Why renewables will fail without a carbon price

When solar and wind are cheaper to add than fossil fuels the game is over, many believe. But it’s not just competing against new-build fossil fuel plants, but also all the plants that have already been built over the last few decades.

In late night web trawling to find statistics on the share of coal in US electricity supply, I came across a puzzling conundrum which demonstrates that even with renewables becoming cheaper than fossil fuels, the climate problem will not be automatically solved. 

This makes for an uncomfortable message for the two extremes of the debate:

1) The Bjorn Lomborgs of this world who think we should do nothing to contain emissions except R&D to make clean energy cheaper; and

2) The renewable energy triumphalists who think that renewable energy technology advances mean a takeover from fossil fuels is inevitable no matter what government does.

The conundrum is exposed in the US Energy Information Administration’s latest Annual Energy Outlook, which have provided our charts of the week. 

The chart below illustrates that the EIA sees that even taking into account incremental transmission costs and excluding subsidies, wind is cheaper than nuclear and coal new build in 2020. And sometime between 2020 and 2040 it will become cheaper than gas combined cycle plants. As some added context, US regulations will make it effectively mandatory to employ carbon capture and storage with new coal build, so this would mean new coal would actually have a cost of around $150 per MWh, according to the EIA. In addition, in the Australian context you’d expect fuel costs for gas combined cycle to be nearly double those in the US.

Average levelised cost of electricity from different fuel types in US excluding government subsidies

Graph for Why renewables will fail without a carbon price

Source: US Energy Information Administration – Annual Energy Outlook 2014

Yet in spite of wind being the second cheapest source of power for new build in 2020 and the most cheapest by 2040, renewables make virtually little inroads as illustrated below (scenario does not take into account the EPA’s recently announced regulations for 30 per cent cut in power emissions from 2005 levels). Coal keeps on chugging along at similar levels to today and natural gas grows considerably. The end result being emissions grow from current levels and the shale gas revolution actually hinders progress on climate change.

US electricity generation by fuel type without EPA Clean Power Plan (petawatt-hours)

Graph for Why renewables will fail without a carbon price

Source: US Energy Information Administration – Annual Energy Outlook 2014

Why is this so?

For renewables to make material gains in market share it’s not just competing against new build fossil fuel plant, but also all the power plants that have already been built over the last few decades. The problem is that once a power plant is built it can last a damn long time with some periodic and relatively cheap refurbishment (compared to building a new plant) pushing it out beyond 40 years in the case of coal.

For wind or other renewables to push aside these existing fossil fuel plants the cost benchmark is largely only their variable costs (the brown section in the first chart at the top) with capital costs essentially irrelevant. For coal that cost is only 3 cents per kilowatt-hour in the US, so no wonder coal manages to hang on so persistently.

Now in the Australian context the results for natural gas are less relevant because:

a)  gas costs will sit at about double those in the US; and

b)  gas installed capacity as a proportion of the overall market in Australia is much lower.

Still, we’d probably have fossil fuel dominance remaining but with coal growing instead of gas. That’s because:

a)  there’s a significant amount of under-utilised spare coal power capacity in Australia;

b)  our coal power variable costs are lower than the US at less than 2 cents per kilowatt-hour; and

c)  we don’t have stringent air quality (not CO2) regulations forcing the closure of old coal power stations like they do in the US.

So, even with solar and wind approaching cost-competitiveness with new build fossil fuel plants, we still need some kind of government policy in place to see them supplant the existing fossil fuel plant built up over many decades, and drive emissions down. 

At present in Australia that policy is the Renewable Energy Target, but its target ends at 2020. After this point progress on emissions in the electricity sector would pretty much stall, in spite of declining costs for renewables.

This is why some kind of long term carbon price policy is absolutely essential if Australia is to significantly reduce emissions. Ideally it would be a broad cap and trade scheme, like the one we’ve already got in place. 

But an alternative could be to keep the RET going so it operates beyond its current end-date of 2030 and it continues to ratchet up progress beyond the 2020 target. 

To address the critics that accuse it of being a “picking winners” scheme, such as the Liberal’s Angus Taylor and review panellist Brian Fisher, it could conceivably transition to an emissions intensity target. However, such a target needs to be set at a level that would ensure electricity emissions continue to decline beyond 2020.

In addition, it needs to be set at a level that would not undermine the value of prior renewable energy investments. This may not be too hard given that gas prices have risen to levels where new build gas is close in cost to new build wind.