| Market forces
Jeremy Wilcox is managing director of the Energy Partnership, an independent Thailand-based energy and environment consulting firm 8/27 Sukhumvit Soi 8, Klongtoey, Bangkok 10110, Thailand | T: +66 2 653 1263 | Mobile: +66 860993375 | S: energypartnership
Is Britain going back to the future?
Central to the cost of living crisis that is shaping the political narrative in Britain is the price of energy, with analysts forecasting a 13% rise in the price cap for the third quarter. The driver of higher power costs is the elevated gas price, which has empowered the net zero zealots who claim that rising power prices justify the end of investment in fossil fuel exploration and production, and an acceleration in renewable power capacity. Rising power costs have also triggered the counter-argument that not investing in new gas production, including fracking, directly risks elevating gas prices by forcing an increased reliance on imports.
The energy debate should not be shaped by net zero, but by how to limit the gas price impact on wholesale power prices. The irony is that the pro-net-zero wind developers do not want an end to system marginal pricing (SMP) as it risks reducing wind plant profitability. This was evident when the government dropped plans for zonal power prices amid opposition from the wind industry, so while there are alternatives to SMP, any alternative could require the wind industry’s blessing. Alternatives to SMP, where the most expensive generator needed to balance the grid sets a single uniform price for all cleared generators, generally fall into alternate bidding rule formats, long-term structural contracts, or varying spatial granularities, although with zonal pricing already dismissed by the government there are just two pricing model categories to consider. Alternate bidding rule formats include pay- as-bid pricing, average cost pricing, and cost of service pricing. In pay-as-bid pricing, generators receive the exact price they bid into the market instead of a uniform clearing price. While theoretically decoupled from expensive fossil fuel price peaks, historical analysis shows cheaper producers adjust by raising their bids to anticipate the marginal unit’s price. In average cost pricing the wholesale price is set based on the calculated mathematical average production cost of all active generators rather than the single highest marginal unit, while cost-of-service pricing takes a traditional, regulated approach where generators are directly reimbursed for their verifiable operational and fuel costs plus a fixed, legally permitted profit margin.
The key advantages of these pricing models are that they suppress instant windfall profits, although the strategic bidding also cancels out projected savings. While these pricing models provide grid investment signals, they differ
From a market competition perspective,
the best model would be zonal pricing and a progressively decentralised power market…
fundamentally in what they signal, how they incentivise builders (generators), and where they direct capital.
In pay-as-bid pricing the grid investment signal is poor and distorted. Because generators are paid their submitted bid, rather than a market- clearing price, they are discouraged from bidding their true costs. The grid investment signal from average cost pricing favours stability over efficiency. While it provides strong, guaranteed investment signals for long-term capital-intensive projects such as nuclear plants by essentially de-risking the investment, it can signal over- investment as operators have historically been incentivised to inflate their capital base to earn a higher absolute profit.
The second category of alternate pricing models includes contracts for difference (CfDs), power purchase agreements (PPAs), and dual- procurement models.
Contracts for difference – which are long-term bilateral contracts guaranteeing a pre-negotiated strike price whereby if the market SMP is higher than the strike price, generators return the excess profit and if lower they receive a top-up subsidy – are already widely used, with CfDs being the UK government’s primary mechanism for supporting and securing investment in low-carbon and renewable electricity generation.
PPAs, which are long-term, direct commercial contracts between corporate energy consumers and developers that bypass centralised spot-market clearing are also popular. While corporate PPAs account for less than 5% of the total renewable generation directly on the British grid, the broader PPA market (including utility-led PPAs) is extensive, with contracted PPA capacity reaching roughly 38 GW (72%) of Britain’s operational renewable capacity.
Dual procurement is an emerging pricing model tailored for grids with near-zero marginal cost structures (ie, wind and solar). These split the system into two distinct markets: a long-term auction for bulk capital- expenditure energy investments and a residual marginal spot market confined exclusively to balancing and flexibility resources. PPAs and CfDs provide strong investment signals by
shifting risk away from developers. They act as long-term revenue guarantees that make capital-intensive projects, like wind and solar farms, bankable for lenders and attractive to investors. Both fix the price of electricity over 10–20 years, insulating projects from volatile wholesale market swings, with the predictable cash flows allowing developers to use more debt financing, which lowers the overall project cost. But by guaranteeing a flat price, these contracts can weaken signals for flexibility, and generators may lack the incentive to respond to real-time price peaks or store energy. Also, traditional CfDs often lack locational signals, potentially encouraging buildouts in areas where the grid is already congested. While the argument put forward for SMP is that it provides investment signals, the UK’s renewable power capacity growth is not primarily attributed to SMP, with the actual build-out being driven by specific government policy interventions designed to bypass the risks associated with volatile marginal prices. The massive expansion of wind and solar has been fuelled by financial mechanisms that provide long-term revenue certainty, which a pure marginal pricing market often fails to offer.
For a government that has a blinkered zealous net-zero vision, has changed planning rules to prevent objections to massive new solar farms, is planning to legally ban future fossil fuel exploration and production, and could potentially elect a new prime minister by the autumn that wants to nationalise the energy industry, a discussion on alternatives to SMP could be somewhat academic.
From a market competition perspective, the best model would be zonal pricing and a progressively decentralised power market that would stimulate both generation and network efficiencies and lower power costs. But with competition an anathema to this controlling government, and with the likelihood of it turning further left if Andy Burham is given the keys to Downing Street, SMP could conceivably be replaced by a return to regulated tariffs or cost- plus pricing, and particularly if the market is taken back into state control.
www.modernpowersystems.com | May/June 2026 | 13
Page 1 |
Page 2 |
Page 3 |
Page 4 |
Page 5 |
Page 6 |
Page 7 |
Page 8 |
Page 9 |
Page 10 |
Page 11 |
Page 12 |
Page 13 |
Page 14 |
Page 15 |
Page 16 |
Page 17 |
Page 18 |
Page 19 |
Page 20 |
Page 21 |
Page 22 |
Page 23 |
Page 24 |
Page 25 |
Page 26 |
Page 27 |
Page 28 |
Page 29 |
Page 30 |
Page 31 |
Page 32 |
Page 33 |
Page 34 |
Page 35 |
Page 36 |
Page 37 |
Page 38 |
Page 39 |
Page 40 |
Page 41 |
Page 42 |
Page 43 |
Page 44 |
Page 45
