Brexit: The impact on the UK’s energy sector (part 1 of 2)

Without clear UK policy on the future of the energy sector, Brexit will create friction. Explore the key impacts upon the UK market.
Published: Tue 26 Feb 2019
A blog entry by David Butcher

Contributed by:

David Butcher
Transformation Programme Manager
capgemini

David Butcher's Blog

Unless there is clear UK policy on the future of the energy sector, Brexit will create more friction in energy trading due to the divergence of UK and EU markets in operation and regulation. This friction is likely to filter through to higher net consumer bills for energy supply and security. The risk of this increases under a no-deal Brexit scenario. Government figures show that nearly 10% of the UK’s gas imports come from the EU, and the UK is projected to import 22% of its total electricity needs by 2025 – and all current interconnectors are with EU countries.

In a two-part blog, I will explore the key points that require addressing, and the impact upon the UK market players:

• Participation in the EU Internal Energy Market (IEM) – which the UK is unlikely to continue and will have to compete on the open market to keep the lights on

• Tariffs – which are unlikely to be applied to energy trade, but remain a risk on goods and equipment

• Nuclear sector – where the UK will withdraw from European Atomic Energy Community (Euratom) is confirmed, and arrangements will be required for the UK to sector skills and materials to continue to develop

• Environment and climate change – for which the UK is likely to maintain its commitment to climate change goals

• Capital project funding – where lack of access to European funds and uncertainties will reduce investments in the short term

• Regulation – where work will be required to re-write energy laws locally. 

Participation in the IEM

The UK is a member of the IEM, which allows tariff-free electricity and gas throughout the EU using physical interconnectors. Current messages from the EU are that UK is unlikely to remain a participant after Brexit.

The UK has four interconnectors with the EU, with a dozen more planned. These will require ongoing cooperation with the EU if they are to be completed – although sources of funding and investment will become an issue for these. Cap and floor mechanisms, and trading/balancing platforms for existing and new interconnectors will require renegotiation to agree revenue generation. Northern Ireland integrates with the Republic of Ireland through the Integrated Single Electricity Market (I-SEM), which will require a bespoke agreement.

There are economic and political and economic repercussions if the UK was to lose access to the IEM. The supply of electricity over the Dutch and French interconnectors accounts for around 6% of the UK’s electricity use. Therefore, the UK may be more vulnerable to supply shortages and outages during extreme weather events, or during periods of low domestic output. Without the IEM, the UK will be forced to compete for suppliers on the open market with players with much larger buying power, such as China.

Tariffs

Tariffs on UK energy trade with the EU are not likely, even in the absence of a Brexit deal, due to general acceptance of their negative impact on markets. The highest risk is in the event of the I-SEM not being successfully renegotiated between Northern Ireland and the Republic of Ireland. The national press has reported that the UK government has a contingency plan to send electricity generators on barges to Northern Ireland and create energy market chaos should this occur. There is the Moyle interconnector between Scotland and Northern Ireland, but in the event of an emergency, it is likely that Scottish generators will prioritize Scottish demand before considering export.

However, there remains the risk of tariffs being applied to goods and equipment in the nuclear or power generation/transmission/distribution supply chains. Tariffs will drive up material costs and create further barriers to investment in large capital projects through reducing the profitability of such potential investment. In addition, tariffs and attendant border checks could drive delays in the import process, increasing construction times of energy infrastructure projects.

Nuclear

The UK has confirmed its withdrawal from the European Atomic Energy Community (Euratom) and the Euratom Treaty with Brexit. The UK’s existing nuclear operations will have to be reviewed from approaches to waste management and fuel supply, through to how it works with other countries on nuclear research and cooperation; particularly those in Euratom (e.g. Torus). Security and safety requirements are likely to remain unaffected. There are incentives for the UK to replace Euratom with a similar formal agreement with the EU, as without an agreement:

• Access to skilled nuclear industry workers from the EU may be negatively impacted; unless their skills are prioritized as part of a post-Brexit immigration system. This will limit the UK's ability to construct nuclear generation sites efficiently.

• The UK may be unable to import necessary nuclear materials from the EU.

Environment and climate change

UK climate change commitments are contained in the Climate Change Act 2008, so are not affected by Brexit. However, as the UK’s target would no longer be included in the EU target, the UK would have to resubmit its action plan individually to the United Nations Framework Convention on Climate Change (UNFCCC). If the UK departs the EEA (as seems highly likely), the EU Renewable Energy Directive will no longer apply to the UK, and its low carbon/renewable energy will become a matter of domestic climate change policy.

This is likely to drive further exploration into, and deployment of UK-based renewable solutions, such as battery technology, wind, and solar. This will be essential in increasing the UK’s resilience while also meeting climate change commitments. We are likely to see a shift in policy to one where the UK looks to fulfil domestic demand first through renewable facilities with adequate storage. In the foreseeable future the desire or need to trade energy across EU borders will start to reduce. It is, however, unlikely that the UK will remain a participant in the EU Emissions Trading Scheme (EU ETS). Given the effectiveness of the EU ETS in incentivizing investment in cutting emissions, leaving this could have a knock-on impact into overall climate change commitments, and potential consumer bills.

In the second part of the blog, we will take a look at how Brexit will affect capital project funding and demand management, and the overall impact it will have on UK. To discuss this topic further, feel free to get in touch with me via email (david.butcher@capgemini.com) or on Twitter (https://twitter.com/DrDavidButcher).