Ireland’s first offshore renewable energy auction was held last week. The auction cleared at a price far below industry expectations, but still in excess of long-run electricity prices. The price was much higher than offshore auctions in other European countries.
So what does it mean for Irish electricity users? Determining whether it represents good value is not a straightforward exercise.
Ireland has ambitious targets for renewable electricity generation: we plan to source 80 per cent of our electricity from renewables by 2030. This requires securing a massive five gigawatts (GW) of offshore wind power by 2030. For context, Irish electricity demand tends to peak at about 5.5GW.
At present, Ireland has one offshore wind farm, which is 20 years old. We are therefore looking to build up a massive industry, essentially from scratch, in less than a decade. To achieve these targets, Irish consumers subsidise renewable generation via a guaranteed price. When market prices are below the guaranteed price, consumers top up the renewable energy producer, whereas when prices are above the guaranteed price, the producer pays the difference back to the consumer.
The guaranteed price is determined by an auction: firms submit bids to EirGrid for the price they are willing to generate for. Renewable projects are chosen and contracts awarded based on the price each project bid, from cheapest to most expensive.
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There have been two auctions for onshore renewable energy – wind and solar – to date. These auctions have cleared at worryingly high prices. Nonetheless, given the historically high electricity prices last year, renewable power still saved Irish consumers money, but we could be saving even more if the auction prices were lower.
In this context, I expected last week’s first offshore wind auction to clear at a high price – the last onshore auction cleared at €97.87/MWh, so I expected offshore wind, which costs more than onshore wind, to require about €120/MWh. The most optimistic estimate I heard was €95/MWh, and the most pessimistic was €130/MWh. Instead, the auction cleared at €86.05 – a welcome reduction compared with onshore auctions.
This surprisingly low price reflects the fact that a portion of the price received will be indexed to inflation, while until now prices were locked in for 20 years with no adjustment for inflation. This naturally led onshore wind farms to submit higher bids, to cover expected inflation. There was also a change to the offshore auction, where wind farms are compensated for all the electricity they produce regardless of whether it is used. This again means lower risk for the project, and hence a lower price.
Investors still bear the risk of when the wind is low, but they are now less exposed to inflationary risk, and the risk of the wind blowing when the demand is not there
However, I don’t think these changes explain everything. There was genuine competition in the offshore auction: 4,249MW of offshore wind participated in the auction, with 3,074MW winning a contract. Thus 28 per cent of the wind capacity that participated in the auction did not win a contract. The corresponding figures for wind in the two onshore auctions to date were 4 per cent and 7per cent. There is no incentive to bid low if you are virtually guaranteed to win a contract.
There are several key lessons to take forward from last week’s auction. The first is the importance of de-risking wind investment. Investors still bear the risk of when the wind is low, but they are now less exposed to inflationary risk and the risk of the wind blowing when the demand is not there. Those are the two main areas where risk has been moved from the investor to the consumer – and in return consumers are rewarded with lower prices.
Consumers end up paying for risky wind projects either way, through a higher price – and so reducing risk for wind farms means lower prices for consumers. More importantly, we must be prepared to procure less wind in future onshore auctions, if necessary, to ensure greater competition and therefore lower prices.
In addition, €86.05/MWh is still a high price to pay for electricity, even for a 20-year contract. We need to ensure that future offshore auctions clear at lower prices. Encouragingly, the most recent offshore auction in the UK cleared at prices 70 per cent below their first auction. Similar patterns have been observed in other European countries. However, to make sure the same happens in Ireland the offshore projects that win contracts must proceed in a timely manner.
Onshore wind projects to date have generally failed to progress through the planning process in a timely manner. The planning and grid connection process is slow, cumbersome and, crucially, unpredictable. Uncertainty in whether or when approval will be granted, followed by a high probability of judicial review, puts upward pressure on prices and costs.
If similar delays manifest in the development of these offshore projects, developers in future auctions will price this into their bids and prices will rise. On the other hand, if the planning decisions are made quickly and predictably, this de-risks offshore development even further, and future prices should fall. It is in everyone’s interest to make sure the decisions made are evidence-based, transparent and certain.
Last week’s auction saw French, Norwegian and German companies among the winners. There is international interest in Ireland’s offshore wind sector. We can build on this in future and lock in lower and lower prices for years to come if these projects proceed in a timely manner. There is huge opportunity here if we play our cards right, but time is of the essence.
Muireann Lynch is an economist at the Economic and Social Research Institute