Contracts for Difference: How Can The UK Stop Rising Energy Prices?
As Contracts for Difference (CfD) supported renewables could pay back £10.49 billion a year to customers by 2027, Housing Industry Leaders analyses what CfDs are and how they could save consumers on their energy bills.

As the dynamics of CfDs are changing as investments in renewables increase, thinktank Onward recently published a report. You can read the full report here.

According to the report, from November 2021 to January 2022, CfDs have already paid back £114.4 million to energy suppliers. This is equivalent to each household saving £6.46.

Alex Luke, Senior Researcher, Onward

Despite this relatively small saving, it is a step in the right direction and is an improvement on the 54% increase in the energy price cap in the UK.

Additionally, further renewables are set to come online over the next five years leading to the potential of each household to save £97.53 per year by 2027.

Housing Industry Leaders spoke to Alex Luke, Senior Researcher at Onward and author of the report, about the findings. Alex explained: “As more projects come online at lower strike prices, the threshold that the energy price needs to reach for CfD to pay back becomes lower.

Continuing, he told Housing Industry Leaders what this means for consumers: “It acts as an insurance policy ensuring consumers against a portion of future rises in prices. By 2027 it’ll be about a fifth of energy production, which means you’re insured against a future price rise for a fifth of your energy use.”

Strike pricing and reference pricing play a huge role for CfDs

CfDs work by guaranteeing a fixed price for the energy generated by renewable assets over time, which reduces uncertainty for investors in renewable energy projects by shielding them from wholesale price volatility.

Each CfD contract dictates a ‘strike price’ – the guaranteed price paid per unit of electricity. The difference between this ‘strike price’ and the ‘reference price’, which measures the average market price for electricity in the market, is where CfD payments occur.

If the strike price is greater than the reference price, then the energy suppliers – through the Low Carbon Contracts Company (LCCC) – make up the difference. However, if the reference price exceeds the strike price, the generator pays back the difference.

CfD contracts are awarded through allocation rounds. There have been three to date – in addition to ‘investment contracts’ (early CfD contracts handed out to prevent an investment hiatus while the CfD programme was finalised).

It is worth noting the saving comes instantly; now the levy on CfDs has been set at nothing, consumers are paying nothing towards CfDs, and they are receiving a net benefit back

These contracts have been awarded to both ‘baseload’ and ‘intermittent’ technologies. Baseload technologies consist of biomass conversion and ‘energy from waste’ projects, which generate a stable base of electricity, while intermittent technologies include solar PV, onshore wind, and offshore wind. The reference price is different for these two types.

The report explained: “Payments for baseload technologies are calculated against the Baseload Market Reference Price (BMRP), whereas payments for intermittent technologies are calculated against the Weighted Intermittent Market Reference Price (IMRP), which is usually higher.”

So, I think it is something you can go to people with and highlight the instant savings, which is a powerful messaging tool

Electricity prices are incredibly linked to gas prices – here is why

Fundamentally, you have to consider how fast gas prices have risen over the last year and how electricity prices respond.

Electricity prices are incredibly linked to the cost of gas because of the way prices are set in the UK. Gas is the marginal generational unit for electricity generation in the UK, which means that you meet your demand’s needs through cheaper sources like renewables and nuclear first. Still, it is almost always gas to meet the last unit of peak demand.

Alex added to this, stating: “This means all of the cheap renewables that are generating electricity, they then sell the energy at the same price that the gas powerplant sells it. Just by looking at how the electricity market in the UK works, it is clear to see that it is the gas responsible for the rise in the energy price crisis.”

Conversely, 90% of the UK bills increase is due to increased gas prices in Europe during 2021. If the UK is to reduce energy prices, we need to rapidly reduce our dependence on all gas, not just imported.