Electricity Supplier Payments (Amendment) Regulations 2016
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Lord Bourne of Aberystwyth
That the Grand Committee do consider the Electricity Supplier Payments (Amendment) Regulations 2016.
The Parliamentary Under-Secretary of State, Department of Energy and Climate Change and Wales Office (Lord Bourne of Aberystwyth) (Con)
My Lords, this instrument amends regulations concerning the contracts for difference scheme and the capacity market. As noble Lords will be aware, these schemes were introduced as part of the electricity market reform programme introduced in the previous Parliament.
Specifically, a series of technical amendments will be made to the CFD supplier obligation, which is levied on all licensed electricity suppliers in Great Britain to meet the costs of CFDs, in order to improve its efficiency and transparency. Separately, the instrument will amend the levies that fund the bodies responsible for managing CFD contracts and for managing settlement under the capacity market, which I shall outline to noble Lords now.
The first of these schemes, contracts for difference, or CFDs, encourages investment in low-carbon generation at a lower cost of capital due to the long-term price stabilisation provided under the contracts, which reduce overall costs to consumers of transitioning to a low-carbon generation mix. Then, through the capacity market, regular payments are provided in return for reliable capacity being available when needed, to ensure that sufficient capacity is available to meet demand. A fundamental aspect of both schemes is the competitive auction process for awarding contracts, which drives down costs to consumers.
As noble Lords may be aware, the first CFD allocation round in October 2014 resulted in 25 renewable generation projects being awarded CFDs at a significantly lower cost than would have been achieved through the renewables obligation scheme, which is being phased out. The capacity market auctions were held in 2014 and 2015, with the latest auction securing 46 gigawatts of capacity at a price of £18 per kilowatt per year. A recent transitional auction for demand-side response was also held earlier this year.
Noble Lords will have seen that the Government made an announcement yesterday of a number of changes to the capacity market framework to ensure that it remains fit for purpose to meet our security of supply needs, including bringing forward delivery by holding a new early auction for delivery in winter 2017-18. We have now launched a consultation on these changes, and in due course will be taking final decisions and will present revised regulations.
However, the regulations we are considering today have a different purpose, and in them the Government are simply looking to make several minor amendments to the payment arrangements in order to improve the efficiency with which CFD costs are recovered from electricity suppliers, which will ultimately reduce costs to consumers, and to set the rates for the operational levies relating to both schemes. In order to implement these amendments, three sets of regulations will need to be amended by this instrument. Subject to the will of Parliament, these changes are due to come into force by 1 April 2016.
Before we commence the debate, I will describe these amendments briefly. First, the Electricity Supplier Payments (Amendments) Regulations 2016 amend the instrument that established the CFD supplier obligation mechanism in order to improve its efficiency. As I outlined earlier, the CFD supplier obligation is levied on all licensed electricity suppliers in Great Britain to meet the costs of CFDs. It is set on a quarterly basis by the Low Carbon Contracts Company, a government-owned company that acts as the counterparty to CFD contracts. The supplier obligation is comprised of a levy which is paid on every unit of supply, and a reserve amount. The levy and reserve amount are calculated based on forecasts of payments to CFD generators. These supplier payments are then reconciled against actual payments following the end of every quarter.
This instrument makes a number of minor and technical amendments to improve the efficiency and transparency of the supplier obligation. They are designed to minimise costs both to suppliers and ultimately to consumers. The most significant of these amendments amend, first, the calculation of the levy that is paid by electricity suppliers so that it is a better estimate of suppliers’ actual liabilities. Secondly, they allow this levy to be reduced without notice in circumstances where the Low Carbon Contracts Company considers that electricity suppliers are likely to pay significantly more than they need to. Thirdly, they improve the transparency of CFD costs in the future by requiring the Low Carbon Contracts Company to forecast CFD costs for at least 12 months ahead and to publish the date that each generator is expected to start receiving CFD payments.
These changes were the subject of a public consultation and received a largely favourable response. We estimate that when combined with further regulations that the Government intend to lay in due course, they will reduce the costs to consumers of CFDs by approximately £38 million over the period 2016 to 2020. The Government intend to lay further regulations in due course as not all of the proposals consulted on are being implemented by this instrument due to cost and their impact on the CFD settlement system.
The second objective to be delivered through this instrument is to set a revised operational cost levy for the Low Carbon Contracts Company and to set a revised settlement costs levy for the Electricity Settlements Company, the company responsible for transactions relating to the capacity market. The increases to the budgets of both companies reflect the operational requirements and objectives of the Low Carbon Contracts Company and the Electricity Settlements Company in 2016-17. Both levies were subject to public consultation, allowing the opportunity for scrutiny of the key assumptions in the budgets and, importantly, to ensure that they continue to represent value for money for consumers.
Finally, before we start the debate, I would like to assure noble Lords that the Government will continue to evaluate and monitor the measures introduced under electricity market reform to ensure that they remain effective and continue to represent value for money. I beg to move.
Lord Grantchester (Lab)
I thank the Minister for his introduction to the regulations. As he rightly says, they are mostly technical in nature and do not impact on policy to any large degree. The ESO regulations around the CFD counterparty to raise funds are largely operational and, quite understandably, are likely to be subject to amendment through operational experience in order to improve efficiency and increase transparency with a view to reducing the costs of the scheme for suppliers and their consumers.
All the amendments included in the regulations appear sensible and come with a very large acceptance on the part of stakeholders, both through consultation responses and through discussions at a stakeholder event in October last year. The main amendments are largely financial and will lead to changes between the balance of funding moving more towards the interim levy and away from the reserve payments. Notice periods for changing the interim levy rate will become more flexible, deadlines will become more helpful, and generally information, data and recognition of commercial sensitivities will improve the scheme’s operations. Within the structure of the scheme, that is commendable.
However, seeing the details of its workings, the CFD counterparty mechanism struck me as somewhat cumbersome. While I am sure that there are unlikely to be major changes to the structure, nevertheless the Minister might enlighten the Committee about why the scheme is set up with quarterly contributions to reserve funds and a yearly operational costs levy for the capacity market settlement body.
I understand the reasoning behind setting up the CFD counterparty in relation to Treasury implications and as the mechanism through which CFDs will be administered and paid, but I understand that suppliers strongly urged the Government to allow the CFD counterparty to operate a working capital model for funding cash flow and building reserves as a more commercial way to operate. Surplus levies could then be rolled into subsequent levy periods to smooth out volatility of payment. Can the Minister confirm whether reserves and operational cash flow costs are to be reconciled to suppliers every year and balanced?
In the reconsiderations of the scheme, did the Minister’s department put any thought into whether working capital arrangements at a marginal cost to public borrowing requirements could be less cumbersome and less costly to operate? In trying to widen and increase the pool of supply participants, are the Government confident that the costs on small independent suppliers are not constraining their participation? I am sure that the Minister will confirm that the CFD counterparty body will be audited, but are there other operational cost checks on the operation of the body?
Perhaps I may widen my remarks beyond the supplier obligation to CFDs in general for a moment. I take the opportunity today to ask the Minister whether the Government will set any technology requirements or specific exclusions for participants in the next auction. I am thinking here of onshore wind and solar technologies. Can the Minister confirm that they will still be allowed to participate so that these technologies can develop and generators will have a continuing route to market for returns on their investments? With the challenge of climate change and the changes required of the UK energy market, we wish to be technology neutral.
Lord Bourne of Aberystwyth
My Lords, I thank the contributors to this important debate. I am grateful for the contributions from the noble Lord, Lord Grantchester, and my noble friend Lord Deben. I will deal with the points in the order in which they were raised, turning first to the points raised by the noble Lord, Lord Grantchester.
The point about the organisation of the levy and the fact that we are looking at it in terms of supplier obligation is for the precise reason he hinted at, that we did not want to put a pressure on the public purse. That is why it is funded in the way it is and why we looked at the working capital method but decided that it was not good value for the public or the consumer, so the obligation here, as the noble Lord knows, is placed on the supplier. While I appreciate that the marginal cost might not be that great, he will know that the approach of the Government is to bear down on unnecessary costs on the public purse as much as possible, and we felt that this was one.
The noble Lord also asked a question about the review, and he is absolutely right: there will be an audit process. He also asked whether reserves are reconciled at the end of each quarter. Yes, they are, as the operational costs will be at the end of each year; that is absolutely right. Therefore the key principle is that it is an industry-funded system. I thank him very much for the largely warm support he gave to this, and as I say, the essence of this—I am not very often able to do this—is that it saves money for the consumer and at the same time maintains the principle of ensuring that we look at renewables as a large part of the way we are driving forward our policy on decarbonisation. We will of course keep it under review.
On the points raised by my noble friend Lord Deben, indeed I was fearful as soon as he said that he thought that I made a very good job of presenting the case because I knew that something would come along as the sting in the tail. However, he made some fair points. I understand what he said about the legislation sometimes being impenetrable. Of course that is not confined to this area; I can well remember taking the pension schemes legislation through the House of Lords, which was certainly at least as obscure and probably more so. However, the point is well made, and there is a constant battle between trying to ensure that what is necessarily a technical piece of legislation is at least to some extent reconciled with a degree of clarity. I struggle as much as anyone else sometimes to understand exactly what we are doing. We want to take people with us, so it is important that we ensure that we put the case across in very plain and simple ways.
I welcome what my noble friend said about the need to be flexible and to do what we are doing as cheaply and reasonably as possible—that is very much part of the Government’s intention. That was set out in plain language by the Secretary of State when she presented her reset speech. In that speech she set out clearly what we are doing with regard to the CFD auctions, and of course one will be held towards the end of 2016. Pot 2 will ensure that it is open to new technologies and we will come forward with more details on that in due course. But as noble Lords would expect from a Government that are committed to a market approach, again as was made clear in the reset speech, obviously we want to deliver the best solution in terms of decarbonisation in the most affordable way while of course maintaining security of supply. These are the three aims of the department, and as I say they were set out very clearly in the reset speech.
I can reassure my noble friend Lord Deben that we are looking at these issues in terms of value for money with the innovation budget and the budget we have at large. He will know that we are looking, for example, at tidal lagoons across the piece to see if they can possibly deliver part of the mix in a value-for-money way. So that is very much the approach. I agree with what my noble friend said at the end of his contribution about the importance of going forward together across parties, and indeed not just parties. Earlier this afternoon I met Archbishop Gallagher from the Holy See, and we are grateful for what faith leaders, and not least the holy father, are doing in relation to promoting the importance of climate change and stressing how it affects the world at large and the most vulnerable. This is not limited to political parties and I think that we in the United Kingdom, without being complacent, have been adept at building a broad coalition on the need to move forward on decarbonisation across parties and beyond parties. I very much welcome that; in fairness it was evident in Paris in how opposition parties reacted and expressed their support, and in other ways too. I would certainly associate myself and the Government with what was said there.
If there is anything I have missed, it will be picked up and I will write to noble Lords, but with that I commend the regulations to the Committee.