this might mean suspending contract volume notifications, with generators signalling the volume flows only into the Balancing Mechanism with a licence condition that obliges all generators to bid in at marginal cost. There could be some kind of weighting mechanism, perhaps a Bulk Supply Tariff or a central Pool Purchase Price to create a charge for passing on to consumers.
  • Switch out Roc and Fits in to a standard CfD Agreement for say three years. The price would be akin to that imagined when the impact assessments were set for the schemes. We might want to encourage generator engagement with tax incentives  or even a new CFD for re-powering sites as they fall out of the support schemes later in the decade.
  • Bring in a shadow REMA market model while the full scheme is in development. Benchmark prices from this shadow market mechanism against actual wholesale power prices and use this to drive a consumer rebate.

These are merely changes to market operations or arrangements, which will naturally have unintended consequences. It is imperative that any change to the market design and pricing structures of the energy market do not exacerbate energy demand, reducing energy demand is an imperative when faced with short supplies, especially when the cause of that shortage is outside our control.

If market arrangements are changed to lower prices without interventions to diversify supply or reduce demand, they could end up causing worse effects, perhaps even blackouts. For example, this summer after the Iberian market capped gas prices for power generation there was an increase in exports to France, as nuclear output was low, which was enabled by lower power prices in Spain, effectively offsetting the benefit gained in overall costs. We are in extraordinary times and this requires the kind of mobilisation for a national emergency, but noting the complexity and long tail of unintended con sequences it also requires some depth of thought rather than knee jerk reactions.

One way to try to draw this all together might be the government convening an expert emergency energy group,  in which options like those above are sifted, evaluated and refined. It could be populated from across the spectrum of industry, consumer, academic and advisory interests and the regulator and could report to very senior ministers and the Parliamentary select committee. If the group starts at the beginning of September, it could present its findings to ministers by the end of the month, with public consultation during October and potential implementation in time for the peak heating season.

There are many more options and plenty of challenges to implementing any of those that we have outlined above. What we hope this blog has done is show that there are many policy choices we can make that will drive outcomes for consumers in the market design itself and that wherever REMA goes energy is likely to remain a very high-profile political issue.

This is an excerpt taken from our Industry Essentials (GB) service. If you are interested in learning more about the Industry Essentials (GB) service, please click here.

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