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How cost-effective is a renewables-dominated electricity system in comparison to one based on fossil fuels?

A electricity pylon on a grassy hill It is often thought that the cost of providing backup for variable renewables will result in a more expensive energy system than one based on fossil fuels. However, not only is electrical energy from renewables cheaper than from gas, but by limiting dependency on gas, a power system dominated by renewables is expected to reduce costs overall in comparison to the average electricity wholesale market price over the last year.

This explainer reviews and compares the costs of clean power versus fossil fuels both technology by technology and on the basis of an electricity system that delivers a reliable supply. It uses the example of Great Britain.

How do energy production costs compare between renewables and fossil fuels?

The ‘levelised cost of electricity’ (LCOE) provides a simple means of comparing different technologies for the production of electricity, taking account of capital costs and costs of operation, including maintenance and the purchase of any fuel needed.

The British government’s assessments of the LCOE of generation technologies since 2012 show striking reductions in the LCOE of wind turbines and solar PV panels over time, which fell to between £41 per megawatt hour (MWh) and £48/MWh respectively for new developments in 2023. In comparison, the cost of new conventional gas-fired generation (without carbon capture) rose from £103/MWh (including a carbon price of £25/MWh) in 2012 to £124/MWh (including a carbon price of £65/MWh) in 2023.

Inflationary pressures in international supply chains have led to a recent increase in the maximum price (known as the ‘reserve price’) that may be paid for offshore wind in the next Contract for Difference auction, to £94/MWh. However, this price is significantly lower than the prices for offshore wind of £147–£155/MWh awarded in the first round of auctions in 2015 – a remarkable cost reduction driven by innovation and economies of scale. And importantly, this does not change the reality that the LCOE of renewables is now much lower than that of electricity produced from gas.

How does the ‘system cost’ of a renewables-dominated system compare with the average price paid on the British electricity wholesale market?

When assessing the cost of reliably meeting demand for electricity, it is not enough only to look at the LCOE of a particular technology. We need to consider the overall mix needed in the system and work out the total ‘system cost’.

Crucially, studies that have looked at the total system cost, including the cost of backups to handle the variability of renewables, have found that the future decarbonised power system will have a lower cost per unit of electricity than the average price in Britain’s wholesale electricity market in 2023 of £127/MWh.¹

The Climate Change Committee’s assessment of the potential technology mix and cost of a fully decarbonised British electricity system in 2035 considered a system based on a large share of renewable technologies that reliably meets demand for electricity, including in a four-week ‘wind drought’. It found the average system cost of electricity production in 2035 to lie between £55/MWh and £73/MWh (the cost range reflects the inclusion or exclusion of the costs associated with hydrogen production, transport and storage, including for non-electricity related uses). A study by the Royal Society on energy storage estimated the system cost of electricity in 2050 using only wind and solar power and ‘green’ hydrogen to reliably meet demand across a wide variety of conditions to be in the range of £56–£100/MWh.

The lower cost of a renewables-dominated system relative to one based on fossil fuels stems primarily from a reduced dependency on gas. Flexible use of electricity is a further factor, as this reduces the infrastructure needed and limits our reliance on more expensive sources of power (particularly gas) during periods of high energy demand. Finally, large-scale energy storage allows us to stock up on renewable energy at times of surplus relative to demand.

How much further investment is needed in the British power network for the country to fully capitalise on renewable power?

As well as new generation capacity, delivering a fully decarbonised electricity system will require significant investment in the network to connect electricity users to the most cost-effective sources of low-carbon power. The network needs investment whatever the dominant sources of power, as component parts are reaching their end-of-life and need to be replaced but the opportunity will need to be taken to expand capacity. How much that would all cost in comparison with a system based on a similar generation mix to today’s is uncertain. One estimate for the transmission network comes from the Royal Society’s report, of £4/MWh in 2050, which would be in addition to the system cost outlined above.

To conclude, while it is sometimes claimed that the cost of providing backup for variable renewables will result in a more expensive energy system than one based on fossil fuels, such a claim is incorrect. The LCOE of wind and solar energy are lower than for gas whose emissions have not been captured and much lower than for gas that deploys CCS. And the estimated ‘system cost’ of a renewables-dominated system is much lower than the average price paid on the electricity wholesale market over the last year.

Note: all costs are quoted in 2023 prices using GDP deflators in accordance with the Treasury’s ‘Green Book’ approach to assessing social value.

1. £127/MWh was, according to Ofgem data, the average price paid in advance – the ‘forward price’ – for electricity in Britain’s wholesale market across 2023. Prices paid by traders vary according to demand. The prices offered by producers include the costs recovered by the System Operator to operate the system and by the transmission network owners. Thus, the average wholesale price provides a good basis for comparison with a future ‘system cost’.

Authors and contacts
This background briefing was written by Keith Bell, holder of the Scottish Power Chair in Future Power Systems, University of Strathclyde and edited by Georgina Kyriacou (London School of Economics) and Caterina Brandmayr (Imperial College London).

It was produced as part of a UK-focused ‘myth-busting’ project between the LSE and Imperial College London Grantham Institutes. The series of ten explainers will be published as a single volume in spring 2024. The project is designed to deepen understanding of climate change action among current and prospective decision makers, the policy community and the public in the UK in the run-up to the 2024 general election.

Media enquiries: grantham.media@imperial.ac.uk
Policy enquiries: c.brandmayr@imperial.ac.uk