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The Targeted Charging Review for Dummies

Nathan Bennett, Senior Public Affairs Manager at RenewableUK

Anyone who cares about renewable energy has recently discovered that there are five languages native to Britain – English, Welsh, Gaelic, Cornish... and Ofgem. Hopefully, by the end of this blog I’ll have translated Ofgem’s Targeted Charging Review into plain English, and explained why it’s seen as damaging to the renewable industry if it goes ahead without wider reform to offset the additional costs.

First, you have to start with a little understanding of the UK’s electricity system. There are really four key parts to it:

- Generators produce electricity and sell it in the wholesale market. In 2017, 40% of UK electricity came from gas, 21% from nuclear and 29% from renewables.

- The transmission network is the network of high-voltage lines that carries power across long distances, from large generators (such as gas power stations and offshore wind sites) to large industrial consumers and distribution networks. Think of these as your motorways, carrying power across the country.

- The distribution network is the low-voltage network that has conventionally carried power from the transmission network to consumers (you and me), usually at lower voltages. In Great Britain there are 14 different distribution network operators (DNOs), owned by 6 different groups and a number of independent companies known as iDNOs. These are your minor roads taking power to the consumers.

- Suppliers purchase electricity in the wholesale market and sell it to consumers (me, you, businesses, etc). They supply and fit smart meters too.

Maintaining the transmission network and the distribution network costs money. On top of this, in order to keep the transmission network stable (i.e. that electricity supply meets demand, second by second), National Grid have to pay for ‘balancing services’ – a set of processes that help keep the power system stable and balanced. Again, these services cost money.

So, who pays for all of this?

Everyone pays charges in some way. Generators pay to use the network and transport the electricity they produce. Suppliers pay to use the network to access the electricity they need for their customers. Suppliers are then responsible for collecting network charges from their customers (often referred to as ‘end consumers’).

Here’s where it becomes a bit more complex. Ofgem vary the charges levied to fund the three core elements (transmission network, distribution network, and balancing services). So there are:

- Transmission Use of System Network Charges (TNUoS). At the moment the overall cost of maintaining the transmission network is split between Generators (around a quarter) and consumers (around three quarters). The charges on generators vary greatly, depending largely on what type of generator they are (wind, nuclear, gas, etc) and on where they’re located (there are 27 different zones). Based on guidance from National Grid, this charging system strategically attempts to incentivise power generators to build where it’s needed (close to demand) and ensures that those generators who place higher demands on the grid pay more. As a result, the charges offshore wind generators pay vary, and some receive ‘negative charges’, or credits. We’ll come back to this later.

- Distribution Use of System Charges (DUoS) – these charges depend on where on the network you are, the voltage level of your connection, when in the day you use the network and how much you consume. Generators pay DUoS charges too, for using the network to carry electricity they’ve produced. Again, important to remember that we currently charge consumers depending on how much energy they use, we’ll come back to that later too.

- Balancing Service Use of System Charges (BSUOS) – these are split 50:50 between consumers and larger (transmission and distribution connected) generators. It is worth noting that only some of the generators connected to the distribution network pay this charge – this is because they’re in distribution networks which are exporting energy back onto the transmission network. They’re in Scotland and pay at times of high generation and low demand. Apart from this case, all generators connected to the distribution network do not pay BSUOS charges. This is the final note to remember.

Only true energy geeks might tread into the next two paragraphs, but it is critical to recognise that, overall, there are two sets of charging arrangements, covering two elements of running the system. Bear with me.

1. The charges outlined in this blog cover the residual’ costs of the running the network. In other words, the ongoing costs of historic network investment and maintenance.

2. There are a different set of forward-looking’ charges, which aren’t covered in detail here, but are designed to recover the costs associated with new generation and new demand being added to the system (for example, the cost of laying new cables).

Ofgem are currently also running an ‘Access and Forward-looking Charges Review’, in which renewables connected to the distribution network are likely to see a significant shift in their forecasted charges and additional costs. We can’t comment on the changes coming forward in that review because Ofgem haven’t been clear about what they are – and that’s critical. As an analogy: If I approached you and said I was increasing your water bill by £20 but lowering your electric by £20, you’d be calm. However, at the moment all we know is that our water bill is going to go up, and our electric bill is going to change somehow.

So, what are the changes Ofgem are proposing and why is everyone who cares about renewables worried about them?

So firstly, Ofgem are proposing reforms to charging for the Transmission Network (TNUoS) which, on their own, will be bad for transmission-connected large scale renewables (and in some cases I really am talking large scale, our offshore wind turbines are now bigger than the Gherkin).

1. If you’re a wind developer who currently receives a negative residual charge (credits), you’ll lose this under these reforms.

a. Some developers who have already signed Government contracts to build offshore wind sites aren’t aware of the charges they’ll be paying in the future. Government contracts are incredibly competitive. Ofgem have said that, given this environment, “There is a risk that these changes could lead to the cancellation of some projects, including renewable generators which have been awarded [Contracts for Difference] contracts and smaller generators which have been awarded [Capacity Market] contracts, which are not yet online and which would face an increase in charges under both of our options.” Their accompanying impact assessment estimates that the cost to CfD projects will be between £1.4-3bn - way more than what is available under the Government’s current CfD budget of £557m.

b. When the Government (on behalf of ‘we; the consumer’) come round to auctioning off future contracts to build offshore wind sites, they’re going to find they’re paying more per unit of energy to cover the additional costs that will come with higher network charges, which isn’t great for consumers.

2. If you’re an offshore wind developer who doesn’t receive credits, the changes to TNUoS network charges still aren’t great news. Generators know that there are going to be charged for some elements of the Transmission Network, but we don’t know how large the charges will be or how they’ll be collected yet.

3. As developers of onshore wind are unable to bid for Government power contracts (even when they’re subsidy-free), some are instead looking at ‘merchant models’ (basically, where they sell power on the wholesale market without a Government contract). Additional network charging costs makes merchant onshore wind riskier and more difficult to deliver, at a time when the UK is already building too few onshore wind turbines to meet our climate change targets and keep consumers bills down.

So I’m afraid that’s only the first issue.

If you can remember far enough back along this mammoth blog, most generators connected to the distribution network currently don’t have to pay to help balance the grid (BSUOS charges). In fact, they’re currently paid by suppliers, because the electricity they generate on the local grid reduces demand on the Transmission network (it’s like buying apples from the farm next door, rather than having lorries trundle down the M1). This reduces the costs suppliers have to pay to balance the grid.

These Balancing Services charge changes are also under the TCR. Despite the continued benefits they’ll bring through reducing demand on the transmission network, all generators on the distribution networks will have to pay for the costs of balancing the grid, and won’t be supported by payments from suppliers. The obvious result, the costs of building new renewable generators rises, we delay the roll-out of the lowest-cost renewable generators and existing generators have to figure out how to take on additional costs.

It’s worth noting that, of the TCR proposals, these “BSUoS” changes have been the worst received by the renewables industry. That’s in part because, unlike the changes to Transmission Network Charging, Ofgem didn’t fairly consult on these proposals in advance. In comparison, changes to demand residual charges were well-communicated to industry with progress under the reform presented to industry on events such as Charging Futures.

A recent report by Oxera, which looks at the likely consequences for the renewables industry of both of the two key changes I’ve just outlined, estimates that they’ll increase the levelized cost of electricity to wind and solar of £4.45-£5.5 per megawatt hour (MWh). A couple of pounds doesn’t sound much, but to give you an idea of how it stacks up, the wind turbines in the UK currently generate around 56.4 million MWh each year. This increase alone could put at risk up to 62GW of potential solar and distribution-connected wind generation. Again, to give you an idea of how significant that is, 62GW of wind would provide enough power for around 44.4 million homes each year.

Oxera’s analysis also points out some significant flaws in the modelling undertaken for Ofgem. Ofgem’s own evidence says that CO2 emissions will increase as a result of the changes to BSUoS and Transmission Generation Residual, which is bad enough, but the Oxera analysis has found that the changes could actually increase power sector carbon emissions a further 1-3%! That’s 4 – 8 million tonnes of extra CO2 in the atmosphere each year.

The final issue is another textbook example of why these proposals shouldn’t have been put forward in isolation.

At the moment, consumers (we) are charged based on our energy use. The more power you use, the more you pay. Ofgem want to change this in recovering those so-called ‘residual’ network costs. Under the proposed new system, people will be given a ‘fixed charge’ depending on the category they’re deemed to fit into (‘domestic’, ‘commercial’, etc). The rationale is that we all benefit from the grid and have to pay for it, so why should the people who are able to use less energy pay less, and people who can’t reduce their energy use have to pay more.

The issue: a blanket charge completely ignores the circumstances behind why people are using energy less. They might live in fuel poverty, they might have proactively insulated their house, or they might have installed small renewables and battery storage, or are adapting their power use to compliment the changing demands of the grid (known as ‘Demand Side Flexibility’) – and this lower use has a wider benefit of reduced pressure on the network. Perversely, high consuming energy customers will directly benefit, despite their increased usage and impact on the network.

Again, these changes might not necessarily be bad if they’re done within wider reform, in a timely manner. Currently one set of changes is set to come into force way ahead the other making it hard to see the bigger picture yet, let alone respond to it.

There is a lot within the voluminous document that is the Targeted Charging Review, but these are the key issues as we see them.



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