UK power I/Cs: demand distortions

Published at 10:11 24 Jul 2018 by . Last edited 11:18 22 Aug 2019.

The UK applies a hefty carbon tax on thermal fuels used in power generation. This has driven a consistent wedge between UK and Continental power prices, and created a large amount of interest in power interconnector (I/C) projects with the UK.

The UK has 4 GW of existing power interconnectors (2 GW France, 1 GW Netherlands, 1 GW Ireland/Northern Ireland) and some 15 GW of interconnector capacity that is under some stage of development. Of the projects under development, 4.4 GW relates to four projects for which a final investment decision (FID) has been taken and are expected to be online in the 2019-2021 period. Of that capacity, 2.0 GW is with France, 1 GW is with Belgium and 1.4 GW is with Norway.

Over the last three years, UK wholesale power prices have traded at an average day-ahead premium to continental Europe (Germany) of 19.7 €/MWh (70%), due largely to the UK carbon tax on generation fuels. The UK premium to French power has been lower largely because of the low level of nuclear availability that has plagued France since Q4 16. Even then, French power on average has been 12.4 €/MWh (38%) lower than UK wholesale prices since 2015.

Despite these spreads, most interconnector projects are being advanced under the so-called ‘cap and floor’ mechanism, which regulates how much money a developer can earn once the project is operational.  

A UK exit from the EU raises two main uncertainties about the flow of power through the new I/Cs. First, Brexit looks like it will increase the costs of trading power cross-border as UK units will be excluded from market coupling arrangements and additional transmission fees may apply. Second, if that is the case, it is likely UK installations exit the EU ETS, which could lead to UK carbon costs coming down to levels closer to those seen in the continent.

The three I/Cs planned to be online in 2019-2020 in the south of the UK will largely push out UK gas-fired generation in those two years. Gas-fired power generation could fall by 6.6 TWh (4.4%) in 2019 and by 16.8 TWh (12%) in 2020. This would decrease UK gas consumption by 1.3 bcm (2%) in 2019 and by another 3.3 bcm (4.5%) in 2020. UK power sector CO2 emissions would then fall by 2.3 Mt in 2019 and by a further 5.8 Mt in 2019.

Any increase in French (and Belgian) power flows to the UK will result in a reduction in exports of French power to Germany, meaning Germany will need to generate additional power. While that will depend on the carbon-adjusted relative prices of gas and coal, additional generation could well come from hard coal. If all of the flows into the UK through the new I/Cs are coal-backed, then total European power sector emissions would increase by 3.0 Mt in 2019 and 7.4 Mt in 2020.

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