Sustainability First director Sharon Darcy argues that the regulatory framework for all energy network companies should include an explicit low-carbon incentive, and concludes that a qualitative approach with a quantitative element may be the best option at this point

 

The current RIIO framework includes incentives designed to tackle carbon emissions and environmental issues, but they do not enjoy the profile that the stakeholder and vulnerability work of the companies attracts, either in the companies or for stakeholders.

The current arrangements are fragmented. We found that environmental incentives totalled £110 million across the networks during the eight years of the price control, but they are split between 11 different environmental incentives. There are differences between the sectors in the ways in which different outcomes are treated and some well-known gaps in the current arrangements. For example:

• the incentive for connecting low-carbon generation focuses on stakeholder engagement, not the number of connections delivered;
• flexible connections help generators get connected but they can still be constrained off and the network has no incentive to find ways to help maximise low-carbon generation;
• the networks have no incentive to explore energy efficiency where that could deliver carbon savings along with operational benefits, or be proactive in supporting low-carbon transport or heat;
• there is no scope to take a whole-system view.

Given the scale of the challenge facing us in terms of decarbonising the energy system, Sustainability First believes serious consideration should be given to the inclusion of a low-carbon incentive common to all energy networks in RIIO2.

We suggest that it should look at the companies’ impacts on carbon reduction across the value chain. This would factor in network approaches to facilitating low-carbon energy sources, low-carbon network operation and decarbonising demand – recognising that some of these outcomes fall beyond a network’s direct control.

 

Three approaches

There are three broad approaches to assessing incentives under RIIO: reputational, quantitative and qualitative.

The first can be effective, but only if the information is well publicised and in an accessible format so interested external stakeholders can then use it to hold companies to account – or, indeed, to showcase successes and best practice. This is not happening for low carbon.

A quantitative incentive could be linked to tonnes of carbon saved and linked to the cost of carbon. This would be challenging, as measuring and comparing different options would be difficult. It would be hard to assess “do nothing” options against which progress can be measured. Companies might focus too much on meeting or possibly even “gaming” specific metrics, rather than fulfilling the incentive aims. But the option should be examined, because Ofgem and BEIS have experience of designing such quantified measures.

Sustainability First’s favoured approach in the first instance, and perhaps the most practical, would be an incentive that is largely qualitative but underpinned by a range of metrics. A panel could be established that would be able to form judgments on whether the metrics were fairly representing the real contribution made by the networks – in particular where the networks were facilitating work by others. It could provide a “safety valve” if a focus on a particular metric was leading to unintended consequences and could also provide a way to deal with any areas that proved impossible to quantify.

Ofgem’s latest thinking on the new System Operator incentive structure provides some useful pointers here:

• the SO has to develop a plan, including a set of metrics, for the way in which its performance should be judged;
• a standing expert panel should be established to judge whether the plan is ambitious enough and judge performance against it;
• the panel should award marks for a number of different aspects of the SO’s performance against its objectives (and taking account of its performance against the agreed metrics); and
• the financial reward that the SO receives would be based on its total score as awarded by the panel.

Experience from other qualitative schemes suggests that it would be best to have a standing panel that can build up experience, with members (refreshed every few years) including network users and experts, as well as experts in economic and environmental regulation and financial analysis. They could develop quantitative incentives over time, with a view to having a fully quantified low-carbon incentive in a future price control.

If the quantification were considered to be a distraction, the panel award could remain purely qualitative – as it is for other schemes. And crucially, it should be pro-active in communicating the positive (and negative) actions taken so that reputational incentives can be brought to bear.

We have couched this as a low-carbon incentive, but it is worth considering whether it may be better positioned as an obligation, with the potential for penalties as well as rewards.

Most importantly, any such incentive should become a rallying call for the networks to step up and play an active and transparent role in the low-carbon energy transition.

First published in the June 2018 edition of New Power Report

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