The United Kingdom is to Subsidize Nuclear Power—But at what cost?

The United Kingdom may soon be entering a new phase of nuclear power development. The country currently has 16 reactors that generate around one sixth of the United Kingdom’s power, but no new plant has been constructed for more than 20 years. Much of the nuclear fleet will be decommissioned over the next 20 years as maintenance costs increase.

In 2012 a license was granted to construct a new nuclear power station in Somerset, England—called Hinkley Point C. Hinkley Point C is the first of the new generation of plants to receive government endorsement.

That backing was originally pledged on the basis that Hinkley Point C would require “no public subsidy." But in October 2015, the government finally conceded that the policy on nuclear subsidies had now been reversed. Public subsidies would indeed be provided.

That in itself is not surprising. Subsidies have been a part of nuclear policy since the beginning of the industry. No nuclear power project has proceeded anywhere without government support.

But what is new about Hinkley Point C is the exceptional duration and the high price to be paid for the electricity relative to current wholesale prices. The UK Government would also assume a high degree of liability if the project is delayed, or an accident occurs.

What follows is a breakdown of the types subsidies that will benefit Hinkley Point C.

The primary mechanism to drive investment in new nuclear power stations is a guaranteed price for the electricity. In the case of Hinkley Point C a “strike price” of GBP 92.50 per MWh has been negotiated by Electricity De France (EDF), the plant operator, with the value being linked to Consumer Price Inflation (CPI) inflation for a duration of 35 years.

This means the operator will receive a transfer that compensates for the difference between power prices and the strike price. The cost of the subsidy will be covered by a charge on consumers’ bills.

The size of the subsidy depends on prevailing electricity prices, which are impossible to credibly estimate over such long timescales. A 35-year subsidy which may not begin for a decade means the cost of the subsidy depends on power prices in up to 45 years’ time. Making commitments of this length with large uncertainty has a serious risk of locking-in an expensive subsidy for decades.

The current average wholesale price for electricity is around GBP 47.50 per MWh. Using this as a benchmark, the generator would be effectively subsidized GBP 45 for every MWh of generation. Assuming that this level of subsidy continues over the whole 35 years of the agreement then the total subsidy would be around GBP 19 billion once discounted to 2015 values.

The UK Government has estimated the cost of the subsidy to be between GBP 4 billion and GBP 19 billion. However, the calculations behind these figures have not been made public, so it is impossible to critique the underlying assumptions.

The UK Guarantees scheme provides a commitment to lenders and bond investors to infrastructure projects to “unconditionally and irrevocably agree to pay to the beneficiary any such amounts which have become due for payment”. The scheme was introduced in 2012 to encourage lending to infrastructure projects in response to perceived difficulties in obtaining credit.

Loan guarantees transfer project risk, including that of cost overruns or delays, to the government.

Under the scheme, the government charges for providing the loan guarantee to projects. According to State Aid Documents, this charge will be equal to 2.95 per cent of the loan. The charge is supposed to be equal to the cost of offering the loan guarantee, though this is difficult to verify due to the lack of similar schemes. Since the loan guarantees are not designed to give preferential rates, the scheme is able to avoid state aid restrictions. However, if the charge really was equal to the market risk of the loan, finance would be available from the market under the same terms—this is clearly not the case.

As of January 2015 the scheme had pre-qualified for GBP 24 billion worth of guarantees. Hinkley Point C is by far the largest project in the scheme, accounting for approximately 70 per cent of the pre-qualified projects.

It is not possible to make a detailed calculation of the cost of the loan guarantee for Hinkley Point C, but ballpark estimates can be made. Taking into account the charge of 2.95 per cent for the loan guarantee, the nuclear energy project stands to see a reduction in the cost of borrowing (equal to the public subsidy) of around 2–5 per cent. This range implies a reduction in the borrowing costs to the project of GBP 8.2 to 20.3 billion in 2015 pounds. Only time will tell whether the Hinkley Point C project experiences delays and eventually defaults on its loans, but—given the history of nuclear industry cost overruns and defaults—it is a distinct possibility.

The UK Government has agreed to provide a waste disposal service for spent fuel and intermediate-level waste. The price of these contracts is set according to the government’s waste transfer pricing methodology and is capped at GBP 5 billion. If costs go above this figure they will be on passed to the government.

The government states that the price cap is unlikely to be breached, but acknowledges that the cost implications could be significant if they are. Upward revisions of the construction cost of nuclear storage facilities are relatively likely because of the uncertainties associated with the future costs of waste disposal: it is simply not possible to say what the cost will be and whether it will exceed the cap.

This removes a risk that the operator would normally have to manage. That, in turn, improves the project's commercial position.

Under the UK's 2008 Energy Act, prospective operators of nuclear power stations must have a Funded Decommissioning Programme (FDP) approved by the Secretary of State before construction can begin. This needs to set out the operator’s costed plans for decommissioning the power station and management and disposal of the waste it will produce, and make prudent financial provision for those costs. The aim of this policy is to avoid the government footing the bill for the decommissioning of nuclear plants, as has been the case in the past.

Unfortunately, details of the FDP for Hinkley Point have not been released despite a request under the Freedom of Information Act.

The lack of transparency over decommissioning plans and the inability to accurately predict nuclear decommissioning costs creates the possibility that the government would ultimately need to step in to provide additional funding to decommission Hinkley Point C. The commitment by government to manage decommissioning cost overruns could constitute a subsidy to the project, though it is not possible to understand the magnitude of this subsidy because future cost overruns will only become apparent as decommissioning takes place. Historically, decommissioning has come at a considerable cost, accounting for a large percentage of all spending on energy projects.

The U.K. Government requires nuclear operators to have liability insurance up to GDP 1.2 billion. The cost of clean-up from nuclear accidents above this amount will be covered by the government. If nuclear operators were required to meet the full costs of any potential disaster they would have to pay considerably higher insurance premiums. The liability cap can therefore be considered as a subsidy.

The cost of major historical accidents vary. The Fukushima Daiichi disaster cost an estimated USD 200-500 billion. Chernobyl was estimated to cost several hundreds of billions of dollars. The probability of an accident is much harder to calculate—today’s reactors are often claimed to be safer than previous generations but very little data exists to verify this.

Undoubtedly if a major disaster were to take place at Hinkley Point C the cost to the U.K. government would be enormous.

A key question is who should bear the risk of a major nuclear accident, and in what proportion? The nuclear operators probably have the best information to be able to assess the risk. However, they may not have the financial ability to survive such an incident. The unique position of the government, accountable to the public and with the financial power to withstand disasters also creates a case for the government to assume risk. The current risk-sharing settlement effectively removes the risk of bankruptcy from the nuclear industry by providing a subsidy. Understanding the true cost of this implicit insurance is a key to weighing the costs and benefits of nuclear power.

The key story that emerges is one of uncertainty. There are too many variables to determine the cost to the British public of Hinkley Point C project with precision. What is clear is that aside from the commitment to pay nearly double the current market price for electricity for 35 years, the UK Government has committed to saddling the public with considerable risk. If the project were to go bankrupt due to cost overruns, construction delays or unforeseen technical challenges, the government would be forced to step in to repay lenders. Over the longer term, cost overruns in the disposal of waste could also exceed the provisions made by the project, forcing the government to cover the difference. The cost of a nuclear accident would largely exceed the insurance provisions made by the project, with the remainder covered by the government.

The price to be paid for electricity alone under the Contract for Difference place the cost of nuclear power above most other technologies, including onshore wind. As such, the proposed package of subsidies represents an enormous opportunity cost, shaping the United Kingdom’s energy system for several generations and preventing the country from investing in other technologies, particularly for renewable energy, which are much less risky and can be financed without so many open-ended commitments.

The high cost and onerous liabilities associated with a new nuclear power station at Hinkley Point C should give policymakers pause for thought. Can it really be said that this package of measures to the project delivers the cost-effective, reliable, low carbon electricity system that the UK needs to secure its prosperity?