UK unveils twin-track hydrogen strategy

The UK government on August 17 unveiled its long-awaited hydrogen strategy, designed to create a thriving market for the fuel by 2030. The government wants 5 GW of low carbon hydrogen production to be in operation by this time, a target set last year.

The government will publish six-monthly updates on its strategy, the first of which is expected in early 2022. This is designed to keep stakeholders informed of the government’s thinking and provide clear direction, as well as monitor the strategy’s progress.

Twin-track approach

The strategy confirms the government’s commitment to a twin-track approach, supporting the production of ‘blue’ hydrogen from natural gas combined with carbon capture, utilisation and storage (CCUS), as well as ‘green’ hydrogen, which is produced using renewable power and electrolysis. Other methods of hydrogen production, for example nuclear generation combined with electrolysis or from biomass, will also be investigated for the longer term.

Blue hydrogen production is pegged as the lowest cost and quickest route to hydrogen production at scale, which in turn is expected to drive investment in transmission, distribution and storage. Large-scale CCUS-enabled hydrogen will commercialise production and use, while post-2030, electrolytic hydrogen, then benefitting from lower costs, is expected to become predominant.

Timelines

The strategy envisages relatively small, dedicated electrolytic hydrogen projects in the early 2020s, followed by larger ones up to 100 MW and the first CCUS-enabled hydrogen facilities based in industrial clusters by the mid-2020s. By 2030, there would be multiple (500 MW+) CCUS-enabled facilities with extensive cluster networks, feeding into the wider UK energy system.

The government estimates some 250-460 TWh of hydrogen production may be needed by 2050, equivalent to 20-35% of UK primary energy demand, a level which could increase further in the late 2030s and 2040s to meet the country’s greenhouse gas emissions targets. By 2030, the UK’s hydrogen economy could be worth £900 million and support 9,000 high quality jobs, rising to £13 billion and 100,000 jobs by 2050, the government estimates.

Cost gap & Business Models

Increasing hydrogen production and use presents many challenges. Low carbon hydrogen is currently higher cost than the fossil fuel alternatives, which means there is little current demand. Moreover, the development of hydrogen-using applications and infrastructure is at an early stage, and first-of-a-kind projects are likely to prove expensive, although costs are expected to fall over time.

As such, the government identifies two key risks for investors: that the market price for hydrogen will be lower than the production cost; and that the volumes demanded may be lower than those produced. To address these risks, the government is proposing a ‘variable premium’ price support mechanism, involving a strike price and a reference price.

The proposal is very similar to the CfDs used successfully for offshore wind. A difference is that for the electricity sector, the reference price is the market price for wholesale electricity, but there is no clear benchmark price for hydrogen. As such, the reference price will need to be derived. The government proposes using the highest of either the natural gas price or the achieved sales price of hydrogen producers.

There is also the question of indexation. The price of natural gas and electricity – the inputs for hydrogen production – vary over time. The government is proposing various options for indexing the price of hydrogen to the price of these two inputs.

To address the issue of volume risk, the government suggests a sliding scale, so that a higher level of price support is provided for initial volumes of hydrogen production, but price support would taper off, with the final volumes recovering only marginal costs and equity returns.

The proposal recognises that hydrogen projects vary considerably in terms of technology and scale and therefore have different funding requirements. The proposal is to use one model, but build in flexibility via, for example, indexation or by creating different funding ‘pots’ for different technologies, again a method used for renewable energy support.

What next?

The UK government has opened a consultation and aims to finalise the business model for hydrogen production next year, which would allow the signing of the first contracts in the first quarter of 2023. Early next year, a standard for what constitutes low carbon hydrogen will also be finalised and the £240 million Net Zero Hydrogen Fund will be launched.