What is a renewables subsidy auction?

The UK pioneered the “contracts for difference” scheme, which supports new renewable electricity projects via a “reverse auction” in which the lowest bids win.

This helps to incentivise the multibillion-pound upfront costs of investing in low-carbon energy, such as solar, wind and nuclear power projects. It also helps to ensure that only those schemes that offer the best value for money receive support at the lowest cost to consumers.

The latest auction is the seventh of its kind to be held in the UK in the last 11 years, and the format has been replicated elsewhere in Europe and globally.

How does the auction work?

Over the summer, clean energy developers submitted closed bids indicating the lowest price they could accept for each megawatt of electricity produced by their project.

About 25 offshore wind projects were eligible to bid in the latest auction – the equivalent of more than 24 gigawatts (GW) of electricity capacity, or enough to power 20m homes when the windfarms are running at their full potential. In the end, funding was awarded to 8.4GW of offshore wind capacity.

The Low Carbon Contracts Company administers the scheme for the government and awards contracts to the best bids.

If the market price for electricity is below the “strike price” set in the support contract, a levy on household energy bills is used to top up the payments received by developers. If the wholesale market price soars above the strike price, developers are contractually bound to pay back the difference to consumers.

Initially these contracts guaranteed revenues for 15 years but in the latest auction the government offered 20-year contracts in the hope that developers would submit lower bids in exchange for a longer period of support.

Why does this auction matter?

It was considered the last realistic chance for Labour to meet the clean energy targets it set out ahead of its election victory.

The party promised to lower energy bills by creating a virtually carbon-free electricity system by 2030. To do this it plans to double Britain’s onshore wind power, triple its solar power and quadruple its offshore wind power capacity. The plan to become a “clean energy superpower” relies heavily on the government’s particularly ambitious offshore wind targets at a time when the industry has faced rising costs.

Currently the UK has about 27.6GW of offshore wind capacity either in operation, under construction or which holds a government contract – enough to power the equivalent of over 27m homes when running at full capacity. The government would need to add at least 16GW of offshore wind over the next two years to reach its offshore wind target of between 43GW to 50GW.

Will this mean cheaper energy and lower bills?

The government believes so. Official figures show that electricity generated by the latest generation of offshore windfarms will be 40% less expensive than the power produced by a new gas-fired power plant.

In official figures published on Wednesday, the government said the cost of building and operating a new gas-fired power station was £147 per megawatt hour, while the auction price for offshore wind was £90.91 per megawatt hour on average.

Before the auction, industry experts found that if the government could bring forward investment in renewable energy at a price of below £94 to £95 per megawatt-hour in 2024 prices then it would meet its targets at no extra cost to consumers. In the end, the contracts were awarded at £89.49-£91.20/MWh.

The current market price for electricity bought in advance is about £74/MWh, suggesting bill-payers would have to offer top-ups to developers to match the strike price if they began operating today. However, analysis by Aurora Energy Research and the consultancy Baringa found that an increase in renewable energy today would lower the future wholesale price – cushioning the impact of rising levies on bills.

Aurora said this fall in wholesale market prices would more than offset the impact of higher levies to support renewable energy, “keeping household energy bills effectively neutral through to 2035”.

Separate analysis from a green thinktank suggests the UK’s energy costs last year could have been about 46% higher without wind. The average spot price of electricity traded on markets last year was about £83/MWh but might have climbed as high as £121/MWh if windfarms had not been available to limit the use of expensive gas plants, according to the Energy and Climate Intelligence Unit.

So will the government meet its clean energy targets?

The auction results will keep the government’s progress towards its 2030 offshore wind target on track – but it will still need to procure another 8GW of offshore wind in next year’s auction to hit its goal of growing the country’s offshore wind capacity to 43-50GW by the end of the decade.

Although it is technically feasible for projects that are successful next year to build their projects in time to begin generating power for the UK by 2030, industry insiders have expressed concern that the “practical realities of construction and supply chains” could mean that future projects struggle to meet the government’s timeline.

The pressure will be on the industry to keep producing record-breaking investments in the years ahead – and at a cost that provides value for money to consumers, too.