How The Price Of Electricity Is Calculated
The wholesale price of electricity is one of the largest components of electricity bills, with the balance made up of network costs, the suppliers’ operating costs, policy costs, government environmental and social schemes, and VAT. The wholesale price changes all the time. Changes are driven by both supply and demand, which the National Grid is charged with balancing every half an hour. The price of gas, the weather, currency movements and political events impact the price of electricity.
What sets the price of electricity? The price is set by the “marginal generation unit” which is the type of generation that meets the “peak demand” in each half hour, from whatever source the peak demand is generated from.
The graphic alongside shows the types of electricity generation, with the cheapest to produce at the bottom, working upwards to gas, which is normally the type of generation that historically met demand and dictated the wholesale price for electricity charged to consumers, and finally to coal, the most expensive type of electricity generation.
Whilst the UK has large reserves of gas in the North Sea that provide around 50% of UK demand, around 33% comes from Norway. No direct gas connection exists between Russia and the UK, and in 2021 less than 4% of UK gas originated from Russia. The Russian invasion of the Ukraine led to pressure on world gas prices, thereby impacting the UK, despite the small origination from Russia. The UK can store only enough gas for around 4 winter days due to failure over the years to invest in gas storage, with the Netherlands having 9 times and Germany 16 times that level. The UK incurs a more significant impact on volatilities in the wholesale price of gas which then impacts the cost of electricity.
