Energy regulators seem to expect Christmas all year
First published in Tellimer 23rd December 2021
Recent debates over the regulatory response to rising prices in the UK are a symptom of unfolding global problems
In many countries, the public have naively been promised green and cheap energy, but this is impossible with current technology
Politicians and regulators must be honest about trade-offs until we have technology to resolve the energy trilemma
There is a storm brewing in the UK over energy regulation, and it is also a harbinger of things to come in many other markets. Gas prices, which have hovered around 45 pence/therm for the past decade, have now spiked to around 200p/therm amid disappointing renewable production and Russo-European geopolitics, and electricity prices have followed, rising from an average of £45/MWh in the past decade to above £200/MWh.
Figure 1: After a decade of price stability, UK gas and electricity prices have rocketed upwards (source: Ofgem)
Approximately 50 of the 70 energy suppliers in the market in 2018 have now gone bankrupt, unable to pass on rising wholesale prices to consumers, while consumers have seen their retail price rise to the capped maximum. The current price cap expires in April 2022, prompting concern about both how the public will react when the price cap rises dramatically in April and how many more suppliers will go bankrupt before then. Ofgem, the UK energy regulator, has proposed that it be given additional regulatory power to adjust the price cap more frequently, lock customers into longer tariffs, and impose stress tests on energy companies. Although Ofgem’s proposals may help address short-term challenges, they have been met with scepticism, with many commentators doubting whether Ofgem would be able to effectively use these new powers, or indeed whether they would work.
The public have been misled about the cost and complexity of the energy transition
This specific UK debate belies a much wider problem. Across the world, the public have been promised that they will be able to benefit from the falling price of renewable energy, but they have been misled. Regulators and politicians acted with the best possible motives as they sought to provide cheap and green energy, but many people failed to understand the true underlying dynamics of a system dominated by renewable energy. In moving from a system where supply could easily adjust to follow demand to one where supply would be driven by the weather, policymakers appear not to have properly accounted for the value of the stability services provided by thermal generation, nor the cost of provisioning stability for a system based on renewables.
Figure 2: Even as wholesale costs are forecast to fall, the cost of network stability will rise dramatically (source: Estimate based on Ofgem data and third-party projections
The Energy Trilemma creates difficult choices for politicians and regulators
As a result, the world now faces the Energy Trilemma: given current technology, an energy system cannot be cheap, green and reliable. The UK sought to provide a system that was cheap and green, and indeed the same Ofgem that is now pushing to lock customers into contracts and stress test suppliers was previously committed to helping customers move contracts often and easily to the lowest cost suppliers. But earlier this year when the weather failed to cooperate, the UK was abruptly confronted by reality of its choice and had to abandon both cheap and green in favour of stability: buying whatever fossil fuels it could and running its remaining thermal generation full tilt. It is now expected that it will cost households at least £2.6bn to cover the liabilities from the failed energy suppliers, not to mention the much higher cost of energy now and into the future.
Figure 3: The energy trilemma simply stated - the ongoing tension between system, consumer and environmental needs
My home state of Texas also chose to take the approach of green and cheap. In the UK, green was a political imperative. While I wish that my fellow Texans were more motivated by climate, the reality in Texas is that green energy is cheap energy, and as in the UK, the overriding focus was to pass on the cost savings to consumers. Then, in January 2020, the weather didn’t cooperate and at least 700 people died. While much of the new coverage has focused on the failure to weatherise natural gas infrastructure, which indeed was a major contributor to the tragedy, 4GW of the losses are now attributed to the failure to provision system stability. It is unsurprising that one selling point of Ford’s new F-150 Lightning EV pick-up is the ability to power a home for up to three days off the truck’s batteries. Unfortunately, increasing numbers of EVs, or indeed increasing numbers of homes with rooftop solar and back-up batteries, will increase demand volatility, further complicating system stability.
While we don’t have a direct death toll from events in the UK, I worry that the impact of either poverty triggered by high fuel prices or people choosing not to heat their homes will not be dissimilar.
Under the CDU, Germany had chosen a different approach, committing to extend the life of its thermal power plants to 2038, to provision both system stability and jobs in coal mining. The CDU pursued a system that was cheap and stable, but not necessarily green. Olaf Scholtz’s new traffic light coalition, however, is committed to bringing forward the retirement of coal to 2030. Germany has more options to cope, as its electricity network has ample options to import and export to offset renewable volatility, whereas both the UK and Texas are islanded systems, but nevertheless Germany will soon have to face the same challenges that Texas and the UK do.
To solve the energy trilemma, we need honesty and technology
This begs two questions. In the near term, when will regulators and politicians be honest with the public about the challenges they face and the choices that they are making? The surge in renewables was a completely understandable response to climate and energy security challenges, but we now understand their true cost. People have a right to be angry about rising energy bills, and they certainly have a right to be angry about power losses and potential rolling blackouts: this is not the green energy transition for which the public signed up. Two decades ago, in the California energy crisis, we saw clearly that capped consumer tariffs could not coexist with a volatile wholesale market. Then volatility was a predictable result of deregulation. Today volatility is a predictable result of the energy transition. Then as now, regulators need to be honest with the public that prices will need to rise and will need to work with politicians and energy companies to agree a risk management approach that society can support.
In the longer term, it is clear that we can only deliver the energy transition if we solve the energy trilemma. As long as the trilemma remains, we will not be able to deliver the energy transition in a way that is both environmentally and economically sustainable. In the meantime, either economic challenges will undermine environmental improvements, or the economic and human cost of environmental disasters will undermine economic growth. Politicians and regulators cannot resolve the trilemma alone—only technological innovation will be able to do that. Policymakers need to set their sights on how best to encourage innovative technologies, like those from Enoda, that can provision stability while enabling the system to remain green and cheap.
A version of this article has also been published in Paul’s weekend reading column at Tellimer.