The current situation in the UK energy market – with rocketing prices, industrial shutdowns, and suppliers going to the wall – is the biggest energy crisis ministers have faced in a generation. And crisis situations share a key characteristic: the focus is all on the task at hand, and lessons for the long-term are rarely learned.
While it’s right at this point for the emphasis to be on the here and now, the current political headache is a symptom of an underlying market framework that has not kept pace with the rapid transformation of the energy sector. To avoid recurring migraines of increasing severity, the time is now for government to go beyond symptom management and address the cause by initiating fundamental market reform.
Why is the crisis particularly acute in the UK?
We need to be clear on the reasons for the current issues in the energy market. Much of the commentary has sought to focus blame on one or two aspects. But that is overly simplistic. There are a wide range of causes for the current problems: failure to invest in energy efficiency, heavy dependence on gas, low gas storage capacity, lack of incentives for flexibility, low output from renewables, and a retail market which is in part heavily liberalised and in part heavily state-controlled through the price cap.
Underlying all that is a system where the institutional roles of BEIS, Ofgem, and National Grid are unclear, and there is a lack of an overall system coordination function.
This complexity is primarily a result of years of market intervention that has attempted to force the existing market framework to fit a rapidly changing generation profile. The issue with this approach is that market interventions create unintended consequences that require further market intervention to rectify. Before long, you are left with an overly complex framework that offers neither the agility of the free market nor the security of the state-led approach.
Beware simplistic solutions
Just as many commentators argue the current problems have a simple explanation, there is a temptation to reach for simple solutions – which, coincidentally, usually align perfectly with the prior views of the people proposing them.
For example, there are those who have used the current crisis to advocate for the UK stopping building renewables, and instead focusing on developing a shale gas industry.
But this idea can be easily dismissed: delivering a shale gas industry of any size would require us to dismantle the UK’s climate targets and legislation (as delivering them is, in any scenario, dependent on a decarbonised power sector); reverse the existing moratorium on development; face down vociferous local opposition; and persuade a public which is currently deeply opposed. That is not a politically or economically credible strategy – and even if it were executed, it is questionable whether investors would be there to support it (as pointed out by the Chief Executive of Energy UK) and unlikely that the UK would be producing sufficient volumes of shale gas to have a major impact on prices in the international market.
On the other extreme are those who argue that the current situation is a demonstration that we should simply rely more heavily on renewables. But we can’t ignore the fact that variable output from wind and solar is a feature, not a bug, and plan accordingly. Over the past month, our 25 gigawatts of installed wind capacity has been producing on average 11% of our electricity. If we had 120GW of capacity – as the CCC anticipate in 2050 – it would have produced just over 50% on average.
Time for fundamental reform
The good news is that the technology options for a stable future market already exist: energy efficiency can cut demand; nuclear can provide reliable baseload; hydrogen power stations can take the place of gas in providing flexible power; batteries are plummeting down the cost curve; electric vehicles can charge at times of low demand, and provide energy to the grid at times of high demand; heat pumps are far more efficient than gas boilers and can reduce the size of demand spikes in cold weather.
But these technologies won’t be developed and integrated into the market without change. That leaves us with a choice.
On the one hand, we can continue to layer new complexities onto the market by fixing a problem at a time. That will involve adding sticking plasters to incentivise and integrate these technologies, crowbarring them in to a market which is not designed for them, and adding cost and complexity as we go.
On the other, we can grasp the nettle and undertake fundamental reform of our energy markets to both address current problems, and address those we are storing up for the future. That would require the government and Ofgem to signal the start of a process of fundamental market reform. That should start with a transparent process to reach a shared view of what the future energy system should look like, and be followed by fundamental changes to generation, transmission, and retail markets to deliver it.
Taking the decision to move beyond the current approach of incremental change, and undertake major surgery instead, is not easy. And it is not without risk – in particular, any major market reform must be done in a way which doesn’t slow investment in the short-term.
But without the government and Ofgem initiating a fundamental review of market structures – including of their own roles in shaping those structures – we’re set for a future of ever-increasing complexity, new layers of costs, and unintended consequences.