Democratising energy: Using technology and consumer engagement to rebuild the energy industry

Looking back at the last decade and especially 2021, we are convinced that we are at a critical turning point in the energy transition.

We are about to enter a new stage, one that will require rapid and well orchestrated regulatory changes, digital transformation of retailers, generators and especially, system operators, faster deployment of renewable generation than ever before and most importantly higher levels of consumer engagement, a crucial ingredient in unlocking the flexibility required for a green grid.?

If done right, this is our opportunity to get back on track to reach decarbonisation targets, reduce dependence on fossil fuels and avoid market breakdowns like the one we have been suffering from.

In this blog, we take stock of how far we’ve come, but also highlight what we need to do to be back on the road to affordable zero-carbon energy!

The Energy transition can be viewed in three stages:

Figure 1. The three stages of the energy transition with increasing levels of local generation, local storage, and consumer interaction.

The first stage, the one that’s been and gone, was the subsidy era. ?Renewable generation was incentivised by governments. Consequently, solar and wind generation was developed aggressively up and down the country. Transactions in the energy system remained largely binary, with renewables enjoying long-term subsidies and Power Purchase Agreements. Smaller scale PV was also incentivised, enticing residential and commercial customers to put panels on their rooftops, and sell back excess capacity to the grid. Power was predominantly traded by large incumbents on futures markets and energy generated was mainly from centralised sources.

Figure 2. A small number of generators connected to the transmission and distribution system.

In stage two, the merchant era, the one we’re in, an increasing number of distributed energy resources (DER) such as wind, solar and batteries were connected to the grid. The number of generation points increased, as well as the diversity of generation assets. The intermittency of renewable generation has led to market volatility, increased balancing costs and subsequently more players entering the power trading/optimisation markets requiring new systems to control and optimise these assets. The System Operator has gradually opened the balancing mechanism and ancillary services market to allow smaller assets to participate. Although there are still several remaining barriers to entry.?Overall, the system has continued to be largely supply-led and the demand-side has remained a passive player during this stage of the energy transition.

Figure 3. An increasing amount of DERs connected to the grid, including local generation and energy storage.

We call the next stage, the one that’s coming, the consumer era. For the first time since the early 2000s, electricity demand will increase rapidly due to the electrification of transport and heat. The proliferation of demand side DERs such as electric vehicles, heat pumps, batteries, smart thermostats, home and building energy management systems will change the way we consume electricity. All these new DERs must play an interactive role to help manage and balance the energy system. If we are to achieve an affordable energy transition, then the system will have to transform dramatically to accommodate it. We believe a digitalised system will be integral to us achieving this goal.

Figure 4. Large numbers of a diverse set of DERs at all voltage levels including more dynamic bi-directional power flows from local generation, storage, and consumer devices such as EVs and heat pumps.

The stages of the energy transition

Stage 1: The subsidy era

Since the first renewable energy subsidy sites went live in the early 2000’s we’ve seen the energy transition come on in stages. The subsidy-era where renewable energy developers benefited from significant government support to ensure a secure source of revenue for investors has unleashed large volumes of projects. This sharp increase in development led to a rapid climb up the learning curve to lower production costs, improve product efficiency and reach great economies of scale, bringing down the cost of renewable energy projects and improving investor returns. Today, renewable energy is as cheap, or cheaper than energy from fossil fuels.

The subsidy-era saw the emergence of solar and wind generation. Renewable generation grew from 6 GW in 2010 to 43 GW by 2021 (Fig. 5). Growth was fuelled by government support that were designed to provide certainty to investors, such as feed-in-tariffs (FiT), Renewables Obligation Certificates (ROC) and Contracts for Difference (CfDs).

Figure 5. Government subsidies have led to the build out of 47 GW of renewable generation in the UK.?

The ROC, introduced in the early 2000s, was a mechanism designed to support large-scale renewable generation, with the government placing obligations on all licenced electricity suppliers to source a proportion of the electricity they supply to customers from renewable energy sources in the form of ROCs or from renewable generators. The scheme closed to new participants in 2017.?

The FiT was designed for small energy generation projects of up to 5 MW and was discontinued in April 2019. Owners were paid for every kWh generated and exported to the grid.

Now, the UK’s only remaining subsidies for renewable generation are the CfD scheme and the Capacity Market. The CfD scheme, introduced in 2014, is currently the government’s main mechanism for supporting low-carbon electricity generation. CfDs incentivise investment in renewable energy by protecting project developers who have high upfront costs and long lifetimes from volatile wholesale prices. So far, we have seen three rounds being completed and the fourth (AR4) is in progress. The auction aims to procure generation from three ‘pots’. Pot 1 is reserved for established technologies, pot 2 is for less established technologies and pot 3 was introduced in AR4 for offshore wind (a previously pot 2 tech). AR4 was the first auction since AR1 to offer support to established technologies such as solar and onshore wind (Fig. 6).?They also protect consumers from paying increased support costs when electricity prices are high.

Figure 6. Average annual spend on CfD auctions since allocation round 1 in 2014.

These subsidies have proved to be very successful, fuelling the growth of renewable generation, and as the industry has rapidly climbed a learning-curve, costs have dropped to match. Eventually, the price of renewable energy began to match energy from traditional generation (Fig. 7 - Electricity from renewables became cheaper as we increased capacity - electricity from nuclear and coal did not).

Figure. 7. Source IRENA 2020 for all data on renewable sources; Lazard for the price of electricity. Gas is not shown because the price between gas peaker and combined cycles differs significantly, and global data on the capacity of each of these sources is not available.

This era was superbly successful. The deployment of over 40 GWs of renewables (wind, solar, anaerobic digestion, etc) has reduced the greenhouse gas emissions of the GB grid from 336 gCO2 per kWh in 2015 to 187 gCO2 per kWh by the end of 2021 (Fig. 8).

Figure 8. Carbon intensity of the grid (gCO2/kWh) between 2015-2021 compared to the 2030 target. Source: carbon tracker and National Grid’s carbon intensity API.

Since this era has been a great success, BEIS has committed to double the frequency of CfD auctions to once a year, in a bid to speed up more clean generation at even lower cost. To meet the 50 GW by 2030 target, we would need to install up to 5 GW of new offshore wind capacity every year (a five-fold increase on the current rate). However, doing this by subsidising mature technologies such as wind and solar (pot 1 technologies), risks stifling innovation, system inefficiencies and prioritisation of generation technologies over demand side technologies preventing a consumer-focused energy system. Furthermore, over-building renewable capacities supported by subsidies could lead to higher curtailment costs as subsidised renewable generators are not often incentivised to generate efficiently. The CfD mechanism is a case in point. With generators paid a subsidy for every MWh produced, the mechanism currently does little to incentivise generation at the right time unless prices are negative for over 6 consecutive hours (and then generators are no longer paid their subsidy).?The end result is a more costly and carbon-intensive energy system.

To summarise, the technologies that led this stage were solar and wind generation. The market structure remained largely unchanged, with subsidies supporting the supply-side. During this stage, National Grid’s infrastructure, both physical and digital, has remained largely unchanged as most plants dispatched are centralised units.

Stage 2: The merchant era - renewables no longer require subsidies to flourish

The second wave, the merchant risk era, the one that we’re in right now, is continuing the success. Renewable generation has continued to grow at pace, with a further over 35 GWs of development planned or in progress (Fig. 9). With only ￡10m committed to pot 1 (established technologies) in the next CfD round, most of the 11 GW of new solar and onshore wind assets will need to build a business case without subsidies.

Figure 9. Renewable Energy Planning database - status of pipeline projects. Source: Government, UK.

During the first stage of the energy transition, the growth of solar projects, and especially residential rooftop solar, was predominantly driven by the FiT. Since the FiT ended, new installations have slowed significantly (Fig. 10) as although the cost of solar has fallen the benefits of selling back excess solar to the grid has decreased. Therefore, new solar installations tend to be of a larger scale where they can benefit from either government subsidies or long-term Power purchase Agreements (PPAs - where a buyer will agree to purchase all the energy generated over a certain period).

Figure 10. Installation activity April 2010-2021. Source data: Central FiT Register.

Yet against this backdrop, we are starting to see the rise of a second generation of renewables - a post-subsidy world of renewable investment, ushered in by economics that increasingly favour renewable energy. This has gone hand in hand with a global call for energy sustainability and climate action. In fact, in 2020, almost 75% of all new energy projects boasted zero-carbon generation.

With the subsidy era coming to an end, new renewable projects must be able to attract investment on their own merit. Last year, companies entered into PPAs with projects amounting to 13.4 GW of renewable generation, according to data from Bloomberg – more than double the total in 2017. The growing demand coming from corporate PPA buyers is illustrated by the success of RE100, an initiative whereby companies commit to source 100% of their energy needs from renewable power. On the other hand, projects with expiring subsidy schemes may enter competitive PPAs or wholesale merchant markets. For example, about 16 GW of onshore wind farms will exit Germany’s 20-year feed-in tariff scheme between 2020 and 2025.

To list just one example of a company that is successfully adapting to the merchant risk era, Macquarie Green Investment Group is developing a growing number of merchant projects which require neither government subsidy nor long-term PPAs to raise funding. For example, the Rookery South waste-to-energy project in the UK will sell its power on a fully merchant basis, using the revenues earned to supplement income from waste-processing contracts with local authorities and commercial customers. Currently in construction, the facility will divert over 500,000 tonnes of waste per year from landfill meeting the electricity needs of over 112,500 homes.

The success of this second stage has brought us to a critical point where in periods of low demand, renewable generation can meet 100% of energy demand. However, energy demand will increase to record levels as we electrify transport and heat, exceeding nearly 500TWh a year (Fig. 11). According to some of NationalGridESO’s Future Energy Scenarios, that’s almost doubling by 2050. Therefore, the installed renewable generation capacity must continue to grow.

Figure 11. UK Energy demand (TWh) in 2020 and 2050 (consumer transformation scenario - NGESO FES 2021).

Energy Storage technologies

The newcomer asset class is battery energy storage, with the first (not pilot) battery project in the UK going live in 2013 near Darlington. Over the last five years, energy storage has proved the viability of the merchant business model. Initially, long tenor, 24 month, ancillary services provided a level of revenue certainty to investors, however, the demand / volume requirement for the services are based upon NGESO’s system needs meaning that it is a finite market (between 0.3 – 1.0GW) in comparison to deeper more liquid wholesale power markets. As a result, the market has become saturated quite easily (Fig 12).?Over the last 3 years, these contracts have moved closer to real-time from month ahead procurement to week-ahead, day ahead and now four hour blocks.?Consequently, investors have had to get confident with short term power markets and short-term ancillary service contracts. Today, we have exceeded 1.6 GWs of live projects, which is greater than the total global installed battery capacity back in 2015, with another 25 GW with or in planning (Fig. 13). By 2050, NGESO forecasts that up to 40 GW of energy storage technologies could be required to meet the intra-day and daily balancing needs of the system.

Figure 12. Saturation of the Dynamic Containment (a NGESO ancillary service market) over the last year (2021) as volume requirements vary volume and more bids are rejected.

Figure 13. Annual battery energy storage deployment from 2015-2021 and forecasted capacities for 2022 onwards.

The rise in intermittent renewable generation and growing demand for electricity has meant that flexibility will become more important than ever. To meet this demand the UK could need around 87 GW of offshore and onshore wind by 2050. Integrating this level of intermittent wind generation into the wider energy system requires a much more flexible ‘demand-side’, enabled by digital technology. In other words, customers will need to be engaged to incentivise energy usage that matches up with the availability of renewables.

Stage three: the consumer era

The third stage in the energy transition, the consumer era, will be reliant on digitisation and consumer trust / engagement. Despite investment into energy storage, a doubling of electricity consumption we will require more flexibility from domestic resources to balance a fully renewable system, otherwise balancing the system will continue to be costly.?

Rising balancing costs

As more ‘intermittent’ renewables such as solar and wind come online there will inevitably be more volatility on the electricity network. This volatility has already led to rises in balancing costs in recent years. Balancing Services Use of System charges (BSUoS) charges, for example, have increased from approximately ￡2.0 / MWh in 2017 to averaging over ￡8 / MWh in 2020 and 2021 (Fig. 14).

Figure 14. Increasing volatility of BSUoS costs from 2017-2021.

Domestic assets could be both the problem and the solution

Flexibility can offer respite from these costs; however, it must come from consumer led technology, as well. Last year, NGESO outlined the projected uptake for electric vehicles and heat pumps (Fig. 15). Electric vehicle uptake is projected to reach 30 million by 2050 in almost all scenarios. In the same vein, 20 million households could have heat pumps by 2050. Therefore, the system could require up to 150 GWs of additional flexibility by 2050, 50% of this will require consumer engagement through smart charging and smart electric heating (Fig. 16).?As it stands, technologies that enable domestic flexibility are projected to save the UK up to ￡13bn. Most of this will come from smart electric heating, which could save ￡7bn a year, and smart EV charging, which could dramatically reduce the need for network reinforcement, saving up to ￡6.5bn by 2050.

?Figure 15. Source National Grid ESO Future Energy Scenarios uptake of electric vehicles and heat pumps by 2050.

Figure 16. Over 50% of the flexibility required by 2050 will come from consumer led technology.

It is vital that future markets enable such flexibility, otherwise tomorrow’s energy system will be more expensive and inefficient. Generators should be incentivised to locate closer to demand or dispatch efficiently. Stronger locational pricing signals will be needed for this to reflect the true value of energy at different locations. Localised energy also drives a more efficient use of the underlying distribution and transmission networks.

We need consumer engagement from consumers who currently don’t play an active role in the energy system, to unlock the flexibility to address short term variations in supply and demand (daily flexibility). For this to happen, residential, commercial and industrial consumers must be rewarded for their flexibility in a way that benefits the total system without significantly compromising comfort levels or putting the system at risk.

There needs to be fair incentives for customers to choose new technologies over existing ones. For example, currently, 23% of the cost of electricity is made up of environmental and social obligation costs, however, gas costs include less than 2% of these. Consequently, the shift from gas boilers to heat pumps can appear costly.

Digitisation of System Operators both at a transmission and distribution level will be cheaper and quicker than building new infrastructure. This means getting the millions of low carbon technologies across Britain talking to each other. Solar panels, wind turbines, battery storage, heat pumps, electric vehicles, and smart appliances, all have a role to play in a smart and flexible energy system, by dynamically managing these assets all in real time.

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Summary

Today’s GB electricity market and system has successfully enabled the UK to achieve the fastest rate of decarbonisation in the world, with renewable generation addressing up to 45% of energy demand in 2020. But we need to go further and faster. The rapid rise in energy prices and the ongoing concern regarding energy security and resiliency means that transitioning to net-zero has never been more important. The decarbonisation of the energy system and also this next stage requires a new system with system-wide digitisation, regulatory reform, and consumer engagement. It will bring greater technical complexity, grid systems that are harder to manage, higher demand than ever before but also new opportunities for investment in smarter and more flexible assets with an opportunity for the end consumers to play a huge role in the journey to net zero.