Entec Bulletin
Challenging Energy

The government has recently published the findings of its energy review, The Energy Challenge, 2006. At over 200 pages, what are the key points of the review and its potential impact on business in the UK? Richard Long, Entec's director responsible for developing power sector business, takes a look.

Much of the media attention has focused on one, and undoubtedly the most controversial, aspect: the apparent green light for nuclear power. Indeed, from the outset the review has habitually been referred to by many commentators as the 'nuclear review' and accused of being fixated on this issue. You could be excused for believing that it covered little else. However, the review does consider a range of other energy supply issues that are likely to impact directly not only on those in the energy industry, but also across businesses and society as a whole.

It is worth first reminding ourselves of the rationale for an energy review. Much of our energy supply remains reliant upon the use of fossil fuels (coal, oil and gas), a prime source of greenhouse gas emissions. As widely reported, the UK is also becoming increasingly dependent on imported energy as our indigenous supplies diminish. Additionally, over the next 20 years, an estimated £30bn of investment will be required in new electricity generation and gas infrastructure. The goal as set out in the review is to achieve the investment needed and maintain security of supply, while simultaneously reducing the UK's greenhouse gas emissions, and above all at affordable cost. A formidable challenge - but these objectives were the prime considerations of the last energy review in 2003 - so why another so soon? The government's justification is that it had become increasingly apparent that these challenges had intensified and therefore further action was necessary.

The review concludes that there is no silver bullet, but rather a package of measures under three core themes: saving energy, cleaner energy and security of supply. A selection of the principal measures are summarised below:

Save Energy

The starting point to reducing carbon emissions is to save energy

• Put in place measures to further improve energy efficiency of homes
• EU ETS, CCL and CCAs to remain principal instruments to encourage business to reduce emissions
• Consult on introducing a mandatory emissions trading scheme (Energy Performance Commitment) for large electricity users (>5GWh/yr) who are not in the EU ETS or CCAs
• Promote smart metering and review incentives for energy suppliers to help customers reduce consumption
• Increase the energy efficiency of domestic goods - focus on stand-by power consumption
• The government estate to be carbon neutral by 2012
• More fuel efficient transport through fiscal measures, targets and inclusion in the EU ETS

Cleaner Energy

• Saving energy will be insufficient, we also need to make the energy we use cleaner
• Instigate measures to encourage distributed generation (eg micro-renewables, CHP)
• Commitment to carbon pricing, predominantly through the EU ETS - post 2012
• Reinforced commitment (20% by 2020) and support for renewable energy, including increasing diversity
• Reform of the planning system for major energy projects, a major constraint to timely development
• A ‘statement of need’ for new nuclear build to reduce planning periods
• Exploit the potential for recovering energy from waste
• Convene a coal forum and review barriers to the development of carbon capture and storage
• Consider opportunities to encourage alternative transport fuels

Secure Energy

Through access to diverse sources and effective markets

• Many of the aforementioned measures enhance security through reducing demand or enhancing diversity
• Promote more competitive energy markets - especially in the EU
• Provide more information on the outlook for gas and electricity supplies

This appears to illustrate a shift in strategy, with energy saving in essence promoted to the top of the hierarchy as a means of reducing carbon emissions. Indeed, over 75% of the identified anticipated additional 19M-25M tonne reduction in carbon emissions in 2020 results from this category. However, energy efficiency is deemed insufficient by itself to address the challenges - we also need to make the energy we use cleaner.

“Electricity generation... will require significant new investment.”

Electricity generation, which accounts for one third of UK carbon emissions, is widely accepted as providing the greatest scope for reductions in greenhouse gas emissions. Moreover, as mentioned, over the next 20 years it will require significant new investment. Consequently, it is predictable that this sector has taken centre stage. Much of the recent new investment has been in gas-fired plant; this position was anticipated to continue, with associated concerns about reliance on imported gas. Accordingly, the review proposes a number of measures to promote other low carbon technologies. Renewables remain central to the government's strategy through reaffirming the target for 20% of electricity to be from renewables by 2020, with support principally through strengthening and modifying the Renewables Obligation, including measures to encourage diversity beyond the current focus on onshore wind energy. Nonetheless, the review concludes that the combination of energy saving and renewables is still insufficient to achieve carbon reduction targets alone.

Consequently, as widely reported, the government has concluded that nuclear power has a significant contribution to make in cost effectively reducing emissions and providing diversity in electricity generation. No financial backing has been offered or numbers of stations identified, but instead it is intended to lessen the permitting barriers to new build. It's too soon to tell whether this will be sufficient to entice investors - but there are murmurings of approval. Less widely reported, the review has also recognised that distributed generation (including domestic scale renewables), energy from waste and carbon capture and storage may all have a role to play. Their potential, measures to support
their use and possible barriers to implementation are very much on
the agenda.

Planning reforms... and a tsar

The planning system is a principal constraint to the timely development of large energy infrastructure (especially nuclear, transmission lines, wind farms, gas storage and energy from waste). The review has therefore proposed fundamental reform of the planning system to lessen the barriers, including issuing 'statements of need' to establish the strategic context and creation of a 'planning tsar' to oversee complex planning inquiries. Whist generally welcomed by the industry, concerns have been expressed that such measures may unfairly override warranted local opinion and local democracy.

Many in the energy industry and large energy users have long emphasised the need for stable policy to create certainty and confidence for the required long-term investments. The review has concluded that this is best achieved by having a strong and stable carbon price. The key mechanism is seen to be securing EU agreement to a long-term successor to the EU Emissions Trading Scheme (EU ETS). The government is also considering introducing a mandatory ETS for large electricity consumers not covered by other measures, which could bring a further 5,000 sites into an ETS type scheme. Additional unilateral measures to provide greater carbon price certainty for investors will also now be considered. However, Phase I has experienced price volatility caused in part by apparent inequity in allocations between member states.

Phase II, commencing in 2008, is only just being concluded and there are no firm proposals in place after expiry of that phase in 2012. This has created a climate of uncertainty for investors. Moreover, one of the risks of conducting this review so soon after the last, is that it gives the impression that the government cannot leave the sector alone and may decide another review is necessary in a few years' time, thereby undermining confidence.

The Cost of Carbon

Over recent years energy prices have increased substantially and there have been annual winter alerts, albeit often media hype, foretelling power cuts and gas shortages. Accordingly, at the foremost of many large energy users' thoughts will be the impact on the cost and security of energy supply. Although the review indicates that the policies to deliver carbon savings and security will do so at little or no extra cost, affordable energy appears more peripheral than in the earlier review. Indeed, the review does recognise that carbon abatement can be costly, and in particular through electricity prices as generators factor in the cost of carbon allowances. Allied to this is the importance to business that there is a level playing field internationally. The lack of consistency has been cited as one of the reasons for proportionately higher UK gas prices last winter compared to continental Europe. The review recognises and stresses the need for international action. In particular, it has committed to working with the EC to enforce and strengthen competition and liberalisation in other EU markets to levels comparable with the UK. However, this is a formidable challenge that has been on the agenda for many years with only partial success.

Much of the debate has inevitably been dominated by the relative merits of nuclear power; predominantly over its effectiveness and cost to achieve the carbon reduction and security of supply goals, and concern over the risk of drawing funding away from renewables and energy efficiency. Given that there is little neutrality on this topic, it is an argument that will no doubt run and run. Aside from the nuclear debate, it's fair to say that the overall response to the review has been relatively muted. The key criticism has been that it contains few new measures or concrete actions and is largely a work in progress subject to further consultations, so we are still some way from definitive action. The review appears to recognise that the finished article, the promised White Paper at the end of the year, could look somewhat different - stating that "only measures that are well-targeted, reasonable and proportionate will be implemented". To achieve its goals, the frameworks and measures identified in the review will require the energy industry and business to modify their behaviour and make long-term investments - yet achieve this without excessive financial burden or creating international imbalance. Moreover, we need to avoid the uncertainty created by continuous tweaking of policy or, even worse, a further energy review in a few years’ time. Can these objectives be achieved? Clearly it is a formidable challenge, but with support from key stakeholders there does now seem to be increased momentum towards appropriately meeting the UK's energy needs for the future.

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