The enduring role of contracts for difference in risk management and market creation for renewables

Abstract

Governments procure renewables through a variety of mechanisms. Contracts-for-Difference (CfDs) have been used in more than 50% of the global offshore wind supply. The payments awarded through CfDs are sometimes labeled subsidies, suggesting they support uneconomic activity. Here, we argue that the primary role of CfDs is rather risk management by creating a market for electricity supply at stable longterm prices. Like its use in other sectors of the economy, this contract type transforms a variable for a fixed price to reallocate volatility risks. Such long-term contracts are often necessary for renewables financing due to limited hedging options in existing markets. Our perspective could imply a shift in perception toward CfDs as a fundamental and lasting market feature. We hope to stimulate a timely discussion about the impact of greater CfD diffusion on electricity market mechanisms, risk allocation, and the potential for combining fragmented streams of energy finance, market, and policy research.