Rethinking Electricity Markets is an Energy Systems Catapult initiative to develop proposals to reform electricity markets so that they best enable innovative, efficient, whole energy system decarbonisation.
We need to reform electricity markets and market mechanisms so that they bring forward innovation and investment in a more efficient mix of low carbon generation, network enhancements and flexibility.
In developing proposals to reform electricity markets, we will:
work collaboratively and interactively with a range of stakeholders with different perspectives and expertise
draw on our capabilities to analyse and understand the challenges of whole energy system decarbonisation
draw on our experience in working with innovators and local energy projects
share and test our emerging insights on a regular basis.
The Electricity System Challenge
Low or zero-carbon electricity will have a key role to play in achieving a Net Zero greenhouse gas emissions target by 2050. New and renewable forms of electricity generation will be crucial within a more decentralised and flexible system, serving more of our transport and heat energy demands.
Current electricity market arrangements are complex and market mechanisms do not fully reflect the value of different technologies to the system as a whole – in terms of how they impact on overall system costs or reduce carbon emissions. The value of different technologies depends on:
how flexible and reliable they are
where they are located on the network
their impact on carbon emissions.
Current market arrangements make it difficult to promote a balance of investment across different times, locations and solutions or to encourage long-term investment choices and innovation.
Electricity sector policy reform is often focused on design details of particular mechanisms (e.g. network charging, auction mechanisms, capacity markets). There has been less focus on how these detailed mechanisms fit together to signal value, or on the strategic choices around how to ‘get prices right’ across the system and the value chain.
Rethinking Electricity Markets aims to fill this gap by focusing attention on the options for reforming the current complex mix of energy market and policy arrangements so that they stimulate innovation and investment in a flexible and resilient mix of zero-carbon electricity.
This means addressing issues such as policy fragmentation, integration of electricity into the wider energy system (heat/ transport), and interaction between regulatory and policy instruments. A key emerging theme is the need for more granular price signals in both time and space, to ensure that markets reward actors who deliver flexibility in locations where it is most valuable.
The project so far has delivered a first exploration of the strategic issues in electricity market design, drawing upon international experience with alternative market and regulatory architectures. Working alongside Poyry, the initial stages focused on the following questions:
How are the different sources of value in electricity markets reflected in the current GB market arrangements?
What is the risk that market signals will lead to distorted or inefficient outcomes?
What lessons can we learn from alternative market designs about practical solutions for a future set of market arrangements?
This study commissioned by Octopus Energy shows that reforms to make wholesale electricity markets reflect local conditions could save around £3bn per annum on average (circa £30bn in total) by 2035, as the UK transitions to a net zero grid.
Our most controversial reform proposal is our Rethinking Electricity Markets project is to phase out CfDs – which many see as a huge success story for UK policy over the past decade, and vital for access to low-cost finance for the new generation we need.
Will our current market arrangements get us there cost-effectively, meeting the huge influx of electrified transport and heating that the targets imply (while maintaining little things, like the grid stability and security that we are so used to)? That is the urgent question facing policymakers.
The government’s net zero strategy includes a commitment to fully decarbonise our power system by 2035, along with other commitments around nuclear power, offshore wind and CCUS. But major questions remain about the detail of how to adapt policy and market mechanisms so that they drive the right mix of investment for a zero carbon grid. In other words, the policy framework for delivering a balanced and efficient Net Zero electricity resource mix by 2035 remains unresolved.
To date, we have worked alongside Poyry for the delivery of the work. Through a series of events, we also benefited from feedback from stakeholders across industry, policy and regulation, including BEIS, Ofgem, CCC, DNOs, ESO, suppliers and technology developers.
Next Steps for Electricity Market UK
We intend on developing this stream of work over the coming 1-2 years by leveraging ESC’s internal capabilities and working alongside our innovator network, wider industry and academia. Building on the work to date, the next stage of the project would likely focus on the following themes:
How can arrangements based on local markets and network charges approximate the functioning of locational marginal pricing in terms of reflecting the time and locational value of electricity?
What policy and regulatory framework would be needed for such a system to operate well to support innovation, enable efficient multi-vector choices, support efficient decision-making and make price formation more cost-reflective?
What roles do different actors need to play and how can they interact and coordinate effectively?
We will continue publishing insights on this webpage and will seek continuous stakeholder engagement, including via a potential creation of a strategic advisory group.
Markets, Policy and Regulation
Independent thought leadership that combines expertise in clean technology, economics, and energy policy design, informed by cutting-edge modelling and evidence-based analysis.