2004 02 - Electricity Journal - Margadh Aibleise Na hEireann - Author's Version

8/14/2019 2004 02 - Electricity Journal - Margadh Aibleise Na hEireann - Author's Version

http://slidepdf.com/reader/full/2004-02-electricity-journal-margadh-aibleise-na-heireann-authors 1/10



constraints, reserverequirements and otherrelevant system securityconstraints whendetermining dispatchschedule and when setting

LMPs. LMPs will be setimmediately prior thebeginning of each tradinginterval in advance of realtime dispatch. These pricesmay be positive or negativeand will limited to plus orminus the Value of Lost Load(VoLL), currently set at€7,200 per MWh.

Generators will make salesat the LMP associated withtheir location, whilesuppliers/retailers will makepurchases at a single load-

weighted average price of thelocational prices (the UniformPurchase Price) regardless of location.

Settlement will be made atactual metered volumesduring each half-hourtrading interval. The SMO

will produce week-ahead andday-ahead pre-dispatch runs

that will indicate theprojected spot market pricesand generator dispatchschedules prior to actualdispatch.

The market will includeFinancial TransmissionRights (FTRs) to hedge therisk of locational marginalprice differences.

Participants are expectedand encouraged to enter intonegotiated hedge agreements

with each other (e.g.,contracts for differences orCfDs) in order to manage thefinancial risk presented byspot market prices. Theparticipants, not the SMO,

will settle these hedgeagreements. A part of themarket power mitigation

measures will includeimposed hedge contracts (i.e.,vesting contracts) that willalso help establish the hedgecontract market and ensurefinancial stability in the

transition to a market. The SMO will purchasereserves, and implement, asappropriate, a market forappropriate reserve productsthat is co-optimized with theelectricity spot market.Reserve providers mayinclude both generators anddemand customers.

Co-optimized reserve andenergy markets involve thesimultaneous determinationof a price for electricity and aprice for each category of reserve. The electricity pricereflects the marginal cost of supplying an increase inload, and equals the cost of generating more electricity

while respecting the reserverequirements. Similarly, the

price in each reserve categoryreflects the marginal cost of that type of reserve, with thismarginal cost equal to thesum of the marginalproducer’s bid to providingone more unit of reserve andthe marginal opportunitycost incurred in backing off

electricity generation toprovide reserves.

This approach means themarginal reserve provider iscompensated by the reserveprice for the lost opportunityto make profits in theelectricity market. Reserveproviders that are not themarginal provider will makeadditional profits; just asinfra-marginal energyproviders do in the energymarket.

The simultaneousscheduling of electricity andreserve in this mannerachieves a highly efficientdispatch for both energy andreserves that ensuresadequate reserve is availableand provides long-runsignals for market responsesto reserve shortages.

The simultaneousscheduling of electricityand reserve achieves a

highly efficient dispatchthat provides long-run

signals for market responses to reserve

shortages.

The experience in othermarkets strongly suggeststhat such an approach hasbeen successful, not only interms of ensuring provisionof reserve, but in reducingthe overall cost of reserve

provision. 2 Innovation in thedevelopment of interruptibleload as a substitute fortraditional spinning reservehas also been an outcome of this approach, both loweringthe cost of reserves andreducing the overallrequirement for generationcapacity.

A. Potential for an All-Island market

Northern Ireland remainsa separate jurisdiction withits own electricity market.While there is considerableinterest in having a singleelectricity market for theentire island based on theMAE, this is not yet agreed.

Margadh Aibhléise na hÉireann: A New Electricity Market For Ireland; by Edward Kee, The Electricity Journal, January & February 2004



One benefit of the marketdesign selected for Ireland

was that is easily extended toinclude Northern Ireland.

The problems of customerrate differentials when

markets are combined3

canbe addressed by having adifferent uniform price ineach jurisdiction forcustomers (both composed of

weighted average LMPs, butacross the two differentgeographies), whilegenerators see a single all-island integrated LMPmarket.

In the period prior to anysingle all island market,there are importantinterconnection and seamsissues to address. Theseissues are currently thesubjects of a marketconsultation. 4

There are three physicalgrid connections betweenIreland and Northern Ireland.

The main interconnector (theNorth-South Interconnector)is a set of two 300 MW AC

lines that is used for inter-regional trading. There arealso two smaller 110 kVconnections in the northwestthat are normally only usedin the event of a loss of bothNorth-South Interconnectorlines.

OFREG, the NorthernIreland regulator, is currentlyassessing whether it wouldbe beneficial to NorthernIreland to join the new Irishelectricity market. If NorthernIreland were to adopt thesame trading regime andform a single all-islandmarket then the need forinterconnector tradingbetween the two jurisdictions

would disappear.

B. Major issues outsidethe trading arrangements

The consultation processidentified generationadequacy and marketdominance as two veryimportant issues outside themarket trading arrangementsthat would have a significantimpact on the new market’ssuccess.

1. Generation Adequacy. The new Irish market willrely on market prices andmarket entry to provide anadequate level of generationand reliability. Uncappedprices in a central pool

market have been shown to

result in new generationentry. The clearest examplesof this are in Australia, wherethe states of South Australia,Queensland, and morerecently, Victoria, haveexperienced new entry inresponse to uncapped 5 spotmarket prices with noseparate capacitymechanism.

Ireland has adopted asimilar approach, with spotmarket prices that reflectunderlying market conditionsused to manage the short-term (e.g., dispatch and unitcommitment) and long-term(e.g., new entry) actions of generators and demand.CER has a clear expectation

that sellers and buyers in thenew electricity spot market

will engage in active tradingof financial hedge contractsand in other activities tomanage the resulting volatile

prices. The resultingbilateral hedge contractmarket will provideadditional input to generatorinvestment decisions, as hasbeen the case in Australia.

Reflecting the highimportance of a reliablesystem, CER also designed ageneration adequacy safetynet that will be triggered justin time to prevent capacityshortfalls should the marketnot deliver sufficientcapacity.

Reflecting thehigh importance of a

reliable system,CER also designed ageneration adequacy

safety net.

This safety net approach,referred to as the “fast build”option, involves a newpeaking station that will bebuilt, placed in operation andsubsequently sold in themarket. The option includesinvestment in the earlydevelopment activities forthis peaking plant in order to

significantly reduce theperiod between the time of adecision to activate the safetynet and the time that the“fast-build” plant is on-lineand providing capacity, asshown in Figure 2.

This approach will ensurereliability while providing amaximum amount of time forcommercial new entrydecisions to be made and willminimize the distortion of incentives for new marketentry through a combinationof short time to build, well-defined trigger conditionsand use of only peakingstations. 6

2. Dominance. ESB hasa dominant share of generation in Ireland, owning




outright 80% of thegeneration capacity inIreland and holding a 70%share of the new 400 MWSynergen gas-fired CCGT plant, as shown in Figure 3.

This level of generationmarket dominance, if unchanged by any structuralchanges, will mean thatsignificant measures must betaken to mitigate possiblemarket power abuse and toalleviate the concerns of newgeneration entrants.

The approach to marketdominance to be used inIreland is currently underdevelopment, but will rely on

vesting contracts imposedupon ESB plus a range of regulatory requirements andoversight. The details of these arrangements are stillbeing developed and willreflect the extent of structural changes to ESBundertaken by theresponsible Minister. Thegoal will be for ESB to mimicthe behavior of a competitiveparticipant.

III. The New Irish marketis not NETA or SMD

While some industryobservers in the UK or in theUS expected that Ireland

would adopt the marketmodels in those countries(i.e., NETA and SMD), thisdid not happen. Somespecific features of these twomarkets were viewed asinappropriate for Ireland.

NETA raised concernsbecause it may not providetimely incentives for newgeneration in a shortagesituation; because it hasseparate spill and top-upprices that are seen as adisincentive to renewables

and small generators; andbecause of a uniform priceregime that creates a need forout-of-market solutions totransmission congestion andgenerator dispatch.

Market entrycommitmentmay be 3 to 4years prior to

online date

SMD raised concernsbecause it anticipates thatspot market prices will besubject to regulatory controlor price caps (an unfortunatelegacy of the Californiacrisis), with these capscreating the need forcomplicated capacitymechanisms to ensuregeneration adequacy.

The new Irish electricitymarket design is most similarto that of the Singaporemarket. The Singaporeelectricity market wasinfluenced by the electricitymarkets in New Zealand andAustralia. New Zealand andAustralia were, in turn,influenced by the original UKpool market that wasreplaced by NETA.

A range of options for theIrish electricity market was

developed, ranging from areturn to regulation to adecentralized market (see

Table 1). The team assessedthese options (and a varietyof sub-options) on five keycriteria: efficiency, equity,environment, stability andpracticality. The optionchosen had to send the rightprice signals to balancesupply and demand in theshort term and long-term;produce sustainable pricingin the wholesale market; andreflect specific constraints inIreland, CER objectives andIrish government policy.

2006 2007 2008 2009 2010

Need for newcapacity

Fast build trigger before need but wellafter market entry commitment to avoid

interference with market entry

Figure 2 : Timing of Fast-Build Plant

Generation capacity shares

ESB 80%

Huntstown6%

Synergen7%

Embedded5% Other 2%

Figure 3 : Generation Capacity Shares

Source: Generation Adequacy Report, 2003 – 2009,Transmission System Operator, Ireland, November 2002.




IV. How to think aboutelectricity markets

Any electricity market

design could work in Ireland,so long as it was well crafted,internally consistent andreflected local conditions.However, it is important tounderstand that what works

well in one country or contextmay not be as successful in adifferent environment.

The challenge in Ireland,and in other electricityreform processes, is to designa market that will bestdeliver the potential benefitsof markets. The Irish marketreview process considered arange of market designs andoptions and involved astructured process toevaluate potential of themarket designs to achievethe objectives for the newIrish Market. Behind thisprocess was an examinationof the reasons why the

electricity sector is beingreformed and the potentialbenefits that markets deliver

– in order to focus the efforton achieving these benefits.

A. Electricity sectorreform has a purpose

The primary driver of electricity sector reform is

unhappiness with economicregulation of electric utilities,

whether through governmentownership or through theregulation of private

companies. While it ispossible that an effectiveregulatory regime orgovernment owner couldconsistently achieve resultsthat are close to the marketoutcomes, this has rarelybeen the case.

Even after decades of refining and adaptingeconomic regulation of electric utilities, thereremains a concern thateconomic regulation resultsin higher prices and lowerservice levels than markets

would have produced. Thisis, among other things,because:

• Regulated utilitieshave a reduced focus oncustomer service,productivity, and efficiency

without the incentives (e.g.,higher profits) and disciplines

(e.g., loss of customers)imposed by a functioningmarket;

• Operating andinvestment decisions aremade without price signals,

without the discipline of risk,sometimes with perverseincentives, and with the

potential influence of specialinterest groups; and

• Government owners orregulators of electricityutilities have used them toaccomplish various objectivesthat are far from the coreelectricity business.

Without the discipline of the market, the cumulativeeffect is higher costs, lowerefficiency, and sub-optimalinvestments.

B. Electricity marketscan provide benefitsElectricity industry reform

is based on structuralchanges, with the industry isdivided into transmissionand distribution, that remainregulated, and retail/supplyand generation, that arederegulated. The deregulatedparts require an electricitymarket.

In a market, operating andnew investment decisions aredriven by price signals andtempered by the harsh

discipline of potentialfinancial failure. Marketscan provide better incentivesfor efficient behavior,encourage a better allocationof resources and driveappropriate investments inelectricity.

R e g u l a t e d u t i li t y T h i r d p a r t ya c c e s s

S t a t u sq u o

C e n t r a l i z e dm a r k e t

D e c e n t r a l i z e dm a r k e t

Table 1 : Market Structure Options Considered for Ireland

A r e t u r n t o aver t i ca l ly in tegra tedr e gu l a t e d i ndus t r y.M a r k e t f o r c e s

c o m e o n l y f ro mc om pe t i ti vep r o c u r e m e n t o fP o w e r P u r c h a s eA g r e e m e n t s .

T h e r e g u l a te dut i l ity op t ion w i ththe a bi l ity ofpa r t i c ipa n t s t o de a l

d i rec t ly us inga c c e s s t o t h e g r id .

The e x i s t ingi n t e r im m a r ke t i nI re land, wi thb i la t e r a l c on t r a c t s

a n d a b a l a n c in gp r o c e s s t h a td e p e n d s h e a v i lyo n t h e r e g u l a t e di nc um be n t u t i li ty.

A m a r k e t t h a ti nvo l ve s am a n d a t o r yc e n t r a l iz e d p oo l .

S i m i la r t o t hem a r k e ts i nS i n g a p o r e ,Au s t r a li a , Ne wZ e a la n d a n d s o m eU S r e g i o n s .

A m a r k e t d o m i n a te dby b i la t e r a lt ra n s a c t i o n s b e t w e e nb u y e r s a n d g e n e r a t o rs

u s i ng t he r e gu l a t e dg r i d , wi th a b a l a nc i ngs y s t e m / m a r k e t. T h ism a r ke t i s s i m i la r t o t hem a r k e ts i n E n g l a n d &W a l e s a n d N o r d p o o l .




In some countries,electricity markets haveeffectively transformed powergeneration and, to a lesserextent, retail supply intomarket-driven industries. In

a competitive industry,market prices are at thesupply-and-demandequilibrium, allocatingresources efficiently andmaximizing net benefits.Introducing markets intoindustries once considerednatural monopolies,including electricity, hascreated significant andbeneficial changes. Markets,if done well, are a better wayto manage the competitiveparts of the electricityindustry than regulation.

The benefits of marketslargely arise from the self-interested actions of marketparticipants seeking tomaximize profits. Well-designed markets are“incentive compatible,” sothat participant actions tomaximize profits also havethe result of making themarket work better and moreefficiently, producing betteroverall outcomes.

When all participants havethe same incentives and takesimilar actions, the result isgreater industry output,lower costs, and increasedreliability from the samecapital investment. Asmarket participants competefor market share, cost-savings by producers arereflected in lower marketprices to consumers.

Designing markets forelectricity is an exercise infitting a market design intoconstraints while maximizingthe potential for marketbenefits.

The benefits of electricitymarkets, as compared witheconomic regulation, includemore efficient investment,more efficient and productiveuse of assets; better

allocation of resources;innovation; and demand-sidebenefits.

1. Investment Efficiency . The largest source of benefitsfrom electricity markets islikely to be in the area of investment in new powerplants, even though thesebenefits may not appear for

years. A range of options forpower plant type, fuel source,size of plant, location, andother factors will beconsidered as investors seekto find profitable niches. If the market is designed welland there is minimalintervention, marketinvestment driven by pricesshould ensure that that thereis no need for centralgeneration expansionplanning.

In an electricity market,

an investor must haveconfidence that theinvestment will earn areturn. While getting areturn in the generationbusiness is not a simplematter, an astute analyst willsee opportunities forprofitable investments withprices being the primaryindicator of theseopportunities.

2. Operational Efficiency and ProductivityGains. Operating in anelectricity market leadspower plant operators toreduce costs and increaseoutput in order to increaseprofits. In a market, powerplant owners/operators makedecisions and investments

that will increase thereliability and flexibility of power plants, lower fuel costs(e.g., renegotiate fuelcontracts or add on-sitestorage), increase efficiency

(e.g., upgrade turbines toraise thermal efficiency), andreduce other costs.

3. Resource Allocation .In a market, the mostefficient and productivepower plants will take alarger share of the market,

with less efficient powerplants taking a smallershare. One result might bethat inefficient or costlypower plants will notgenerate sufficient profits tocover fixed operating costsand will be shut down, withthe sites used for new, moreefficient and productivegenerating plants. Anotherresult will be that the leastexpensive fuels will result inlower costs and will displacehigher cost (and highervalue) fuels.

4. Innovation . Many

improvements in operationalefficiency, resourceallocation, and investmentefficiency derive frominnovations that have beendeveloped and implementedby market participants.Absent the motivations of profit, many of theseinnovations might not existor might not quickly come tomarket. Examples includegas turbines with very highthermal efficiency; the use of gas-turbine technology in acombined-cycle mode; and avariety of small cogenerationand distributed generationtechnology (e.g., micro-turbines).

Owners of existinggeneration plants, when




moving from regulation tomarkets, have mademodifications to increasemaximum output levels,decrease minimum outputlevels; shorten start-up times

and shorten minimumdowntimes; increase ramprates; and otherwise increasethe power plant’s ability toprofit from market operation.

5. Demand-side benefits . There are also benefits fromthe demand side of themarket. The presence of market prices for electricity,especially if these prices arereal-time and locational, willprovide customers withstrong price signals. There issignificant evidence thatelectricity consumers arefairly responsive to changesin electricity prices and toopportunities to make profitsfrom the market (e.g., in NewZealand interruptible loadhas become the primarysource of operating reservesat a fraction of the cost of reserves from power plants).

C. Regulatoryintervention can reducebenefits

The Irish market isdesigned to minimizeregulatory intervention andto constrain this interventionto well-defined areas.

To maximize benefits,markets should be designedto operate with only minimalcontrols and regulation.

Unhappily, there are largedifferences of opinion on thelevel and type of control andintervention that is necessaryfor electricity markets. Thisdifference may reflect thedeep divide between thosethat believe that markets can

work in electricity and those

that believe that marketscannot and will not work inelectricity.

In some countries, thebelief that markets will workin electricity leads to lessintrusive and minimalregulatory intervention, withthe ultimate aim of electricitymarkets with little or noregulatory intervention.

In other countries, thebelief that markets will not

work in electricity leads to anever-increasing level of regulatory intervention withan ultimate goal that seemsto be regulated outcomesfrom the “market.” When amarket is highly regulated orcontrolled, the outcomes willbe different, and probably

worse, than the outcomesfrom a functioning market.Indeed, a highly regulatedelectricity market couldresult in outcomes (prices,reliability, efficiency, andproductivity) that are worsethan those in a well regulatedvertically integrated

electricity industry. The US, with a longhistory of economicregulation of privately ownedelectric utilities, seems to bemore comfortable withregulatory intervention inelectricity markets thancountries without this longtradition and practice of regulation. Perhaps becauseof many decades of cost-based prices for electricity,many in the US seemuncomfortable with andopposed to the concept of market prices in electricity.

It is troubling is that theultimate impact of regulatoryintervention (or the lack of it)may not be obvious for sometime. Price caps that seem

harmless and even beneficialin the short term may have anegative impact on the level,type, and timing of new entryor on the level of reliabilitythat will not be seen for

years.D. Proven designs reducerisk and increasebenefitsElectricity market design

experience is growing. Adecade ago, when electricitymarkets were very new andeven experimental, it wasperhaps appropriate for eachmarket to develop its ownunique design. Today, thereare many examples of entiremarket designs that work (ordo not work) and an evengreater number of marketdesign features that work (orthat have not worked).

In another decade,electricity market design maybe at a stage where a singledesign approach dominatesand some of the current“experiments” in marketdesign will be recognized asevolutionary dead ends.

One must look beyondnational or regional bordersto get a full understanding of the available experience inmarket designs and marketdesign features. However,looking at other markets forproven designs and designfeatures must be done with arealistic assessment of theenvironment that is present

in the local market and inother markets.CER undertook a

comprehensive review of market designs and madevisits to electricity markets inthe US, Europe and Asia-Pacific. The process wasaimed at lowering risk and


2004 02 - Electricity Journal - Margadh Aibleise Na hEireann - Author's Version

Documents

Transcript of 2004 02 - Electricity Journal - Margadh Aibleise Na hEireann - Author's Version