How exaggerated claims about payments for wasted wind power are being used to push renewables towards a free market horror show

The renewables industry is fighting to resist a set of reforms that it sees as likely, at best, to plunge the electricity system into several years of investment-sapping uncertainty. Most likely the proposals in the ‘review of electricity market arrangements’ (REMA) for so-called ‘locational (or zonal) pricing’ will severely curb the future growth of renewables. And all of this is supposed to solve a problem - that of windfarm compensation payments - that has been greatly exaggerated.

For years there have been complaints about windfarms being paid compensation to turn off generation when there is not enough grid capacity to transmit generation from Scottish-based windfarms. The obvious solution for this problem is for regulation to ensure that more grid capacity is built to send power south and, also, regulation to incentivize a lot more battery storage provision. The latter can help send the power when there is less grid congestion. Instead, the free marketeers have seen an opportunity to shove their magic potions down the throats of a distinctly unwilling renewables industry as represented by RenewableUK and SolarEnergyUK.

Greg Jackson, the CEO of Octopus Energy, who is leading the charge to this magic so-called free market wonderland said (see HERE) ‘“Stop paying generators to turn off zero marginal cost power, and instead sell it locally cheaply…..Locational pricing means we’d build what we need where we need it and cut bills for everyone.” The Scots will pay a lot lower electricity prices compared to English Southerners.

All fine-sounding populist stuff, although not so much to the liking of English Southerners and their businesses! The proposed REMA will, I guess, benefit Octopus itself since it excels in trading in flexible energy services. Of course we need more flexibility. However, I must say that we need much more flexibility organised by the National Grid System Operator for the collective good rather than just left in the hands of individual suppliers with their much more limited sense of self-interest.

However much Octopus may benefit from a locational pricing system, this REMA is likely to result in a slowdown in renewable energy development and even the closure of some windfarms. Currently existing or contracted-to-be-built windfarms will simply take the Government to court if they try to cut off their compensation payments. So the savings, such as they are, in windfarm compensation payments will meagre in the short term. In the longer term the savings may also be underwhelming in view of the fact that currently planned new grid transmission capacity will reduce the size of the problem.

But in future there will be a block on investment in the places where there are most renewable energy resources. That is because if electricity prices are low in the sparsely populated, windy, areas that windfarms are mostly located, then development will not occur there. In that sense windfarm compensation payments could fall simply because there will be much fewer windfarms built anywhere in the UK in future! Under locational pricing it is the southern English areas with most energy demand will pay the highest electricity prices. They will now be expected (under free market modelling) to take the windfarms from the currently windiest places in Scotland where the electricity prices will be a lot lower. Except, of course, they won’t be taking much wind power to speak of at all. There are not enough sites (windy or even otherwise) in the relatively densely populated South of England that will receive planning consent for new wind farms.

Under Jackson et al’s madcap plans there is the implicit expectation that the wind farms will be built in un-windy and densely populated places like Surrey rather than in Scotland. Yet, not only there is a much cheaper wind resource in Scotland, but also the sparser population means that planning permission is a lot easier to obtain compared to Southern England.

Believe it or not, such obvious wind ‘resource’ problems with locational pricing appear to have been completely ignored by the free market-inspired modellers. Even in the case of solar farms, as a Friends of the Earth report has investigated (see HERE), there are many more solar farm site resources in the north of England and Scotland. Yet solar farms will not be built in the North under locational pricing because of low electricity prices.

Indeed, for the free market energy modellers there is a Panglossian world, whereby it is assumed that market trading will produce ideal outcomes, where only assumptions favourable to that outcome are included, and other assumptions which may not are left out. Added to this actors are assumed to always act in positive market-friendly (as opposed to negative often gaming) ways. All of these things make the rosy projections made by the locational pricing modellers extremely suspect.

Incidentally, it is wrong to characterise locational pricing or other so-called free market designs as being some sort of deregulation. They are no such thing. They are different types of regulation that favour different sets of actors.

Exaggerations

Yet there has been some clear exaggeration of the windfarm compensation problem. In Chart 1 below I have taken figures for wind compensation payments published by the Renewable Energy Foundation and uprated them to 2024 prices. You can see there are indeed substantial sums being paid to windfarms for turning off generation. However, when we come to Chart 2, we can see all of this in context. That is the payments are very small compared to the total spent by all UK electricity consumers (domestic and all types of industrial and commercial consumers). Indeed so small in comparison to total consumer spending on electricity (amounting to less than 0.05 of the total consumer spend) that they barely show up on the second chart!

Chart 1

Source of data on windfarm compensation payments: Renewable Energy Foundation, see HERE

Chart 2

Source of data on total UK spending on electricity, see HERE and HERE. I have used 2022 figures because they are the most recent that I can find. However, figures for 2023 will make little change to the overall effect of the comparison between the two bars.

Now, my numbers for money ‘wasted’ on turning off wind farms are rather smaller than some others that have been produced. That is because other accounts (by coincidence seem to be sympathetic to locational pricing!) involve other costs. These other costs include, in particular, the costs of firing up the gas-powered plant to fill in the gaps created by the windfarms being told to switch off. Now, I do not believe it is appropriate to include such costs in the total costs for windfarm compensation payments. This is for the simple reason that if the windfarms which are being told to ‘switch off’ did not exist then the gas-fired power plant would still be generating to fill in the gaps and resulting in costs to the system. Indeed, the fossil fuel power plant would be generating a lot, lot more if the windfarms did not exist at all!

By including such (gas generation) costs in the windfarm compensation costs, the free market diehards seem to be taking a madcap leap of faith to believe that somehow, in their locational pricing fantasy world (assuming locational pricing had been set up a long time ago), these productive windfarms in Scotland would otherwise exist in Surrey or Wiltshire or somesuch place. They would not exist. We’d be stuck with very pricey gas generation, much more expensive renewable energy, and very likely, we would still be trying to phase out coal.

A further issue (which never seems to be discussed) is that nuclear power generation in Scotland shares the blame for a substantial amount of lost wind production. This is because nuclear power stations do not/cannot turn off or turn down generation when there is excess electricity production, leaving windfarms to have to be switched off, and taking the blame for wasted electricity production and windfarm compensation payments. See HERE for more details.

So what happens now? Either Ed Miliband takes the politically safe action of just kicking this locational pricing nonsense into the long grass, or his plans for quick renewable energy development are going to get put seriously on ice. A major structural reform like locational pricing will take several years to complete and legislate. The process will no doubt be interspersed by events such as agonized appeals from energy-intensive engineering companies in the Midlands (or indeed anywhere in proposed high-price zones) pleading for the locational boundaries to be changed etc etc.

Meanwhile, many renewable energy developers will sit on their hands and do little because they will have little idea what prices for generated electricity or contracts for the same will be available in the future. They will have trouble interesting investors who will want promises of higher returns to compensate them for the politically induced regulatory risk. Does Ed Miliband relish this prospect? Not if he is as clever as he is reputed to be!

Past Free Market Failures

Of course, the free marketeers have ditched us in the soup before. There’s the liberalisation of energy retail prices as a case in point, where the results were so counterproductive that the Government has had to almost re-(price)monopolise them through the price cap. The market players either did not trade as expected, or they gamed the system in ways that the modellers could not have easily anticipated and which thwarted the collective good.

Then there was the case of the Renewables Obligation (RO) itself, later scrapped to make way for the now much-admired contracts-for-difference (CfD) system. Around Europe near the start of this century the notion of ‘green electricity certificates’ was quite fashionable amongst energy leaders wanting to mainstream renewable energy out of the clutches of the ‘feed-in tariff’ idealists. There is some overlap with some European energy leaders today who do not want volume maximisation of renewable energy to be the prime objective.

In the UK the system of renewable obligation certificates actually made renewable energy a lot more expensive than it would have been with a feed-in tariff or CfD system. This was partly because of the uncertainty over the future value of the certificates. It was also especially because of a shortage of renewable energy schemes in the first years of the programme which shoved up certificate prices greatly. But at least the RO did lead to substantial deployment of renewable energy schemes.

Locational pricing is likely to be much worse. Not only will it increase uncertainty for anyone investing in renewable energy, but it will effectively rule out deployment of renewable energy in half the country - the half that is most likely to provide resources necessary for renewable energy schemes. Locational pricing does not promote the deployment of the increase in renewable energy that we need. It needs to be firmly kicked into the dustbin.

The adherents of locational pricing want, in effect, to make renewable generation reproduce the effects of centralised electricity production. It is rather like trying to fit a square into a round hole. Rather, we need to build an energy system that is both fit for decentralised energy production for the likes of wind power and solar power and which also serves consumers. That means a focus on incentivising storage and making electricity networks at local and national levels suit decentralised renewable energy production.

Locational pricing represents an effort to avoid having the state organise more grid connection and incentivise storage, or at least hope (and it is no more than hope) that the market signals will provide enough of them. However, the result will be that many renewable energy resources will become impossible to develop.

It may well be that locational pricing may be suitable in some places in the world. However, in the context of the UK, not only will its introduction be extremely disruptive, but it will not work well to support a renewable energy-based system in the UK given the UK’s markedly differentiated distribution of resources, industries and people. We should try to maximise renewable energy deployment in line with the urgent need for electrification, not effectively limit renewable energy deployment by using half-baked free-market fantasies.