Explore this article and audio – a glimpse into FORESIGHT's depth

Join our global community of experts, contribute your insights in commentary and debate, and elevate your thought leadership. Get noticed, add value – be part of FORESIGHT's engaging discourse. Join us today.

History lessons in why expensive is proving cheap

Plotting past trends in the cost of electricity clearly shows the way forward

Governments and companies routinely struggle to select the right cost forecast on which to base their energy investment strategies—and often get it wrong. If instead they had looked back at past trends in generation cost, fewer mistakes might have been made.

COST OF ELECTRICITY GENERATION

Governments and companies routinely struggle to select the right cost forecast on which to base their energy investment strategies—and often get it wrong. If instead they had looked back at past trends in generation cost, fewer mistakes might have been made. Projections of future electricity generation costs are studied, discussed and debated ad infinitum. In contrast, little, if any attention is paid to the past cost of generating electricity. Ask governments, policy makers, market regulators and power technology suppliers about lessons to be learned from comparing historic trends in the cost of electricity generation by different technologies and their answers are vague, or plain unforthcoming. Search for a chart that compares past electricity costs for today’s major sources of energy — coal, gas, nuclear, land-based wind and solar — and nothing is readily available from the usual sources of energy information, public or private.

Yet without knowledge of the past there can be little understanding of the present and without that no accurate perception of which path leads to a viable future. Electricity is no ordinary commodity. It is a product that at the point of delivery is unwaveringly identical, no matter which energy source it comes from; storing it economically in appreciable quantities is an unsolved challenge; and above all, it is a basic need. As such, production of electricity cannot be guided by standard business theory alone. Making the right energy policy decisions also requires plumbing the depths of knowledge that history provides.

Fuel price uncertainty

The fluctuations seen in the cost curves for coal and gas generation over the years (see graph) largely reflect movements in fuel prices, oil in particular. Historically, gas and coal prices have followed oil price movements. When the link with oil prices broke in recent years, the cost curves for coal and gas generated electricity start to diverge, particularly from 2010 when the curves reflect data gathered around the time oil prices peaked. When oil prices fall, gas prices tend to get pulled down with them while the price of coal generation is not similarly affected. Another influencing factor on generation costs from 2010 is that energy data gatherers, such as the International Energy Agency, begin to incorporate carbon penalties in fossil fuel generation costs. Coal, being dirtier than gas, incurs a greater penalty, accounting for just over $20/MWh of its generation cost compared with half that for gas. Its cost curve in the graph continues to rise as gas follows the sharp drop in oil prices, at least for the time being.

skaermbillede-2016-10-05-kl-15-23-54

Zero price risk

The cost of nuclear, wind and solar generation is mainly made up of repayments (with interest) of their respective capital costs spread over each unit of production during the lifetime of the specific facility. The rest of the cost consists of operations and maintenance charges, such as servicing, insurance, land rental, and component repair or replacement, also spread over each kWh. The resulting total, referred to as the levelised cost of energy (LCOE), is a known cost of generation from the outset, in contrast to the fuel price risk inherent in fossil fuel generation.

From the late 1990s, mid-range LCOE for a typical wind power facility on land has consistently undercut that of the thermal technologies and today remains lower than typical LCOE for solar PV, its nearest renewable energy competitor on cost. Until relatively recently, coal was the next cheapest after wind, but from about 2012 gas became cheaper than coal and more recently still so has solar PV. Electricity from nuclear plant has cost more than generation from wind, coal and gas for the past 20 years. Although wind power at its typical mid-range cost is clearly shown as the most economic long-term option for society since the mid 1990s it is not necessarily the most commercially favourable to build. The structure of the local or national market and the regulations that apply to the business of trading electricity can make development of less economic technologies a better commercial bet.

Governments are struggling to restructure markets that account for the changed economic reality brought to them by renewables. Progress is being made, though is hampered in markets encumbered by entrenched fossil fuel interests and which face the risk of stranding investments in legacy assets. Where the signing of long term power purchase agreements is an option for electricity supply, however, wind power is frequently the generation of choice based on its low cost, both in the United States, Latin American countries such as Brazil and Chile, and other windy locations.

policy_historyofcost

Security of supply and its cost

The cost of running a power system is separate to that of generating electricity. It is not included in generation cost. System costs include paying for security of supply, achieved by operating a margin of generating capacity over and above that required to meet peak demand. All generating units can break down for longer or shorter periods of time and need to be taken offline for regular maintenance. A margin of capacity is needed to cover for every eventuality, planned or unplanned. This inherent uncertainty in running a power system has a cost. Sufficient power must be available at all times to balance supply and demand. All plant contribute to the cost of providing it. In the case of wind, its variability of supply incrementally adds to the level of uncertainty and is an extra cost. When wind is supplying 20% of electricity on a system, the cost of the extra time that plant has to run to make up for mismatches in supply and demand is a modest $6/ MWh. For 50% wind it is $8/MWh. Add this extra uncertainty of supply” cost to wind’s curve in the graph and it does not alter the picture, even when a similar fair share of the cost of providing balancing power is not added to the curves of the other technologies. Nuclear, which unlike wind can trip offline in an instant and is often the largest single unit on a power system, may also incur similar balancing costs to safeguard security of supply.

Nose-diving renewables

Wind’s steady fall in cost during the 1980s and into the late 1990s, clearly demonstrated in the graph, is largely a product of learning curve economics, spurred by tough competition between a plethora of wind turbine suppliers in Europe and the US. A sudden rise in wind’s generation cost in 2005 (the only hike in wind’s cost yet seen) was caused by a number of converging factors. Demand for wind turbines had outstripped supply, prices had risen for steel and copper globally and competition had been reduced after a spate of mergers and acquisitions among wind turbine manufacturers.

All three factors served to push up wind turbine prices, which in turn pushed up generation cost. Not much more than a year went by, however, before the market settled and wind’s cost continued down the learning curve, albeit less steeply than in the early years. Solar PVs rapidly falling cost curve after the technology became commercial mirrors that of wind in its early years.

Last word

History is a guide, no more, no less. What it tells us, however, is that over 25 years, the cost of electricity from nuclear plant in the industrialised world has increased with every new facility proposed. For the fossil fuel technologies, irregular swings in gas and coal prices are the norm and make the cost of coal and gas generation decidedly unpredictable: fuel price risk is real and that uncertainty has a very real cost. In contrast, given stable commodity prices, the cost of land based wind has steadily declined and that trend is being mirrored by solar PV, the newest technology to become commercial. It would be hard for anybody to mistake the history lesson embedded in our graph. • policy_historyofcost2

TEXT Lyn Harrison