Analysis of Recent UK Government Winter Energy Announcements

LGE’s Current Thoughts on the Government’s Policy Announcements for Winter 22

The UK government has since revealed further details on its Winter Energy Plans. You can read LGE’s update here.

Last week the UK government announced a suite of actions to assist domestic and business users with the dramatic increases in wholesale energy prices over the last few months. These include:

  • Freeze on domestic tariffs, meaning the typical household energy bill will sit at £2,500 for two years, which includes temporarily removing green levies, worth around £150, from household bills
  • A six-month scheme to freeze prices to be extended to businesses, followed by targeted support for selected industries
  • Movement of renewable generation onto the newer Contract for Difference scheme
  • Plans to focus scrapping ban on shale gas and increasing production of North Sea gas
  • A drive to increase renewable generation from solar and wind, as well as accelerating nuclear generation

Please note this is based on current information and the analysis will be subject to change as the government releases more details on how the scheme will work.

Government Measures & Analysis

As mentioned, the Government has stated their intent to introduce a series of policies to mitigate the effect of the continuing price rises on consumers.

Two-year freeze on domestic tariffs & six month freeze on business tariffs

The governments announcement of a tariff freeze from 1st October will mean a typical household bill will average £2,500 per annum; this will translate to a UK average unit rate of 37p/kWh for electricity and 9.5p/kWh for gas.

For businesses, BEIS announced a wholesale only cap of £211/MWh for electricity, and £75/MWh (or approximately 220p/therm) for gas, to cover the delivery period 1st October 2022 to 31st March 2023. BEIS will review after three months to ascertain support after March 2023, however this is only expected to apply to the most vulnerable non-domestic consumers.

Whilst on the face of it, things seem straightforward, BEIS also stipulated a maximum discount would apply against the wholesale price. The amount of this maximum discount is likely to be around £405/MWh for electricity and £115/MWh for gas, subject to changes in the wholesale markets. This could mean a client with an electricity wholesale rate of £610/MWh will receive a full discount down to £210/MWh (21p/kWh). However, any client with current rates over £616/MWh will be expected to pay the difference, for example, someone hedged at £820/MWh would have to pay an additional £204/MWh, meaning their wholesale price would be £414/MWh or 41.4p/kWh. How the maximum discount is to be calculated for different types of contract is still to be decided.

The scheme is expected to apply to all fixed, flexible, and variable contracts placed from 1st April 2022 onwards. To support this scheme, the government will pay suppliers the difference between the price fix and the wholesale market. The relief rate will be applied to invoices only; contracts will still reflect the current market prices.

It is important to remember that the rates quoted are for the wholesale price element only and additional non commodity-costs will still be applied.

The fix will protect against rising winter prices, however, it will do little to ease the burden of the already existing rises of up to 300% that users have seen. The scheme will be straightforward for domestic properties but will be harder to implement for businesses who have a much wider range of charging structures applied to them. Suppliers are not expected to get the full outline of how the measures will be implemented until the 30th September.

It was also announced the removal of green levies paid by non-domestic customers however no further detail was provided. The term green levies cover a wide range of charges including the Climate Change Levy (CCL), a tax to encourage users to use less, and the Renewable Obligations (RO), Contract for Difference (CfD), and Feed in Tariff (FiT) schemes which all provide subsidies to renewable generators. The removal of CCL will benefit users but any changes to charging RO, CfD and FiT will only have negative effects in the long term.

Movement of renewable generation onto the new Contract for Difference scheme

Currently large-scale renewable generation in the UK is supported through two schemes, Renewable Obligations (RO) and Contracts for Difference (CfD). Renewable Obligations is an older scheme that has been closed to new entrants for several years; the renewable generators are subsidised, so the electricity bought from them is equivalent to the current market price. This has seen the amount of subsidies they receive this year soar.

Contracts for Difference is a newer scheme designed to replace RO. Participants are paid the difference between a strike price, set through a competitive reverse auction with other generators, and the market price. If the market goes above the strike price, then the generator receives no subsidies from the scheme.

The government’s plan to move participants over from RO to CfD is a welcome one. The amount of subsidies these generators will receive will decrease and the amount they receive for their payments will be fairer and much closer to the actual cost to generate.

The move from RO to CfD could also have an important effect on breaking the link between the gas and electricity markets. As the RO scheme is so heavily tied to the market price, it supports the link between gas and electricity. Moving all renewable volumes to CfD, which is more heavily tied to the auction results, could sever that link and lead to a reduction in wholesale electricity costs.

The question is how long these changes will take to implement, as the CfD scheme is based on an auction process that are run four years and one year in advance. The government could rush these through or agree special prices as they did with Hinkley Point C, however, whether this can be done in time to make any difference for this winter is debatable. The government has announced a new Energy Supply Taskforce whose role is to negotiate with suppliers and generators so presumably they will take lead on reaching a settlement on new pricing.

Plans to focus scrapping ban on shale gas and increasing production of North Sea gas

The government has also announced they plan to repeal the ban on fracking of shale gas and increase production for drilling in the North Sea. It is unclear how these measures will have any impact on energy prices while only damaging efforts to mitigate climate change.

Both new projects for fracking and drilling in the North Sea are estimated to have lead times of up to ten years before any significant production could be achieved; at the same time, both will be producing new volumes of gas which will simply go into the global gas market and be subject to the high prices currently being witnessed. This will add additional CO2 to the atmosphere and make achieving the government’s own net zero ambitions more difficult. The government statement mentions “where there is local support” – popular support for fracking currently sits around 20% so this move seems to be both self-harming and ineffectual.

A drive to increase renewable generation from solar and wind, as well as accelerating nuclear generation

Any drive to increase renewable generation should be welcome, solar and wind can be authorised and built with very little lead times. Debates continue around nuclear, however it does provide consistent carbon free electricity, but lead times can stretch into decades and will have no impact in the short term.

If you have any questions about how these changes might affect your business, please do not hesitate to contact your LGE Account Manager.