Thursday, September 08, 2022

Marginal Pricing

The energy market consultancy Cornwall Insight calculates more than £40bn of the estimated £100bn of the proposed energy price cap could be swallowed up in excess profits.

The energy companies concerned, mostly renewable and nuclear businesses, have agreed at least in principle to accept new long-term contracts at fixed prices well below current rates.

The energy price cap was only introduced in 2019. It's not like it is ancient history. After taking time off to watch Prime Minister's Questions lunchtime yesterday I am very far from convinced that either Liz Truss or Kier Starmer have got a scooby about the millstone we have tied around our own necks either.

Breaks down like this: Marginal pricing refers to electricity prices being set by the variable cost of the marginal plant, i.e. the most expensive plant that is required to serve demand. This is the way electricity prices are determined on short-term wholesale markets, such as the day-ahead market. All generators receive and all consumers pay the same price. A uniform price.

This is genuinely insane. Think about solar and wind power for example. once the capital costs have been defrayed they are, to all intents and purposes, free. What lemon negotiated a contract in which they get paid the same amount per kilowatt hour as it costs to burn Putin's gas? It wasn't me.

There's a hint of rhetorical exaggeration above, but not much. Not very much at all.

Bring on the Severn Barrage!

Update: I just thought of another way to explain this, using Peter's birthday dinner at Avanti yesterday evening. He walked there from his flat and was content with a bowl of spaghetti served with a simple tomato sauce, along with a jug of tap water and finished  with a coffee. I got a cab there and back and grazed on multiple small plates of exotic tapas guzzling copious quantities of good red wine all the while. The "market clearing price" for the evening would be what it cost me to attend (taxi, grub, booze), so - if the contract had been negotiated by Her Majesty's Government - that is what everyone else who went would have been charged as well. Point of order Mr Chairman: I picked up the tab though, for all that, my lucid economic parable is still valid.

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