There’s only one thing wrong with the Capacity Market – and it isn’t the price

In truth, there are many things wrong with the Capacity Market (CM) – the UK Government’s flagship policy for the security of national electricity supplies. Among these is not whether or not the CM will work. It will – the lights will stay on. Probably.

Nor is it the somewhat disappointing price in the first CM auctions, which this week hit a historic low of £6.95/kW per year. Admittedly, this was for the ‘bonus’ early auction for delivery from October 2017; the four-year-ahead market managed a more respectable £22.50/kW in December’s auction. Prices like that will delight Government: the consumer is getting supply security for only a modest hit on bills. The lesson is that auctions discover prices, and Dutch auctions discover low prices. Government made a shrewd pick of auction format for the CM.

Most of my thousand gripes about the CM are details which are eminently fixable. Flexitricity’s demand response portfolio is made up of a broad mix of flexible loads, combined heat and power (CHP) generators, critical power supplies and small hydro generators. This diversity is a massive part of its success, but the CM wasn’t designed to recognise that. Fitting flexible customer-side assets into the CM is like playing chess in boxing gloves. It can be done, but it’s pointlessly awkward.

The basic structures of energy policy aren’t wrong either. We live on an Atlantic archipelago that’s sometimes windy, sometimes wet and sometimes sunny, and which is surrounded by tidal and wave energy. We should be doing all we can to use our free resources in preference to burning commodities which come loaded with financial and environmental risk. We pay renewable resources to churn out the megawatt-hours as much as they can. We don’t pay them for reserve or capacity services, because that’s not what they do best. This means that the balancing capacity – traditionally gas, coal and oil burners, but now also demand response and batteries – isn’t going to make all of its living selling energy. So we pay such ‘despatchable’ resources for the security they provide. Taken as a whole, and setting aside Westminster’s recently-acquired fear of a wind turbine that anyone can see, this combination of policies – for green energy and reliable capacity – makes sense.

Back to those lights, and their staying-on-ness. Secretaries of State don’t get to use the word “probably” in this context. But that’s government policy. Perfect security costs infinite money, and no-one wants an infinite electricity bill.

The UK is in good shape when it comes to raw megawatts, if we count – and we should – energy efficiency and flexible consumers. They are part of the mix. Our Loss of Load Expectation (LoLE) sits at around 0.5 hours each year – that’s the number of hours in which we expect somebody, somewhere in GB, to be going without electricity because there isn’t enough. Government’s target LoLE is three hours. That’s what politicians mean when they say “the lights will stay on”. They mean probably.

This winter, France suffered the nightmare of all those concerned with reliability: a type fault. Type faults are faults affecting many different stations of a similar type. In this case, it was the discovery that many of France’s nuclear reactors had been made with the wrong type of steel, and were at risk of ageing disgracefully. Prior to the discovery of this fault, the French grid operator RTE had estimated LoLE at a respectable 1.25 hours. 2016/17 is the first winter I can remember in which we regularly exported power to France during our weekday evening peak.

Diversity is important in security, and being technology-neutral, the CM has the potential to encourage a broad mix of resources to participate. It has largely delivered this in all but one category – new-build generation. It is in this category that the CM’s real flaw is found.

The CM is buying the wrong stuff, and it’s doing it because it’s a single-issue policy that joins up with nothing.

Under the CM, it’s possible to get a 15-year contract if you’re building a new generation site, but everyone else must take shorter contracts. This means that the CM strongly favours low-capex projects. This delivers one thing: engine farms – rows of reciprocating engines, gas or diesel, in shipping containers.

It is a post-hoc rationalisation to claim that engine farms are what’s best for the consumer. They win where today’s capital cost is the only consideration. It’s also a calumny to claim that engine farms are there to balance wind. This is nuts: wind generation varies, but over timescales of hours and days, not minutes and seconds, which is where engines have a place. We do sometimes get storm shutdown events that result in a fast drop in renewable output. For that, engines are fine. But we’ve got enough – there are more megawatts of standby diesels already installed in the UK than there are of wind farms.

December’s auction saved some face, but not enough. Centrica’s repowering of King’s Lynn A will give us a nearly-new combined-cycle gas turbine CCGT. Intergen’s Spalding extension will produce a large open-cycle gas turbine (OCGT), which will probably compete with engine farms on efficiency, but not with a new CCGT.

An engine farm might manage an efficiency of 41% if it’s gas, or 38% if it’s diesel. That means around 60% of the energy put into an engine farm is blown into the sky as waste heat. Compare that to a new CCGT at 61% or more, or, better still, a CHP in a district heating network with a total efficiency approaching 85%. If the CHP has a heat store – a big tank of water – it provides all of the flexibility needed to balance renewables. Add a large-scale heat pump, and the site can switch from generation to beneficial consumption as renewable generation ebbs and flows – a virtual battery, without the lithium.

One of the huge problems faced by the energy industry is consumer engagement. Insiders know that energy would be cheaper, greener and more secure if the top deck of the Clapham omnibus buzzed with discussion about the merits of low-energy light bulbs, or whether to keep the washing machine off until after this evening’s peak. CHPs score over CCGTs because their natural home is in the community, and community ownership is a real possibility. Nothing captures attention better than skin in the game.

The Capacity Market misses all that, and instead floods the market with single-purpose peakers. There are only so many peaks to go round, and sending engine farms off hunting the role that CCGT and CHP could hold in the bulk energy market is environmentally and economically daft. Government knows that, but its efforts to control the problem have been tangential, and the damage largely collateral. Even this is an easy problem to fix. All that’s needed is an insistence that anyone wanting a 15-year contract meets the Government’s own Emissions Performance Standard or qualifies as Good Quality CHP, both of which are established Government schemes.

So why was the price in last week’s auction so low? In a word, P305 (note: in the GB electricity market, that qualifies as a word). It’s now over a year since Ofgem put the fizz back into prompt electricity markets with its reform of imbalance prices. No-one knows how long the fun will last, but for now, old power stations clearly find it worth staying at the party a little longer. That’s not a disaster; it’s the market doing what it’s supposed to do.

Meanwhile, the Capacity Market marches on, doing the one thing that it’s designed for, and optimising that at the expense of everything else.