GB Energy Market Structure. David Newbery DECC workshop London, 4 th September 2014 http://www.eprg.group.cam.ac.uk. Imperial College London. 1. 1. Outline. Drivers of business models Benefits and costs of different business models Justification and criticisms
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London, 4th September 2014
Drivers of business models
Benefits and costs of different business models
Justification and criticisms
Future drivers of change
Security, affordability, sustainability and the EU
How to allocate risk and incentivize investment?
short-term volume and price volatility => need to contract
very durable capital, high ratio of capital to variable cost=> confidence in future pricing and/or long-term PPA
non-storable, subject to congestion => LMP, complex transmission charges/contracts (FTRs, etc)
QoS and SO: value varies over space and by millisecond
=> specify contracts for inertia, fast FR, various reserves (1,2,3, up/down), reactive power, ramping constraints, black start, ...
Other objectives: carbon, renewable targets not commercial
=> long-term contracts, undermine credibility of future spot prices
Interconnectors part of TEM but countries acting as autarkies
Future policy uncertainty, inefficient pricing, turbulent policies
Efficient pricing of electricity requires
Prices varying in response to S&D each second
Australia has 5 minute pricing in real-time market
Frequency response needed in 1-5 seconds
Tender auctions may be cheaper than spot markets for some services
Contracts needed to hedge risk and incentivise responses
Investment needs forward prices for 15-20+ years
Or ability to predict confidently and hedge
Investment needed is either capital-intensive (low-C) or has low capacity factors for balancing intermittency = risky
How to allocate risk to incentivise and reduce cost?
D Newbery 2014
Lack of pool encouraged vertical integration
balancing mechanism opaque, poorly designed
with energy-only market => self-balance
fairly sticky domestic customers provides quasi-LT hedge
=> discourages merchant entry
RES + high gas prices discourage flexible CCGT
CPS + EPS discourage coal => capacity crunch => CRM
ROCs volatile, wind exposed to imbalance
contract with Big 6 or face high WACC => CfDs
Connect and manage + uniform pricing
=> locate in Scotland=> congestion=> bootstraps £2b
SMD in the US
has LMP, ISOs + unit commitment with central dispatch, capacity auctions with obligations placed on LSEs, ISO involved in transmission planning
Other states keep to regulated cost-of-service utility model to minimise cost of new build
SEM is trying to adapt gross pool + unit commitment and central dispatch subject to BCoP + CRM with TEM
LA has moved to LT capacity auctions for new build
ISO or SO? Energy-only, capacity markets or Pools?
SB, PPAs or LT contracts? Extent of regulation?
Central dispatch in voluntary pool
SO manages balancing, dispatch, wind forecasting
LMP + capacity payment =LoLP*(VoLL-LMP)
Hedged with reliability option (RO)
=> reference prices for CfDs, FTRs, balancing, trading
Auction/tender LT contracts for low-C generation
Financed from state investment bank
Credible counterparty to LT contract, low interest rate
CfDs when controllable, FiTs when not, or
Capacity availability payment plus energy payment
Counterparty receives LMP, pays contract
Free entry of fossil generation, can bid for LT RO
To address policy/market failures
D Newbery 2014
Investment needs low WACC
=> Predictable policies & markets or long-term contracts?
=> efficient risk allocation and management
Who can control imbalance risk? Not wind
But need incentives to offer ancillary services
Efficient location and congestion management
Can this be left to TNUoS and redispatch or is LMP needed?
Trading on Euphemia –3-part or “complex” bids?
Retail supply – why not a regulated default supplier?
Markets incentivise but challenging to get prices right
Innovation => competitive contracts for RDD&D
LCNF & NICs OK but SET-Plan needs dedicated funding
CCS as demo – but is the funding well targeted?
Hinkley Point – to learn how to do nuclear – but pricey!
EMR: why fix strike prices and not auction?
Why over-procure capacity before learning about supply?
why universal? Why so complex and costly?
Low-C policies (ROs, CfDs, FiTs, CERT etc)
why charged to electricity consumers? Why not raise VAT?
Unclear objectives => lack of coherence, piecemeal policy
Low-C investment is durable and capital intensive
needs stable credible future prices to invest
or guaranteed contracts for cheap finance
EU policy is a messy 27-state compromise
neither stable nor credible
Each country searching for best solution
some mix of contracts and capacity markets
Gains from cross-border trading higher with RES
share reserves, renewables to reduce investment
rapidly evolving environment for utilities
D Newbery 2014
London, 4th September 2014
BCoP Bidding Code of Practice – to bid at short-run variable opportunity cost
CCGT Combined cycle gas turbine; CfD Contract for difference
CRM capacity remuneration mechanism; EMR Electricity Market Reform
FiT Feed-in tariff FR Frequency Response
FTR Financial Transmission Right ISO Independent System Operator
LMP Locational marginal price or nodal price
LoLP Loss of Load probability LSE Load Serving Entity = retailer
LT Long-term PPA Power Purchase Agreement
QoS Quality of Supply RES Renewable energy supply
RO (C) Reliability Option or Renewable Obligation (Certificate)
SB Single Buyer
SMD Standard Market Design (the US model)
SEM Single Electricity Market (of island of Ireland)
SO System Operator TEM Target Electricity Model
WACC Weighted Average Cost of Capital VOLL Value of Lost Load