Electricity Market Reform: The Impact on UK Commercial Power Bills 2016-2020

The world is focused on decarbonisation and ensuring the security of energy supply. Countries around the globe pledged the initiative, which requires substantial infrastructure investment.

Global decarbonisation is gathering momentum, but emissions continue to rise, and there is still a large gap between the current achievement and the stated aim of the 2°C carbon budget. According to a study undertaken by PwC based on the below, the global economy needs to cut carbon intensity by 6.3% a year every year by the end of the century to stay within 2^oC^{[1. “Conscious uncoupling? Low Carbon Economy Index 2015”, PwC, October 2015. ]}. UK energy users can see the implications in the UK’s ambitious green targets. Overall costs are forecast to increase by approximately 55% by 2020.

UK levies are being revised and new ones introduced as part of the UK government’s ongoing Electricity Market Reform (EMR). To deliver this transformation, huge infrastructure investment is required. As a direct consequence, non-commodity costs will see substantial increases over the coming years. These increases are estimated to be up to +14% in network charges and +95% on policy costs by 2020.

Electricity commodity prices are indirectly correlated to oil prices. Approximately 50%-55% of electricity is generated by gas-fired power plants in the UK, which in turn have a high correlation with oil as a result of historic price formation. UK electricity prices hence show a fairly high correlation to oil price movements. As such, based on major oil forecasts and assuming the relationship between electricity and oil remains unchanged, the electricity wholesale price is projected to see a 50% increase from April levels by the end of the decade.

Chart 1: Price increase breakdown over the coming years, with an Index 2016 charges = 100. Source: Alfa Energy Group.

Reviewing the changing relationship between the overall cost burden shows that the commodity portion will change marginally from current levels. What this means is that commodity price risk mitigation will maintain its importance. Other elements of the electricity costs are set to increase dramatically. It is worth noting that these charges are regulated. This part of the electricity budget can be optimised by investing in such projects as DSM (demand-side generation), behavioural change, or with capital investment in self-generation.

Chart 2: Electricity costs’ breakdown 2016 to 2020. Source: Alfa Energy Group.

Inese Dose

Inese has been with Alfa Energy for three years, having been in the industry for five. She has been instrumental in creating and developing the flexible procurement and risk management functions at Alfa. As a Senior Analyst, she regularly provides the business with market briefings as well as managing procurement and risk for Alfa’s pan-European clients. Currently, Inese manages gas and power contracts across France, Belgium, Germany, Spain, and the Netherlands. She is completing her MBA in Global Energy at Warwick Business School.

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