Since the decline following nuclear power’s golden era of the mid-70s, there have been frequent predictions of a nuclear revival. The latest ‘second coming’, widely known as the ‘Nuclear Renaissance’ dating from 2002-03 is being pursued with greater determination than its predecessors.
(679.) Steve Thomas - But after 5 years ‘Nuclear Renaissance’, the absence of any new orders in key markets such as USA, UK and Italy has led to increasing doubts, even before the extent of the impact on the world economy of the ‘Credit Crunch’ is apparent, as to whether the renaissance will again be still-born. While the ‘Credit Crunch’ will not be good for most large scale projects, will it be particularly damaging for the prospects of a Nuclear Renaissance?
1. Finance
The most obvious place to start is at the heart of the Credit Crunch itself, the banking system, in particular the ability of electric utilities to borrow the money needed to build nuclear plants. It is clear that one of the legacies of the ‘Credit Crunch’ will be that banks will be more risk averse and will also be more careful in their procedures for assessing risk.
A nuclear power station is the most capital-intensive way to generate electricity and, on its past record, the most economically risky. So it is clear that unless ways can be found to insulate the banks from this risk, the impact on the prospects for the ‘Nuclear Renaissance’ will be very severe. There are two main ways that banks can be insulated, at least in part, from this risk: by electricity consumers or by government credit guarantees
1.1 Deregulation
In the past, while electricity was still a regulated monopoly, obtaining cheap finance to build nuclear power plants was made easier by the fact that consumers effectively guaranteed the loans. If costs escalated, performance was worse than expected, alternatives proved cheaper or electricity demand had been over-estimated, the plant owners simply increased electricity prices to recover the additional costs they had incurred. When this assurance broke down, either because competition had been introduced to electricity or, as in the USA in the late 1970s, because regulators were no longer prepared to make consumers pay for the errors of the company, finance became a thorny issue. In the USA, ordering ground to a halt and many existing orders were cancelled.
The poor record of nuclear plants being built to time and cost and the mixed record on reliability had always made nuclear a risky option, but now the risks are falling directly on to the utility building the plant, and if, as a result, the utility failed, financiers would not be repaid. This has been proved to be more than a theoretical risk more than once. In 2002, the privatized British nuclear generating company, British Energy, collapsed because its costs were higher than the wholesale electricity price it had to sell its power at. In this case, the British government chose to rescue the company using tax-payers’ money and banks did not lose, but this will not always happen. The Olkiluoto project in Finland (see Box), the only Generation III+ design on which substantial construction work has been completed is acknowledged to be 50% over budget and 3 years late after only 3 years of construction. The owners, TVO, expect to be covered for the cost escalation by a ‘turnkey’ construction contract although whether this contract will stick is now far from clear.(1) But most of the costs of late completion – buying the replacement power from a potentially tight Nordic wholesale electricity market will fall on the owners.
Negligible quantities of new generation have been built since the Nordic market was created in the late 1990s and already, dry winters, which reduce the availability of hydro-power have led to large increases (up to 6-fold) in the wholesale electricity price. So for the period 2009-12, when Olkiluoto should have been producing 12TWh per year, the owners will have to buy that power from the wholesale market, assuming that amount of power is available.
TVO is owned by its customers, energy intensive industries such as paper and chemicals for which electricity purchase is likely to be one, if not the largest of their input costs. While these companies would not want to cause the failure of TVO, their first priority must be to ensure that the cost of the power they buy is not so high as to make their products uncompetitive. It is not hard to imagine a utility with less financial and contractual back-up than TVO collapsing under the strain of such cost and time overruns. If cost escalation at the site continues perhaps even TVO will collapse. For the nuclear industry, this would be the financial equivalent of a Chernobyl scale accident, probably making nuclear un-financeable on commercial markets for decades.
1.2 Government guarantees
Even before the ‘Credit Crunch’, the risk premium involved in nuclear projects discussed above was a severe barrier to new orders. At the top of the utilities’ wish list for government support were credit guarantees, which shift this risk to tax-payers. One of the factors that made the Olkiluoto order financeable was export credit guarantees from the French and Swedish government that made loans at only 2.6% interest rate possible. At the time, the guarantees were shocking and looked extensive but in comparison with what US utilities are asking for, they now seem small.
In the USA, Congress has made US$18.5bn in Federal loan guarantees for new nuclear plants available for 2008/09.(2) This is part of the Bush Nuclear Power 2010 initiative, which was based on the premise that some Federal subsidies and guarantees to a handful of new plants would overcome barriers to new ordering and lead to a flow of new, unsubsidized orders. But while utilities have been keen to stand in line for these handouts, with 30-40 plants now at various stages of planning, it seems increasingly likely that without such subsidies, these orders will not be placed. If the new US government really wants to get a significant proportion of the 30-40 reactors in the queue for US Federal handouts built, the $18.5bn will not go very far. If we assume that a new plant will cost no more than US$7-9bn and industry gets its wish that 80% of this cost is covered by Federal loan guarantees, guarantees worth about US$250bn will be needed. By October 2008, 17 power companies had already applied for $122bn in federal loan guarantees.(3)
There has also been speculation that the French and Japanese governments would offer loan guarantees for plants supplied by their national companies.(4) Areva NP is controlled by French interests, indeed, it is majority owned by the French state. Areva NP has also been reported to have the support of the French export credit guarantee organization for orders placed for its plants in South Africa. For the Japanese government, we are in uncharted waters. Despite the extensive nuclear program in Japan, this is the first time Japanese vendors have tried to win foreign orders. Mitsubishi has its own design while Hitachi uses GE designs. Westinghouse, although largely based in the USA is now owned by Toshiba, which also offers a GE design. Providing guarantees for one order, like Olkiluoto, which was seen as opening up the market for French exports might be acceptable to French and Japanese taxpayers. However, if such guarantees are a condition for all orders to be placed, taxpayers will see this as a blank cheque and, especially if the Olkiluoto order does lead to a default, a highly risky one.
For US orders, if public opinion remains that failures of the US banking were at the root of the ‘Credit Crunch’, the idea of foreign banks supporting US financial institutions to again make risky investments will be even more unpopular.
This is an issue that the new Obama administration will need to look at urgently. The US government seems to have three choices: abandon the program, which is more feasible for a new administration at the start of its term even though it would face huge opposition from those who stood to gain from nuclear orders; build 3-4 ‘totemic’ plants and hope there was no default; or cave in to the nuclear industry’s demands for blank cheque support.
For other countries, especially the UK, the government has still not faced up to the prospect that loan guarantees will be necessary if orders are to be placed.
It is one thing for taxpayers to be forced to find this sort of sum to save the global banking system, it is a very different thing to volunteer this level of taxpayers’ money simply to get nuclear power plants built when there are non-nuclear alternatives that would not need this level of support. The public opposition to the US government’s $700bn bail-out of the banking sector demonstrated that the public is not prepared to risk its money on what appear to be ill thought-out policies.
2. Nuclear construction costs
2.1 Cost estimates
One of the most bewildering aspects of the nuclear debate in the past few years has been the escalation in forecast nuclear costs, even before any new plants have been built. The figure of US$1000/kW (so that a 1000MW plant would cost $1bn) was toted by the nuclear industry in the late 1990s as an achievable cost for the new Generation III+ nuclear plants then being designed. This figure was seen by many outside the industry as a target rather than a realistic forecast. So when the first order for a Generation III+ plant was placed for Olkiluoto in 2004, the size of the contracted cost, €3bn or US$3000/kW – three times the figure the nuclear industry had forecast – was not a surprise to experienced industry watchers. It was seen as a ‘loss-leader’, although given that the vendors would have to pay for any cost overruns, there was an expectation that it was at least of the right order of magnitude.
It is now clear that construction at the site is going very badly and the project is 50% over budget and 3 years late. Further cost increases are expected. Even companies as big as Areva NP’s owners (Areva and Siemens) cannot easily take losses on this scale without expecting serious repercussions from their shareholders.
How far the cost overrun is the result of the problems at the site and how far it is because the price was an underestimate will probably never be known. Areva, in its attempt to pass these costs on to TVO, will have a strong incentive to argue it is due to specific site problems.
However, prices continued to escalate rapidly even after the Olkiluoto price was announced. By 2008, the estimated construction cost from a range of sources for a Generation III+ unit seemed to be settling at around US$4000-6000/kW, double the Olkiluoto price and often double the estimates made by the same utilities a year or two previously. These cost estimates are not extrapolations by anti-nuclear activists, they are from credible organizations with no apparent motive for over-estimating costs such as experienced nuclear utilities and financial institutions like Standards & Poors.
Table Recent estimates of nuclear construction costs
|
Organization |
Plant |
Estimate ($/kW) |
Date |
|
Duke Power(5) |
Lee (AP-1000) |
4700 |
November 2008 |
|
Progress Energy/Harris(6) |
Harris (AP-1000) |
4000 |
October 2008 |
|
Standard & Poors(7) |
n/a |
3000-5000 |
October 2008 |
|
E.ON(8) |
n/a |
6000 |
May 2008 |
|
Florida Power & Light(9) |
Turkey Point |
5400-7900 |
February 2008 |
A variety of explanations can be suggested for this escalation.(10) These include:
- Rapidly rising commodity prices driven by China’s demands for them which makes all power plants more expensive, but affects nuclear plants particularly severely because of their physical size;
- Lack of production facilities, which means that utilities hoping to build nuclear plants are taking options on components like pressure vessels;
- Shortages of the necessary nuclear skills as the nuclear work-force ages and is not replaced by younger specialists; and
- A greater awareness amongst utilities, especially given the experience with Olkiluoto, that if the estimates they make are not accurate, there will be serious financial consequences for them.
If the recession triggered by the ‘Credit Crunch’ does bite hard, commodity prices (including fossil fuels) could fall steeply and this might at least help check the growth in estimates for nuclear construction costs – it will also tend to reduce the price of other types of power plant, albeit to a lesser extent. However, the ‘Credit Crunch’ will have no impact on moderating the impact of the other factors. Given that the current costs estimates are based on minimal actual construction experience and such estimates have, in the past, seriously actual costs, the figure of $6000/kW may yet turn out to be an under-estimate.
2.2 Turnkey contracts
The financial assurance a turnkey contract seemed to give was an important element in Areva NP winning the Olkiluoto contract and also the French and Swedish governments offering loan guarantees. However, it was surprising that Areva NP was so desperate for the order that it was prepared to take the massive financial risk a turnkey contract involves. There have been few (if any) genuine ‘whole plant’ (as opposed to individual component) turnkey contracts since the notorious 12 turnkey orders that launched commercial ordering in the USA in 1964-66.(11) These lost the vendors massive amounts of money although they did achieve one of their aims, which was to convince utilities that nuclear was little more challenging than, say, a coal-fired plant and could be ordered with confidence as a proven technology.
Turnkey orders for nuclear plants are much more risky compared to other power plants because so much of the work in nuclear construction is on-site engineering and construction, a process that is notoriously difficult to control. It is also not easy for the vendor to control the quality of work for the large number of contractors involved.
Standard & Poors were clear in a recent report that turnkey contracts would not be on offer.(12)
3. Competitiveness and demand
Nuclear power is just one of many possible ways of meeting electricity demand and if it is not competitive or demand does not justify it, in the long-term plants will not be built. Going back thirty years, large numbers of US orders were cancelled when it became clear either that demand did not warrant them or that the cost of meeting demand with nuclear plants would have been prohibitive.
3.1 Competitiveness
Even though estimated costs have escalated rapidly in the past 3 years, this seems to have had little impact on the enthusiasm of governments for nuclear power. One explanation for this was the rapid fossil fuel prices and insecurity in their markets. As in 1975, after the first oil crisis, the notion that fossil fuels could ever be cheap again seemed unimaginable. But now, as then, while fossil fuel markets are far from perfect, they do respond and by autumn 2008, this response was already apparent. High oil prices lead in the short-term to recession and the ‘Credit Crunch’ is likely to deepen this recession. This will reduce energy demand in the short-term because of the reduction in economic activity. In the longer term, there will be a more significant demand and supply side response. This is clearly illustrated by the marketing of new cars, which for the first time in 30 years are being sold on their fuel consumption. On the supply side, higher oil and gas recovery rates will be justified, exploration efforts redoubled and previously uncommercial reserves, especially gas will become economic.
The competitiveness of renewables will be improved, but it might be energy efficiency that is the real winner. ‘Fuel poverty’, in the UK government’ definition, a household spending more than 10 per cent of disposable income on energy, has become a major issue with the forecast that by the end of 2008, a quarter or more of British households will be fuel poor. Building nuclear plants might help keep the lights on in the long-term, but even its most committed advocates cannot claim it will reduce the price of power. Spending money on energy efficiency to reduce demand will not only keep the lights on and replace fossil fuels, it will also permanently lift households out of fuel poverty with huge health and welfare benefits as well as reducing strain on the social security system. Few policies pay off so handsomely in so many ways.
3.2 Capacity need
When all other arguments fail, the nuclear industry falls back on capacity need. Without a nuclear power program, they argue, the lights will go off, a prediction usually based on a projection of high electricity demand growth. High energy prices and the ‘Credit Crunch’ are likely to cause a recession and a strong demand side response on energy efficiency so electricity demands will be much lower than earlier forecasts.
4. Other markets
While most eyes are on the US and UK nuclear programs, other countries’ programs are also being affected. South Africa has, for the past decade, been trying to commercialize Pebble Bed Modular Reactor technology, but progress has been slow and the publicly-owned South African utility, Eskom is now prioritizing orders for ‘conventional’ nuclear plants, either the Areva NP EPR or the Westinghouse AP-1000. It has a budget of R343bn (US$34bn) to build 16GW of new coal and nuclear plant by 2017. In the longer term, it plans to build 20GW of nuclear plant by 2025. But at $6000/kW, its budget would provide less than 6GW of new nuclear capacity. Eskom’s credit rating is falling: in August 2008, Moody’s reduced their rating to Baa2. It is also deeply unpopular because of numerous black-outs in the past two years so its priority must be to deal with power shortages and strengthen the grid so these black-outs are a thing of the past. New nuclear plants which, realistically, will not be on line before 2020 will do nothing to achieve this. So South Africa’s ability to proceed with any nuclear program now looks questionable.(13)
Berlusconi has been vocal in his support for nuclear power and is trying to overturn the 1987 referendum verdict that required the phase-out of nuclear plants in Italy.(14) However, the practical difficulties of re-launching the program, such as re-building skills and capabilities, were always underestimated and the ‘Credit Crunch’ may make finance, even for a utility of the size of ENEL, difficult, especially given the financial strain on ENEL of its purchase last year, for over €40bn, of the Spanish utility, Endesa.
5. Decommissioning funds
While the ‘Credit Crunch’ could have an immediate impact on the prospects for new nuclear orders because of its impact on finance, construction, demand and competitiveness, it could also have a long-term impact on funding for decommissioning. Under the polluter pays principle, the responsibilities for decommissioning should be clear. Those that consume the electricity should be responsible for paying for the clean-up of the site. This is best ensured by setting up ‘segregated funds’ that are invested in low risk investments. In practice, funds have not always been segregated and decommissioning cost estimates have proved a huge under-estimate so funds have been lost or are inadequate. While for long-term investments, the return will fluctuate over time, the ‘Credit Crunch’ may well lead to large shortfalls in these funds which will not be repaired simply by the next economic upswing. Only a few examples have surfaced so far but if these prove to be the tip of an ice-berg, more extensive ways of ensuring adequate funds are available when needed. The Vermont Yankee plant’s decommissioning fund was reported to have lost 10% of its value in a matter of weeks.(15) This plant is licensed until 2012 but the license may be extended for another 20 years in which case, there will be time to make up the shortfall. Decommissioning of the Zion plant (already closed) has had to be delayed because of inadequacy of funding.(16) If plants are reaching the end of their life with inadequate funds for decommissioning there may well be a need for further assurance mechanisms. For example, it could be required that utilities take out financial instruments (insurance policies) so that if there is a shortfall, it will be covered by the insurers.
6. Conclusions
There are likely to be many unexpected developments before ‘business as usual’ for the world economy resumes but two changes are clear:
- Bank’s scrutiny of projects they lend money to will be far more rigorous in the future so that the mistakes that led to the ‘Credit Crunch’ can never be repeated;
- Public appreciation of risk will be sharpened and where risk is being passed to taxpayers, government will need a strong case for such support to be agreed.
The implications for nuclear power of these changes are severe and it is clear that governments and utilities will no longer be able so easily to pass the risk of nuclear programs on to taxpayers and electricity consumers. Nuclear power has demonstrated extraordinary resilience in the past 2 decades, still remaining on the policy agenda despite its failings. So it would be unrealistic to assume that in a decade, powerful interests would not still be lobbying for more nuclear orders. But the current conditions may be the best and perhaps the last chance for the nuclear industry. The external factors, such as fossil fuel prices, the need to act on climate change and the geopolitical situation are as favorable as they are likely to get. So if nuclear cannot take advantage of these will it get another chance? But the nuclear workforce is ageing and not being replaced and if a whole generation of new designs, which in a decade will be looking a little dated, has remained largely on paper, will there really be the appetite amongst private companies to spend the money necessary to bring another generation of designs to the market? Olkiluoto will continue to be the marker for the industry. At best, if there are no more delays and cost overruns, it will be a warning to potential investors, but if things keep going wrong and TVO fails financially, that will be the financial equivalent of Chernobyl to the nuclear industry.
Sources:
1)- Nucleonics Week ‘Target date for operating Olkiluoto-3 again delayed, this time until 2012’ October 23, 2008
2)- Platt’s Global Power Report ‘Nuclear Energy Institute president says Congress needs to boost loan guarantees’ October 16, 2008.
3)- Platts Global Power Report ‘Seventeen power firms have applied to DOE for $122 billion in nuclear loan guarantees’, October 9, 2008.
4)- Nucleonics Week ‘US working with allies to change global rules for nuclear financing’ October 23, 2008
5)- The Business Journal of the Greater Triad Area ‘Duke doubles cost estimate for nuclear plant’ November 4, 2008
6)- The News & Observer (Raleigh, North Carolina) ‘Reactors likely to cost $9 billion; Progress Energy doubles estimate
7)- Standard & Poors (2008) ‘Construction Costs To Soar For New U.S. Nuclear Power Plants’
8)- The Times ‘Reactors will cost twice estimate, says chief’ May 5, 2008
9)- Nucleonics Week ‘FPL says cost of new reactors at Turkey Point could top $24 billion’ February 21, 2008
10)- For more discussion on these factors, see Standard & Poors (2008) ‘Construction Costs To Soar For New U.S. Nuclear Power Plants’
11)- Bupp, I C.& Derian, J-C. Light Water: How the Nuclear Dream Dissolved. NY. Basic Books, 1978.
12)- Standard & Poors (2008) ‘Construction Costs To Soar For New U.S. Nuclear Power Plants’
13)- Business Day ‘South Africa; Funding Costs 'Will Rise for Eskom'’ September 3, 2008
14)- Reuters ‘Credit crunch may slow down Italy nuclear relaunch’ October 17, 2008
15)- Brattleboro Reformer ‘Entergy balks at document requests’ November 1, 2008
16)- Market Wire ‘Accelerated Decommissioning Projects Delayed by Nation's Financial Crisis’ October 13, 2008
Contact: Professor Steve Thomas, PSIRUI, Business School, University of Greenwich, 30 Park Row, London SE10 9LS, UK
Tel: +44 208 331 9056
Email: Stephen.Thomas@greenwich.ac.uk
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Finland’s Olkiluoto plant
The Olkiluoto construction project in Finland has become an example of all that can go wrong in economic terms with nuclear new build. It demonstrates the problems of construction delays, cost overruns and hidden subsidies. A construction license for Olkiluoto was issued in February 2005 and construction started that summer. As it was the first reactor ordered in a liberalized electricity market, it was seen as proof that nuclear power orders were feasible in liberalized electricity markets and as a demonstration of the improvements offered by the new designs. To reduce the risk to the buyer, Areva NP offered the plant under ‘turnkey’ terms, which means that the price paid by the utility (TVO) is fixed before construction starts, regardless of what actually happens to costs. The contract allows for fines on the contractors if the plant is late. The schedule allowed 48 months from pouring of first concrete to first criticality.
Finance
The European Renewable Energies Federation (EREF) and Greenpeace France made complaints to the European Commission in December 2004 that the financial arrangements contravened European State aid regulations. The Bayerische Landesbank (owned by the German state of Bavaria) led the syndicate that provided a loan of €1.95bn, about 60% of the total cost, at an interest rate of 2.6%. France's Coface provided a €610m export credit guarantee covering Areva NP’s supplies, and the Swedish Export Agency SEK provided €110m. In October 2006, the European Commission finally announced it would investigate the role of Coface. Subsequently, in what was seen as an eccentric judgment, it found that the guarantees did not represent unfair state aid. Regardless of this, it is clear that the arrangements for Olkiluoto are based on substantial state aid that will not be available to many plants. The interest rate on the loan is far below the levels that would be expected to apply for such an economically risky investment.
Construction problems
In August 2005, the first concrete was poured. In September 2005 problems with the strength and porosity of the concrete delayed work. In February 2006, work was reported to be at least 6 months behind schedule, partly due to the concrete problems and partly to problems with qualifying pressure vessel welds and delays in detailed engineering design. In July 2006, TVO admitted the project was delayed by about a year and the Finnish regulator, STUK, published a report which uncovered quality control problems. In September 2006, the impact of the problems on Areva started to emerge. In its results for the first six months of 2006, Areva attributed a €300m fall in first-half 2006 operating income of its nuclear operations to a provision to cover past and anticipated costs at Olkiluoto. The scale of penalties for late completion was also made public. The contractual penalty for Areva is 0.2% of the total contract value per week of delay (past May 1, 2009) for the first 26 weeks, and 0.1% per week beyond that. The contract limits the penalty to 10%, about €300m. In December 2006, after only 16 months of construction, Areva announced the reactor was already 18 months behind schedule, which seems to assure that the full penalty will be due. In late 2007, the cost overrun was reported to have increased to €1.5bn and in October 2008, the estimated delay was increased to three years.
Relations between Areva NP and TVO are near breaking point with Areva NP now appearing to want to renege on the turnkey contract, claiming that TVO had not fulfilled its part of the deal. It now seems likely the issue will have to be decided in the courts
Implications
The scale and immediacy of the problems at Olkiluoto has taken even sceptics by surprise. It remains to be seen how far these problems can be recovered, what the delays will be and how far these problems will be reflected in higher costs (whether borne by Areva or TVO). However, a number of lessons do emerge:
- The contract value of €2000/kW, which was never – due to the turnkey nature of the contract – a cost estimate, now appears likely to be a significant underestimate.
- Turnkey contracts may well be required by competitive tenders in liberalized electricity markets. Or regulators may impose caps on recoverable nuclear construction costs, which would have the same effect. The willingness of vendors to bear the risk of cost over-runs in the light of the Olkiluoto experience is open to serious question.
- The skills needed to successfully build a nuclear plant are considerable. Lack of recent experience of nuclear construction projects may mean this requirement is even more difficult to meet.
There are serious challenges to both safety and economic regulatory bodies. The Finnish safety regulator had not assessed a new reactor order for more than 30 years and had no experience of dealing with a ‘first-of-a-kind’ design.
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