Rising concerns about climate change and greenhouse gas emissions have induced the creation of regulations designed to achieve a decarbonized future. A transition toward renewable energy sources is necessary to achieve the goal of the Paris Agreement: to limit global temperature increase to 1.5 degrees Celsius.
Many of these new regulations are accompanied by price incentives such as carbon taxes, emission allowances (caps), certificate schemes, green energy fees, voluntary guarantees of origin etc. The global trend of energy becoming greener makes energy cost budgeting increasingly more complex, especially so at a country level. To avoid penalties and take advantage of incentives, an active approach to corporate energy management is more important than ever.
Why are regulations needed & how will they affect corporate energy budgets?
Due to its low marginal cost of production, investment into renewable technologies has the potential to create economies of scale, such as minimized long run average cost. This factor enhances the competitiveness of renewable energy and is demonstrated in many global markets, such as by downward solar PV price index movements in Australia, the BSW-Solar PV price index in Germany and installed prices of 2017 non-residential systems in the U.S. by Size (Figure 1).
But in the absence of sunlight, wind, rain, geothermal heat, waves etc., the intermittent nature of renewable generation could threaten the security of supply. To bridge the gap between growing renewable capacity and the installed baseload fossil-fueled power base, governments may fine tune existing incentive systems, or sometimes introduce completely new ones. Alongside price incentives and regulations being introduced to promote renewable energy investment are those that allow integration of those intermittent renewables on the grid once they are contributing to the generating mix. These are known as non-commodity costs.
The non-commodity cost components of an energy bill, which include charges for transmission, distribution, capacity and balancing services, are becoming more expensive in markets where they are already established and are emerging in markets where they have not historically existed. The quest to provide adequate economic incentives to balance renewable penetration into the grid inevitably leads to change and increasing non-commodity costs can be a particularly hard change for companies to swallow if not managed with care.
In addition to managing and budgeting for the commodity portion of electric power spend, end users must also more closely manage and accurately budget for non-commodity portions as well. To accurately forecast budgets in this new energy paradigm, access to country-specific market knowledge is critical. Not only about the current state, but also about the future direction of energy policy. Understanding country-specific levies and emission quotas, tax exemptions or government transfers, gives companies the opportunity to actively hedge or optimize energy costs.
Cost increase caused by decarbonization is constant; the way it’s done is not
It’s not only the increase in non-commodity cost that companies must be aware of; the approach taken by individual countries to determine these costs varies greatly based on each country’s generation mix and its cultural, economic and political environment. For instance, a market already heavily reliant on renewables may choose to install a 100% a renewable energy target. Conversely, a market comprised of industries heavily dependent on carbon-intensive energy sources might choose a less stringent carbon levy to avoid extreme and sudden sunk costs by switching to renewable sources.
Some examples of policies directly and indirectly placing a price on carbon emissions include:
- Poland’s dynamic Property Rights Market, also called the Certificates Colors market.
- The UK’s Climate Change Levy (CCL), active since 2001.
- Lithuania’s Public Service Obligation (PSO) levy, introduced in 2010 to support producers of renewable electricity.
- Greece’s special levy on pollutant emissions (SLPE).
- The European Emission Trading Scheme’s recently launched Market Stability Reserve (MSR), which aims to increase carbon prices by limiting the supply of CO2 emission allowances in 2019. MSR has already caused a significant bullish trend in carbon prices in 2018 (Figure 2). Furthermore, country-specific limitations and opportunities lead to additional price incentives to meet the lower CO2 emissions target.
Turn regulatory liability into opportunity
As demonstrated by just a few examples above, there are many local policies and regulations which will impact a company’s overall energy bill. In each market, though, there are also potential discounts and incentives that allow companies to turn a policy that was once a liability, into an opportunity. With local market knowledge and expertise, proper budget forecasting and compliance with discount criteria, companies can find immense opportunity in the changing landscape.
For instance, UK energy consumers can obtain a substantial discount on the Climate Change Levy if they hold a Climate Change Agreement (up to 93% of the levy for electricity and up to 78% for natural gas between April-2019 – Mar-2020). To illustrate this, for an Electric Power consumer of 1GWh/year, with a CCA, their bill of £8,110 can be reduced to just £568.
In 2019, the Lithuanian government, under an agreement with the European Commission, introduced an 85% PSO fee compensation for energy intensive industrial users. One of the requirements for the compensation is that a firm has implemented energy efficiency improvement measures. Otherwise, the company will be obliged to spend 75% of PSO compensation to implement them.
In other markets such as Mexico, renewable power can be purchased at prices below traditional grid power prices. Under specific permit and contract structures, non-commodity charges can be locked in at a discount.
There is no single standard solution to achieve a low-carbon future. As varying country approaches to a changing energy landscape demonstrate, actively maximizing energy budgets across a multi-national portfolio is becoming more complex. A company’s ability to navigate this new complexity is either an opportunity or a liability; which it is depends on preparedness and dedication to understanding policies in every market where it operates.
Along with rising non-commodity costs, the changing energy landscape has many implications for your business. Learn how this may affect your organization in this blog.
Diana Teloian, Risk Analyst – Budapest, Hungary
Fernando Kamachi, Energy Cost Forecasting Manager (EMEA) – Budapest, Hungary