The draft Renewables Obligation (Amendment) Order 2021 was laid before the House of Lords and the House of Commons on 3 February 2021. The order is scheduled to be debated in the Lords on 23 March 2021.

The order is a draft affirmative instrument. This means that it requires both Houses to approve the instrument in draft before it can become law. If passed, the order will come into force on 1 April 2021. The Government has said this would enable the proposed changes to come into effect at the start of the new 2021/22 renewables obligations period.

What is the renewables obligation scheme?

The renewables obligation scheme consists of three separate schemes: the renewables obligation, covering England and Wales; the renewables obligation Scotland; and the Northern Ireland renewables obligation. The draft Renewables Obligation (Amendment) Order 2021 applies to the renewables obligation scheme covering England and Wales only.

The scheme came into effect in England and Wales in 2002. While it was closed to new generating capacity on 31 March 2017, the renewables obligation remains one of the main support mechanisms for large-scale renewable electricity projects in the UK.

Under the scheme, Ofgem issues generators of renewable electricity with renewables obligation certificates (ROCs). These are supplied by Ofgem to generators free of charge. The amount of ROCs issued is based on the amount of renewable energy generators produce.

The scheme also establishes a market for the sale of ROCs. Electricity suppliers are obliged under the scheme to present a number of ROCs to the scheme administrator, Ofgem, every 12 months. Generators can sell ROCs to electricity suppliers or to traders as tradable commodities.

Alternatively, suppliers can meet the renewables obligation by making a fixed cash payment into a buy-out fund. At the end of the twelve-month obligations period, this buy-out fund is shared out amongst those suppliers that met their renewables obligation using ROCs.

The price of ROCs is not fixed and is negotiated between the generator and either the supplier or trader. However, the Government has stated the “notional value” of a ROC is the buy-out price, plus the value of the recycled cash payments from the buy-out fund.

What happens if there is a shortfall in the buy-out fund?

Shortfalls in the buy-out fund can arise if some suppliers do not meet their obligations. The Government states in the explanatory memorandum to the draft Renewables Obligation (Amendment) Order 2021 that this most commonly occurs when suppliers have exited the market or are in the process of doing so.

In years where there is an overall shortfall, the amount missing can be ‘mutualised’. This means that the other suppliers must pay the unmet cost. However, the mutualisation mechanism is only triggered if the shortfall reaches a certain threshold. Currently, this threshold is fixed at £15.4 million.

What would the Renewables Obligation (Amendment) Order 2021 do?

The Renewables Obligation (Amendment) Order 2021 would change the threshold at which the mutualisation mechanism is triggered. It would establish the threshold as 1% of the forecast annual cost of the scheme for the obligation year in question (rounded to the nearest £100,000). The explanatory memorandum to the draft Renewables Obligation (Amendment) Order 2021 says this would raise the threshold to around £62 million in 2021/22.

The Government described why it is proposing this change in its explanatory memorandum. It states:

The mutualisation threshold has failed to keep pace with the growth in the scheme. When the threshold was introduced in 2005, it was equivalent to about 1% of the cost of the scheme. It is now equivalent to about 0.25%, which means that the balance of risk associated with supplier payment default has shifted away from generators and towards suppliers. Mutualisation has been triggered in each of the last 3 years (with shortfalls of £53.4 million, £88.1 million and £31.4 million respectively).

Government consultation

The Government held a consultation on proposals to link the mutualisation threshold to the annual cost of the scheme. This ran from 11 December 2020 to 19 January 2021. The Government stated in its response to the consultation that the majority of respondents concerned with the supply of electricity (14 out of 15) supported the proposal. It summarised the main points made in support of the proposal as follows:

First, most were of the view that the proposal would restore the balance of risk associated with payment default back to where it was when mutualisation was first introduced, thereby restoring the original principle of mutualisation. Second, most were of the view that because the proposal would reduce the likelihood of mutualisation occurring, costs for compliant suppliers, and their customers, would be reduced.

However, the Government said the majority of respondents with an interest in electricity generation (14 out of 19) disagreed with the proposal. It noted that most believed raising the threshold would lower the value of ROCs, as it would make it harder to recoup the costs from suppliers when there was a shortfall in the buy-out fund. The Government summarised the other arguments against the proposal as follows:

Some further noted that generators would have no means of recovering associated losses [arising from the lower price of ROCs]—this was contrasted with the situation for electricity suppliers who, in their view, could pass costs on. About half of respondents were concerned about the impact the proposal would have on generators who have aligned investment decisions to existing mutualisation arrangements, and who could not have foreseen such a change. A similar amount stated that it could undermine the principle of regulatory stability and certainty, undermining confidence in other Government schemes—two of these respondents said the proposed changes to the scheme were retrospective. Over three quarters of the respondents pointed out that the proposal did not address the fundamental issue of supplier failure.

Parliamentary scrutiny

The order was considered by the House of Lords Secondary Legislation Scrutiny Committee on 23 February 2021. No concerns were raised by the committee. It was also considered by the Joint Committee on Statutory Instruments on 24 February 2021 and was not reported to either House.

The order was debated in the House of Commons on 9 March 2021. Speaking during the debate, Anne-Marie Trevelyan, Minister for Business, Energy and Clean Growth, said the increased cost of payment defaults had been the subject of increased concern to suppliers. She said the Government wanted to prevent electricity suppliers from being “unduly exposed” to the cost of the unpaid bills of their competitors.

Speaking during the debate, Dr Alan Whitehead, Shadow Business, Energy and Industrial Strategy Minister, said that Labour supported the order. However, he criticised the Government for not taking action earlier, describing the order as “three years too late”. He argued the increase in the annual shortfall over the previous three years had been the result of measures introduced in 2015 and 2016 by the then government to relax licensing requirements. These changes were intended to make it easier for new suppliers to enter the market. He said:

Those arrangements have been described thus: “Energy suppliers could get a licence with little or no capital and no relevant industry experience.” Licences were literally given away to people who turned up and said that they would like to set up an electricity supply company. That meant an explosion of supplier companies.

He argued that the changes the Government was introducing were necessary because the market had been allowed to “go in a wild west way”. He asked the minister to confirm if she believed the new measures were adequate to ensure that the mutualisation mechanism would be triggered less frequently.

Responding, Ms Trevelyan said she was confident that the order struck the right balance between the “needs of renewable generators on the one hand and of electricity suppliers and their customers on the other”. The order was subsequently approved in the House of Commons on 10 March 2021.

Read more

Cover image by American Public Power Association on Unsplash.