Five years since the establishment of the levy control framework (LCF), the government’s main tool to manage spending on clean energy, the National Audit Office (NAO) has provided some useful insights into its performance to date. While media coverage jumped to highlight its most negative claim, that renewables will cost households £17 more than planned in 2020, it failed to report the rest of the story: that energy bills overall will actually be lower in 2020, by an average of £38.
So what did the NAO say and what does it mean for the future of the LCF?
Poorly designed and poorly governed
The NAO makes a pointed critique of the LCF, saying that poor governance and unexpected policy changes are threatening long term decarbonisation efforts and value for money. It reveals that outdated government predictions of future fossil fuel prices, the popularity of low carbon generation and the effectiveness of offshore wind farms led to an unexpected upward revision of LCF cost estimates in 2015. This prompted the government to impose sudden and disruptive policy changes to reduce spending, such as capping feed-in tariffs, which raised concerns about its commitment to low carbon energy and affecting investor confidence.
The NAO says that the LCF is poorly designed and communicated. Linking renewables’ subsidies to the wholesale electricity price is problematic for two reasons: first, it makes the cost of the LCF volatile and hard to predict, and might lead to a ‘stop start’ approach to policy, which undermines investor confidence. Second, it ignores the fact that investment in new generation would still be necessary in the absence of renewables. Consumers would still have to pay for new capacity, whether it is for renewable or fossil fuel plants. Therefore, the effective clean energy subsidy is only a fraction of the LCF costs, being the current price difference between new fossil and new low carbon generation.
And the NAO questions the coherence of the budgetary framework for levy funded expenditure, since renewables are subject to budget constraints which don’t apply to other areas of the energy market. This could undermine longer term value for money by capping support for low carbon while allowing capacity market spending, mostly for fossil fuels, to balloon unconstrained. For instance, this year, the capacity market is likely to provide an £800 million consumer funded subsidy for highly polluting diesel generators.
The report concludes that the LCF “has not met its potential to support investor confidence”. It’s worth remembering that increasing investor confidence and lowering the cost of capital were the main reasons behind the UK’s electricity market reforms.
Energy bills will be lower in 2020
Despite the government’s recent forecast that LCF costs will exceed the £7.6 billion cap (as at July 2016, estimates are at £8.7 billion), the NAO reveals that bills will be lower in 2020, dropping from the current average household energy bill of £1,029, to an estimated £991 in 2020. This drop will largely be driven by cheaper fossil fuels, but the low operational costs of renewables will also have a dampening effect on wholesale prices, leading to an estimated wholesale price reduction of nearly £1 billion in 2020.
According to the NAO, the overall impact of government energy and climate change policies, which include the LCF alongside other levy and non-levy funded policies, will result in a net drop in bills of £17. This is the exact opposite of message in the media: that the government is pushing bills up.
Low carbon energy in the UK has grown more quickly than expected. This is great news since it means we are well on our way to achieving the ambitious targets set by the Climate Change Act and helping to drive international decarbonisation efforts. Green Alliance has shown that continued deployment with competitive auctions should see renewables becoming cheaper than new gas plants by the mid 2020s.
Lessons for the future
So, what can the government learn from the first five years of the LCF, to ensure a secure energy supply in line with its decarbonisation targets and at least cost for consumers?
The UK’s energy strategy should promote renewables by focusing on minimising the cost of low carbon subsidy, ie the difference in price between fossil and renewable energy, rather than the size of the overall levy (given the shortcomings in the way the LCF is designed). The LCF should support the innovation and supply chains which allow renewables to compete with other forms of generation, therefore reducing the subsidy necessary for their deployment.
To achieve this at least cost, the government should be reassuring investors by:
- ensuring regular and transparent LCF forecasting to avoid the sudden policy changes that happened after the 2015 review;
- clarifying the timing and size of future contracts for difference auctions at least three years in advance;
- providing visibility beyond 2020 by committing, in the autumn statement, to fund renewables under the LCF to at least 2025.
By looking beyond the media headlines at what has really been going on, we can learn how to make better use of the LCF to give consumers greener energy and lower bills in future.