Economic Markets for power
Transcript of Economic Markets for power
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RDT SD 126
ESD 126
ESD 126 Economic Markets forESD 126 Economic Markets forPowerPower
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ESD 126
Characteristics of ElectricCharacteristics of ElectricDemandDemand
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March 5, 2001 RDT ESD 126
ESD 126Electricity Demand inElectricity Demand in
HokkaidoHokkaido
FY '75 '80 '85 '90 '95 '02 '07FY '75 '80 '85 '90 '95 '02 '07 '12'12
11.7 16.3 17.6 20.5 24.4 29.2 31.511.7 16.3 17.6 20.5 24.4 29.2 31.5 33.933.9
%1 48 46 39 33 29 28 27%1 48 46 39 33 29 28 27 2626
%2 52 54 61 67 71 72 73%2 52 54 61 67 71 72 73 7474 ! !! !
OUTLOOKOUTLOOK ------------!!----------------!!
%1 = Industrial use %%1 = Industrial use %
%2 = Residential and commercial use %%2 = Residential and commercial use %
Estimated demand from 1975Estimated demand from 1975--20092009
Courtesy of Hokkaido Electric Power Co.,Inc; Used with Permission.
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RDT SD 126
ESD 126
Power System EconomicsPower System Economicsand Electric Marketsand Electric Markets
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RDT SD 126
ESD 126
Competitive ConditionsCompetitive Conditions
Price
Quantity
ConsumerSurplus
ProducerSurplus
Q*
P*
Supply
Demand
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RDT SD 126
ESD 126
{
Conditions under TaxationConditions under Taxation
Price
Quantity
ConsumerSurplus
Producer
Surplus
Q*
P
Supply
Demand
GovernmentRevenues
Societal
Loss
Tax
Q
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RDT SD 126
ESD 126
Profit Maximizing FirmProfit Maximizing Firm
Price
Quantity
P*
Supplier is a
Price TakerP = D = MR
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RDT SD 126
ESD 126
Monopoly PricingMonopoly Pricing
Objective is to capture benefits of economies ofObjective is to capture benefits of economies ofscale and at the same time providing thosescale and at the same time providing thosebenefits to customers by charging as close tobenefits to customers by charging as close tomarginal cost as possible.marginal cost as possible.
Given that Marginal Cost < Average CostGiven that Marginal Cost < Average Costalternative pricing structures are usedalternative pricing structures are used Ramsey, or second best pricing
Provide form of marginal cost pricing while allowing firmsto recover costs
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RDT SD 126
ESD 126
Monopoly PricingMonopoly Pricing
Price
Quantity
Pm
Qm
Monopolist Restricts Outputto Achieve Greater Profits
(Monopoly Rent)
MC
MR D
Marginal Revenue falls fasterthan price as output increases
PC
QC
AddedConsumer Surp.
MonopolyRent
Marginal Costs fall fasterthan average costs thus if marginalcosts are used as price, firm looses money
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RDT SD 126
ESD 126
Pricing StructuresPricing Structures
Short Run Marginal Cost (SRMC)Short Run Marginal Cost (SRMC) In general under recovers because MC < AC
Long Run Marginal Cost (LRMC)Long Run Marginal Cost (LRMC)
Average Cost PricingAverage Cost Pricing
Ramsey PricingRamsey Pricing Charge customers a price that is inversely proportional to
their elasticity of demand
Time of use (TOU) Real Time Pricing (RTP)
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RDT SD 126
ESD 126
Electric MarketsElectric Markets
MW
$
SupplyDemand
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RDT SD 126
ESD 126
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20
40
60
80
100
120
Cumulative Hours
Mills /kWh
87601
Cost Duration Curve:
Sorted by Marginal Cost
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RDT SD 126
ESD 126
Individual Unit EconomicsIndividual Unit Economics
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MarginalCost
p/kWh
Unit A
Unit B
Return on Capital is difference betweenUnit Marginal Cost and System MarginalCost on a Unit by Unit basis
System Marginal Cost
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RDT SD 126
ESD 126
What is a Market?What is a Market?
Rules for the ideal market:Rules for the ideal market:
A Homogeneous product Buyers and sellers can find one another
Perfect information is available
Entry and exit is free
Vocabulary of the imperfect marketVocabulary of the imperfect market Market power
Imperfect measure of the imperfect market = HHI
In general:In general: A place where an independent buyer and an
independent seller can exchange goods at an agreedupon PRICE
The Key:The Key:E
PRICE not COSTPRICE not COST
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RDT SD 126
ESD 126
PlayersPlayers
GeneratorsGenerators
TransmittersTransmitters
DistributorsDistributors
System Operator(s)System Operator(s) MarketsMarkets
BrokersBrokers
ConsumersConsumers
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RDT SD 126
ESD 126Players Roles:Players Roles:
GeneratorsGenerators
StrategiesStrategies Multiple facilities
Geographic dispersion Same fuel, same type units
Geographic contiguity Diverse fuel, diverse units
Single facility Niche supplier
Peaking ?
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RDT SD 126
ESD 126Players Roles:Players Roles:
Marketers / BrokersMarketers / Brokers
Market Maker (Grease)Market Maker (Grease) Identify spreads
Buy Low
Sell High
Reduce risk to buyers and sellers Buy forward to reduce producer risk and/or assure market
for future capacity
Sell forward to reduce (eliminate) price risk to consumer
Fuel Swap Gas for Electricity
Tolling
Brokers: Match Maker onlyBrokers: Match Maker onlyE
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RDT SD 126
ESD 126Products in the ElectricProducts in the Electric
MarketMarket
Capacity (short ===> long term)Capacity (short ===> long term)
Energy (time and location specific)Energy (time and location specific) Transportation (Transmission)Transportation (Transmission)
Ancillary ServicesAncillary Services
Loss Compensation
Constraint Mitigation
Spinning Reserves / Energy Imbalances
VAR Support
Black Start
System Protection
Energy ServicesEnergy Services
Cost packages
Value packages
The MCI and Sprint of Electricity
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RDT SD 126
ESD 126Products: Energy andProducts: Energy and
CapacityCapacity
EnergyEnergy
CapacityCapacity Installed (Long Term)
Operable (Short Term)
Reserve
SeparabilitySeparability and Timing are Critical Issuesand Timing are Critical Issues Multiple Products
Short time periods for trading and clearing Minimize the role of the ISO in the market
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RDT SD 126
ESD 126
Prices (Costs)Prices (Costs)
For Energy and CapacityFor Energy and Capacity Bilateral Market Based
Swaps (contracts for differences)
Spot Market Based
Ancillary ServicesAncillary Services ? Regulation because of localized monopoly conditions
Independent System Operator
Call Contracts Reservation
Strike
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RDT SD 126
ESD 126Markets and MarketMarkets and Market
InstrumentsInstruments Forward (Futures) MarketsForward (Futures) Markets
Price lock-in Information for future investments
Referent to Spot Market
Expectation of change
Spot MarketsSpot Markets High variability / uncertainty
Ancillary Services MarketAncillary Services Market Operating requirements
Clearing MarketsClearing Markets After the fact trading by buyers and suppliers
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RDT SD 126
ESD 126Markets and MarketMarkets and Market
InstrumentsInstruments
Forward (Futures) MarketsForward (Futures) Markets
Price lock-in Information for future investments
Referent to Spot Market
Expectation of change
Spot MarketsSpot Markets High variability / uncertainty
Ancillary Services MarketAncillary Services Market Operating requirements
Clearing MarketsClearing Markets After the fact trading by buyers and suppliers
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RDT SD 126
ESD 126Prices in the ElectricPrices in the Electric
Market: FunctionsMarket: Functions
Provides signals to buyersProvides signals to buyers Operations: how much to demand given value of end
product
Investment:
Fuels Efficiency
Provides signals to suppliersProvides signals to suppliers
Operations: Investment: when, what kind, and where
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trade-off between
how much, when and where
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RDT SD 126
ESD 126Price Discovery MechanismsPrice Discovery Mechanisms
in the Electric Marketin the Electric Market
Regulated requirementRegulated requirement (Avoided Costs) PURPA in the US
Required bidding through regulated entityRequired bidding through regulated entity Mandatory Pool as in the UK
Coordinated BiddingCoordinated Bidding Voluntary PoolCo (Transactions may go around the
pool)
NordPool ? Open marketOpen market
Bilateral Contracts
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RDT SD 126
ESD 126How is price discovered inHow is price discovered in
a Competitive Market?a Competitive Market?
Supermarket and Auto MileSupermarket and Auto Mile
Industry knowledge / Word of MouthIndustry knowledge / Word of Mouth The Natural Gas Model
Henry Hub plus basis points
Brokers and MarketersBrokers and Marketers For complex markets / products
When information and contact failures occur
Electronic Bulletin Board (EBB)Electronic Bulletin Board (EBB)
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RDT SD 126
ESD 126Information Required byInformation Required by
the buyerthe buyer
Define the product neededDefine the product needed amount
delivery point
timing
reliability Prices of delivered energy available in the marketPrices of delivered energy available in the market
Who will sell (marketers and/or primary suppliers)Who will sell (marketers and/or primary suppliers)
Conditions of the offers to sellConditions of the offers to sell
Credibility of the suppliersCredibility of the suppliers
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RDT SD 126
ESD 126Information Required byInformation Required by
the Marketerthe Marketer
TheirTheir sources and conditions of supplysources and conditions of supply
Their costs of energyTheir costs of energy
Their costs of transmission (and distribution)Their costs of transmission (and distribution)
Their ability to reliably deliverTheir ability to reliably deliver Hedged in energy and or $
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RDT SD 126
ESD 126Contract is written againstContract is written against
specific terms:specific terms:
Cost of EnergyCost of Energy
Cost of TransmissionCost of Transmission
QuantityQuantity
DurationDuration
ReliabilityReliability
Delivery pointsDelivery points
ContingenciesContingencies
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RDT SD 126
ESD 126What institutions and / orWhat institutions and / or
functions are necessary?functions are necessary?
ISOISO Balancing
Responsible only for ISOs activities
BillingBilling handled on the basis of individual players.
Significant opportunity for additional specialization in themarket -- firms established to provide metering and billingservices as well as firms to do the actually billing
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RDT SD 126
ESD 126
SummarySummary
Financial Markets CriticalFinancial Markets Critical
Restructuring will bring about:Restructuring will bring about: Winners
Losers
New entities will emergeNew entities will emerge
New financial instruments will emergeNew financial instruments will emerge
New physical and service products will emergeNew physical and service products will emerge
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RDT SD 126
ESD 126What are the markets that willWhat are the markets that will
develop and what will bedevelop and what will besold?sold? Spot MarketSpot Market
EnergyAncillary Services?
Futures MarketFutures Market
Energy Capacity?
Reliability MarketReliability Market
Capacity Installed Operable
Reserve
Ancillary Services
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Must be Closely
Related in theMarket
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RDT SD 126
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SRMCSRMC
Operating Cost (Variable Cost) BasedOperating Cost (Variable Cost) Based Fuel, O&M ...
Spot Price / PIP or POPSpot Price / PIP or POP
Economically efficient operating rulesEconomically efficient operating rules
Best when operating costs dominateBest when operating costs dominate Electricity
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RDT SD 126
ESD 126
Hours
0.0
5.0
10.0
15.0
20.0
25.0
30.0
35.0
40.0
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3
5
7
9
11
13
15
17
19
21
23
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3
5
7
9
11
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15
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19
21
23
System Lambda
Mills /kWh
Two Days in January, 1993Hourly Marginal Costs
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RDT SD 126
ESD 126
0
20
40
60
80
100
120
Cumulative Hours
Mills /kWh
87601
Cost Duration Curve: Sorted by
Marginal Cost
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RDT SD 126
ESD 126Ramsey version of SRMCRamsey version of SRMC
Rate: RTP (US) or ...Rate: RTP (US) or ...MCMCGENGEN(t)(t) System Lambda (t) or SystemSystem Lambda (t) or System
Marginal CostsMarginal Costs++
Marginal Generation and Maintenance Cost (t)Marginal Generation and Maintenance Cost (t)
++
Marginal Cost of Reserves and Contingencies (t)Marginal Cost of Reserves and Contingencies (t)
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Marginal Shortage Costs(t) (VOLL/LOLP or otherMarginal Shortage Costs(t) (VOLL/LOLP or other
approximation method)approximation method)
++
Revenue Recovery Adjustment (US)Revenue Recovery Adjustment (US)
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RDT SD 126
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Individual Unit EconomicsIndividual Unit Economics
0 8760
MarginalCost
p/kWh
Unit A
Unit B
Return on Capital is difference betweenUnit Marginal Cost and System MarginalCost on a Unit by Unit basis
System Marginal Cost
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Revenue RecoveryRevenue Recovery
Objective: to match the financial calculation ofObjective: to match the financial calculation of
required revenues to the economic earnings ofrequired revenues to the economic earnings ofmarginal costsmarginal costs In general the earnings from MC < AC
In theory, when you include Capacity Shortage Costs,and are in equilibrium, sufficient revenue will begenerated with SRMC pricing.
Methods of recovery for difference between MC and AC
Adder (per kWh) Lump Sum (connection charge)
Multiplier (per kWh)
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RDT SD 126
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LRMCLRMC
Forward looking to the nextForward looking to the next investmentinvestment
Includes expected operating costsIncludes expected operating costs
Saw toothed behaviorSaw toothed behavior
Best for infrastructure with little operating cost andBest for infrastructure with little operating cost andhigh capital costhigh capital cost Water and Sewer
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RDT SD 126
ESD 126
LRMCLRMC
$/kWh
Time -- years
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Summary of Pricing Rules andSummary of Pricing Rules and
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RDT SD 126
ESD 126
Summary of Pricing Rules andSummary of Pricing Rules andRealities: The Devil is in theRealities: The Devil is in the
DetailsDetails
What role will the regulator play?What role will the regulator play?
How quickly will deep markets emerge?How quickly will deep markets emerge? Who will benefit and who will be hurt in the transition?Who will benefit and who will be hurt in the transition?
How many products are there?How many products are there?
Who will decide? How will the futures market develop to provide for hedges onHow will the futures market develop to provide for hedges on
price?price?
Can the regulator remain aloofCan the regulator remain aloof ---- in the UK the regulator hasin the UK the regulator has
stepped in because of poor initial rules?stepped in because of poor initial rules?
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S
ESD 126Swaps / Contracts forSwaps / Contracts for
DifferencesDifferences
Time
$/kWh
ContractPrice
Spot Price