Why is Cheap Electricity So Expensive?

In the UK we are probably now all too aware that our energy prices are linked with gas. However, how many of us are aware the reason for that historical link, the purpose that it serves and whether there is a benefit to detaching energy prices from gas prices? With the latest energy price cap seeing the average household bills rising to £1,723 per year, hitting a three-year high, many of us are left pondering why cheap, renewable electricity still costs the earth. 

As we move towards net zero, with renewable infrastructure increasing nationwide, we are repeatedly told how such renewables offer a cheap alternative to their fossil fuel counterparts. However, the cost of energy to the consumer remains dictated by, and seemingly inextricably linked to, gas prices.

This is down to how the wholesale market works. Basically, the most expensive generator needed to meet the demand sets the price. Although, renewable generation is certainly on the increase and is used as the first port of call to fulfil our energy demand, our continued reliance on gas generators means that those inefficiencies associated with gas generation dictate the price of energy across the board. In one sense, this design appears to reward efficient production, but with evermore renewables generating more than 52% of the UK’s electricity, it means customers are facing higher bills even when cheap green energy is plentiful. It may also give windfall profits to some generators and create volatile swings whenever gas prices spike, including after geopolitical shocks such as the war in Iran.

The question of how to break the influence of gas on electricity prices therefore continues to be the subject of much discussion. Under the Starmer Labour Government, new plans unfolded to include long-fixed-price contracts for renewables to protect families when gas prices strike. The Electricity Generator Levy raised rates from 45% to 55% and extended its duration past the original March 2028 end date, ensuring that an increased proportion of the extraordinary revenue generated whenever gas prices spike is available to the Government to support businesses and households with the cost of living. The 55% rate has been applicable to receipts attributable to electricity generated with effect from 1 July 2026. However, these measures are not expected to have any direct impact on individuals as these measures, by their nature, only effect businesses. Wholesale electricity prices will continue to be tied to the price of gas and this is unlikely to affect the retail price of the electricity for households, despite the fact that it might give the Government the opportunity and the means to support those households with their energy costs during those periods where we see excessive spikes in pricing.

So, what would be the answer to uncoupling energy prices from the cost of gas? There have been suggestions that de-coupling electricity prices from gas can be achieved by adopting a “single-buyer model” - where the system operator purchases energy from renewable generators at a fixed, fair price, whilst gas-fired power stations are placed into a separate, strategic reserve. Other solutions offered include moving older, legacy renewables onto a ‘contracts for difference’ model and away from the marginal pricing system.

Ultimately, divorcing energy pricing from gas prices will only be achieved as and when the energy demand in the UK does not require gas generation in order for it to be met. This means that increased roll out of cheap renewables is the answer, such that the entirety of the UK’s demand is met by that supply and there is no recourse to the cost of gas in terms of its being responsible for setting that final price. With the outcome of the war in Iran being uncertain and with the prevalence of other volatile situations globally, it feels all too short-sighted to consider rolling back from the current trend towards renewables development. Whilst recognising that gas is still important for flexibility and resilience, an increased prevalence of renewable generation should gradually see less dependence upon fossil-fuelled generation for routine electricity supply such that over the next decade we might truly see a slowly uncoupling of electricity prices from gas. It is important that investment continues to be made in renewable generation to ensure and more certain future for energy consumers in the UK.