A lot of strange things have been happening in the European power sector lately, from negative prices, to utilities closing down brand new power plants and, naturally, action in various places to cut support for renewable energy (done in Spain and even mooted in Germany).
I've long described renewable energy producers as a price takers (i.e., they don't influence market prices in the short term and have to "take" market prices as set by other factors), but we are getting to the point, in a number of places, where the penetration of renewable energy is such that it has a real macroeconomic impact on the prices of electricity, and thus on the way power markets run. There's also been a big political battle brewing, as renewables "subsidies" are targeted by governments at a time of austerity in Europe, egged on by hardly disinterested utilities.
It is worth deconstructing what's been happening.
First, the price story.
In the good old days, wholesale prices of power followed the price of natural gas, as gas-fired plants are the producer of the marginal kWh most of the time. This is still the case in the USA, and it looks like this:
(
source: neutroneconomy)
Retail prices tend to follow the average wholesale cost, plus a slice for distribution and taxes which can vary quite wildly from country to country:
(
source: eurostat)
But we've seen prices diverging across markets over the past two years, as shown in the following slides:
- gas prices diverging sharply across continents (notably as a result of the gas shale developments in the US, and increased demand for gas in Japan following the Fukushima disaster, while European prices remain largely indexed to oil):
(source: fidelity)
- power prices diverging from gas prices - and from retail prices:
(source - wikipedia)
(source: reneweconomy)
The last one, in particular, shows that German wholesale prices have been trending down over the past year, despite the closure of close to half of the nuclear plants of the country, and despite the persistently high natural gas prices on the continent.
These trends are caused by the increasing penetration of renewable energy (mainly onshore wind and solar, in Germany) which tends to provide a now visible share of supply and thus reduce demand for mid-load producers and peakers over more and more periods throughout the year. As the graphs below shows, on good days in the warm season the PV capacity can eliminate the need for intermediate load; in winter, wind takes over:
(source: DoDo (ET)
(
source: carboncounter)
In a country like Germany, new renewables now represent around 50% of the overall installed capacity, and more than 20% of the actual generation, and the contribution of the support regime (the "EEG-Umlage") to retail prices has become a political topic lately, as noted above, despite the fact that retail prices increases have been caused, for the most part (and in particular until 2009) by increases in gas prices. In recent years, Germany has seen a combination of declining wholesale prices and slightly increasing retail prices.
This leads us to a first hidden truth: the massive increase in renewable energy production is not paid for by consumers, but by traditional producers who see their revenues decline as the price they earn per MWh goes down. Utilities, which see their margins on the retail side increase, but have very little renewable energy production capacity of their own are caught between two conflicting trends. Unsurprisingly, they are blaming renewables, and do not hesitate to point fingers at their support regimes as the cause of rising power prices, in the hope that these regimes will be weakened. They claim they are victims of unfair competition from "heavily subsidized" sources which have priority over them and can dump power with no worry for consequences into the network.
In a sense, utilities have been consistent: one of their past arguments was that renewables would never reach critical mass and thus were not a serious solution to reduce carbon emissions. And they surely did not take recent investment decisions with the scenario of heavy renewable penetration in mind, otherwise they would not have been so surprised by the impact they have on power prices (the infamous "merit order effect" - which I discussed in detail at least 5 years ago, and which was already the topic of academic papers before that). But they are stuck with old plants, and even more recent ones, which are increasingly uneconomic in today's markets, caught between high fuel prices and lower power prices.
There are some unique factors to the current situation. One is the general stagnation of the region, which is pushing demand downwards and thus prices as well. The other is the temporary higher use of coal-fired power plants, which itself comes form a combination of factors - cheap imports from the USA (where coal use is displaced by cheap shale gas in power generation) made coal more profitable than gas and regulatory incentives mean coal plants have (under the (the Large Combustion Plants EU directive) a limited number of hours to run and operators have every reason to use these up quickly if the plants are profitable (UK coal plants have the additional incentive that a carbon tax will be imposed on them from April 2013).
But the result is that utilities are not making money on their current fleet - not on gas-fired plants, barely on their coal-fired plants, and they don't have enough renewable energy capacity. And that is the result of policies applied for the past 10-15 years across Europe, so it's not like they had no warning and no notice...
To be fair to them, the system still needs their capacity (because renewables are not available on demand, and do not provide the flexibility required in the very short term), and that needs to be paid for. In the previous regime, where power prices are determined by gas prices, it is possible to pay for the flexibility in the form of price spikes that give the right signal for mid-load and peaker gas-fired (or oil-fired, or hydro) plants to be used, and their frequency of use was relatively predictable over a year, allowing for a sound business model to be implemented. Now, with plenty of renewables, the price signal is completely different. There are many more periods of very low prices when renewables flood the system (and this is particularly the case in places with lots of solar, as it is available during the day, ie when demand is stronger and thus prices used to be higher). This has two consequences: gas-fired plants get much less use than in the past (and less than their business plans expected), and baseload plants like nukes or big coal-fired plants get lower prices during periods when they were cashing in more money. The latter earn less money (but still run); the former suddenly runs a lot less, which has income implications but also consequences for gas consumption and storage - patterns of use become very different, moving from the usual "once a day" pattern (a few hour at peak demand times), to short bursts several times a day (as renewables drop out), or very long periods of use over multiple days when renewables are not available at all.
Given that the penetration of renewables changes every year, it is hard to identify the business model to use for flexible plants - and even harder to know what it will be in 1, 5 or 10 years from now. These plants will be needed, at least to some extent, and they need to be paid for, and that cannot really happen with today's regulatory regime (and stopping support regimes for renewables won't change that now: the existing stock of wind and solar is already big enough in several countries to keep the current market arrangements broken). One solution, thankfully being considered in several markets (and which already exists in places like California), is to put in place a capacity market, where plants make themselves available for rapid changes in output, without actually producing anything most of the time, and get paid for that availability: they sell MW rather than MWh.
The politics of this are messy. You can have articles saying (without any real argument) that "Too much green energy is bad for Britain at the very same time that you have record cold weather, with critical weakness in the gas supply infrastructure and wind actually coming to the rescue... (the UK this week).
People are presenting capacity markets as another subsidy to renewables (whereas system security has always required a significant margin of unused capacity for safety, given that power demand varies from 1 to 2 or one to 3 every day, peaks can be more or less intense depending on weather, and even large plants can go offline on a scheduled or unscheduled basis - that margin was simply paid for in a different way, either by imposing capacity buffers on utilities, or through spot price peaks that are high enough to pay in a few hours for the peaker plants which are idle most of the time). There's naturally a push to stop further investment in renewables - but here's the second hard truth: the cat is out of the bag: once renewable energy reaches a critical mass, its impact on power systems is pretty much irreversible and no amount of lobbying by utilities is going to get them their previous business model back: wind turbines and solar panels are there and they will keep on cranking out zero-marginal-cost MWh for a very, very long time...
And one last point: the more renewables you have in the system, the less it is possible to take out the regulatory support regime, because the more spot prices tend to go towards zero - which makes investment in renewables (or in any other kind of power generation assets, for that matter) impossible. So "grid parity" is an illusory target, in a sense, because it is a moving target. You need to start looking at overall cost for consumers, and that's a different animal again (linked to average costs of production, which becomes a political debate about the cost of money today - which drives the actual cost of wind - vs the cost of gas in the next 20 years - which drives the expected cost of gas-fired power)...
Part of the wind power series.
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