Powering Britain: the plan to split the electricity market
After months of bitter debate, Ed Miliband is under pressure to decide on ‘zonal pricing’ policy
As strong northerly winds buffeted Scotland in the early hours of March 30, the Moray East and West offshore wind farms should have been in their element. Instead they were cutting output at several points during the day.
In one 30-minute period at about 2.30am, as gusts hit 59km an hour, the wind farms were paid £67,000 to produce less than planned, because the UK’s electricity grid could not send power where it was needed.
At the same time, 30 miles east of London, the Damhead Creek gas plant on the Thames Estuary was paid £26,000 to increase its output, according to grid data analysed by the Financial Times.
That windy night is a snapshot of the billions of pounds the UK spends each year to balance a power market in which, as part of the shift to greener energy, electricity is increasingly produced by wind turbines on remote coastlines, far from the cities where it is consumed.
The payments have pushed up electricity bills and are a main driver of a radical proposed shake-up of Britain’s power market, which has been debated for years and is now approaching crunch time in Whitehall.
After months of bitter debate over the benefits and risks of splitting the market into different regions, or “zones”, Ed Miliband, energy security secretary, is under pressure to decide ahead of an auction this summer for new renewable projects.
Powering Britain
This is the first part in a series on the future of Britain’s electricity grid
Part 1: Zonal pricing — the contested plan to split the power market
Part 2: Flexible tariffs — can consumers be persuaded to change their behaviour?
Part 3: Imports and exports — where will Britain be in 2030?
Big power station developers have warned that such radical surgery risks deterring investment just as the government needs to lure billions of pounds into new wind and solar farms in order to meet its target of decarbonising the electricity system by 2030.
But supporters of the policy, led by Octopus Energy, whose chief executive Greg Jackson has the ear of several ministers, insist the reforms are needed for the market to catch up with the huge changes in Britain’s electricity generation mix and claim they would bring down household costs overall.
“The big picture is the rest of the world is going in this direction,” said Jackson, pointing to the adoption of zonal pricing this month in Ontario, Canada, following Italy, Denmark and Australia and other countries. “The UK risks being left behind with ever higher energy bills.”
There remain significant doubts inside government, however, given the risk of putting companies off bidding in the upcoming auction owing to the uncertainties zonal pricing would create over electricity prices, and the likelihood of lower wholesale power prices in Scotland.
Danish developer Ørsted’s decision last week to halt plans for a vast new wind farm in the North Sea has fuelled concerns about missing the clean power target on the back of a failed offshore wind auction round in 2023.
“The Ørsted news . . . has had the side benefit of concentrating minds on the risk of another confidence crisis in the offshore wind industry,” said one government figure. “Any lingering doubts that we need a quick decision on zonal have been dispelled.”
The debate in the UK comes as blackouts in Spain and Portugal last month have highlighted the importance of carefully managing the electricity system, although the reasons for that outage are not yet known.
Britain’s electricity market was designed for the era of large, centralised coal- and gas-fired power stations. More electricity is now coming from wind and solar plants scattered around the country, but it cannot always be moved to where it is needed owing to limited grid capacity.
A single national electricity price and traders’ ability to buy and sell wherever they are located means the market does not reflect regional variations in supply and demand or difficulties moving electricity around.
Instead, it is left to the government’s National Energy System Operator to smooth out the system, paying stations in some areas to cut output and paying others to lift it. Such payments and other balancing measures cost more than £2bn last year, but NESO projects they could rise to £7.8bn in 2030, depending on how much new cable capacity is built by then.
The idea behind zonal pricing is to reduce the bill for balancing payments and network upgrades by splitting the market into zones reflecting the boundaries of each regional electricity network. Each would have its own wholesale prices according to supply and demand within the zone, aimed at making the market more efficient.
Power station developers argue uncertainty over power prices would push up their financing costs by introducing more risk, which would ultimately feed through into higher consumer costs — just as Miliband is promising to bring bills down.
They also say ministers have already taken several steps to boost market efficiency, including being more prescriptive about where new wind and solar farms can be built.
Zonal pricing “would do nothing to reduce bills and is instead driving up the cost of investment today”, said 55 investors, including RWE, Brookfield, Centrica and the Ontario Teachers’ Pension Plan in a letter to the government in February, urging against the policy.
Ocean Winds, owner of the Moray East and West wind farms, said constraint payments were a “symptom of decades of under-investment” in Scottish infrastructure, and that zonal pricing would put it at further risk.
“The most important thing is that the industry has clarity,” Tom Glover, UK country chair for Frankfurt-based RWE, said last week. “As much as I think my preferred decision is to have zonal taken off the table, the worst thing is to have no decision at all. You have no idea how to price the risk.”
The policy could lead to significant local variations in price. An analysis by consultancy FTI for Octopus estimated that average annual wholesale prices in 2035 would range from £17.25 per megawatt-hour in northern Scotland to £35.90 per megawatt-hour in East Anglia.
Households could be shielded by tariffs that smooth out variations in wholesale prices, as in Italy, Denmark and others. The energy department said it was “not about to introduce a postcode lottery”.
But the fewer consumers exposed to local price variations, the fewer would adapt by, for example, charging their electric car at times of high winds in Scotland, and the less the system would become more efficient.
Heavy industry is not yet convinced. “You are not going to pull up your steel site and move to Scotland,” said Arjan Geveke, director of the Energy Intensive Users Group, who has asked the government to assess the impact on his members.
As the government’s decision nears, there are nerves inside Whitehall about how the proposals could be received by voters still facing the fallout of the energy price shock worsened by Russia’s full-scale invasion of Ukraine. The risks of deterring investment also loom large.
“It’s £4bn of other people’s money that I’m investing,” said Keith Anderson, chief executive of Scottish Power, referring to the amount the wind farm developer was spending on a current offshore project.
“I can’t bid into a system where somebody says, ‘We’re introducing zonal power pricing . . . and I can’t tell you the wholesale power price.’ These questions need to be answered.”