Simon-Erik Ollus
Posted by: Simon-Erik Ollus
10.4.2014

The title of this blog posting is not actually mine – it is a phrase that I borrow from a presentation given by a colleague at a conference a year ago.  He spoke about the stranded gas-fired power generation in Europe today. It is an inconvenient truth that we are slowly starting to wake up to.

The wrong guys are left to pick up the tab

Today, nearly all gas-fired generation in Central and Northern Europe make losses. Due to low power prices and high gas prices, the so-called Clean Spark Spread, which is the margin between the market price of power and the short-run marginal cost of gas generation, is negative. For instance in Germany, this spread is today between -10e/MWh and -15e/MWh, meaning that an average plant accumulates this loss in operative costs every operating hour. In addition, the financial forward prices for power and gas remain poor, indicating that the negative spread will remain for years to come. Further, the strong increase in subsidised renewables coupled with low power demand is also pressing the operating hours of gas plants. In reality, plants originally planned to operate for 4000-5000 hours a year are running for less than 2000 hours a year.

Hence, we have found ourselves in an odd situation in Europe today. The current poor carbon prices reward the running of the most emission-intensive, old hard coal and lignite plants, while costly support schemes are encouraging the most expensive decarbonisation through renewables to occur. Of the fossil fuels, gas is clearly the most efficient with the highest efficiency factors and lowest relative emissions compared to hard coal and lignite. In addition, gas generation can quickly be ramped up and down to balance the growing intermittent renewable generation, while hard coal and lignite plants have much slower ramping abilities and are less efficient and capable of balancing the power system as a whole.

Inefficient energy and climate policies drive towards failure

Most of the investments in gas generation during the last decade were conducted based on the belief that society rewards low emission intensity, carbon prices steer and power prices cover the costs of the plants. However, due to overlapping steering mechanisms and poor economic development, the outcome has become very different and now the most efficient fossil plants are already stranded assets or are rapidly becoming such. The owners of these plants are forced to record massive write offs in their balance sheets and their share values have plummeted. In 2010-2013 alone, the major European utilities have had balance sheet write-downs valued at about 40 billion euros, mainly in the fossil generation fleet. A write-down usually indicates a miscalculation by the management or a market failure in the operating environment. In the European context, they are clearly driven by an underlying market failure in how we conduct energy and climate policies across Europe today.  Monetarily, this is probably one of the largest market failures in recent European history.

Decarbonisation is not free of charge and it requires massive investments in CO2-free or low-emitting generation in the years to come. We need more capital than ever before and increasing investments from the private sector into energy generation. However, the recent evidence doesn’t really encourage rational investors who are considering where to make a decent rate of return on their capital. Hence, we need to learn from past mistakes and not let the madness continue.  We need to be able to construct an operating environment that encourages increasing private capital to investments in decarbonising the energy system.

Time to unite

Energy and climate policies today are still considered two separate policy areas with a mixed competence between the member states and Brussels. In terms of driving decarbonisation of our energy infrastructure, this is far from efficient policy steering. Energy and climate policy should be considered as clearly one common policy area with the overall target to provide cost-efficient energy and sufficient investments in decarbonisation of the production. But to achieve this, and to avoid excessive and unnecessary costs, it has to be done much more smartly and holistically than we do today. We need to be able to stop the national energy populism and search for a cost-efficient, European-wide energy and climate policy and steering. Fixing the European emissions trading system and removing overlapping subsidies would be a good start! Otherwise, we seriously jeopardise any opportunity for the transition to a decarbonised energy system in Europe.

 

Simon-Erik

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