Few subjects have generated more misinformation in the UK than arguments about the price of electricity. If we are so good at producing renewable energy, the argument goes, why is it that electricity is so expensive in the UK? It seems simple. If renewables were as cheap as it is claimed that they are, and we have so much renewable energy, then we should feel the benefits in our pockets. Surely the fact that we don’t feel such benefits is evidence that green electricity is a luxury that ordinary people cannot afford?

In what follows, I have tried to address in as balanced a fashion as possible the key objections to renewables and the key challenges in the future.

(1) Why don’t we make better use of the resources in the North Sea?

When Margaret Thatcher was elected prime minister 47 years ago, the UK government was the majority shareholder in British Petroleum, which extracted oil from the North Sea and generated wealth for the nation. One of Mrs Thatcher’s first acts was to set in train the privatisation of BP. In 1979, the government shareholding was reduced to make it no longer the majority shareholder, and eventually all government shares were sold off. Thus the oil fields of the North Sea were transferred to private ownership. Gas production was also privatised, and the oil and gas produced from the North Sea were henceforth sold on international markets. Today, about 80% of petroleum from the North Sea is exported, although some was still processed at refineries in the UK. For many years the UK was able to meet its gas needs from the North Sea. Now, however, those reserves of gas and oil are running out. As oil and gas fields become depleted, fuel becomes more expensive to extract; as a recent article in the Economist pointed out, it really doesn’t matter whether or not Ed Miliband issues new licenses to drill for oil in the North Sea because the costs of exploiting new fields are now sufficiently high that investors are likely to conclude that they are uneconomic. There is an argument for using gas from existing fields to help manage the transition to renewables as the predominant means of generating electricity, because some gas will be required for some time to help to manage spikes in demand and North Sea gas is cheaper than imported gas.

It is fashionable at present to compare UK gas and oil production with Norwegian fossil fuel extraction. It is notable that the Norwegian government remains the majority shareholder in the energy company Equinor, formerly Statoil, and that it has built up a trillion pound state wealth fund using the profits from the North Sea. Norway’s approach to the exploitation of its oil and gas resources has been different from that of the UK in significant ways.

(2) What is the real cost of renewable energy?

The costs of producing renewables are widely underestimated. For example, solar panels have to be bought, and wind turbines have to be constructed. Once the construction phase is over, the costs become smaller, but not zero. Of course, as long as a gas turbine operates, it needs to be fed gas and this has to be paid for. However, it is a mistake to assume that renewables provide free energy. A particular issue is that the Government must agree contracts with providers. The providers need to recover sufficient revenue to cover the construction and operating costs and a return to shareholders. Because the national grid draws energy from a variety of sources, and may sometimes need to reduce the amount that it draws from a particular source (for example, in the middle of a very windy night when there may be a glut of wind power), it may not accept energy from all suppliers all of the time. While a wind turbine is disconnected from the grid, it is losing money; thus compensation is usually paid. This is an inevitable consequence of the variability of renewable energy and it has provoked the ire of many of those who object to green energy. However, as we will see below, such measures do not render renewables more expensive than fossil fuels either.

The contracts agreed between the Government and the providers are complicated, and they have evolved over time to match usage patterns and economic factors. For example, 20 years ago, wind power represented a comparatively small contribution to UK electricity, whereas now wind and solar energy provide about half of our electricity; this change has significant implications for the economics of electricity generation. In recent years, Government auctions for licenses to produce wind power have been based around a new type of contract, a “contract for difference“. These contracts, introduced under the previous Conservative administration, are based on the payment to producers of a fixed rate for electricity. When electricity prices are low, the Government makes up the difference, but when prices are high, the companies pay the Government instead. These contracts have been designed to enable companies to cover the high up-front cost of investment in infrastructure, while protecting consumers from high prices. While they may represent an improvement, they do not provide us with free electricity.

(3) If we cut the tax on gas it would be cheaper than renewables

There are a number of ways that we can systematically compare the costs of generating energy from different sources. One methodology is to calculate the “levelised cost of energy” (LCOE). A bit like a life cycle analysis, this type of approach is designed to take account of all of the costs associated with a particular energy source. For renewables, that means taking account of the very substantial construction costs. Data for the UK are published by the Government to enable scrutiny of policy by Parliament. The 2023 data were summarised as follows by researchers at Imperial College: for new wind turbines and solar PV panels the costs were between £41 per megawatt hour (MWh) and £48/MWh respectively, whereas in comparison, the cost of new conventional gas-fired generation was £124/MWh, including a carbon price of £65/MWh. Thus, even if the carbon tax was reduced to 0, electricity produced from gas would still be more expensive. However, this carbon tax began to be levied many years ago, when the UK was a member of the EU, and carbon taxes continue to be levied in the EU. Thus, it seems unlikely that the carbon tax provides the explanation for the UK’s high electricity prices. The point of the carbon tax was to incentivise the switch to renewables, and this has been incredibly successful.

The tax which is the most often referred to when people talk about removing the tax from gas production is the tax on profits from oil and gas production. This stands at 78%, including the 39% windfall levy introduced by the previous Conservative government. However, this is the tax on profits, not on production costs. Despite the windfall tax, oil and gas producers are still able to produce oil and gas and keep a hefty amount of revenue to distribute to their shareholders. Abolishing the tax on fossil fuel profits would remove £5 billion from the public purse, meaning either that services would be cut or that taxes would increase. The savings to oil and gas producers would increase their profits but would not directly affect the cost of electricity prices in the UK.

(4) Liquified Natural Gas

I first gave lectures on fuel and energy in 1995. Margaret Thatcher’s “dash for gas” – a switch to gas from coal as the main fuel for electricity generation – had been underway for a decade and when it began, estimated reserves of gas were predicted to start being depleted a decade from then. Right on cue, North Sea gas production began to decline after 2004. Around this time, the UK was beginning to invest in renewables. It is likely that without large-scale expansion of energy from renewables over the following two decades, the North Sea would by now have run out of gas. As it is, current reserves are unlikely to last much more than another two decades. Government data reveal that the UK consumes gas equivalent to 689 TWh each year. Currently, North Sea gas production meets only about half the needs of the UK (344 TWh); for the other half we are dependent upon imported gas. Proven North Sea gas reserves lie in the range 1148 – 2152 TWh, although contingent reserves (potentially recoverable volumes that are not yet mature enough for commercial development) are likely to increase the total amount of available gas. 

Energy policy and capacity does not evolve over a one-year time horizon; building capacity is expensive and takes years. The question for any responsible government is, what will you be doing to guarantee security of energy supply in 10 years time when North Sea gas is starting to become seriously depleted?

The United States is the world’s largest producer of shale gas, and it exports liquified natural gas (LNG) internationally. However, LNG is not cheap, and the emissions associated with extracting it, liquifying it and transporting it are substantial. For the UK, a transition from North Sea gas to imported LNG would lead to an increase in electricity costs.

(5) Shale gas – limitless, free, and about to transform our lives…

This is a widely-held point of view, but as I have noted elsewhere, a very helpful analysis has been provided by the Grantham Research Institute at the London School of Economics (LSE). They noted that the UK consumes 70-80 billion cubic metres of gas per annum, and probably has the capacity to produce between 90 and 330 billion cubic metres by hydraulic fracturing (“fracking”) of these resources. Setting aside all environmental considerations, it is immediately clear from these figures that fracking does not offer a solution to the UK’s problems with gas supply; it would mask the decline in production from the North Sea but it would not reverse it. Moreover, shale gas is more expensive to produce than North Sea gas. It is hard to believe that shale gas would do anything other than increase our electricity bills.

So why is our electricity so expensive?

The cross-party consensus around energy policy in the UK has evaporated. On the one hand, the populist right offers a false narrative that renewables are making us poorer, that climate change isn’t happening and that the North Sea and shale gas offer us cheap abundant energy. On the other hand, many enthusiasts for net zero have over-promised about the economic benefits of moving to renewable energy production. Inevitably, as people have seen growing use of renewables in energy production, they have been hoping to see benefits in their pockets.

The reality is that renewables are not free, but they are cheaper than fossil energy sources. The explosion of electrification in China, India and other nations, and, indeed, in the United States, is concrete, tangible evidence that new power capacity can be created more cheaply if it is based on renewables than on fossil fuels. The sun produces an abundance of energy – more than enough to meet our needs. However, the transition from an established economy, with established energy networks based heavily on fossil fuels, to an electrified economy based heavily on renewables carries with it significant costs. These costs are associated not only with the construction of wind turbines and solar panels, but also with construction of new supporting infrastructure, for example new power lines and battery storage facilities. The overall cost is not higher than the cost of a fossil fuel based system but it is definitely not zero.

To manage this complex transition, sophisticated markets are required to balance supply, demand and cost. At the moment, the UK’s energy system works in such a way that 90% of the time, the price of electricity is set by the price of gas. Over the next few years, the fraction of time that the price of electricity will be determined by the wholesale price of gas may come down. However, we will not have free electricity any time soon. In the future, the spread of domestic battery use and domestic solar energy capture may play an important role in smoothing fluctuations in supply and demand. For example, I charge my EV overnight when electricity is cheap because demand is low; it would be a natural extension of this to store electricity for household use overnight too. The technology associated with optimised use of renewables has a long way to go, and growing global uptake of renewables is almost certainly going to lead to technological fixes of this sort.

In the short term, however, the linkage between the price of gas and the cost of electricity remains a problem in the UK. It is a particular problem for industrial users, who are increasingly being driven to relocate away from the UK by the high price of electricity. This is a problem that the Government urgently needs to fix. Economist Sir Dieter Helm has written about this recently. Helm is very definitely not a climate sceptic, but he argues that politicians need to be honest about the costs of tackling climate change, and more determined to ask themselves difficult questions about whether policy developments are making a tangible impact on global warming. In particular he stresses the need to be pragmatic about policy, and to consider the negative carbon impacts that green decision-making can sometimes have. In relation to industrial policy he says:

“To restore industrial competitiveness, Britain needs permanent, structural reform to electricity pricing—not short-term fixes. This requires three big changes: charge industry based on long‑run marginal system costs rather than loading full network costs onto them; reform the electricity market by moving away from gas‑set wholesale prices towards a capacity‑based “equivalent firm power” system that properly accounts for intermittency; and index carbon prices inversely to oil and gas prices to stabilise overall energy costs. Together with improvements in gas storage and long‑term gas supply contracts from the North Sea, these reforms would deliver predictable, globally competitive energy prices to support both existing industries and the more electricity‑intensive sectors of the future.” 

In conclusion

The relationship between power generation and the price that we pay for our electricity is complicated. Our bills are not high because we generate energy renewably, but because the UK electricity market is not working properly. The linkage between the cost of electricity and the price of gas is widely recognised as being problematic. As a nation, we need to think carefully about how we invest in energy in the future. For example, offshore wind is more expensive than onshore wind, and we will continue to use gas for some time, to balance peak electricity demand with supply. While North Sea gas is a finite and diminishing resource, its wise use is preferable to importing expensive LNG from abroad. What is urgently needed is a cross-party consensus on energy policy; currently Reform is threatening to remove licenses to produce renewable electricity if it is elected, a move that would be be catastrophic for the stability and price of energy in the UK as well as for the UK’s carbon emissions. Before the last election, Labour was attacked by many of its own supporters for promising to honour commitments on North Sea exploitation made be the previous Government, but in truth, such thinking is necessary if the UK is not to be seen by prospective investors (on whom we depend however we generate electricity) as a chaotic and risky place to do business. We need a sophisticated and rational debate about energy policy that is focused on the national good, which means addressing there cost of electricity and also tackling the problem of climate change.