The Cheapest Route to Germany’s Renewable Energy Goal

The EU Emissions Trading Scheme (ETS) is the cheapest and most efficient route for Germany to meet its renewable energy goals, says Professor Colin Vance of the Rheinish-Westfälisches Institut für Wirtschaftsforschung (RWI-Essen). Most other renewable energy promotion policies are redundant. Germany should ditch its massively expensive feed-in tariff scheme, he believes.

Germany faces a major challenge if it is to achieve its to generate 35% of its electricity needs from renewable energy sources by 2020. And, the decision to phase out nuclear energy by 2022 increased the risk of failure.

The renewable energy sector has grown rapidly in Germany in recent years. By the end of 2011, the country was able to meet over 20% of its needs with renewables. But plans to reshape the country’s transmission network has suffered delays. The readiness of the government to deliver its self-proclaimed ‘energy revolution’ has been questioned. And most of all, the cost of the program to subsidize renewable energy development and roll-out is worryingly large.

Germany was praised for providing investors in its renewable energy industries with greater certainty about future earnings, by publishing a schedule for future stepped reductions in feed-in tariff levels for PV. However, the government recently abandoned that approach with an unscheduled cut in feed-in tariff levels of up to 30%. Ballooning costs were a higher priority than investor certainty.

Unpromising solution

At first glance, the ETS does not seem like a better solution than the feed-in tariff. To date, the ETS scheme has been unsuccessful.  During 2011, for the third consecutive year, supply of ETS emission certificates exceeded demand. Oversupply pushed the price of ETS certificates to record low values. When emissions certificates are cheap, there is little incentive for companies to invest to reduce their emissions.

It is generally recognized that governments have reduced demand for ETS certificates by flooding the market with give-away certificates– to protect the global competitiveness of their energy-intensive industries. To tackle that issue, the European Parliament called for a ‘set-aside’ scheme that would reduce the numbers of certificates made available in future years. European Ministers met in late April to discuss ways to salvage the scheme.

Feed-in tariff schemes across Europe add to the problems that the ETS is suffering, according to Professor Vance.

Feed-in tariffs are an extremely expensive subsidy. Vance calculates that German PV installed in 2008 at a feed-in tariff of €0.42 per kWh costs €716 for every tonne of carbon emissions it eliminates (or ‘abates’). The International Energy Agency calculated the cost at closer to €1,000 per tonne abated.

By contrast, the cost of an ETS certificate in March 2012 to emit one tonne of carbon was just over €6. At no stage since the establishment of the ETS has the price of a certificate ever exceeded €30.

Blunt instrument

Feed-in tariffs can deliver a lot of renewable energy. But they are a blunt instrument, says Vance. They require electricity suppliers to buy energy in unlimited quantities at a very high and guaranteed price for a very long period. Once the feed-in tariff is in place, there is little incentive for the generator to lower the costs or improve the efficiency of generation. To date, the German feed-in tariff scheme has cost the country over €100 billion.

The way feed-in tariff levels are set is also a problem, according to Vance.

“In Germany, renewable energy technologies are effectively subsidized based on their lack of competitiveness. You have solar getting a very large subsidy of about €0.24 per kWh, while wind, a much more mature energy source, gets about €0.09 per kWh. Where do these numbers come from?” The level of tariff is set by the persuasive power of the lobbying groups behind each technology, not by any market logic.

There are a number of renewable energy technologies, including solar, that are worth developing, Vance acknowledges. But he believes that it would be cheaper to provide direct research and development funding to companies rather than feed-in tariff support.

He is doubtful about the argument that the feed-in tariff acts as a bridging mechanism, ensuring continuing innovation and industry development as it gradually move closer towards fossil fuel prices.

“We have been hearing that argument for the last 20 years”, he says. Yet, the costs of fossil fuels have remained doggedly low. Where the costs of renewables have come down, a lot of it is due to the efforts (and to the benefit) of Germany’s Asian competitors. While the feed-in tariff has created many jobs, it did so at a very high price and many of the jobs it created were not in Germany.

Feed-in tariffs are a block in other ways, says Vance. Germany can meet its ambitious renewable energy targets more cheaply if it takes a pan-European approach. Drawing from numerous renewable energy sources across a Europe-wide network would provide flexibility and better match supply to demand. A supra-national approach would reduce network costs and increase efficiencies. Electricity suppliers could purchase their electricity where it was cheapest. It makes a lot more sense to generate electricity from photovoltaics in Mediterranean Europe than in Germany.

The patchwork of national feed-in tariffs, distorts costs of generation and supply, while the bureaucracy further complicates the market. In effect, national feed-in tariffs act as a barrier to that Europe-wide approach.

Funding the Energy Revolution

The German public has remained staunchly supportive of the ‘Energy Revolution’ that the government is promising. There is cross-party support for both the phase-out of nuclear power and the rapid expansion of renewable energy. There has been considerable concern that the German government is not being radical enough, nor acting fast enough to meet the enormous challenge ahead. But there is also a dawning realization that the cost of a transformation dependent on feed-in tariffs will be high – and that the German government may have underestimated that cost up to now.

It would be more effective to push up the price of fossil fuels by placing a cost on emissions, he believes. There are two ways to do that. A carbon tax makes emissions more expensive and allows the market decide how much it is prepared to emit. The advantage of an ETS scheme is that it places an absolute limit on emissions and harnesses market forces to ensure that the cost of staying within those limits is as low as possible.