Lords motion to approve the Renewables Obligation (Amendment) Order 2018 - July 9

That the draft Order laid before the House on 4 June be approved.

My Lords, this draft instrument seeks to amend the Renewables Obligation Order 2015, which provides the framework for the operation of the renewables obligation scheme in England and Wales. The purpose of this draft instrument is to control the costs to consumers of supporting new large-scale generation from two types of generating station: biomass conversion stations and co-firing stations. Biomass conversion stations are former coal plants converted to run wholly on biomass. Co-firing stations run on a mixture of coal and biomass.

The renewables obligation scheme has been the main financial mechanism to incentivise large-scale renewable electricity generation in the UK. It is now closed to new biomass co-firing and conversion projects, but existing projects will continue to receive support up to 2027. The scheme does not provide direct cash payments to renewable generators. Instead, it operates through a system of tradable renewables obligation certificates. Ofgem issues renewables obligation certificates to generators in relation to the renewable electricity they generate. Generators sell these certificates as tradable commodities.

An annual obligation is placed on electricity suppliers to present a certain number of these certificates to Ofgem, the scheme’s administrator, in respect of each megawatt hour of electricity they supply to consumers. It is assumed that the cost to suppliers of complying is passed on to consumers through their energy bills. The renewables obligation scheme has been highly successful, with over 25,000 stations across the UK, and generation equivalent to 22% of the UK electricity supply market. However, the Government are committed to keeping energy bills as low as possible for consumers.

Biomass co-firing and conversion generating stations have an important transitional role in decarbonising the electricity grid and can generate at high levels more or less continuously. However, stations accredited under the renewables obligation scheme can increase the amount of biomass they use quickly, and without any prior notification. This could significantly increase support costs. The Government acted in 2014 to discourage deployment of new generating capacity by removing grandfathering for certain co-firing and biomass conversion generating stations. Grandfathering gives guarantees of support, but despite these changes, evidence in 2017 suggested that significant unforecast generation was still likely. Without intervention, we estimate that the additional spend under the renewables obligation would increase average household bills by up to £2 a year. Business users with low electricity consumption would see increases of up to £140 a year, and the bills of energy-intensive industrial users would increase by up to £53,000 a year.

To control these costs, this draft instrument applies annual caps on the number of renewables obligation certificates that certain stations or units can receive. Capped stations are not protected by grandfathering policy. The number of certificates these stations can receive in each obligation year will be capped at 125,000 certificates for each combustion unit of which the station is comprised. Mixed generating stations combine capped units and exempt units which continue to benefit from grandfathered support. The total cap for the station will be an estimate of the number of certificates likely to be issued for generation by the exempt units during the obligation year, plus an allowance of 125,000 certificates for each of the station’s capped units.

The instrument also makes technical changes unconnected to biomass conversions and co-firing. First, it brings certain combined heat and power stations into line with an existing requirement to provide a declaration that subsidy will not be claimed under another support scheme. Secondly, it clarifies that existing greenhouse gas trajectories in the 2015 order apply equally to electricity-only dedicated biomass stations and to those with combined heat and power. Lastly, it corrects some minor typographical errors.

In conclusion, the Government are committed to keeping energy bills as low as possible for consumers, while cutting greenhouse gas emissions and supporting economic growth. The flexible-cap mechanism implemented through this order balances the interests of generators and consumers. Stations will be able to optimise generation across their units. If generators decide to maximise output at their exempt, grandfathered units, there will be no restriction on the number of certificates for those units, provided the capped units remain within their allowance. This flexibility will allow units to generate more when electricity demand is highest. The cap protects consumers by limiting the number of certificates that will be issued. The size of the obligation for electricity suppliers is set each year, based on the number of certificates expected to be issued. The obligation for this year takes account of expected generation under the caps. Future obligations will do the same. The caps will not cause a shortage of certificates, nor a rise in their value. I commend this order to the House.

My Lords, I understand the purpose of this order; it covers one of the problems that many in the renewable industry have faced, especially the problems associated with a sudden rise in the number of people wanting to claim FITs. However, will the Minister say whether this is part of a longer-term strategy to deal with renewable heat, which is very difficult, and ROCs was one of the main planks for dealing with it, or whether this is just a way of making sure that the subsidy cap falls within the budgetary requirements set? I declare an interest as CEO of the Energy Managers Association—so I quite understand my members’ need for lower bills. However, if we are to diversify the energy systems, we need to look at biomass quite carefully. I quite understand that ROCs is an expensive way forward on this. One final question: does this have any effect on the anaerobic digestion industry?

I thank the Minister for his explanation of this order, which seeks to control the costs of supporting two forms of renewable energy generation under the renewables obligation scheme: in former fossil-fuel generating stations using as fuel biomass, or a mixture of biomass and fossil fuels—called co-firing. It also requires a declaration to be provided by certain stations when claiming support for combined heat and power generation, and clarifies the greenhouse gas emissions trajectories with which certain CHP stations must comply.

It must be said at the outset that although this RO scheme has not yet come to an end, it is now closed to new applicants and has been superseded with a contracts for difference scheme. It also needs to be said that, in 2011, the Government introduced the levy control framework to govern the budget for low-carbon electricity schemes, including the RO scheme, which are paid for through consumer bills.

The operation of the LCF has come in for considerable criticism for being opaque and disingenuous, such that in the Autumn Budget 2017, the Conservative Government announced the control of low-carbon levies to limit new levies until the LCF can be seen to be falling. The scheme here is set to achieve a further constraint on expenditure by setting a limit on the number of ROCs that can be applied for. It is fair to say that in the other place there was a long debate on whether this order would achieve the intention, as the amount of expenditure can vary according to the price of ROCs in the market.

The accompanying documentation to the order appears to confuse the process of creating a ROC, which is done by the generating station producing a certain amount of power and hence creating a ROC, and accounting for the value attached to that ROC, which is created and varies according to the demand for ROCs by suppliers which are obligated to purchase them from generators to meet their renewables obligation quotas. However, it does not follow that the reduction in the number of ROCs issued translates directly into savings in overall amounts paid for ROCs, and hence savings on customers’ bills—an amount set against the LCF—because ROC prices vary with supply and demand against the obligation level. The reduction in supply may send the value of a ROC up because more people are bidding for fewer ROCs to meet a fixed obligation level. The calculations attached to the SI do not appear to take this factor into account, but instead treat the estimated range of income as a fixed range determined by the number of ROCs.

As part of the consultation, several comments reflected that this could lead to discouraging biomass in a co-firing plant. This order could have a perverse effect and the proposals could potentially place more coal back on to the system, and do not properly account for the mechanisms behind ROCs. We therefore have great reluctance in passing the SI and suggest that the Government should take the measure away and recast it. It is a complex jigsaw that seeks to use the number of ROCs as a way of constraining expenditure, when the price of ROCs is not set but can vary. There are serious misgivings that the scheme will not do what it claims. However, as a scheme that is now replaced by the CfD scheme, the situation may be contained over time. With that, I can reluctantly approve the order.

My Lords, I am grateful to the noble Lord, Lord Grantchester, for his comments. He started off by saying that he had some doubts about the order, as to whether it would lead to lower costs, but as I made clear, we have made this intervention because we wish to see lower costs for consumers. That is why I made it clear that, on average, without this order, we would see additional costs to the consumer of about £2 per household and higher figures for business users and considerably higher figures for some of the more energy-intensive users. I think it is right that we should make such an intervention in the way that we are to achieve those ends. I am therefore grateful that the noble Lord ended by at least agreeing to support the order in full today.

The noble Lord was also worried that there would be an impact on the ROC market. We believe that the mechanism is compatible with the operation of the renewables obligation and will not lead to the market shortage that he was worried about nor inflate the price. The annual obligation set by BEIS fixes the cost of the renewables obligation and provides for the demand of ROCs. The obligation level is calculated by estimating the number of ROCs likely to be issued during the obligation year and then inflated by a 10% headroom to ensure that there is still demand for ROCs, even if the actual number of ROCs issued turns out to be higher than estimated—for example, if it is windier or sunnier than forecast when we set the obligation. The impact of the caps on generation are factored into the annual obligation calculation, so it will be lower. All else being equal, demand will not outstrip supply. However, I am more than happy to write to the noble Lord in greater detail about how we feel that the market works.

As regards the questions from the noble Lord, Lord Redesdale, on how the long-term strategy will affect combined heat and power, the purpose of the instrument is to control the unexpected costs from biomass, biomass co-firing and conversions, and to protect consumers. It certainly does not affect support for renewable heat. Remembering both the noble Lord’s and my interest in anaerobic digestion from my time in Defra, I can also give an assurance that this affects only biomass co-firing and biomass conversion and has no effect on anaerobic digestion. I hope that, with those comments, noble Lords will agree to the order. I beg to move.