Key takeaways
Marginal pricing under review, not replaced
Government seeks to moderate impacts while retaining core market framework.
Wholesale CfDs extend fixed‑price protection
Policy aims to shield consumers from volatile international gas markets.
Reforms balance stability and investment signals
Design seeks consumer protection without undermining low‑carbon deployment.
Introduction
The effect of gas price shocks on UK retail electricity prices came sharply into focus following the outbreak of the Russia–Ukraine conflict. Recent further spikes in gas prices have once again pushed energy costs to the top of the public and political agenda. Against that backdrop, there now appears to be a renewed willingness within government to tackle what has long been recognised as a structural issue within the UK electricity market.
Since the 1990s, the UK electricity market has operated on a marginal pricing (or ‘pay-as-clear’) model, under which the wholesale price of electricity is set by the most expensive source of generation required to meet demand, typically gas-fired plant. While gas accounted for around 90% of price-setting in the 1990s, this reliance has fallen to approximately 60% today and is expected to reduce further to around 50% by 2030. Nevertheless, gas continues to play a significant role in determining wholesale electricity prices.
Recent geopolitical events - including the ongoing conflict in Ukraine and instability in the Middle East - have exposed the vulnerability of this pricing mechanism. Sharp increases in international gas prices can translate into higher electricity prices even where UK domestic supply fundamentals remain unchanged. In response, the government is considering reforms intended to limit household and business exposure to gas price volatility.
On 21 April 2026, the government announced proposals aimed at stabilising long-term electricity prices and improving energy security. These proposals follow the continued growth of renewable generation, which now accounts for approximately 45% of the UK’s electricity mix and around 30% of total energy supply.
Background: Contracts for Difference
Historically, electricity generators sold power at prevailing wholesale market prices, bearing the full risk of price volatility. However, over a decade ago it was recognised that this merchant model had failed to sufficiently incentivise investment in renewable generation. In particular, it was ill-suited to capital-intensive low-carbon technologies such as offshore wind, nuclear and large-scale solar, which have high upfront costs and relatively low operating costs.
In response, the UK government introduced Contracts for Difference (CfDs) in 2014 as the primary mechanism for supporting investment in low-carbon electricity generation. CfDs provide generators with long-term revenue certainty while protecting consumers from excessive prices. Under a CfD, a generator is paid a fixed ‘strike price’ for the electricity it produces over an agreed period, typically 15 years. Where the wholesale market price is lower than the strike price, the generator receives a top-up payment to bridge the difference. Conversely, where the market price exceeds the strike price, the generator pays the excess back.
This mechanism reduces generators’ exposure to wholesale price volatility, lowering financing costs and encouraging investment, while ensuring consumers benefit during periods of high market prices. Importantly, however, CfDs do not change the fundamental marginal pricing structure of the market: wholesale prices continue to be set by the most expensive generator required to meet demand, most often gas-fired generation.
Key proposals
Wholesale long-term fixed price Contracts for Difference (WCfDs)
The government has proposed introducing a voluntary Wholesale Contracts for Difference (WCfDs) scheme for existing low-carbon electricity generators. Eligible generators would include those not currently benefiting from a CfD and which are accredited under the Renewables Obligation (RO).
The allocation process for WCfDs is expected to take place in 2027, with further detail to be set out in a formal consultation later in 2026.
The WCfD mechanism broadly mirrors the existing CfD model. Eligible generators would have the option to reduce exposure to volatile wholesale electricity prices by agreeing to sell electricity at a fixed price for an agreed period. Where the market price exceeds the strike price, generators would pay the difference back to consumers. Where market prices fall below the strike price, generators would receive a top-up payment.
The government has indicated that WCfDs will only be offered where they can demonstrably deliver clear value for money for consumers, while providing revenue certainty to generators and reducing the link between electricity prices and gas market volatility. However, at this stage, neither the strike price methodology nor the criteria for assessing “value for money” have been specified. Until greater clarity is provided on pricing structure and contractual terms, generators may be unable to assess whether participation is commercially attractive.
In addition, while WCfDs have been described as ‘long-term’ contracts, their proposed duration has not yet been defined. For renewable generators approaching the end of a 20-year RO support period, participation in a WCfD could in effect extend government-backed price support beyond the original RO expiry, raising important legal and subsidy control considerations.
Increase to the Electricity Generator Levy
The government has also proposed increasing the Electricity Generator Levy from 45% to 55%.
The levy is a windfall tax applied to extraordinary profits earned by low-carbon electricity generators where market prices exceed £75/MWh. Introduced as a temporary measure in 2022, the levy was designed to capture exceptional increases in wholesale electricity prices driven by gas price shocks, with revenues used to support households and businesses facing higher energy costs.
Increasing the levy rate is also expected to encourage participation in the WCfD scheme, by making fixed-price arrangements more attractive than remaining fully exposed to wholesale market pricing.
Energy security and market reform
These proposals form part of the government’s broader strategy to enhance the resilience of the UK energy system and reduce exposure to external shocks. Alongside initiatives such as grid reform and the Review of Electricity Market Arrangements (REMA), the measures are intended to accelerate renewable deployment, incentivise additional capacity and strengthen long-term security of supply.
Taken together, the reforms aim to reduce the proportion of electricity prices linked to gas market movements, with the government targeting gas-linked pricing in only around 50% of cases by 2030. The overarching objectives are to improve price certainty, lower costs for consumers and support the transition to a more secure and sustainable energy system.
Our Energy and Natural Resources team will be closely monitoring the rollout of the WCfD scheme and the shifting Electricity Generator Levy to help our clients stay ahead of the curve.
