How are energy contracts affecting the transition to net zero?

Around the world, a large proportion of electricity is sold through power purchase agreements that may span decades. While these long-term contracts help to reduce risk, they can also lock countries into fossil fuels and hinder a rapid switch to renewable power, which is often cheaper.

Across the world, a vast proportion of electricity is sold from a power generator to a utility company via ‘power purchase agreements’ (PPAs). These are long-term contracts that typically span one to three decades. They specify the price and duration for which electricity will be purchased.

While these contracts play an important role in reducing risk for power generators by shielding them from the vagaries of an uncertain market, they can also, in certain circumstances, lock in uncompetitive power generation.

Electricity production has been changing steadily over the last two decades, with new renewable energy sources, such as solar and wind, growing in their share of the global power mix.

Similarly, in India, there are some efforts to revive the financial health of indebted electricity distributors by allowing them to source lower-cost renewable energy rather than more expensive coal, as dictated by existing PPAs.

Another approach is to create power markets with more dynamism so that utilities can simply pick whichever is cheapest. For example, Germany’s grid sources a proportion of its power only 30 minutes before delivery. This helps the market to adjust to the fact that on sunny days, there is cheap and abundant solar power. Many other European countries – such as France, Switzerland and the UK – source a proportion of their power through these ‘day-ahead’ or ‘intra-day’ markets.