Energy prices and how to build nuclear power

Hinkley Point C, artist's impression

Hinkley Point C, artist’s impression

News that British energy regulator Ofgem has complained about the lack of transparency over energy prices pushes the issue of how we pay for our electricity back into the spotlight. Meanwhile, a centrist think-tank has published a report about a way to generate electricity more cheaply. They agree with me – and incidentally have pointed out that I correctly forecast how much profit was to be made from a very important energy project.

CentreForum, a group closely associated with the Liberal Democrat party (in case the large amounts of orangey-yellow on their communications wasn’t enough of a clue), came out last month against the government’s plans to underpin a new £16 billion nuclear power station at Hinkley Point (which I discussed here and here).

It was far from clear, CentreForum argue in their report, that the ‘contract for difference’ which fixes the unit price of electricity generated at the Hinkley Point C plant – instead of leaving it to the wholesale markets, as with conventional power – is actually needed, as the case for it is too shaky. The CfD price for Hinkley Point C has been set at 9.95 pence per kilowatt hour, which is about twice the wholesale price as at last month, so as things stand, it will add a lot to electricity bills.

Tweak the assumptions about energy prices and carbon pricing in the government’s financial model slightly one way or the other, and you end up with wildly different margins between the wholesale price and the CfD price. The government has provided the contract for difference, and also a state guarantee protecting lenders to the power plant project from default if it goes wrong, in order to reduce the risks around the project and allow the private sector (with considerable public help) to build it.

(This argument relies very heavily on the calculations done by the European Commission, which has warned that the contract for difference plus the loan guarantee might constitute unlawful state aid. The Commission, unlike you, me, or CentreForum, has seen the financial models and other commercially sensitive material.)

Instead of entrusting the project to the private sector and then bending over backwards to help them out, they argue that the power plant could be built by the public sector (which, through that guarantee, is already taking a lot of the risk on the project anyway) using public, not private, borrowing. This would save on the unit price: CentreForum estimates it could save as much as £12.4 billion of the period of the 35-year CfD period.

This is in fact precisely what I proposed in a blogpost last year, also with the aim of providing cheap electricity and ensuring that necessary investment got carried out. I suggested a not-for-profit government-backed utility like Network Rail, removing the need to make fat internal rates of return on projects (the Commission estimates Hinkley Point C’s artificially high unit price will yield a rate of return around 10 per cent (just as I predicted last year!)

CentreForum’s argument strikes me as a bit flawed: for one thing, that very uncertainty is what’s driving the use of the CfD, which de-risks the project by removing the biggest uncertainty of all. And they way they propose to do it is slightly different from mine. However, it seems beyond doubt that setting up a ‘government-backed entity’ would reduce the cost of capital, and thus the minimum unit price needed to break even on the project.

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About René Lavanchy

You can contact me at rene dot lavanchy at googlemail dot com.
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