The review of electricity market arrangements (REMA) signalled by the energy security strategy could impact wholesale & balancing markets, & there could be a need to examine the capacity market rules & CFD contracts. It is too early to know what options will ultimately be adopted or when changes would be made. We know that in summer some options will be surfaced but we are talking years most likely for decisions & implementation. It does seem likely that locational pricing will be looked at, noting that these models have been made to work in the US and elsewhere, & that the idea has gained momentum in GB. Others are looking at splitting markets between low carbon & dispatchable generation, &/or broadening out the role of CfDs. The impacts on different projects from change depends on the options taken forward, but there could be some complex & project specific outcomes in practice that the theory doesn’t capture.
There is a broad tension at the heart of REMA as to how policy makers balance costs of capital with system costs/efficiency, & even on the latter, whether radical market reform or network investment (or both) are the right solutions.
All investors in low carbon & flexibility will need to watch REMA carefully. Policymakers will also need to take care given the billions of pounds financial interests invested today and the billions more that is needed this decade.
Current investors made return calculation on the current market arrangements. They can manage the risk on volatile prices arising from change in demand & supply, but they cant quantify or hedge radical changes to market arrangements. In the best case, even if the impacts of reforms are benign, some of the changes could be complex, which may lead to lots of redrafting of legal agreements. Time consuming but doable. In the worst case, if reformed markets impact returns on sunk investments the issue is greater. Most exposed are likely to be investors with lots of merchant power price exposure under renewables obligation. However, even those under CFDs look to wholesale prices after the 15-year term & so aren’t immune from risks. Unless such risks are addressed the cost of capital could rise & that’s pretty significant for overall costs of deployment.
Maybe the engine of market arrangements can be rebuilt whilst asking investors to put their foot on the accelerator. Plus ca change? Well the GB market has been in an almost continuous cycle of major reform throughout this century, & yet has managed to get through that with high investment & reduced emissions. It has done so by successive governments thinking very carefully about not stranding investors. Critically though, policymakers have previously had more time to consult & engage. Now, policy implementation needs to move quickly if the ESS ambition is to be met, & across a very broad agenda. The tightrope here for policymakers is as a result more precarious than ever & without much of safety net.
They need to tread carefully.