Under current renewables obligation (RO) rules, RO certificates (ROCs) can be cashed in by electricity suppliers in either Scotland or England and Wales to meet their obligation regardless of where in Britain the renewable electricity is generated. Suppliers who fail to meet their obligations pay a penalty to "buy out" of their obligation. In the first RO period this is £30 for each MWh of green electricity shortfall. The buy-out money collected is shared among compliant suppliers in proportion to the number of ROCs they produced -- a recycling of penalties known as the "smearback." A greater shortfall in ROCs in England and Wales than in Scotland in the first RO year pushed up the value of the smearback, so that companies found it more lucrative to redeem their ROCs in England and Wales.
The culprit
The first annual report of ROC trading by the energy regulatory office, Ofgem, shows ScottishPower to be the most notable example of a company taking advantage of the opportunities presented by the separate buy-out funds in the north and south of Britain. In England and Wales the company met 100% of its obligation by producing ROCs, while in Scotland, where it has nearly 50% of the green power supply market, it was only 39% compliant with the Scottish obligation. The relatively low level of compliance pushed up the value of the smearback for Scottish ROCs way above those in the rest of Britain -- an irony for a country with an abundant renewable resource.
Three energy companies, EDF Energy, Powergen and RWE Innogy, are calling for RO funds in England and Wales and Scotland to be merged to prevent such arbitrage gains. An analysis commissioned by the companies concludes that Scottish electricity customers are unlikely to reap any benefit from arbitrage profits. The analysis by Energy Strategies finds that separate buy out funds have no economic justification and represent a cross subsidy for customers in England and Wales.
The Renewable Power Association (RPA) has similar concerns. It points out that there will be even more scope for unhelpful variance in ROC values when the Renewables Obligation is introduced in Northern Ireland, creating three separate UK buy-out funds. The RPA has succeeded in tabling an amendment to the Energy Bill, currently progressing through the House of Lords. The amendment requires that buy-out funds from all three obligations are pooled before being shared out among compliant suppliers.
"The ideal solution would be a single UK obligation, as this would reduce both the current administrative burden and market distortions," says RPA. "However this may not be possible for political reasons." Northern Ireland's Department for Enterprise, Trade and Investment has already opted to set its obligation at 6.3% by 2010, rather than the 10.4% target for Great Britain. "This differential will further exaggerate the distortions in the value of individual buy-out funds, particularly as ROCs are common currency against any of the three obligations irrespective of where they are generated," the RPA says.
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