Motion to Approve
My Lords, before outlining the provisions made by this draft instrument, I will briefly provide some context for the benefit of noble Lords.
The capacity market is at the heart of the Government’s strategy for maintaining security of electricity supplies in Great Britain. It secures the capacity needed to meet future peak electricity demand under a range of scenarios through competitive, technology-neutral auctions normally held four years and one year ahead of the relevant delivery year. Those who win capacity agreements —known as capacity providers—commit to providing capacity during periods of system stress in exchange for receiving capacity payments. Capacity payments are funded by electricity suppliers, which recover this cost from consumers.
This draft instrument, together with capacity market rule changes, which have recently been laid, will ensure that the capacity market remains compliant with its state aid approval by giving effect to government commitments recorded in the state aid approval decision. It will also make temporary modifications to support capacity providers in the light of the effects of coronavirus.
I will now briefly outline the context of the capacity market’s state aid approval, before detailing the changes proposed in this SI. The Commission’s state aid approval of the capacity market in 2014 was annulled in November 2018 by a judgment of the General Court of the Court of Justice of the European Union. This introduced a standstill of normal operations of the capacity market until October 2019, when the European Commission completed its reinvestigation of the capacity market and granted state aid approval.
The Commission’s state aid approval in October 2019 recorded government commitments to make technical changes to the capacity market’s design to reflect recent market and regulatory developments, including reforms that my department had already identified through the statutory five-year review of the capacity market conducted in July 2019. Specifically, these draft regulations will reduce the minimum size of capacity which is permitted to compete in the capacity market from 2 megawatts to 1 megawatt. This aligns the capacity market with other domestic energy markets, making it easier for smaller providers, such as demand side response operators, to participate.
This draft instrument will also introduce the arrangements necessary to enable demand side response—DSR— operators, which provide capacity by reducing the import of electricity from the electricity grid, to compete for multiyear agreements if they can meet the relevant capital expenditure thresholds. This will bring arrangements for demand side response operators in line with generation and might encourage greater DSR participation in the capacity market.
The regulations seek to provide a legislative underpinning of the UK’s long-standing commitment to procure at least half of the capacity set aside for the one year ahead of delivery year auction. This is set aside when the target capacity for the auction four years ahead of delivery is set. This change will help provide some certainty around auction volumes and will assist market participants, particularly DSR operators.
Finally, the draft instrument seeks to revoke an exclusion in place since 2014 that prevents a small number of holders of long-term contracts for the provision of an electricity market balancing service—the short-term operating reserve, or STOR—competing in the capacity market. In 2014, STOR contracts were expected to pay out very high revenues, and, to prevent windfall profits, holders of these contracts were therefore excluded. However, since then the energy landscape has changed significantly and revenues from STOR contracts have been much lower than originally anticipated. Therefore, it is no longer appropriate to maintain this exclusion.
I turn to the temporary modifications that this draft instrument seeks to make in recognition of the fact that coronavirus has impacted the ability of capacity providers to meet some of their obligations under the capacity market. The approach that we are taking of making temporary easements is similar to that adopted to support capacity providers during the capacity market’s standstill period last year. This draft SI will support modifications to the capacity market rules to allow a capacity provider which is late in demonstrating that it is ready to deliver capacity in this current capacity market delivery year to access capacity payments that have been suspended if the requirements are met by a later, specified date.
As the disruptive effects of coronavirus might lead to more capacity providers facing termination of their agreements, the regulations will increase the time for capacity providers to issue appeal notices to terminate their agreements to the Secretary of State. It also seeks to provide the Secretary of State with greater discretion when considering appeals: either extending the time for capacity providers to comply with requirements to avoid termination or directing that agreements should be terminated, without a fee, on the grounds that non-compliance was due to exceptional circumstances arising from the effects of coronavirus. That will reduce the risk of terminating capacity agreements where this would have an overall detrimental impact on security of supply.
In conclusion, this draft instrument will ensure continued security of electricity supply by ensuring that the capacity market continues to comply with its state aid approval. It will also reduce the burdens on capacity providers during the coronavirus pandemic. Finally, these changes will maintain confidence in the market. I commend these draft regulations to the House.
My Lords, this is a very complex issue. I have listened very carefully to the Minister’s comments. As I understand it, the capacity market is there as a sort of back-up. As the pandemic has distorted the market with collapsed demand, wind and solar on occasion generate electricity to meet our needs, with wider excesses being dumped, in effect, at silly prices on the market.
I cannot understand why, in these extreme conditions, at a cost of potentially billions, we have to buy in through the interconnector. I have a simple question. Is all this to be renegotiated in the new Europe or is it all to remain in a spirit of compromise? With the pandemic testing the resilience of the system, we are told that capacity providers need time to either comply with EU requirements or appeal. Will this all be sorted by exit day?
With worldwide volatility in energy markets, if we are to be locked into the EU regimes, will that mean linkage to slow-lane EU emission targets, over which we will have no influence? Conversely, if not, how do we intend to respond to opportunities from pumped storage? That would help flush out fluctuations between high and low demand, particularly if combined with small modular nuclear reactors.
Finally, I have a simple question. We were told that our EU departure would lead to new trading patterns and greater self-sufficiency in steel, fisheries, farming and energy. With that in mind, why will we increase interconnector use from 4% to 9%, effectively doubling power imports? Also, how can the Government honestly claim a net-zero commitment if we buy in from countries which still generate from coal sources? I am thinking of Maasvlakte in Holland, or even Russian gas. Are we not then left in the absurd position where we end up switching our renewables on and off in favour of imported fossil-fuel-generated power supplies? In a nutshell, why should we end up paying capacity support costs to support their excess fossil production costs? How can we, whether it be for the short term or the long term, argue that the interconnector needs to be part of the mix when our objective must be decarbonisation throughout Europe? If we were not leaving Europe, at least we would have some influence on events in future.
In introducing this measure, the Minister said that it is necessary for the UK to remain compliant with the EU regulations. Is it the Government’s intention that we will continue to stay compliant with state aid regulations? If so, and the Minister is bringing this measure forward now to remain compliant, what is the timeframe for that compliance? Is it for the duration of this temporary measure only, or do the Government’s intend that we will remain compliant and able to continue operating seamlessly with the European market? Given that the Government have not carried out an impact assessment, what is the likelihood of this supporting smaller operators? What is the impact on bigger operators? There are many references to these powers possibly enabling operators, but what is the assessment of the likelihood of that? If it is an EU-based energy supplier, will it be able to benefit from this measure?
I want to quote to the Minister some remarks made in the House of Commons during the debate on this measure:
“I am very concerned about the regulation, its provenance and whether it will limit our freedom of manoeuvre in ways we do not wish from the beginning of next year … I therefore find it extremely worrying that we have responded to a state aid challenge upon us in the dying days of our membership of the single market, or its rules, when we are no longer a member of the European Union which sponsors it.”—[Official Report, Commons, 15/6/20; col. 566.]
That was Sir John Redwood. I have never doubted the Minister’s credentials as a Brexiteer. He has reminded us of that on far too many occasions over the past of couple of years. So, can he explain why Sir John Redwood is so wrong and why we need this measure urgently in order to continue to be compliant with EU state aid regulations?
The Minister said that the measure will end on a specified date. What is the process for deciding that specified date? As we know, the impact of coronavirus, and potentially other waves, is an unknown situation. I think there is common ground across the House about the benefits of reforming the electricity market and the capacity market, and of paying for reliable sources of capacity alongside electricity revenue. I do not think there is any doubt about that. Sir John Redwood also said,
“we are talking about whether this country is now going to have its own energy policy, or whether we are hastily legislating so that we can, for the foreseeable future, still be effectively under EU state aid rules, edging ever closer to integration with EU energy policy”—[Official Report, Commons, 15/6/20; col. 568.]
Will the Minister say why Sir John may be wrong on that point? Bearing in mind that we are likely to get up to 10% of our energy from the European market, given the way the state aid rules operate, for how long will we be compliant with those rules?
My Lords, I thank the Minister for introducing these regulations and entirely endorse the reasons for them. He very kindly gave us the detailed background, particularly about the judgment by the European Court of Justice and the decision of the European Commission. I spent six very happy months as a stagiaire in DG4, which is now called DG Competition, becoming familiar with the anti-trust rules and regulations of European law, although I am less familiar with state aid, so I will put a question of principle to my noble friend. It is not dissimilar to that of the noble Lord, Lord Purvis. As we are leaving the European Union and will exit at the end of the transition phase on 31 December this year, that begs the question, what will be the future arrangements for such support being meted out under the regulations before us this afternoon? Which body will replace the European Commission as the regulator of these subsidies—as we are apparently going to call them in future—or state aid, going forward? Can he give the House an assurance this afternoon that his department and others will indeed be subject to overview and scrutiny in all these decisions? Can he confirm that it will be the Competition and Markets Authority?
I have a separate question that relates entirely to the regulations before us this afternoon. Can the Minister confirm that long-term STOR contract holders will be able to compete in the capacity market as a result of these regulations? Is he convinced that it is absolutely a good idea that they be included?
My Lords, we did not vote to leave the European Union, only to have the European Commission telling us what our state aid rules should be, particularly in the energy sector, where the European Union has had the most incoherent, disjointed approach for decades. That is summarised by, in recent years, the French going nuclear while the Germans went back to coal. Can the Minister clarify the implications for the remaining coal-powered generators in this country, for which the economics of the capacity market are critical? Several have closed in the past year, including Cottam, which I can see from my window today, leaving, I believe, three, including West Burton A, which has a capacity of 2,000 megawatts a year. West Burton is due to close in 2021. Will that closure be brought forward, will the date remain the same or will it be delayed? In other words, will we remain reliant on coal for longer than 2021, or will these regulations have nil effect in extinguishing what remains of our coal-fired energy generation power station system?
My Lords, I shall not oppose this SI, which temporarily loosens regulations for providers and ensures the security of the electricity supply. It is important that we maintain a certain level of electricity capacity, in which renewables play an increasing part. I have two short questions for the Minister. The first goes back to the subject of interconnectors, which I raised in the previous debate on the regulation of contracts for difference. Any country that wants to reach its net-zero commitment will necessarily be reliant on interconnector capacity. Will this continue to be an important part of the UK’s energy mix once we have left the EU? Will this feature large in the infrastructure investment through which the Government plan to stimulate the economy and create jobs?
My second question relates to the Prime Minister’s plan to build tens of thousands of new homes. If they are built to today’s poor efficiency standards instead of being designed for net zero carbon, they will lock us into high carbon emissions for decades to come. Does the Minister agree that reducing our consumption of energy is the most efficient way to reach net zero and keep our energy use to a minimum?
My Lords, I fully appreciate that these regulations are narrow in purpose and I welcome them in addressing market providers who are facing current difficulties such as the termination of contracts for non-performance, timing extended to where the performance of the contract begins and how we can protect the continuity of the capacity market. However, as noble Lords have already pointed out, it is impossible to detach them from the past and present pressures on the capacity market, which secures our electricity supplies.
I hope that the Minister can address one specific question. I accept that these regulations provide the opportunity to meet some of the commitments that were given at the time of the EU annulment in 2018 to comply with state aid approval—there is very little mention of state aid approval in the documentation that accompanies the regulations. Were any commitments made at the time of that judgment which have not been included in these regulations and, if so, can we expect them to come back to this House or, indeed, are the Government looking towards the end of the year for a complete exit from that requirement?
In his introductory speech, my noble friend the Minister touched briefly on the broader context, and indeed in another place the Secretary of State went into greater detail. Indeed, a great deal has changed since I was a Minister for energy, and the White Paper will no doubt provide an opportunity for Members of this House to consider the consequences of technology-neutral auctions, decarbonisation, flexible pricing and the escalating cost and uncertainty of an essential nuclear programme.
However, I hope that the Minister can confirm today that natural gas-fired power generation should be a key part of the UK mix. In a living with Covid future, the re-stimulus of the global economy will have to be based on strong green roots, albeit that energy affordability will be a much stronger part of the post-crisis global policy debate than was the case before the coronavirus began to stalk the globe. Gas is an obvious partner for a global renewable industry which needs to prove to a post-crisis world that firm—which can never be the case for sun and wind—but affordable and reliable power can be delivered to the UK economy, which cannot afford the huge hidden costs of an ever-expanding renewable system: back-up costs, system balancing costs, curtailment costs, new grid costs and nascent battery storage scheme costs. It is gas which must and will continue to improve its environmental performance and should, I hope the Minister will agree, be an essential part of our energy balance.
My Lords, I should like to thank other noble Lords who have spoken in this debate because they have touched on issues that I was going to ask about. I refer in particular to the noble Baroness, Lady Sheehan, who talked about the Government’s promise to increase the number of houses that are to be built. The chances are that they will not be constructed to anywhere near the sort of standards that we need if we are serious about our net zero carbon budget over the next few years.
I also thank the Minister for answering my other queries earlier, but I would like to point out that when he talks about Britain being a world leader in green energy, that is of course in spite of all the government cuts to solar capacity and solar subsidy as well as, of course, closing the wind turbine factory on the Isle of Wight. So well done to those who have taken this particular form of energy seriously, and not at all to the Government.
My Lords, I am grateful to the noble Lord for introducing these regulations and, as my noble friends have indicated, we recognise the need for them in addressing the unique issues that have arisen as a result of the coronavirus pandemic. However, this is a slightly curious statutory instrument in that it combines the urgent measures needed for the electricity capacity market arising from coronavirus with measures to address issues arising from a judgment by the Court of Justice of the European Union and the later decisions of the European Commission. These are two related matters, but they are definitely different. It is hoped that one will be temporary in terms of the adverse impact of coronavirus on capacity providers to meet their obligations, while the other is, if I understand it correctly, a permanent change to the way in which the market works.
With respect to the former, while we recognise that these measures are urgent and necessary, the Explanatory Memorandum tells us that the relaxation and removal of obligations and deadlines on providers will be temporary. Given that the pandemic is likely to continue to impose constraints on those providers, albeit in a less dramatic way than during the initial phase of the crisis, can the Minister set out how the Government will approach what may well be an ongoing problem and not simply a short-term blip?
The second part of the regulations tackles the commitments made to the European Commission to adjust the mechanism in light of the adverse judgment of the Court of Justice of the European Union on state aid rules. This has caused me a little puzzlement. I am unsure about why that judgment has caused the UK to enter into these commitments, given that my understanding is that the CJEU judgment was against the Commission for the way in which it had investigated whether we were in breach of state aid rules, and that the reinvestigation by the Commission found that we were not. So can the Minister explain to the House how that has led to us entering into further commitments?
The changes that the instrument proposes to the current system to implement those commitments are significant. My noble friend Lord Purvis raised the important question of whether it is the Government’s intention that those changes and their decision to ensure that the market is in compliance with the European Commission’s desires on state aid rules is going to continue after transition. Does the Minister not recognise that the integration of our capacity mechanism via the interconnectors with the European energy market really underlines the hollowness of those who believe that we can somehow separate ourselves entirely from European Union markets or indeed from the EU’s regulatory systems?
I hope that the Minister will be able to give us a little more detail about the impact of some of these changes. In particular, can he explain the exclusion of stand-alone batteries from the mechanism? How will that impact on the expansion of storage within our electricity system which, as my noble friend Lady Sheehan pointed out in the previous debate, is critical if we are to restructure our energy infrastructure so that we can underpin the increased use of renewables within the system?
My noble friend also made the important point that the best way to maintain adequate capacity is to reduce consumption. She raised in particular the issue of new homes, which was also raised by the noble Baroness, Lady Jones. In that context, will the Minister answer the question that I put to him yesterday, but which I fear he chose to sidestep, and tell the House definitively, one way or the other, whether the new homes that were announced this week by the Prime Minister under the new homes programmes, will be built to net zero standards? It is a simple question and I hope that on this occasion he can give me a simple answer.
Finally, I welcome the reduction in the minimum capacity threshold that is set out in these regulations. As the Minister suggested, it is hoped that this will allow more providers to compete in the market, and in particular that it will allow smaller and more innovative providers to take part. With that, as I have said, we recognise the need for these regulations, but we would be grateful if the Minister could answer the questions that I have put to him.
I thank the Minister for his considered explanation of the instrument before the House. As he explained, it has two purposes: to support market participants during the pandemic by removing or relaxing temporarily certain obligations or deadlines that they are contracted to adhere to during the current delivery year of 1 October 2019 to 30 September 2020; and to make permanent other changes to the capacity market as a consequence of the judgments made by the Court of Justice of the EU in October 2019 over the state aid provisions that the capacity market entailed. These regulations are also under the Energy Act 2013 to provide capacity in the electricity market to meet consumer demand.
On the easements in response to the effects of the pandemic, the measures are sensible, temporary, proportionate and flexible. Once there was full clarity, the consultation did not seem to expose strong disagreements or objections, albeit that it lasted for only one week at the end of April. It is recognised that where capacity market contractors have problems with construction deadlines, supply chain supply issues or financing arrangements there should be leeway and discretion to help them through any present difficulties.
The necessary changes following the Government’s agreements to alterations to the capacity market operations after the EU’s state aid judgments need further critical appraisal. At the time of the EU court’s annulment, there was anxiety that the capacity market was not fit for purpose and did not operate fairly, especially regarding demand-side response—DSR—measures, which had made complaints once the market came into being after the EU initially had passed the state aid provisions. The two changes made to the demand-side response measures are welcome, and arguably the disruption could have been avoided if they had been enacted at the outset. The other three measures are also, in many regards, helpful to DSR, are welcomed and seem to allow for a more flexible, more competitive market through the T-1 capacity auction, reduction on minimum capacity thresholds and interconnectors.
That is as far as the regulations go. Can the Minister set out any further commitments given at the time of the judgments that are not included in these measures? Does that mean that further amendments will be brought forward at a later date, or will they be held up in further negotiations until December and may never come forward? I understand that these commitments are regarding interconnectors and deal with the prequalification of foreign capacity to the system, because they are not in the UK to be able to bid into the capacity market, and are not to do with either the actual size of the interconnection or whether more interconnectors will be built. Could the Minister explain the implications of this and what the current position is?
Could the Minister also explain what changes there might need to be regarding generation emission ceilings on capacity? When traditional technologies such as gas-fired generation bids into the capacity market they must quite rightly comply with legislative plans to limit emissions. There has been a consultation on whether to limit emissions by both kilowatt-hour of electricity and the average per year. Has the Minister’s department come to any conclusions on these matters, especially since, as I understand it, commitments to bring forward changes were made at the time of the court’s judgment?
I am content to approve the regulations, but seek reassurances from the Minister regarding the capacity market’s possible further developments. Perhaps he might finish by clarifying how much further delayed the energy White Paper, which would so helpfully shed light on all these matters, might be?
I thank noble Lords once again for their valuable contributions to this debate. The capacity market has played, and continues to play, a key role in maintaining secure electricity supplies for consumers and businesses in Great Britain. The market is tried and tested, and it is working. It has secured the capacity we need to cope with unexpected peaks in demand until 2024 at prices far lower than expected.
As older, dirtier generating capacity has retired—we are now down to our last coal plant in the capacity market—over 10 gigawatts of new-build capacity has come forward to replace it, including renewables and smart technologies, in response to the noble Lord, Lord Oates, such as battery storage and demand-side response. I will take this opportunity to reply to the question from the noble Lord, Lord Mann, on coal. We remain committed to switching away from coal. It is our ambition to bring forward the date by which unabated coal must be phased out, which is currently 1 October 2024. The closure date for specific stations is a commercial matter, but we hope that they might even close ahead of 2024. We are committed to this switch. We have made changes to the capacity market rules to apply carbon emission limits to existing plant, which should prevent coal securing capacity agreements from 1 October 2024, in line with our ambition. As I said, we hope that they will close earlier.
It is essential that the design of the capacity market adapts to an ever-changing world if it is to continue delivering on its objectives of ensuring security of supply at least cost and supporting our decarbonisation plans. Recent changes include the introduction of carbon emission limits into the scheme, which will prevent the most carbon-intensive capacity competing in future auctions. The list of renewable technologies that can compete in the capacity market has also been expanded to include onshore and offshore wind and solar photovoltaic. These changes will directly support our wider efforts to decarbonise the energy sector.
The proposed changes contained in the instrument continue this trend of continual evolution and improvement of the capacity market. By ensuring that the capacity market continues to comply with its state aid approval, the instrument will ensure the continued operation of the scheme and engender confidence among market participants. Many of the changes contained in the instrument, such as the reduction in the minimum capacity threshold from two megawatts to one megawatt and enabling demand-side response to access multiyear capacity agreements, are in line with the reforms identified in my department’s five-year review of the capacity market, published in July 2019, and aimed at better facilitating the participation of demand-side responses in future auctions.
That brings me to the various questions asked by noble Lords, in particular the Liberal Democrats, who never fail to disappoint in these matters. Actually, though, they posed exactly the question I asked when these regulations were first put in front of me: why are we complying with these commitments if the UK is leaving the European Union? It is indeed a very good question. The noble Lords, Lord Purvis, Lord Oates and Lord Mann, and my noble friends Lady McIntosh and Lord Moynihan all raised similar points.
These commitments are consistent with the domestic policy for the capacity market set out in our five-year review, which my department published in July 2019—in other words, we would have moved to implement them anyway, regardless of our obligations as a member state. We are currently in the transition period as set out in the withdrawal agreement, with which we are all so familiar, so European law continues to apply to the UK until the end of the year. We will then be able to implement our own state aid regime. We are working at pace to develop this policy and will share more details on domestic subsidy control with key stakeholders in due course.
We believe strongly that we must retain our sovereign right when deciding how and when to spend taxpayers’ money to intervene in markets to support business, workers and consumers. The UK’s subsidy control regime will not involve any alignment with EU rules. I realise that is a challenge for the Liberal Democrats, but they will be able to continue to contribute to these debates. We will have our own debates in our own Parliament about what our domestic state aid regime should be, which I think is a good thing.
The noble Lord, Lord Campbell-Savours, and the noble Baroness, Lady Sheehan, talked about interconnectors. We continue to believe that interconnectors make a valuable contribution to the UK’s security of supply, while increasing competition and diversifying our electricity mix. Many of our interconnected markets have a high penetration of renewables and low-carbon electricity; much of the electricity imported into the UK through interconnectors from France is zero-carbon nuclear-generated electricity.
My noble friend Lord Moynihan asked why the state aid commitments are not in the regulations. We have laid out the capacity market rules, which complete the implementation of the majority of the commitments, including the introduction of carbon emissions limits. The final commitment on enabling foreign participation does not need to be introduced now. We will consider further arrangements and consult in due course.
The noble Lords, Lord Purvis and Lord Oates, continue their obsession with the European Union—I am joking, obviously—and ask about participation in the internal energy market. We will not be seeking alignment with EU law. The UK will make independent decisions on our energy policies, and will be leaving the internal energy markets. I am sure they are thrilled to hear that.
The noble Lord, Lord Campbell-Savours, asked why we are not doing more to support pumped hydro. In 2019 we published our five-year review of the capacity market, which noted that some new-build pumped hydropower storage projects have very long construction times that may make participation in the capacity market difficult. Therefore, we are exploring options for addressing this issue. I agree with my noble friend Lord Moynihan that natural gas should continue to play a part in the overall energy mix.
Many noble Lords raised important points about the energy policy in general; they will be aware that we are currently working on an energy White Paper, which will be the best forum for considering the range of challenges faced by the electricity sector as we move towards delivering net zero. This White Paper remains a priority for the Government and will be published soon.
My noble friend Lady McIntosh asked about long-term store contract holders who might not being able to compete. We believe that there is no longer a risk of windfall profits for providers holding both capacity markets agreements and long-term store contracts, and therefore no reason to continue excluding them from the market. Allowing them to be included could increase competition.
The noble Baroness, Lady Sheehan, and the noble Lord, Lord Oates, asked about energy efficiency and supporting continued energy efficiency in homes. We are publishing a home heat review later this year. We are committed to our clean growth strategy aspiration that as many homes be upgraded to energy performance certificate band C by 2035 as is practical, cost-effective and affordable. Furthermore, this draft instrument ensures that the capacity market adapts quickly to address the effects of coronavirus on existing capacity providers by proposing targeted and temporary measures where coronavirus has impacted the ability of capacity providers to meet some of their obligations under the capacity market.
In summary, this draft instrument is necessary to ensure the continued security of electricity supply, by ensuring that the capacity market continues to comply with state aid approval, and by supporting capacity providers during the coronavirus pandemic. I commend it to the House.