Iceland’s hydroelectric capacity offers the lowest electricity prices in western Europe. As a result, new industry has created a need for new capacity, as Janet Wood discovered
In 1996, Iceland’s national power company Landsvirkjun provided around 5TWh to its customers. By 2000, that figure will increase to 7.5TWh, as the company completes an ambitious expansion programme that will see its capacity increase by 50% in four years.
Why is the new capacity needed? As Thorsteinn Hilmarsson of Landsvirkjun explains, energy intensive industries such as aluminium smelters and ferrosilicates producers are basing themselves in Iceland, and existing industries are expanding. The main reason for this happy state of affairs, Hilmarsson believes, is that Landsvirkjun is offering ‘the lowest price for new electricity contracts in western Europe’. And while industry could find similarly low electricity prices in other parts of the world, in Iceland they go hand in hand with a well educated workforce. Hilmarsson gives an example: ‘A new aluminium smelter started up last year owned by a US company. On price, the choice was between Venezuela and Iceland. We could not beat them on price, but we won on quality.’ To meet its commitment to increase capacity Landsvirkjun is using a mixture of new plant and uprating. At the 30-year-old plant at Bürfell, for example, runners on the six turbines had been replaced and the capacity is being increased from 210MW to 280MW. At Sultartangi, a power station is being built to take advantage of the capacity of an existing reservoir. Work on this project began in 1997, the first requirement being to increase the height of the earthfill dam by 1m along its entire 6km length. Swedish, Danish and Icelandic civil engineering companies have completed this process and excavation of the headrace tunnel. Now two 60MW Francis turbines are being installed. Hilmarsson says the plant is on schedule: the first turbine will be started up in November this year, and the second will follow in January 2000. Finally, Landsvirkjun is not averse to operating as a power broker — after all, it controls the transmission grid. One tranche of power — 60MW — will be generated by a third party; Landsvirkjun will buy the power and sell it on to the customer.
The expansion will cost upwards of Kr20B (US$282M), a figure that includes all the associated transmission and distribution facilities. ‘It will be financed,’ Hilmarsson explains, ‘from Landsvirkjun’s own resources and from domestic and international borrowing. For the last two years, we have made a net cash generation of around Kr3B (US$43M) each year which covers 20-30% of our financing.’ He added: Landsvirkjun is owned half by the government and half by the cities of Reykjavik and Akureyri, and has always been run as if it were a private company. We have a 30-year tradition of international borrowing, and we typically operate with a high debt ratio. We have a good credit rating which is now at the sovereign ceiling.’ The new power contracts are all long term. Furthermore, much of the new demand has arisen because companies are expanding, so in many cases the agreements are part of a long term relationship between Landsvirkjun and its customers. The new contracts do not set a permanent fixed price. Instead, the price is indexed to a variety of factors — among them the price of the product. In this way, Hilmarsson says, Landsvirkjun receives a percentage of the product price. ‘This is a known practice in the aluminium industry and it gives a mutually satisfactory operating environment. The contract includes a ‘take or pay’ clause, by which the customer agrees to pay for a minimum amount of electricity, whether of not he takes it all. This type of contract is very common in long term electricity purchase: what is less common is the high proportion of the product the Landsvirkjun’s customers take — up to 80% of output. That is partly a consequence of Iceland’s geographical isolation: ‘We must make the investment, but we have no alternative market for the power,’ Hilmarsson points out.
Competition stirs
Landsvirkjun is not the only possible source of power for new industries, and Hilmarsson notes that the company does not have an automatic right to new business. Permission for new development is granted under a parliamentary bill and permits are given out to a suitable company. In practice, although there are other energy companies in Iceland, their interest is mainly in geothermal heating. One company has just started operation of a 60MW geothermal plant (see above) but all of its product will be bought by Landsvirkjun in the first few years.
The other possibility is that companies wishing to expand or install their own generating facilities. Again, while it is legal, in practice this is not an attractive solution in Iceland. Diesel and gas are unlikely to be an economical power source, while hydro power would require the company to make use of the resources and research acquired over time by Landsvirkjun.
The future for Landsvirkjun
Via Landsvirkjun, Iceland produces all of its electricity from renewable sources, and produces it at a very low price. What is more, it seems as if this situation could be robust in the face of great expansion: Iceland has so far developed only around 15% of the hydro resources described as easily recovered. But even here, questions are asked about whether the electricity industry is environmentally acceptable, and whether its structure is acceptable for the future.
‘We are not free from environmental discussion,’ Hilmarsson says, ‘for example regarding the land that is drowned by hydro development.’ But he says that Landsvirkjun is lucky in some respects: ‘We harness glacial rivers with an almost nonexistent biosphere. This makes it a very sensible way to generate electricity. ‘In fact,’ Hilmarsson says, ‘It can improve the water quality downstream. The most recent plant, which was started up in 1991, is a good example. The river now contains lots of salmon.’ The market has always been open in theory to competitors, but now (see above) they are beginning to make their presence felt. Companies whose activities were in the past focusing on using geothermal sources to supply heat are now beginning to consider electricity generation, witness the 60MW plant that has figured in Landsvirkjun’s plans to meet demand by 2000.
In the long term, Hilmarsson sees restructuring of the industry as a distinct possibility. Landsvirkjun provides generation, transmission and distribution services as an effective monopoly, despite the theoretical opportunity for competition that exists in law. In other parts of the world, in contrast, wholesale restructuring of electricity supply industries has seen those three functions split, and competitive entities within each part of the supply chain. ‘Now Landsvirkjun owns and operates the national grid,’ Hilmarsson says, ‘But there will be changes. We expect that our operations will be divided and perhaps split into two companies. Although the plans are not finalised we expect that changes will be upon us in two to four years. There will be more competition for sure.’