Economic Opportunity

Although the local energy sector contributes approximately £2.1bn of GVA to the regional economy, most of this is earned outside the region (it is dominated by companies like E.ON, who sell energy nationally). The more significant figure is the £6.7bn spent annually on energy by West Midlands businesses and households. Within this the largest segments are household (domestic) energy bills and transport costs. Over £960m is spent by the industrial and manufacturing sectors and £0.54bn by the remainder of the commercial and industrial sector.

The characteristics of each of these demand segments are very different. Much of the West Midlands’ housing stock is of relatively poor quality and the economic opportunities therefore lie in large-scale refurbishment programmes and innovation in new build, delivering constant or better levels of comfort to citizens at lower cost. In transport there are substantial opportunities driven by global shifts to new fuels such as electricity and hydrogen, while in the industrial and commercial sectors the economic opportunity is around productivity. Each of these is considered in turn.

Industrial and commercial energy costs

The combined manufacturing and commercial annual spend figure of £1.5bn has a direct impact on industrial profits and productivity. If the figure were £500m lower, regional productivity and GVA would be up to £500m higher (for the same output)3. It is thus very relevant that UK energy costs in many sectors are up to 41% higher than those of competitor economies.xvi

It is relevant that around half of electricity costs for typical regional manufacturing companies are the apportioned costs of regional and national infrastructure investments (Figure 7). This is why Figure 5 has a shaded box labelled market regulation and infrastructure: there are considerable and increasing opportunities to influence energy costs, and hence sectoral productivity, simply through regulation and strategic choices.

Because of their magnitude and impact, the way energy infrastructure costs are apportioned between sectors is treated as an industrial strategy decision in many economies, although this has largely been resisted in the UKxviii.. For example, in Germany there is a complex ‘privilege’ system which allocates network and renewables costs variably between industrial sectors, favouring some sectors (metal processing) and penalising others (paper mills). Thus, although average industrial energy costs in Germany appear on face value higher than the UK (Figure 8) in practice they are significantly lower in many manufacturing sectors (even after UK exemptions for energy intense industries have been applied) and higher in other sectors (including the domestic sector4) to ensure that the overall numbers balance5.

Breakdown of electricity costs for a medium-sized Black Country manufacturer (November 2017)

Levies - 1%
Metered Units - 39%
Supplier costs and margins - 2%
Distribution system - 21%
Transmission system - 8%
Market management - 3%
Renewable and nuclear investments - 26%

In the UK, however, we currently operate a regulated national market system which resists differentiation between industrial sectors, other than on size (larger businesses pay a lower share of infrastructure costs per unit of energy). This will tend to differentially handicap our more energy intense sectors (in comparison to competitor economies with industrial strategies) although several ad hoc dispensations have been secured over the years to compensate to a degree for this.xx

The UK approach to energy market regulation has been extensively criticised in a high-profile report commissioned by the Secretary of State for Business, Energy and Industrial Strategy (BEIS) and written by Professor Dieter Helmxxi. In it, Helm makes several relevant observations about the direction of travel of global energy systems, including the powerful point that within a relatively few years almost all energy costs will be fixed and apportioned infrastructure costs, with virtually no variable costs as the cost of fuels essentially falls to zero6.

This has profound implications for UK energy market regulation and how energy costs are managed, because it means that energy will become very like telecoms or road travel in that usage of the system once it’s built will essentially be free for everyone up to local capacity limits. In this situation, pricing cannot meaningfully be based directly on usage: instead it will be entirely focused on ensuring infrastructure investment costs are recovered, and this may be done in a number of ways to meet industrial strategy or political objectives.

Transport energy costs

The £3.3bn spent on fuel for transport currently in the West Midlands is virtually all in the cost of petrol and oil for road vehiclesxxii. However, by 2040, with the sale of new petrol and diesel vehicles being banned in the UK, the bulk of this demand will shift into electricity or hydrogen.

West Midlands Energy Use by Fuel Vector (GWh 2015)

Electricity - 24172
gas - 43935
fuel for transport - 42547
other - 2575

This shift will have major implications for the regional energy system (see Figure 9 West Midlands energy use by fuel vector (2015)Figure 9). In energy terms, 42,547 GWh of energy currently delivered to vehicles in the region as petrol and diesel is nearly equal to the amount of energy delivered through the entire gas network in the region and almost twice that delivered by the electricity system. The implications for local energy infrastructure of shifting transport fuel use from petrol to electricity or gas are thus clearly significant.

This doesn’t mean an immediate need for an electricity system that is three times bigger than the one today, or a gas system that is twice as big. There is a lot of devil in the detail of spatial and temporal usage patterns and existing spare capacities, and in uncertainties around the likely mix of electric and hydrogen vehicles. However, the direction of travel is very clear, and the need for detailed and closely integrated transport and energy planning at regional level is evident.

Domestic energy costs

Measured by kWh, household energy use overall is of a similar magnitude to commercial and industrial (C&I) and transport. The costs per unit of energy vary significantly because of infrastructure cost allocations and political judgements (tax allocations). It is more expensive to distribute gas and electricity to many small domestic users than to small numbers of concentrated industrial users (and to distribute transport fuels compared to electricity and gas).

Comparison of energy used by sector and spend by sector

Percentage of WM energy used by sector (GWh 2015)

domestic - 33%
C and I - 32%
transport - 35%

Percentage of WM energy spend by sector (2015)

domestic - 28%
C and I - 23%
transport - 49%

Sector	Average price paid per kWh energy (across all fuel types)
domestic	£0.05
commercial and industrial	£0.04
transport	£0.08

In the case of domestic energy costs, the annual spend on energy is significantly higher because of the poor overall quality of domestic building stockxxiv. This is a perennial challenge at national and local levelxxv but one of increasing urgency as the search for cost-effective and socially acceptable responses to the challenge of climate change gathers pace. There are 1.7M existing houses in the West Midlands, with at least 200,000 of these falling within the official definition of homes in energy povertyxxvi. There are plans to build a further 215,000 homes by 2031xxvii which could easily add £100-300M to regional energy spending (at current prices).

In principle, domestic energy bills, usage and carbon emissions can be reduced cost-effectively and economically (using ‘Green Book’ analysisxxv) by between 10% and 30% i.e., £200-£600M p.a. for the West Midlands. There are, however, significant challenges around financing, behaviours, transaction costs, cultural assumptions, customer priorities, regulations and political constraints which inhibit these benefits being realised. The corollary of this is that the challenges aren’t primarily technical (i.e., economic technologies exist which could theoretically solve the problem) but more around innovation in business models, regulations and delivery and financing mechanisms.

The topic of housing energy performance is a major and complex area in its own right, and significant and detailed work has been done to analyse local housing stock performance by local authorities across the region. Most recently, the Sustainable Housing Action Partnership (SHAP) working with the West Midlands Housing Officers Group (WMHOG) has produced a series of reports on energy performance in both new build and existing housing (2017-18)xxviii.

The key realities driving domestic energy performance from the perspective of a regional energy strategy are:

The main determinants of domestic energy bills are the quality of the house and the behaviour of the occupants. Two houses which appear identical can have energy bills which differ by a factor of 5-10 because one is well-insulated and well-built (not draughty) while the other is poorly insulated, draughty because it was shoddily constructed, and occupied by a family comprising older people or small children.
Houses and people are highly variable and diverse, and the 1.7M existing homes in the West Midlands are a particularly good and concentrated example of this diversity.
In new homes there is a significant and negative gap between actual energy performance of homes ‘as built’ and the promised energy performance of houses as designed (and approved by building control). This arises because, in general, energy standards for new build housing are weak and poorly policed (with limited examples internationally of solutions to this problemxxix).
Established mechanisms to address energy poverty7 and domestic energy efficiency in general include tightening energy performance standards for new build homes; schemes to provide subsidised energy efficiency measures for existing homes (the Energy Company Obligation (ECO) in the UK); local planning guidance requiring adherence to more stringent standards, sometimes even for renovations above a certain area threshold; local authority and nationally-funded energy efficiency advice services; and occasional attempts at financial incentives such as lower cost mortgages or rebates on rates.
Markets alone are ineffective at delivering optimal outcomes in this sectorxxx.

Investment flows

In the West Midlands, we invest around £1.25bn every year in our energy infrastructure: this is network investments including gas pipes, heat mains, wires and substations; key energy conversion technologies such as domestic boilers; and local energy generation assets such as solar farms, district heating and waste to energy plants.xxxl

Around £3.5bn is spent every year in the West Midlands on the built environmentxxxii, which has a significant impact on energy spend (e.g., see section on domestic energy use above) and on long- term productivity. This should also be considered as energy infrastructure.

Funders	Energy Economy -Annual Investment Flows	Impact
Regulated monopolies	Energy networks £0.35bn	Electricity and gas prices Connection charges Security of supply
Private investors government(ROCs/FITs)	Storage and generation £0.6bn	Electricity and gas prices Regional energy GVA Security of supply
Building owners Government(ECO) (£0.1bn)	Conversion technologies incl. energy efficiency £0.3bn	Electricity and gas usage
Commercial developers (£0.5bn) Private house builders (£2.5bn) Social housing providers (£0.5bn)	Buildings £3.5bn	electricity and gas usage regional construction Gva regional attractiveness

Economic activity

Energy and environmental technologies currently account for £2.1bn of annual GVA in the WMCA areaxxxiii, and is the most productive of all sectors by value. It is the only sector in which regional productivity is higher than the UK average. Coventry and Warwickshire and the Black Country are both in the top five LEPs nationally in terms of % of GVA attributable to energy and environmental technologies.

Energy Storage and Systems has been identified as one of the four key market strengths in the recent regional Science and Innovation Auditxxxiv. This reflects the major academic assets in this sector across our regional universities.

Employment estimates vary between 24,500 jobs and 60,000 jobsxxxv depending on definitions of geography and sector boundaries. The GVA generated is concentrated in a small number of large firms (E.ON, National Grid, Cadent, Baxi, Calor) with a long tail of smaller firms. There are significant employers just outside WMCA regional boundaries (Worcester Bosch, nPower) and significant economic activity and employment within the region controlled by firms with headquarters elsewhere in the UK (Western Power Distribution, British Gas).

These statistics exclude closely-related jobs dependent on energy infrastructure, such as most manufacturing, transport and automotive jobs, and energy managers within larger organisations.

Engineering and infrastructure companies such as Balfour Beatty, Arup and Costain all have significant energy infrastructure divisions and presence in the region which may not appear in sectoral figures, as does Severn Trent which, as well as being primarily a water company, is one of the largest renewable energy generators in the UK.

Skills are an issue in energy as in many other sectors, with 36% of all vacancies across the energy and utilities sector nationally attributed to skills shortages.xxxvi The sector skills council for Energy and Utilities, Energy and Utility Skills, is based in the region (Solihull) as are other key sector interest groups and trade associations (e.g., Energy and Utilities Alliance, Sustainable Energy Association). There are several specialist training providers across the region (e.g., Energy Training Hub in Dudley) suggesting skilled energy sector people are as easy (or easier) to recruit in the West Midlands as anywhere in the UK.

Carbon emissions and environment

While the West Midlands faces similar challenges in carbon emissions and the environment to the rest of the country, the urban nature of its geography and position at the heart of the national motorway infrastructure makes these challenges particularly severe. A reportxxxvii by Sustainability West Midlands (published in 2010) found the region suffers a carbon deficit compared to the rest of the UK of around 2MtCO2e per year on top of national targets. This report is now eight years old, however, and it is likely the situation will have improved somewhat, as take up of renewables since 2010 has been substantial across the West Midlands and nationally, while manufacturing and transport activity has grown more slowly.

Carbon targets and plans vary significantly by local authority, and while the merits of seeking to set a regional carbon target were discussed, it was agreed this remains primarily the responsibility of local authorities. This strategy proposes to follow the national target at regional level and acknowledges in addition to this it is the region’s responsibility to ensure the energy strategy is sufficiently flexible to support local authorities in delivering their local objectives.

Transport is a major element in the regional economy and recognised globally as one of the hardest sectors in which to reduce CO2 emissions. However, vehicles are largely responsible for the toxic air pollution that afflicts cities worldwide. Nitrogen oxides and particulate matter emitted by diesel vehicles are key ingredients in outdoor air pollution that causes 3.7 million premature deaths each yearxxxviii. In the UK, the government estimates that each year these emissions cause between 44,750 and 52,500 premature deaths and cost society between £25.3 billion and £29.7 billion.xxxix The West Midlands share of these figures will be between 5-10%, equivalent to 2,500 to 5,000 people dying prematurely in the Combined Authority area each year, at a cost to society of £1-£3billion.

The government has largely devolved the challenge to local authorities under the Localism Act 2011 and revisions to the Environment Act 2008. It has instructed five city authorities including Birmingham to implement Clean Air Zones by 2020. These will prevent the most polluting vehicles such as older diesel buses, coaches, taxis and lorries from entering the most polluted areas at times of day, or charge them for doing so. In Birmingham, the scheme will also cover vans.xl

Specific regional opportunities and needs

The West Midlands sees energy as core to the region’s local industrial strategy. The scale of investment and potential benefit is substantial, so although this is a local strategy, it’s important to bear in mind that tackling the issues and opportunities will require a commensurately ambitious and innovative response.

A recent report produced for the WMCA by the Black Country LEPxli estimates that a focused regional energy strategy could deliver annual GVA improvements of between £400M and £820M.

Note that in this table the benefits of enhanced building energy efficiency (including housing) are estimated (conservatively) within the ‘attractiveness of the region to skilled people’ line. The range of benefits shown is very large due to the challenging nature of this problem.

Accelerated roll out of new developments refers to the electricity and gas infrastructure required to support new investment in manufacturing and commercial developments across the region. This will amount to £3-4 billion over the next decade. The figure of £100M is the estimated GVA benefit from accelerating the timing of this investment to align it more closely with local spatial and economic development plans.

Speed of new market development is about making West Midlands energy infrastructure fit for purpose to support mass roll out of low carbon transport systems, including EVs. Again, the scale of investment runs into billions (much of it around HS2 terminals) and the strategic need is to ensure this is timed to make West Midlands markets more attractive for inward investment and new technology deployment.

Potential Benefits of a Focused Regional Approach to Energy as an Enabler of Industrial Strategy	Provisional GVA impact estimate (p.a.)
Accelerated roll-out of commercial developments	£100M
Speed of new market development	£120M
Competitiveness of industry	£155M-£400M
Attractiveness of the region to skilled people	£25M-200M
Total	£400M - £820M

Competitiveness of industry refers to the benefits of energy efficiency, smart energy systems, efficient procurement and strategic infrastructure cost allocation for energy intense manufacturing businesses, to ensure they compete on a level playing field against international competitors.

These figures exclude the benefits of clean air (estimated at between £1bn and £3 billion, see above) and are conservative on the potential benefits of clean energy innovation (the figure for the region offering opportunities for accelerated market development is based purely on additional local sales of low carbon vehicles by local companies).

In addition, the separate report by Arupxlii (see Appendix II – Pilot Energy Innovation Zones and Investment Cases) identifies up to £490M of economically viable energy infrastructure investment to optimise economic and environmental benefits in four pilot energy innovation zones.

Headline investment projects

The West Midlands is an ambitious region with major investment and regeneration projects underway across the geography: over £2 billion of investment is planned for UK Central and Solihull with the arrival of HS2; similar levels of investment are planned for Birmingham (again with HS2 and the redevelopment of Smithfield) and Coventry (housing and new manufacturing facilities for JLR) with £1.5 billion being invested in the Black Country’s Enterprise Zones.

It will be critical to get the local energy infrastructure right for these projects, and that’s challenging and risky at a time of major change in global energy systems. There is a danger that the tendency of commercial investors and developers to focus exclusively on short-term profit maximisation results in energy infrastructure investment which quickly turns into stranded assets and limits the long-term economic and environmental sustainability of the surrounding local community. There is a strong regional interest in getting investment in infrastructure right.

It’s not just the headline schemes that need appropriate energy systems. As Appendix I summarises, there are clean energy opportunities across the region, including at least a dozen district energy schemes, four major waste-to-energy projects with contract renewals due in the next five years, and approaching £200M of solar PV investment opportunities in the Black Country alone.

Housing challenges

The West Midlands has significant housing issues and opportunities. The current expectation is that 215,000 new homes will be created in the region (net) over the next 12 yearsxliii . This represents the higher figure assumes Helm’s national recommendation to establish a legacy bank for historic energy infrastructure investment costs is adopted in the West Midlands.

mixed public and private investment of around £20bn, and an additional electricity requirement which could vary from virtually zero to 8TWh per year xliv, xlv. In electrical capacity alone, these houses will need around 80MW of new base power generation and 200MW of available peak power generation (assuming no innovation in control technologies and load shifting)xlvi. This assumes heat continues to be provided by gas and allows for no electric vehicles.

Energy poverty is a significant issue for the region, with rates exceeding 13.5% in several areas of Birmingham, the Black Country and Coventryxlvii. This is a consequence of poor quality (often private) housing and domestic energy prices. A concerted strategy to address this needs to focus on the built environment and infrastructure as well as headline domestic energy costs.

The number of households in fuel poverty across the region is around 200,000xlviii which is potentially a substantive and targeted market for energy efficiency refurbishment (retrofit) using innovative models such as Energiesprong9. This is only likely to be appropriate to particular configurations and specifications of housing – particularly the large estates of the 1950s and 60s – and many other models are also being developed, for example by the Energy Systems Catapult in Birmingham. Energiesprong retrofits eliminate fuel poverty from households where they are applied and recover the costs over 30 years via (lower) energy bills. This scale of radical low carbon retrofit on 200,000 houses would require investment of around £4 billion, all with positive financial and social returns.

One of the main lessons from initiatives like Energiesprong and the Catapult’s Smart Systems and Heat Programme have been that solving the housing energy efficiency problem will require a diversity of approaches, considerable attention to detail (which means new skills programmes, training, and cultural changes for construction workers and professionals) and new business models. For example, Energiesprong works well under Dutch regulations but requires significant modifications in business model to work in the UK, and even then models only exist so far for the social housing sector. Economies of scale will be important in keeping costs down, but reconciling the need for scale with delivering higher quality and more diverse and tailored outcomes is a challenge in any sector, let alone one as fragmented and traditional as housing and construction.

The major UK government scheme supporting energy efficiency in housing is the Energy Company Obligation (ECO). This has been in place for some time and is about to start a new four-year cycle, despite its many imperfections, which the government recognisesxlix. The West Midlands’ share of ECO is around £60M per year, and there is a strong alignment between government objectives and West Midlands’ needs. Specifically, the scheme is now 100% focused on fuel poverty, recognises the need for greater local authority involvement to support efficient targeting, and seeks greater innovation.

Energy Capital therefore sees a significant opportunity in ECO for the West Midlands to work with government to develop a better model for fuel poverty elimination, and one that also supports the local industrial strategy. This will be a key element of this strategy.

Electric vehicles

Electric vehicles are a strategic and critical area of opportunity to this region because of the region’s heritage and strategic strengths in advanced manufacturing, low carbon technologies, transport and logistics and construction. EVs represent a significant market opportunity for all these sectors. They are also a challenge we cannot ignore: the West Midlands must secure a leadership position in this area to retain a significant element of our economic strength.

The region’s potential strength in this sector has already been recognised by the government in locating the £80M National Battery Manufacturing Development Centre in Coventry, and Jaguar Land Rover bringing its first electric vehicle to market in 2018. To maximise the economic and environmental benefits of this investment, the region – especially around Coventry and Solihull – plan to invest significantly in connected autonomous vehicle (CAV) development and infrastructure. Various stakeholders are already discussing the creation of EV charging hubs and infrastructure (including vehicle to grid) at commercial scale.

Electricity networks and distributed generation

Hydrogen

The West Midlands has longstanding interests in the developing hydrogen economy including companies such as Microcab that are developing fuel cell powered vehicles. There are plans for hydrogen refuelling facilities in Tyseley Energy Park alongside the existing 10MW biomass power station, and joint research and development facilities in emerging biomass and hydrogen technologies run by the University of Birmingham and Frauenhofer ISI.

The University of Birmingham has the UK’s only integrated and internationally-recognised research programme across all aspects of fuel cells and their fuelslii. In 2017 a hydrogen-focused network was launched (the Midlands Hydrogen and Fuel Cell Network) specifically to support commercialisation activity around hydrogen in the region. Birmingham City Council is committed to trialling hydrogen powered busesliii and waste vehicles as part of their fleet.

Waste-to-energy and heat networks

There is a concentration of waste-to-energy facilities in the Black Country, as well as major plants in Coventry (44MWe) and Tyseley (25MWe). Currently, only the Coventry plant is committed to linking into a district heating scheme but plans and feasibility studies have been completed for the plants in Tyseley, Dudley, Wolverhampton and Sandwell. These create the opportunity to develop commercial integrated schemes (subject to negotiation and contracts) when waste contracts come up for renewal between 2019 and 2023.

There are several private waste-to-energy plants in the Black Country, and some are now exploring local private wire arrangements with nearby manufacturers. More detail on potential waste-to- energy and heat network schemes is provided in Appendix I.

Birmingham has an established district energy company, BDEC, serving much of the city centre including council buildings, the International Convention Centre, Children’s Hospital and Aston University. This is in partnership with ENGIE (as is the Coventry scheme). Both Warwick and Birmingham Universities have their own on-site gas-fired CHP10 networks as the main source of heat and power for their campuses.

Global markets

The global energy system is on the cusp of a major transition. For most of the past century technology and economics have supported a largely one-size-fits all approach to energy infrastructure. Attempts to do anything more than superficially adapt energy systems infrastructure to local needs would either have imposed excessive costs or resulted in inequities in access.

However, rapid reductions in the costs of communications, ICT, and energy storage and generation technologies are changing this context fundamentally.liv Figure 15 illustrates one example: a projected 60% reduction in the installed cost of battery storage to 2030lv,11.

Digitisation and energy storage technologies make it possible to optimise energy systems at much more local levels, and to manage them in a distributed waylvi. This in turn means national energy infrastructure, including energy market and regulatory structures, can accommodate more diversity and variety (at least in principle). The benefits of such local diversity in energy systems and responsiveness to local needs now outweigh the costs.

These fundamental technical changes have been accompanied by significant global political shifts, in particular, recognition of the need to address the challenges of climate change through reducing carbon emissions. The energy system is the largest emitter of carbon globally and thus at the forefront of these political changes.

The economic opportunities associated with these shifts are potentially huge. The broad global political consensus around climate change is manifest in changing customer attitudes, varying national targets, regulatory nudges, and incentives across the world, all of which create significant markets for clean energy technologies and systems.

The most recent estimates (e.g., from the World Bank, Oxford Economics, McKinsey, and IEA) of the global market opportunity for clean tech products and services suggest a market of well over $3 trn a year, with energy infrastructure investment alone accounting for between $2.5trn and $3trn a year between now and 2040lvii.

The challenge in taking advantage of this global market opportunity is that it will clearly require new cross-sectoral collaborations, for example between transport, energy, construction and digital sectors, and the transfer of know-how from sectors such as advanced manufacturing and logistics to construction and energy. Unlike the West Midlands, few regions have economies with strengths in all these areas, especially when coupled with a diversity of both research and practice-led universities to support effective cross-fertilisation and the emergence of new competencies.

Effective commercialisation of cross-sectoral innovations requires accessible markets of sufficient scale to support rapid scale-up (for example helping new businesses cross the ‘valley of death’)lviii. The West Midlands is big enough – comparable in population and economy to a small country such as Finland, Denmark or Norway – to offer such a market, particularly in the energy sector where public policy unavoidably plays a major role in determining outcomes (in any political system).

For these reasons, low carbon technologies and services are justifiably identified as a key strategic sector in the West Midlands’ industrial strategy, and the region has a unique opportunity to benefit from the $3trn global market opportunity currently developing.

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Regional Energy Strategy Plan - November 2018