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Government narrows down options for reform under its review of electricity market arrangements

Today the Government published its long-awaited second consultation on the Review of Electricity Market Arrangements (REMA). Reform to the electricity market arrangements through REMA is essential so that they facilitate the full decarbonisation of the electricity system by 2035, subject to security of supply, and cost-effectiveness for consumers.

The Government’s further consideration of a zonal pricing market in GB is the key headline topic within industry. This would introduce different wholesale prices in different zones across GB and represent the single largest change to the electricity market since the British Electricity Trading and Transmission Arrangements (BETTA) were implemented in the early 2000s.

In practice this would allow generators connected near areas of higher demand to obtain higher prices for their electricity compared to those located in less densely populated areas. DESNZ commissioned modelling that suggested introducing zonal pricing could reduce the cost of running the electricity system in the region of c.£5-15bn over 2030- 2050, and that consumer benefits could be in the region of c.£25-60bn over the same period. Assuming these savings are fully passed through, this would be an average consumer benefit of £20-45 p.a. per household over 2030-2050. Against the tide of some strong championing in focused quaters, no further consideration is being given to nodal pricing.

There are key questions that must be answered before any decision is made on introducing location-based pricing, which the Government recognises. These include assessing whether this change will attract the required investment to allow GB to meet its renewable and net zero targets; how the new arrangements will apply to any existing generators and interconnectors and; how different kinds of energy consumers will be impacted in different locations.

As an alternative to zonal pricing, DESNZ is also considering whether network charging reforms could deliver the required locational signals as well as some locational changes to the Capacity Market (CM) and Contracts for Difference (CfD) schemes. Government is also considering whether a more granular settlement period is needed (i.e., less than 30mins as is the status quo); whether centralised dispatch alongside a reformed Balancing Mechanism would be beneficial and how these changes may impact market liquidity.

The Government is supporting retaining the CfD scheme to encourage deployment of renewable generation, but identified that changes are needed to the scheme structure to achieve overall lowest system costs and lowest cost for consumers. The government is therefore proposing to further develop three key reforms to the CfD. One option would be to move to a deemed CfD where generators are paid on their potential output rather than their actual output; another is to implement a capacity-based CfD where generators are paid on their capacity not output and would be required to trade power on a merchant basis and; the final option is to implement partial CfDs where only a percentage of the asset’s total capacity would be covered by a CfD. The Government confirms that if it took forward any of these reforms, they would only apply to new projects.

The Government also intends to retain the Capacity Market as its capacity adequacy mechanism, but with further changes. The preferred direction of travel is to introduce a minimum procurement target (‘minima’), into the CM (called an ‘Optimised CM’) as an enduring mechanism for supporting investment and deployment of low carbon flexible technologies. This would allow for different clearing prices for desirable characteristics and is preferred compared to having multiple auctions for technologies with different characteristics. The Government also considers that a limited amount of new gas capacity will be required in the immediate future to help bridge the gap to future low carbon long duration alternatives such as carbon capture usage and storage, long duration storage and hydrogen to power.

Whatever happens next, it’s important to recognise the potential scale of reforms likely as we move closer towards net zero.

The consultation is only open for 8 weeks and will close on 7 May 2024. Keep up to date on all the latest REMA news on this website. Our Industry Essentials service offers more expert in-depth analysis in our weekly perspective articles and thought leadership blogs. Find out more here.

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