Examination of Witnesses
Chris Littlecott, Graham Meeks and Michael Rolls gave evidence.
The Chair: I welcome our next panel of witnesses. May I invite you to introduce yourselves by name and tell members of the Committee which organisations you represent?
Michael Rolls: My name is Michael Rolls, and I am the director of business development and Government affairs for the Siemens Energy Sector in the UK.
Graham Meeks: Good afternoon. My name is Graham Meeks, and I am the director of the Combined Heat and Power Association.
Chris Littlecott: I am Chris Littlecott, senior policy adviser at the independent environmental organisation E3G.
The Chair: Thank you. Who would like to lead off questioning on the general issues behind the Bill and the need for reform?
Q 435 Laura Sandys: What do panel members welcome in the Bill? What do they welcome that has changed from the draft following the scrutiny of the Energy and Climate Change Committee?
Michael Rolls: On the general point of the Bill, the RO did appear to be working but we all knew that it was not going to work for ever, so we certainly welcome EMR in general. On the capacity mechanism, we welcome the fact that that is likely to regulate the flow of combined cycle gas turbine projects, in particular, to avoid the kind of boom and bust that we have had in the past 10 years, when 9 GW of plant was ordered in two to three years, and then nothing. To take the point that the gentleman from the GMB made, if we are going to build skills around project teams and around the construction business, we do not need boom and bust; we need a steady flow, and I think the capacity mechanism has the potential to deliver that. There are several things in the Bill now that make it more attractive for project investors, such as the single counterparty, and we certainly welcome those changes.
Graham Meeks: We are certainly clear that we need an ambitious decarbonisation programme and that technologies of offshore wind, nuclear and carbon capture and storage, around which the Bill is focused, are necessary in terms of delivering that. Clearly, the Government have determined that the CFD is the core mechanism by which they will deliver that, and there has been improvement on how that is going to operate. I would say that those are all necessary elements of this legislation. The question we have to address is whether they are sufficient to deliver the wider energy policy goals at the right time, particularly when one looks at the significant risks around those core technologies.
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There are big questions about the affordability, deliverability and financability of those technologies. Recognising those issues, we have to ask whether the Bill is sufficiently broad to deliver the wider actions that we will need. In particular, we would like to see far more focus on decentralised generation and decentralised energy initiatives at that level and on the demand side. We were pleased to see the electricity demand reduction consultation published alongside First Reading. We think that is a step forward. At present it is alongside the Bill, not in it, but it is a move in the right direction towards more decentralised generation.
Q 436 Laura Sandys: May I take up that point, Mr Meeks, and ask you what you think would help with that particular measure in the legislation?
Graham Meeks: The problem with the legislation as it stands is the CFD mechanism is incredibly complicated. With respect to my members and others, it is too complicated a measure to incentivise people whose core business does not operate in the electricity market. That includes communities, industries, householders, commercial enterprises and the public sector. Alongside the CFD mechanism, we would like to see an extension of the small-scale feed-in tariff arrangements, which were introduced in the Energy Act 2008, to a threshold that provides a meaningful envelope to bring forward initiative on the demand side. We do not think the CFDs are capable of doing that.
Chris Littlecott: I can answer both questions at once. We very much welcome the Bill. We think that it positions the UK as a pathfinder for energy market innovation, which has repercussions and benefits beyond these shores. Certainly, some of the measures that were taken to strengthen the Bill in the version we now see are welcome. It gives a clearer framework and a mechanism for procuring low-carbon power. That is very important, although the details are still to come. The clarification of the emissions performance standard in respect to CCS is welcome, but, again, further improvements could be made.
I agree with Graham that demand reduction and the integration of a demand-side response are absolutely essential for managing cost-effectiveness and risk-managing policy delivery over the next two decades as the Bill is implemented. We are keen to see how those measures will be integrated into the Bill, in respect of both the financial incentives and the architecture of how the system operates.
Q 437 Laura Sandys: Do you have any suggestions about that?
Chris Littlecott: Particularly in respect to a demand-side response, a clear mandate needs to be given to the system operator that that is part of what they are being asked to deliver, and they should be properly incentivised. With the right kind of framework, you could build in incentives that incentivise them to actively procure and source further cost-reduction measures, which will benefit the consumer and will improve the cost-effectiveness of delivery as a whole. But the operator should see some benefit from that.
Q 438 Laura Sandys: And that could be mandated in the legislation?
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Chris Littlecott: That would need to be more clearly set out now. It would fit alongside whatever decisions are taken on the exact form of the financial mechanism. There is a piece of architecture missing from the Bill, which would need to give a very clear signal that the demand side needs to be prioritised before significant supply-side procurement is undertaken. It should essentially set out a range of targets for the five-yearly delivery plan. That would start to create a logic about how the demand side could really start to tackle cost-effectiveness and consumer bills.
Q 439 Graham Jones: This is to Mr Meeks, really. You talked about raising the threshold of the feed-in tariff to encompass medium-size energy projects for which contracts for difference are far too complex. Where do you suggest that threshold should be?
Graham Meeks: That is a difficult question. Any threshold is going to be arbitrary. The issue at stake here is the competency of the people we are dealing with. We can see projects that would range from tens of kilowatts up to hundreds of megawatts where you are still in a situation in which the project sponsor, if you like, is not a professional participant in the electricity market. They are a speciality chemicals manufacturer or a district heating operator. They are something different from that. We have to look carefully at this and define it perhaps in terms other than scale, or look and see where there is some other criterion that might be better used to determine what that threshold is likely to be.
We should be talking about tens if not hundreds of megawatts in some circumstances as being appropriate in order to realise the full opportunity that exists. We know that we are working in a world that is capital constrained, where the balance sheets of many of the utilities that have been traditional investors in this space and in these markets are probably going to be directed towards one particular part of the market. What we need to be doing is making it possible for the Tata Chemicals and the Dow Cornings and the cities as well—the Leicesters, Liverpools, Manchesters—to be able to bring forward projects in their own right.
Q 440 Graham Jones: How would the feed-in tariff rate reflect the strike prices that are due to be published for the contracts for difference? That would be on renewables.
Graham Meeks: As with the strike price framework, we would have to be looking at different technologies and the appropriate feed-in tariff rate to be applied in those particular circumstances. There is no question that we would want to be going down a horses for courses route looking at the actual need and requirement in terms of those feed-in tariff rates in order to get the response that we want. I do not think anyone is expecting in the current circumstances to be able to earn excessive rents out of this. People just want to be able to get on, own a business and act in a sustainable policy environment. What they are looking for is to have their risk managed. We are ultimately talking about having the risk that is inherent in these investments being properly managed through the right incentive mechanism that is appropriate to the capabilities and competence of the sponsor.
Q 441 Dr Whitehead: At the risk of asking you to be a little partisan, it is the case that CHP appears to have missed out again in terms of the provisions in the Bill.
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We have already had several discussions here today and elsewhere on the intrinsic merits of CHP as a tremendous boost for energy efficiency and production, and also potentially in the development of smaller-scale decentralised energy. Nevertheless, not being wholly renewable, they therefore do not come under some of the measures—CFDs, for example—contained in the legislation. Are there ways that relatively small changes in how the legislation works might resolve some of those issues?
Graham Meeks: It would be possible. People will find a way. We are an incredibly ingenious nation and there are a lot of sophisticated people out there who would be able to find a way to make CFDs work for CHP—biomass CHP and gas-fired CHP. The question is, how far do you want to try and push it? The sense I have is that trying to do that would be trying to bang a square peg into a round hole, when in fact we have other mechanisms that could do the job better. In that regard, a premium feed-in tariff arrangement would be far simpler. It is easier to understand and much easier for people to transact in the market. The risk and the cost of operating in a market where the premium feed-in tariff would be the incentive are much lower. You carry on doing what you normally do and you receive a premium revenue payment that improves your viability and the likelihood of going forward as an investment.
Going under a CFD regime would entail a step change in the sophistication of your operations and how you manage your day to day trading operation. Also, the costs that you need to bear, in terms of posting collateral and of how often you have to intervene in the market, or how much of the value of that mechanism you are having to lay off to your supplier—who will bear that risk for you? That is money that is gone, value that we do not need to be paying; it is transaction cost that is being taken out of the system and not delivering new low-carbon investment. I do not see why we would go down that route when we have the legislative tools in the box that would enable us to go down a simpler route in those circumstances. My immediate reaction is to say, let us use the simple feed-in tariff—extend the small-scale feed-in tariff—to have that effect.
Q 442 Dr Whitehead: Do you think there is any merit in looking at the capacity market, as far as CHP is concerned?
Graham Meeks: CHP, like any other form of generation—fossil, particularly gas-fired generation—should be able to access the capacity mechanism if it can bring value within the capacity mechanism. The capacity mechanism is not an incentive in any way. Ensuring that CHP can access the capacity mechanism is just ensuring that there is effectively a level playing field and that CHP is able to access the same markets, if you like—it is just another facet of the market, that CHP is able to access the same part of the market as traditional utility generation. I do not see how the capacity market in itself could offer an incentive that would overcome some of the inherent obstacles and market failures that are stopping CHP realising its potential.
Q 443 Tom Greatrex: I want to direct my question initially to Mr Littlecott, but others may wish to express a view as well. Between you, you have touched on CFDs in your earlier answers. I wanted to explore, Mr Littlecott, whether you are confident of the allocation process for
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CFDs and whether it enables the UK to keep that broad range of potential low-carbon technologies, as defined in the Bill, or does more need to be put into the Bill to make it clearer?
Chris Littlecott: That is not an area that I, personally, have a lot of detail on. What we seek, if there is a clear link to how the procurement process binds with the point that Mike was making earlier, is the longevity of view for the manufacturing side. As a public interest organisation, we would be much more interested in trying to see how the system can build new markets, rather than trying to look at the carve-outs for existing sectors. Perhaps colleagues would like to comment.
Michael Rolls: On the levy control framework and the allocation process, the concern is that there might be too much coming forward in one year and perhaps not enough in another. There ought to be some kind of banking between periods, so that you are not holding up projects unnecessarily because of an allocation process in one year. I am not sure that that affects the Bill or whether it affects the operation of the mechanisms behind the day-to-day activity of DECC. That would be the concern in terms of bringing forward projects and, hence, bringing forward economic activity to build them.
Q 444 Tom Greatrex: In relation to CCS specifically, do you have any concerns that the way in which CFDs are likely to be offered within the levy control framework would make CCS less likely? Is there a case for carve-out of CCS, or is that about technologies proving themselves and then fitting into the mechanism?
Chris Littlecott: The fact that CCS is now able to access CFDs is the key piece that must be got right in terms of how CCS can move from demonstration to deployment. If you remember, we have gone from having a levy that is to do with the whole process to having a limited amount of capital and then CFDs for operational support. That is quite a different packaging process that operators have to go through in order to get products away. On the competition, we will quite clearly do that bundling, and that will be part of one negotiation. At the moment, there is an absence of any clarity at all about whether CCS projects, beyond the first one or two that might come out of the competition, would be able to bid in. It then becomes very difficult to give that signal in terms of projects able to stay in the game without coming out of the competition, unless there is a carve-out or another means of passing a Government hurdle of being approved as valid. That has put CCS in a difficult position, in not being able to see a path to deployment at the moment.
Michael Rolls: It would only be an issue for the levy control framework, as it is defined at the moment, if there are truly commercial projects beyond the demonstration projects coming forward for operation before 2020-21. Whether that is likely or not, I leave to people’s minds, but I suspect it is not.
Q 445 Gregory Barker: I just go back to the point about potentially tapping into the capacity market for energy efficiency projects. The concept is fairly well understood and the devil is in the detail. One of the very practical details is that the difficulty is getting scale and aggregation. In fact, it is unlikely that you will have
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many individual companies that are able to offer projects for energy efficiency that can in themselves compete against the scale of a gas-fired power station, or the scale of even a smaller generating project. I wonder if you had ideas on how you might aggregate those projects. You mention projects of tens or hundreds of megawatts, Mr Meeks. Practically, and potentially within the Bill, what specific things would you like to see that could drive the market to a more mature state?
Graham Meeks: As we see on the supply side, the demand side needs to see a bright future. There needs to be a significant opportunity. One of the concerns that we would have about the capacity mechanism is that the way in which the administration of it would work may not provide sufficient long-term certainty over the scale of that opportunity to then encourage people to look at what that long-term opportunity is and what the value that comes from that is likely to be, so I think it is helpful that the consultation on EDR posited other alternatives as well. The premium payments and the supplier obligation were put out there. Each of those things has its pros and cons, but those mechanisms have the opportunity to provide a high degree of certainty.
Q 446 Gregory Barker: Given that we now have a cast-iron levy control framework set for some years ahead, but also some flexibility within that framework, would you be happy, as part of our overall, economy-wide decarbonisation programme, to see energy efficiency projects such as that eat into that LCF and take priority over renewable energy projects, which might be displaced?
Graham Meeks: With what we are doing now with the Energy Bill and setting effectively a framework for the energy market that exists well beyond 2020, we are looking at a system whereby we are clearly aiming to reconcile the need for, first and foremost, a secure energy system, but then carbon and affordability become absolutely key within that. In that regard—
Q 447 Gregory Barker: Sorry, what was the answer to that question?
Graham Meeks: The answer is yes, I think it is appropriate that if we are using energy efficiency to deliver decarbonisation and energy security at the least cost, the benefit that accrues to society is going to be far greater. If we can get more measures—effectively more carbon saved—and keep the cost down for the consumer, those projects have every right to be drawing on the levy control framework.
Chris Littlecott: However, some clarity will be required as to whether capacity payments will be coming out of the levy control framework. Certainly, in respect of demand response, there is a very good argument for that to be handled in a similar form and format to capacity payments. As I understand it, some of the options for demand reduction and energy efficiency could dovetail quite nicely with demand response. There are some questions around double counting and how mechanisms will work together. In the early years of creating new markets for this, having a target for procurement from the system operator might be one way that could be delivered to provide the architecture for the financial incentive. In which case, it might be that such funding would not be within the levy control framework.
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Q 448 Gregory Barker: Would you be confident that we would be able to scale up, in the foreseeable future, demand reduction projects at a size that could compete with new generating projects that might be bidding into the capacity market?
Chris Littlecott: The USA experience has been, over the course of not too many years or auctions, that demand reduction and response can do that. DECC’s proposals to trial the demand-side element are very welcome in starting to build that market. I think there is a question about how those aspects that we know we will need on the demand side are still at the moment triggered by decisions taken on the basis of supply side and questions about the reliability standard. I think there might also be some benefit in having the Bill more clearly delineate that the demand side must be prioritised and come through as part of the requirements for the system operator.
Q 449 Gregory Barker: How would you express that?
Chris Littlecott: As I mentioned earlier, there needs to be a piece about what the system operator is being mandated to do and how they are being incentivised to do that.
Q 450 Gregory Barker: Does that form part of your submission to the DECC consultation?
Chris Littlecott: We are yet to respond to the demand reduction consultation.
Q 451 Gregory Barker: But you will.
Chris Littlecott: We will.
Q 452 Mr Weir: This is principally for Mr Rolls. In your initial answer to Ms Sandys you talked about the boom and bust investment plans in the past, and the need to replace the renewable obligation. It is fair to say that we have had some differing views on whether contracts for difference will be up and running quickly enough to replace the renewable obligations by the Government’s preferred date of closure of 2017. Do you have any views on that? Do you have enough confidence that the detail is there for CFDs to see them up and running in that short time scale?
Michael Rolls: We have to take a lead from our customers. You have had many of them at this table. We rely on them to draw their conclusions for their investments, leading to demand for our products and services. The key is the EMR, that the reforms go through as quickly as possible, so that there is little need to extend the RO, for instance. If there is delay, it could be that some people would like to have that extension in order to bring forward projects that might otherwise be under threat in terms of the time scale. You have had those answers here.
Q 453 Mr Weir: And they have disagreed among themselves.
Michael Rolls: Yes, but I can only take my lead from what they say. It depends very much on where their individual projects sit in the timeframe of EMR, and whether they as developers have confidence that EMR is going to be delivered on time and that they are going to understand, not just the strike prices, but all the conditions that attach to them, in time to bring forward their projects.
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Q 454 Mr Weir: You will know from your business as suppliers to them that there are fairly long lead-in times for some of these developments. One concern is that they are making decisions now or shortly for developments that will not come on line until post-2017. The uncertainty is perhaps a concern over that.
Michael Rolls: Yes, there is concern. I suppose that some of them must be talking about early investment contracts and some would prefer to stick with the RO, but I guess that the time has passed for sticking with the RO unless, for some reason, there is an unforeseen delay in delivering EMR.
Q 455 Barry Gardiner: Mr Rolls, what amendments to the Bill would increase the likelihood of Siemens constructing a new plant in the UK?
Michael Rolls: If we are looking at that kind of investment, the biggest part of it is supporting the infrastructure development behind the factory. It is not just the factory itself, but the land on which it sits and the quayside that it uses, and that is a larger part of the cost and the cost commitment than the factory itself. So while we must have short-term orders to kick-off a decision—we cannot kick-off a decision without those orders—we also need long-term confidence that there is going to be a healthy market for those products well beyond 2020 because we are talking about something like a 15-year commitment on that site.
Without that visibility well beyond 2020, we have a really quite considerable risk to take into account in making that decision. That could be helped by volume certainty of offshore wind, but that is quite unlikely given that we are not into the process of picking winners in that degree. That is why we support the proposal to have a 2030 or 2027 decarbonisation target for the electricity sector, because it would help to define the pathway through the following decade and at least give some confidence that we are not going to change our minds halfway through.
Barry Gardiner: Thank you. That is extremely clear.
Michael Rolls: Perhaps I could just add that, around this room, there has been a lot of talk about investment and investment decisions, but the investment decisions by project investors are on a relatively short time scale. I know, Mr Weir, that you talked about the long time that it takes—it is a long time—but the investment in manufacturing facilities and assembly facilities is a much longer investment commitment, and it has a different time horizon altogether.
The Chair: A question from Peter Aldous.
Q 456 Peter Aldous: Actually, Mr Bayley, Mr Rolls has just answered it. In his representation, he said that he needed the short-term orders and the long-term market view. I was going to ask him whether he had that at the present time, but I think that he has answered that question.
Michael Rolls: Yes, the answer is no.
Q 457 Gregory Barker: Mr Rolls, on providing certainty, obviously there is a range of factors that provide certainly, and no one Parliament can bind its successor, but how much comfort do you take from the fact that there is cross-party consensus on, and commitment to, the Climate
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Change Act and achieving the decarbonisation of the economy, of which the energy sector is a core part? Secondly, there is a proposal in the Bill for the Secretary of State to take powers to set a decarbonisation target, on which a decision is expected at the time of setting the fifth carbon budget. How important are those factors in your thinking?
Michael Rolls: The Climate Change Act and the carbon budgets are set for the whole economy. Behind that, there is a storyline about electricity decarbonisation, but there is no certainty that that will remain the story.
Q 458 Gregory Barker: But it would be impossible to decarbonise the British economy by reducing our carbon emissions by 80% from 1990 levels—it would probably be impossible to decarbonise beyond 50%—unless you decarbonised the energy sector. It is a huge part of the picture.
Michael Rolls: Yes, I would agree with that completely, but if that is the case, why not say so? Why not pin that down?
Q 459 Gregory Barker: But that is what the Climate Change Act does.
Michael Rolls: The Climate Change Act has done nothing actually sector by sector. As electricity decarbonisation is such a fundamental part of the storyline for decarbonising the economy, it is incumbent on the Government to put that a little bit more firmly in place and encourage the investment that it would engender.
Q 460 Gregory Barker: The whole premise of the Climate Change Act—I served on its Bill Committee back in 2008 as well—was not to try to micro-manage the economy. It was to set the overall trajectory very clearly, but to set carbon budgets over a period of years and not to try to micro-manage between sectors. Clearly you cannot achieve the aims and trajectory without the decarbonisation. Equally, transport is a very important element of the decarbonisation plan. Domestic and commercial building stock is important. We are not proposing to set decarbonisation targets for those. There are big factors. While I appreciate that you need the certainty—and that is why we are taking powers; this is not a Government who are against this in principle or who have set their face against it—it just seems to me that by focusing so clearly on this target, we risk ignoring what we have already before us, which is an unparalleled commitment in developed economies to decarbonisation, of which the energy sector is an integral part.
Michael Rolls: In an ideal world I would agree with you. We certainly welcome the step forward of the proposal to amend the Bill to include a 2030 decarbonisation target. Our problem is that if we wait until 2016 to get the certainty that would help us to make a decision, particularly around the Hull investment—this is for other companies with other technologies as well—we would probably miss the boat.
Q 461 Gregory Barker: Do you have that same level of absolute certainty in the other markets you operate in?
Michael Rolls: You have been questioning witnesses about the situation in Germany and Denmark. We are coming from behind. Germany and Denmark built up their supply chain businesses in the 1980s and before
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because their countries permitted and encouraged the use of wind power and other forms of renewables while wind power could not get access to the British grid under the monopoly regime. So that situation, where you are looking at an established supply chain supplying a fairly certain market, because Germany has specific targets for wind, is very different from saying, “Okay, now the UK is a great place to invest,” because we have superb wind resources and we have all the other things that make it a great place for wind, when we are, from a supply chain point of view, coming from behind. If we do not make decisions fairly soon, the jobs will be established in Germany and Denmark, where they already have the facilities and the skills.
The Chair: May I just make a comment to the Committee? I know that you have been sitting for five hours almost non-stop today, and I notice that the Committee is wilting. The flexibility I have as Chair to suspend the sitting is pretty narrow, but if you were to stop questioning now, I could suspend the sitting for six minutes—until 5.30 pm—to allow those who want to stretch their legs and have a coffee outside to do so. Do any Members wish to ask further questions?
Gregory Barker: You have made your position very clear, Mr Bayley.
The Chair: I apologise to the witnesses. You have been short-changed, but you have given us some really good answers to straight questions, and I thank all of you—Michael Rolls, Graham Meeks and Chris Littlecott. I suspend the sitting until 5.30 pm.