Renewable Power in Europe Causing Electricity Prices to Fall

Here is an interesting discussion of electricity markets in Europe as renewable power sources reach critical mass in the marketplace.

In a country like Germany, new renewables now represent around 50% of the overall installed capacity, and more than 20% of the actual generation, and the contribution of the support regime (the “EEG-Umlage”) to retail prices has become a political topic lately, as noted above, despite the fact that retail prices increases have been caused, for the most part (and in particular until 2009) by increases in gas prices. In recent years, Germany has seen a combination of declining wholesale prices and slightly increasing retail prices.

This leads us to a first hidden truth: the massive increase in renewable energy production is not paid for by consumers, but by traditional producers who see their revenues decline as the price they earn per MWh goes down. Utilities, which see their margins on the retail side increase, but have very little renewable energy production capacity of their own are caught between two conflicting trends. Unsurprisingly, they are blaming renewables, and do not hesitate to point fingers at their support regimes as the cause of rising power prices, in the hope that these regimes will be weakened. They claim they are victims of unfair competition from “heavily subsidized” sources which have priority over them and can dump power with no worry for consequences into the network.

In a sense, utilities have been consistent: one of their past arguments was that renewables would never reach critical mass and thus were not a serious solution to reduce carbon emissions. And they surely did not take recent investment decisions with the scenario of heavy renewable penetration in mind, otherwise they would not have been so surprised by the impact they have on power prices (the infamous “merit order effect” – which I discussed in detail at least 5 years ago, and which was already the topic of academic papers before that). But they are stuck with old plants, and even more recent ones, which are increasingly uneconomic in today’s markets, caught between high fuel prices and lower power prices.

As renewable development has grown dramatically in Germany, big German power companies failed to understand what was happening.  They continued betting on fossil fuel plants.  Now these same companies are being whipsawed by shifting fuel prices.  Gas is expensive in Europe, so they are sliding back into coal generation.  When the price of coal rises, they won’t be able to run their coal plants.  Right now, German power companies are closing brand new gas-fired plants, because they are losing so much money on them.  Bloomberg describes the chaos in fossil fuel power as “carnage.”

The only thing that makes coal economical as a fuel source is cheap gas in the US, which is driving down the price of coal that Europe can import from the US.  But if electricity demand recovers, even a little in Asia and Europe, prices of US steam coal exports will climb again, and European coal plants will be underwater again. So increased coal burning is not the result of a failure of German renewable development, or the decision to end nuclear power.  German power companies are simply switching to coal from gas as renewable growth puts the squeeze on wholesale power prices.

The ultimate solutions to the situation in Europe are still hazy, but the author of the blog post on European electricity markets points to capacity markets, somewhat similar to PJM Interconnection’s (without the cartel, we hope), as a possible solution to Europe’s capacity problems:

But the result is that utilities are not making money on their current fleet – not on gas-fired plants, barely on their coal-fired plants, and they don’t have enough renewable energy capacity. And that is the result of policies applied for the past 10-15 years across Europe, so it’s not like they had no warning and no notice…

To be fair to them, the system still needs their capacity (because renewables are not available on demand, and do not provide the flexibility required in the very short term), and that needs to be paid for. In the previous regime, where power prices are determined by gas prices, it is possible to pay for the flexibility in the form of price spikes that give the right signal for mid-load and peaker gas-fired (or oil-fired, or hydro) plants to be used, and their frequency of use was relatively predictable over a year, allowing for a sound business model to be implemented. Now, with plenty of renewables, the price signal is completely different. There are many more periods of very low prices when renewables flood the system (and this is particularly the case in places with lots of solar, as it is available during the day, ie when demand is stronger and thus prices used to be higher). This has two consequences: gas-fired plants get much less use than in the past (and less than their business plans expected), and baseload plants like nukes or big coal-fired plants get lower prices during periods when they were cashing in more money. The latter earn less money (but still run); the former suddenly runs a lot less, which has income implications but also consequences for gas consumption and storage – patterns of use become very different, moving from the usual “once a day” pattern (a few hour at peak demand times), to short bursts several times a day (as renewables drop out), or very long periods of use over multiple days when renewables are not available at all.

Given that the penetration of renewables changes every year, it is hard to identify the business model to use for flexible plants – and even harder to know what it will be in 1, 5 or 10 years from now. These plants will be needed, at least to some extent, and they need to be paid for, and that cannot really happen with today’s regulatory regime (and stopping support regimes for renewables won’t change that now: the existing stock of wind and solar is already big enough in several countries to keep the current market arrangements broken). One solution, thankfully being considered in several markets (and which already exists in places like California), is to put in place a capacity market, where plants make themselves available for rapid changes in output, without actually producing anything most of the time, and get paid for that availability: they sell MW rather than MWh.

The politics of this are messy. You can have articles saying (without any real argument) that “Too much green energy is bad for Britain at the very same time that you have record cold weather, with critical weakness in the gas supply infrastructure and wind actually coming to the rescue… (the UK this week).

One thing is certain, stopping renewable development and returning to fossil fuels is not a solution.

3 thoughts on “Renewable Power in Europe Causing Electricity Prices to Fall

  1. Lots of complications, but one thing I suspect is that the distributed nature of Germany’s solar and some other energy sources is a good thing in the long run. If the system crashes, those with panels on the roofs or in their yards, or digesters under their barns, will still have a power source. We need breakthroughs in storage technology.

  2. The last paragraph says it best. Germany is everyone’s poster child of what is right and what is wrong. Thanks for including that last point. It validates everything said before it.

    I remember once the WSJ ran a paper once with an article about famine in Haiti. On the same page there was another article claiming America was awash with grain.such is the case with Germany’s energy market. Any and all arguments can be made based on one’s preconceived position.

    There is also an argument that decentralized generation of renewables is changing Germany.and America is missing the opportunity by letting the lobbyists from large corporate wind dictate America’s energy policy.

    http://t.co/ZhUbVrD3LU

  3. Pingback: Who Is Really Behind WV American Water and Freedom Industries » Our Water WV

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