24 MARCH 2004

Mr Philip Wolfe, Mr Iain Dorrity, Mr Max Carcas and Dr Tony Trapp

  Q440  Lord Lewis of Newnham: Would you like to comment on what happened in the Yorkshire combustion plant which in fact has been closed down? Have you any comments on that particular closure?

  Mr Wolfe: Yes. We feel, with the benefit of 20/20 hindsight of course, that it was not a very good way of incentivising new technology to come forward. The way in which the support mechanisms were offered for the ARBRE plant obliged it to develop not only a whole new fuel chain through the growth of new energy crops but also a whole new combustion technology. So under the conditions which they were offered support by the DTI and by the European Union they were obliged to undertake two very substantial new areas of development and we feel that was just asking really too much of a new technology. Just to come back to the earlier point as well, I think there is one other area where new technologies can be incentivised. We have talked primarily about the larger scale grid integrated technologies, those which are feeding power in relatively large chunks into the grid. There are also prospects for developing new micro-renewable technologies, technologies at the domestic scale, for example rooftop photovoltaic systems, for example micro-CHP systems. Those obviously need to be developed in a rather different way and certainly we would see the introduction of new building regulations, for example, as being a good opportunity to provide incentives to help technologies such as photovoltaics and micro CHP to make a growing contribution to the total in the future.

  Q441  Baroness Platt of Writtle: What about the possibility of net metering?

  Mr Wolfe: That again would be another significant contribution to those micro renewables.

  Q442  Baroness Platt of Writtle: That does not exist at the moment?

  Mr Wolfe: It does not exist at the moment, much to our chagrin.

  Mr Dorrity: If I could just add a comment on the PV industry. It is no coincidence that Japan is now the biggest market for solar cells and has 50 per cent of the world production. Their incentive scheme for the installation of PV modules on rooftops has resulted in the cost of production falling by 50 per cent over the last 5 or 6 years. Similarly, now in Germany there is a feed-in tariff support mechanism which has now created the second largest PV market and again is providing stimulus to industry there.

  Q443  Lord Flowers: Mr Wolfe said in effect that the Renewables Obligation is designed to support the cheapest technologies, wind in particular. You have talked a bit about the others but could I press you a bit more. Is there sufficient support either through the government grant programmes or through incentives offered by the sector to ensure that the less immediately economic technologies continue to be developed and eventually brought to the market or can we, as Mr Carcas seemed to be suggesting, rely upon the initiatives of individual industries to bring it about? What I am really asking you is, is there a coherent long term development programme, an R&D programme perhaps?

  Mr Wolfe: We feel the honest answer to your question is no, there is not at this stage enough support. But we would not argue for changes to the Renewables Obligation. We feel that works well for the developed technologies. We feel that the issue is to bring the newer technologies through to the stage where they can compete under the RO. So we are looking for transitional support for those technologies. We think there need to be three elements to this. One is support at the very early stage, at the R&D level. That support exists to some extent at the moment, but it is too inconsistent. There is too much of a stop-start element to this support. Each component developer needs to go through a series of approval steps to get a small part of the development approved. Then once they have done that they have got to go back through the same process again. So there is no long term coherence which enables them to really build a good team and motivate them. Secondly, there are those technologies which probably would still benefit from capital grant support in the way that happens at the moment, for example for offshore wind devices, and that is undoubtedly a valid mechanism for certain technologies. Thirdly, the missing link, if you like, is this transitional support mechanism that I spoke about earlier on where developers are incentivised to take the developments to the next stage where they are close to commercial, where they need to install relatively large-scale and get benefit from delivering power into the grid. At that stage, once they have been through that process, they are then ready to take their technologies through to compete alongside wind under the Renewables Obligation.

  Q444  Lord Flowers: Who should fund and lead your magnificent vision?

  Mr Wolfe: We believe a system can be structured whereby a lot of the required financing will come out of the marketplace. We are suggesting a mechanism where the output from the systems is purchased by an agency who will then sell that power into the marketplace alongside Renewables Obligation generated power, sell that power with the ROCs so that they will get the market price for the power. They will then need to supplement that by an additional amount, which in the case of more mature technologies will be quite small and in the case of less mature technologies will be rather larger. So they will really only be needing to fund the difference in price between the contract price and the market price and we would see the funding from that coming from firstly, in part, the existing fossil fuel levy which is generating a surplus year on year from the earlier NFFO projects, secondly prospectively from the Government in terms of funding alongside what they are putting into the capital grant schemes, thirdly possibly also from regional agencies, where again most of the regions are developing policies to promote renewables and there would be an opportunity to obtain funding from them, and finally prospectively as the emissions trading system is introduced if allocations are being auctioned under the Emissions Trading Scheme in the future then that would provide additional funds which could be usefully used in this area.

  Q445  Lord Flowers: Do you believe, forgive me, that that ragbag of activities will lead to a coherent programme?

  Mr Wolfe: Well, I am not sure I would agree it is a ragbag of activities. It is a variety of different sources of funding but one single activity in terms of the way in which they are targeted into the market.

  Q446  Lord Flowers: Yes, but I am looking for a leader and I have not seen one yet.

  Dr Trapp: If I may come in on that. At the moment the DTI has a New and Renewable Energy programme, which is quite relevant to wave and tide, which are very early stage developments and we as a company would not be doing what we are doing without that support. That has been our major support together with our own investment, which has been considerable, and one other equity investor we have had. That DTI programme is about £15 million over the last five years, about £3 million a year, and the indications I get from the DTI are that that programme will continue at about the same level. The first point is that this is new power station technology we are trying to develop and that is a very tiny amount of money. The other thing I notice with what you referred to as this ragbag of activities is that through RDAs, through devolved executives, through test centres, research centres, proposed renewable energy research centres and SuperGen, all these various mechanisms, I am not sure that there is not about ten times as much money as the DTI programme being spent but what we as a company are wondering (our personal view, not the RPA's) is that this is not an obvious way which constitutes an integrated, well-constructed renewable energy programme to develop new technology. We do not think it is joined up, if that is the point you are getting at.

  Lord Flowers: Precisely.

  Q447  Lord Lewis of Newnham: What criteria are you going to apply to when you should terminate a particular project, because just as it is very important to be able to start something, there has also got to be an opportunity of saying at some stage or other, "Perhaps this is not the correct procedure we are going through here. There is some alternative that would be far more effective in following," because you are running a series of horses on this course?

  Dr Trapp: Absolutely, and at the moment the DTI New and Renewable Energy programme is the only programme. Although we might have difficulties with some aspects of it, it is the only programme which we know that is running which at least attempts to adjudicate between the different schemes and the different technologies by having a range of independent assessors. I do not know of any other mechanism but I think they are only responsible for a tiny part of the investment that is now being made.

  Mr Carcas: The other point I would like to make is that the Government does not 100 per cent fund these projects, it is part-funding. So commercial money is required to match this and really the commercial partners have to make a decision whether it makes sense to continue backing something. So I think that is the ultimate arbiter of whether it is worth continuing with something. I think the point really is that we are not looking so much for subsidy as such. We are not subsidy junkies. What this really is about is it being an investment both in the economic industrial opportunity and also in security of supply, using an indigenous resource, and also an insurance policy against those factors in the future. I think if you look at what is really required it is the reduction of risk. If there is risk there and uncertainty then it costs more money, more commercial money. If you want to leverage in as much private sector money as possible what the Government could do is reduce that risk by mechanisms and it has been shown how to do that in other countries. We have some very good examples out there, such as Denmark.

  Chairman: That leads very well into Lady Sharp's question.

  Q448  Baroness Sharp of Guildford: Yes. My question has been partly answered but hinges on this. You talk in your paper about the development of Power Purchase Agreements being a way through it and I take your point that you are not subsidy junkies here. Nevertheless, you do need some leverage and you are looking both on the capital side for the pre-production development grant of some sort in different ways and you are also looking for a continuous stream of subsidising the cost of power while you bring it on stream. I think we all recognise that these are, so to speak, pre-production and early production stages and that there are economies of scale and if anyone can get a scale big enough you get the price down. But the question is always how much, for how long, will it be viable and are you going to get the commercial backers for it?

  Mr Wolfe: I think it is important, as we said earlier on, that the support mechanisms are structured in such a way that they progressively index down the level of support per kilowatt hour, down until it meets the market level. That will enable effectively the strong to flourish and the weak to wither and we accept that is the case. There are a lot of renewable technologies out there and not all of them will make the grade but it is important they are given the opportunity to do that, to prove themselves, and then that the mechanism is structured in such a way that the ones that have real potential to be economic survive and the ones that do not perish.

  Q449  Chairman: You say support goes to zero and you go down to market prices but given the fluctuation there has been in fossil fuel prices and that one can anticipate, I suppose, in gas prices in the future, how do you square that with a market price?

  Mr Wolfe: Well, obviously that is a difficult question and made all the more complicated by the fact that our view furthermore—and you will not be surprised to hear that—is that the price of traditional energies needs to be fully cost-reflective, in other words it needs to include the full cost of the elements which at the moment just are not costed in at all. That is not just the CO2 emissions but also the downstream costs of nuclear power station decommissioning and these sorts of things. So it is important if renewables are to become a truly cost-economic source of power, and we believe they will be, then it has to be on a level playing field alongside fully costed traditional energy sources.

  Q450  Chairman: Do you see any prospect of that?

  Mr Wolfe: In the longer term it needs to be inevitable. In the short term clearly there is a lack of certainty that we are heading wholeheartedly in that direction.

  Q451  Lord Flowers: Does that not mean you have to have the cost effect on the environment of all these various different kinds of energy producers? They are quite different. Nuclear is quite different from wind power, for instance, in that respect.

  Mr Wolfe: Exactly so, but with most renewables really the environmental costs are already included. There are no downstream emissions costs that most renewables suffer and therefore have to pay for and yet traditional fossil burning energy, basically, has all sorts of downstream environmental consequences that are not costed in.

  Mr Carcas: Just to add to this, there are two things really. First of all, the cost of conventional fuel in 10 years or 20 years' time is very difficult to estimate, but clearly there is a significant risk it will be a lot higher than it is today. This comes back to support here being an insurance policy as well. Secondly, speaking on our own behalf, as Ocean Power Delivery, we have done various costs modelling looking through to the future and we certainly think that it is possible for wave power to be one of the lowest cost forms of generation in the longer term but the only way you get there is by deploying the technology out into the market.

  Q452  Lord Winston: To what extent do tax measures level out some of these playing fields, in your estimation, in the future?

  Mr Wolfe: Very little. I think we are probably straying outside the area where we have a remit to comment but certainly I think it is important, if we are to achieve the objectives the Government has set and the objectives to which we subscribe, that the costs of traditional energies have to be fully reflective, by whatever means.

  Q453  Baroness Platt of Writtle: Annex 1 of your memorandum includes projections for the effect on ROC prices of different levels of achievement and it shows a "cliff-edge" in the marginal price at the point at which the targets are in fact met, and you argue that the RO therefore acts as a "ceiling on capacity". Is this still your view and are you concerned that this may act as a brake on renewables?

  Mr Wolfe: Certainly the underlying economics remain the same. I am delighted to say that we made a very similar submission to the Energy Minister when he was recently appointed, making the same point and he realised the implications of this and did just what we were suggesting in this paper and that is to extend the Renewables Obligation quotas beyond 2010 because he realised, as we did, that this was likely to be a brake on new capacity installations. So he has now extended the quotas out to 2015. I think you will see in our submission we suggested 2016 but he is close enough and certainly it is important that the quota continues to rise to prevent this cliff-edge effect becoming an inhibiting factor on the development of new renewables.

  Q454  Lord Young of Graffham: We were talking about level playing fields. I used to make daily speeches about level playing fields. I have yet to recall coming across one! I suppose it is the hope. The Renewables Obligation Certificates are there and the whole purpose of them is to redistribute from the suppliers to the original generators. How effective a mechanism is this?

  Mr Wolfe: It is relatively effective. There is still a number of issues with the Renewables Obligation which need to be resolved and the market needs to get bigger before it becomes a truly liquid market in ROCs. That means that as things stand at the moment the electricity supply companies have something of a stranglehold on the ROC market. It is therefore not as liquid as it should be and it is therefore not passing as much of the benefit down to the renewable generators as it should. Some of the problems, of course, were highlighted by the collapse of TXU and the impact that had on the ROC market. Nonetheless, we feel that the major issues have been identified. We are discussing these with the DTI and we think that the Renewables Obligation mechanism will need to evolve in order to make the market more liquid and therefore enable the benefits to cascade down more thoroughly to the renewables generators. So I suppose the answer is sort of five out of ten today but moving in the right direction.

  Q455  Lord Young of Graffham: Is this the general view?

  Mr Carcas: Just to add to that, the key thing if you are developing a power project is to have certainty about future revenue, so somebody developing a power project looks to secure a long term Power Purchase Agreement. That is based on ROC value. One has to take a view on how much renewables capacity will be developed in the market and what the future value of ROCs are. So if your view on that is pessimistic you are going to end up with a lower PPA than if the view is optimistic, (depending, of course, on what you mean by "optimistic" and "pessimistic").

  Q456  Lord Young of Graffham: Effectively you are saying you cannot have a long term supply agreement on which you can finance a power station if the ROC mechanism is in there because it is too uncertain. Has the Association or any of you made suggestions about the way in which the ROC system could be modified, because it seems to me that if this does not happen this is going to be an effective deterrent on more finance coming in?

  Mr Wolfe: Yes, we have made a whole raft of suggestions. We have even helped in preparing amendments, which your Lordships are due to debate in the Energy Bill, to address some of the issues. Some of them are substantive and will need addressing over time. In particular we have to remember that the RO is scheduled to become a larger and larger mechanism as time goes by and it will be worth billions of pounds per annum by 2015 at the current end point of the quotas and by that stage the market does need to be regulated and governed rather more effectively than it is today. There do need to be better trading arrangements put in place but we think there is time to do this and we are in negotiation with the DTI as to the best mechanisms to achieve that.

  Q457  Lord Patel: The Government recently made a decision to allow co-firing of biomass in conventional fossil fuel plant. What has been the general impact of this decision, in your view, and what do you think is likely to be the long term impact and also what do you think this decision has done to the value of ROCs?

  Mr Wolfe: Well, certainly the value of ROCs in the recent short term past has declined, perhaps partly in reflection of that, perhaps partly in reflection of the TXU issue. We did not support the changing of the co-firing regulations, not because we do not wish to see more biomass but because we felt it would be likely to destabilise the ROC mechanism. We did say if there were strong reasons for doing this then it was essential to incorporate safeguards to ensure that it achieved its prime objective of promoting energy crops. At the moment my fear is that we will end up within the next year or so saying, "I told you so." We have a fear that the change will not do what it was intended to do and that is promote energy crops and all it will therefore do is somewhat de-value the ROC market. But I am hoping that we will be proved wrong and I am hoping that a lot of new energy crops will be committed in the short term so that we are able to see the contribution of newly planted energy crops by 2009, which is the now delayed date for requiring energy crops within co-firing. So I have to say we were somewhat disappointed with the way things went, although we accept that it is important, in fact it is imperative to provide appropriate incentives for biomass. It is just that this is not the way we would have chosen to do so.

  Q458  Lord Patel: How would you have done it?

  Mr Wolfe: We think two things are important. One is to provide a pull through from the power sector and we feel that the transitional support mechanism we are proposing could well assist that for biomass. We would certainly expect to see biomass included in that. Secondly, there needs to be more effective support on the growing side for the planting and maintenance of energy crops and that at the moment is not as coherent as we would like. We would like to see more coherence between the approach to the demand side, which currently falls under DTI, and the supply side, which currently falls under DEFRA. We are pleased to see that they have recently arranged a joint meeting with the industry, that they are following this up and are trying to develop new mechanisms. The other missing constituent really is effective support for heat and CHP because for most biomass projects the heat output can be a significant part of the value of those projects and at the moment there is no effective support mechanism for green heat or for CHP. Clearly that is a substantial hole in the Government's policy measures which it appreciates is there and knows needs filling.

  Q459  Lord Patel: Has the falling value of ROCs affected investment in other technologies, including wind?

  Mr Wolfe: There are no signs that it has affected wind, and while it was a marginal disadvantage in terms of incentives to investment, the extension of the RO quotas to 2015 was a very major advantage, and the signs are that the extension to 2015 has outweighed the co-firing issue and has actually encouraged new investment into the industry. So at the moment we think the gains are greater than the losses.

  Chairman: I think we ought to move on. We are approaching the end of our time and we have not yet touched on marine energy. I would like to, if I may, directly to Lord Methuen.