John FitzGerald: Paying the price for failure to invest in power generation

The vulnerability of modern society to prolonged interruption in electricity supply has been highlighted by serious outages over the past 20 years in California, the northeastern US and Italy. The film Die Hard 4, where a whole swathe of the US loses power, shows this more graphically than any newspaper article.

Today in Ireland we face two threats to electricity supply, one from the exceptional price of gas, and the other from a shortage of generating capacity to meet the burgeoning demand. Because a secure electricity supply is essential to modern living, both for households and businesses, we need to err on the side of over-provision rather than cutting it fine with just enough.

Electricity is a highly capital-intensive business, with huge investment tied up in generators and power lines. To minimise the cost of providing the capacity we need, it is very important to eliminate unnecessary risk for investors, as ultimately it is consumers, through higher prices, who pay the costs of these firms carrying high levels of risk. The State owns the transmission and distribution network and carries that part of the risk. However, much of the generation capacity is now provided by private investors who will pass on the extra risk premium to their consumers.

Regulatory uncertainty is one of the biggest risks any power company faces. A decade ago, the German government wiped out the value of major utilities when it decided on the early closure of nuclear generators. In France, by capping electricity charges, the government has greatly increased commercial risk for the huge, largely government-owned, utility EDF.

In the UK, arbitrary decisions by the government over the past decade, combined with a fairly supine regulator, have also made the electricity sector a more risky bet, which adds to long-term costs for consumers.

Ireland’s Commission for Regulating Utilities has presided over a market where, to date, there has been less arbitrary decision-making. While that has reduced risk and hence costs for investors, the regulator itself has made mistakes. While there is an urgent need to deal with the consequences, the Government has to be very careful about not infringing the independence of the regulator, which has served us well over the past 20 years.

If the Irish Government were to intervene unilaterally to change the rules, the all-island approach could collapse

The all-island electricity market was developed from 2007. To date this has proved successful and has not become a political football in Northern Ireland.

Northern Irish trust in the shared electricity market relies on the presence of strong and independent regulators North and South. The agreed rules of the market are underpinned by similar legislation in both jurisdictions. In the current environment of cross-Border relations, and the absence of an Executive, it’s not feasible to negotiate major changes in those rules. If the Government here were to intervene unilaterally to change the rules, that all-island approach could collapse.

Tighter supply

Having an all-island market sometimes comes at a price. Because Northern Ireland is not growing rapidly, the concern of the regulator there over the past decade was to minimise medium-term costs rather than provide for expansion. This influenced the change in market structure that took place in 2017. Under those arrangements, there is a right to payment for a generator that is available or on standby, with those rights being auctioned among potential suppliers.

The Republic’s regulator has underestimated what capacity is needed, due to the pace of growth of the economy and, especially, new data centres

Previously, these payments were made to all generators, even when some of them were not really needed. The old approach was more costly, incentivising too much generating capacity. However, supply is much tighter today and we need even the out-of-date plants that are still there.

The Republic’s regulator has underestimated what capacity is needed, due to the pace of growth of the economy and, especially, new data centres. Partly because of its complexity, the auctioning process has also failed to deliver the necessary increased capacity.

The IDA has not listened to the regulator’s problems, selling Ireland as a destination for data centres and adding to the capacity crunch.

The problems in providing adequate capacity are also being accentuated by the European gas shortage and the huge rise in prices. Many electricity supply companies elsewhere have gone bust or had to be bailed out. This further complicates an environment where we need major new investment.

In seeking short-term solutions, we need to ensure that we don’t seriously damage the electricity market in the medium term. The electricity market structure needs to adjust to a world where renewables provide the bulk of generation capacity. And our system needs to ensure that when the wind doesn’t blow, there’s enough backup capacity to keep the lights on.

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