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The rapidly disappearing subsidies for wind and solar in Australia

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One of the loudest, most controversial and misinformed debates around Australian energy policy has been the level of subsidies for wind and solar farms.

It is mostly based around the renewable energy target and the market price of its principal pricing signal – the certificates known as LGCs, which have been trading at or above $80/MWh for some time.

This has led to some outrageous claims about the amount of money that is supposedly being pocketed by renewable energy developers, such as the Saudi company that owns the Moree solar farm.

Conservatives, and the Murdoch media in particular, continue to parade and parrot the false story and fake news that the renewable energy target will pocket some $45 billion of subsidies out to 2030.

It’s nonsense. Such claims are based on the assumption that all LGCs attract the market price – currently around $80/MWh. But in reality only a small percentage of “merchant” generators do that.

And those claims also assume that the price will remain at those inflated levels until 2030. Clearly, they are not.

The price of LGCs is already showing signs of significant decline as it becomes clear that the RET – which seeks 33,000GWh of new renewables by 2030 – will not just be met, but could be significantly exceeded.

That has pushed the future price of LGCs down sharply (see chart above, the yellow line at the bottom).

Many analysts expect that the price will fall to zero once the new build is completed and the excess of certificates flood the market. It is not a matter of if there is a price crash, says Tristan Edis of Green Energy Markets, but when.

What is often forgotten in the tirades against wind and solar is that many project developers have already forgone any subsidies, because they have signed long-term contracts, known as PPAs (power purchase agreements), for between 12 and 15 years.

Most of these contracts, particularly those signed in the last 12 months, provide effectively zero value to the LGCs. These include projects such as the 530MW Stockyard Hill wind farm, the 200MW Silverton wind farm, and the 470MW Cooper’s Gap wind farm.

Those contracts – like most others for wind and solar farms – were signed with the realisation that the LGC market price was heading to zero, or negligible, value in the 2020s.

But the key is that the prices for both the electricity and the LGCs have been struck below the prevailing cost of electricity, sometimes as low as $55/MWh.

This has also been the case for the ACT’s goal of sourcing the equivalent of 100 per cent renewables for its electricity by 2020. That program requires the LGCs to be surrendered at no cost to ensure the ACT’s efforts are additional to any national target.

So far, the ACT has done well out of its contracts because the first two wind farms have actually been returning money to ACT consumers, rather than requiring a top up over the market price.

It is important to note that the price of LGCs actually have little to do with the actual cost of the solar farms or wind farms, but are merely a financial instrument that provides an incentive for retailers to meet their obligations.

So, why are the LGC’s at such a high price of $80/MWh when that level of subsidy is not needed, and renewable energy projects can be developed and operate at an all up price of $55-$70/MWh?

Simply, it’s yet another example of where the incumbent utilities, in this case the retailers, are playing the market. Not illegally, but simply because the rules allow them to do so.

The price is high because not enough renewable energy generation has been built to meet the progressively higher annual targets, creating a shortage of LGCs.

This occurred because of the three-year investment strike that was caused by the Abbott government’s attempts – supported by many energy incumbents – to try to scrap, and then reduce the RET, from 41,000GWh to 33,000GWh.

That investment delay meant there was a shortfall in LGCs, so prices hit the market cap – it had nothing to do with the cost of building wind and solar farms.

Because of this, some retailers are still taking advantage of the rules. ERM power, for instance, in 2016 chose to pay the “shortfall charge” for not meeting its required number of LGCs.

It was a quite deliberate move. ERM has a three-year grace period to make up that shortfall, so while it paid a $150 million fee, that fee is fully refundable, and ERM will make a handsome profit – already estimated at $45 million – by buying the LGCs when the price falls.

Indeed, ERM CEO Jon Stretch discusses this very strategy in our latest Energy Insiders podcast, which you can listen to here.

According to the Clean Energy Regulator, around $238 million of shortfall charges have already been paid, and will likely be redeemed. Mark Williamson says retailers are likely to take a similar approach if the spot price for LGCs remains high this year and next.

“We’re pointing out the reality that the longer the spot price stays in the mid-$80 range, well above the $65 penalty price, there will be some temptation for some to pay shortfall, or to use the flexibility to carry forward less than 10 per cent of their liability,” Williamson says.

“And there is the prospect of more shortfall to come the longer it’s up there.”

Tristan Edis, from Green Energy Markets, predicts there could be a surplus of 80 million LGC once the RET is met.

“Across the life of the RET scheme to 2030 we are looking at a massive oversupply,” he says. “The question isn’t if we’ll see prices collapse but when.”

Edis agrees that because projects are still to be completed, a shortfall could continue until 2019, ensuring that the price stays high, and retailers paying the shortfall charge.

Even as late as 2020, retailers could still elect to pay the penalty price, or shortfall charge,   judging that the oversupply in 2023 will be so big that they can pick-up lots of them very cheaply.

They can then use these cheap LGCs to make good on the shortfalls they incurred in 2020 to claim back penalty refunds from the regulator, as ERM is doing.

The other complication is the structure of the proposed National Energy Guarantee, or any other scheme, and whether that allows generators to “double dip” into creating both an LGC and a NEG emissions obligation.

(That much may be academic if the Coalition retains its meagre emissions targets for 2030, as it has promised to do. Most analysts say the 26 per cent emissions target will be largely met by 2020 by the build out of the RET)

“If the NEG were to allow double dipping where a generator can create both an LGC and a NEG emissions obligation entitlement from the same megawatt-hour of generation then LGCs become worthless pieces of electronic paper that don’t mean anything for abatement purposes,” Edis says.

“If instead, they follow the prior recommendation from the AEMC for a baseline & credit scheme, where a renewable generator would have to choose between either an LGC or a NEG entitlement but couldn’t create both from the same MWh, then LGCs retain an ongoing value equal to a NEG entitlement.

“The second option that disallows double dipping will provide a far smoother transition that avoids pulling the rug from underneath participants in the secondary market for LGCs.”

So, if renewables don’t need subsidies going forward, then what’s the problem?

The problem is that without further incentives, or reasonable emissions reduction targets, the main energy retailers will have little or no reason to build new wind or solar, and will be happy to keep spinning maximum profits out of their fossil fuel generators.

That leaves only the household and corporate market as potential parties to contracting new wind and solar farms, and additional demand created when coal generators are due to retire.

There could be plenty of activity in the corporate market – with Sanjeev Gupta’s GFG Alliance contracting one solar farm already for its Victorian steel works and planning to build 1GW of new solar and storage for its South Australian assets.

Numerous other corporates are turning to wind and/or solar, with companies like Carlton & United Breweries committed to 100% renewables, and others to follow.

And they can be sure that the costs of wind and solar will continue to fall, even below the mid $50/MWh pricing that has been reported for projects like Snowtown and Murra Warra in Victoria.

As the CER’s Williamson told RenewEconomy on the sidelines of Australia Energy Week: “I’m also hearing that even the ultra-low prices we’ve heard disclosed in PPAs (power purchase agreements), that we may see lower prices further to come.

“I guess that’s going to be interesting to watch, in the context that wholesale prices are decreasing, but are currently still above those prices of new-build variable renewables.”  

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  • Andy Saunders

    I guess corporates signing PPAs have partly a PR motivation (to appear green), but also have a way of both risk-management against future price rises, and a way of avoiding too much retailer gouging…

  • Ken Dyer

    One can only hope that all the nonsense by the right wing commentariat and the LNP COALition will go away at the next election. And the sooner the better!

  • David Osmond

    I’m not sure if this will be a huge effect, but….. if LGC prices collapse, then GreenPower should become extremely cheap, and hopefully we’ll see a big increase of people signing up to GreenPower (particularly those who can’t put solar on their roof).
    https://twitter.com/simonahac/status/995580811523997696

  • Craig Allen

    How cheep do renewables have to get before they start to undercut the base cost of coal? At that point surely companies will be forced to transition away from coal by the economics, or just be outcompeted.

    • neroden

      Based on Lazard LCOE and current trends, new solar becomes cheaper than old coal… Right about now. It will vary by coal plant, so the closures will be staggered, but they should all be unprofitable in 4 years.

  • Brunel

    What is the price of electrons from those large solar power stations in Australia?

    Ironically the third world is a lot more transparent due to the solar power auctions.

  • RobertO

    Hi All, So ERM owner thinks that it’s OK to make money out of us consumers (aim of all big business, Vales Point Coal Power Station saga NSW COALition sale) and at the same time fight against RE only to obtain wind fall profits from the fight against RE. As I have always said Profit is always king and ERM will always do what is in their best interests. Rick was right but for the wrong reasons. LGC will drop in value and ERM can pick them up for next to nothing and claim their refund (and its us consumers that will pay for that profit).