Improving Western Australia s Reserve Capacity Market: Steps and thoughts to Date. The Lantau Group

Transcription

1 Improving Western Australia s Reserve Capacity Market: Steps and thoughts to Date

2 WA s Wholesale Electricity Market (WEM) in the SWIS The WEM is the electricity market in WA s Southwest Interconnected System (SWIS) 2

3 The WEM is the smallest competitive wholesale market in Asia Capacity** (MW) SG (NEMS) WA (SWIS) PH (WESM) New Zealand EA (NEM) South Korea ** Capacity is defined as installed capacity, except for WA (defined as registered capacity) and New Zealand (defined as operating capacity). 3

4 The WEM is unusually peaky and volatile 4 Demand/Peak Demand Load Duration Curve E+C EO markets, actual or proposed Each Half Hour of a Year Ranked by Level of Load TYPE OF MARKET EO Energy-Only E+C Energy plus Capacity SG Singapore (NEMS) PH Philippines (WESM) EA (NEM) WA (SWIS) WEM South Korea EO EO EO E+C See Note Note: Korea was intended to be an EO market, but reforms stopped following a change in government. Transitional E+C arrangements have been in place since 2002.

5 WA demand growth is lumpy, volatile, and uncertain RC Requirement (MW) Change in Reserve Capacity Requirement Huge swings in forecast growth Reserve capacity requirement is estimated as the sum of forecast peak demand (10% PoE) and reserve margin. The RCM must be fairly dynamic to adjust appropriately to ever changing supply and demand circumstances 2008 Forecast 2009 Forecast 2010 Forecast 2011 Forecast 2012 Forecast 2013 Forecast Actual Peak Demand Variation in Peak Load Forecast for (Just) Six Loads Difference between High and Low Scenarios / Medium Scenario 40% 35% 30% 25% 20% 15% 10% 5% 0% Very lumpy and uncertain loads > 400 MW or 10% of current peak demand Normalised difference in forecast demand scenarios Greater relative uncertainty WEM NEM 5

6 The RCM is the process and mechanism to support new capacity investment RCM is a price-based mechanism The number of potential capacity credits is not fixed There can be too many or too few Signal & Response Capacity is built RCM Value and Cost Implications Capacity is paid for The price must adjust accordingly to signal more or less IMO If too many CCs, the price (RCP) falls; if too few, the RCP rises (or backstop mechanisms kick in to support more capacity development) The basis and extent of these adjustments are key The baseline RCP price is linked to the estimated cost of new capacity (a 160 MW OCGT peaker) Assuring that the price can be high enough to support investment if needed If the RCP stays above the cost of new entry even when sufficient capacity exists, then investors will be tempted to build capacity that is not needed (and customers may have to pay for it) Generators & Demand Side Management Assigned credit to provide capacity Bilateral Contract Procure from IMO Market Customers Assigned an individual reserve capacity requirements (IRCR) based on peak usage of associated loads 6

7 For several years growth in certified capacity out-paced the growing reserve capacity requirement which has since fallen Capacity (MW) Capacity Certified 14.6% Reserve Capacity Requirement [the sum of forecast peak demand (10% PoE) and reserve margin] Excess Reserve Capacity CY2005/06 CY2006/07 CY2007/08 CY2008/09 CY2009/10 CY2010/11 CY2011/12 CY2012/13 CY2013/14 CY2014/15 CY2015/16 7

8 The extent of excess reserve capacity grew for many possible reasons The capacity price (RCP) may have exceeded the cost of new entry Special tenders as part of the market development and transition Government policies that influence local generation and demand-response mandatory renewables rooftop solar demand-side-management energy efficiency Changes in macroeconomic factors (delays in new demand) Changes in forecasting factors (recalibrating forecasts to reflect new demand behaviours) Changes in the cost of new entrant The RCM itself is only part of the overall picture 8

9 A poorly calibrated RCP with a shallow slope adjustment à large swings in investment When MRPC is set too high When MRPC is set too low $/MW $/MW Target Quantity (Reserve Capacity Requirement) Target Quantity (Reserve Capacity Requirement) Base RCP too high Cost of new capacity (Supply curve) RCP Price (Set by current formula) Cost of new capacity (Supply curve) Base RCP too low RCP Price (Set by current formula) Result = Excess! RCP formula with steeper slope could limit the excess Reserve Capacity (MW) Result = Shortage! RCP formula with steeper slope could limit the shortage Reserve Capacity (MW) 9

10 A prudent RCM would incentivise retailers to contract for capacity credits as shortage risk increases but the current RCM does the opposite! Higher contract level à Higher cost Higher contract level à Higher Risk Total Cost to Retailers Millions AUD 1,200 1, % Contracted 0% Contracted Standard Deviation/Volatility of Total Cost under Different % of Excess Capacity Millions AUD % 2% 4% 6% 8% 10% 12% 14% 16% 18% 20% % of Excess Capacity 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% % of Bilateral Contract Cover 10

11 How should capacity markets work? The RCM is one of several valid capacity remuneration structures Capacity Remuneration Embedded in Energy- Only Market Avoid the low price cap Avoid the premature intervention Backstop arrangements? Australian NEM New Zealand Philippine WESM Singapore Separated Capacity Mechanism Set Quantity Run auction to procure (thus determining price) PJM (Eastern America) Set Price Market responds (thus determining quantity) Australian WEM (Western Australia) 11 Two different approaches each can work; Neither is perfect

12 All capacity markets face the zero/infinity value problem of how to use shortterm signals to deal with potential shortage or excess of long-term capacity Zero / Infinity Problem A small shortage of capacity relative to a target can produce a very high capacity price if there is not enough time for the market to respond A small excess of capacity can produce a near zero price for similar reasons. Quantity-based markets Use administered demand curves and rely on auctions involving forward price discovery and rolling requirements X years out must hold Y percent of Z targeted capacity requirement Administered demand curve: must buy more when the price is lower / buy less when price is higher Price-based markets Use administered price curves and rely on calibration to ensure that prices adjust sufficiently to start or stop investment as appropriate Price adjusts formulaically as the amount of excess capacity varies mitigating disruptive value swings due to combinations of external (demand growth rate variation) and internal (policy-driven) events In both, the challenge is to send the right signal to the incremental investor, but without forcing disruptive windfall gains or losses upon one stakeholder group or another 12

13 RCM Review 18 month journey The RCM review considered a wide range of issues Focus on fixing the problem and not creating winners and losers Enhance market responsiveness of key RCM mechanisms to create greater self-corrected-ness Much initial uncertainty and lack of common understanding of the issues Confusion between price- and quantity-based mechanisms Conflation of value transfer with problem solving Was the RCM so broken as to require complete replacement or should/could it be fixed? Replaced by quantity based mechanism? Too drastic and risk of shocking all market participants? Adjustments to current RCM? Individual element or in the form of package? Assuming growth in WA electricity demand, the current excess reserve capacity situation will eventually reverse -- so the review looked at both the cost of excess and the cost of shortage 13

14 First step was the review of the MRCP which led to a significant reduction The RCP is a function of the MRCP, which is, in turn, based on the estimated cost of connecting a 160MW gas turbine to the WEM. Importantly, this review led to significant methodological and definitional adjustments, not just parameter updates: The basis for the estimate of transmission connection costs was changed; and The specification of the generation technology was altered to incorporate inlet cooling. Together these specific one-off changes reduced the MRCP by over 20% 220, , , , , , ,000 80,000 60,000 40,000 20,000 0 Old MRCP New MRCP 0% 3% 5% 8% 10% 13% 15% 18% 20% 23% 25% Percentage of Excess Reserve Capacity The reference price in a price-based regime is a key parameter if too high or too low, then it can lead to persistent capacity excess or shortage 14

15 The MRCP review materially reduced the RCP but the relationship between the RCP and excess capacity remained unchanged and quite shallow Impact of MRCP review on the RCP 200, ,000 MRCP-driven reduction in the RCP RCP 160, , , ,000 80,000 But the RCP falls only about 20% even if excess reserve capacity grows to 25% 60,000 40,000 20,000 0 RCP (slope = -1) based on 85% OLD MRCP RCP (slope = -1) based on 85% NEW MRCP 0% 3% 5% 8% 10% 13% 15% 18% 20% 23% 25% Percentage of Excess Reserve Capacity The shallow RCP slope puts most of the burden for RCM effectiveness on the MRCP value risky! 15

16 In fact, the economic value of incremental capacity falls steeply (based on the loss of load probability) as the amount of excess reserve capacity increases Marginal Capacity Value ($/MW-year) To Infinity! Note: Based on WEM data Increases rapidly above the MRCP as excess reserve capacity breeches zero Falls off rapidly To Zero! 0-2% 3% 8% 13% 18% Excess Reserve Capacity (%) MRCP WEM Level 16

17 The RCM review recommended a steeper slope to make the RCP better reflect market conditions while avoiding the disruptive zero/infinity value swings 220,000 RCP ,000 To Infinity! 180, , , , ,000 80,000 ~ 33% OLD RCP Formula (Based on Old MRCP) NEW RCP Formula (Based on New MRCP) 60, ,000 20,000 Economic value of capacity 00 To Zero! -2% 3% 8% 13% 18% 0.0% 2.5% 5.0% 7.5% 10.0% 12.5% 15.0% 17.5% 20.0% 22.5% 25.0% Percentage of Excess Reserve Capacity Finding an agreeable basis for the slope involves balancing many factors the minimum change is to ensure that the RCP adjusts to stop or start investment when needed 17

18 The proposed new arrangements also create a modest incentive for retailers to enter into bilateral contract with new capacity (when needed) Cost per Targeted Capacity Credit 156, ,000 Proposed New Arrangement Incentives Costs could be higher if contracted when there is much excess reserve capacity Costs higher if uncontracted and less excess reserve capacity 152, , , ,000 Costs could be lower if contracted when there is less excess reserve capacity 144,000 Costs lower if uncontracted and more excess reserve capacity 142, ,000 Higher 5 4 Target 3 Lower 2 Excess Reserve Capacity 18

19 Summary To work effectively and acceptably, a price-based regime must be sufficiently responsive to market conditions Implementation is almost certainly easier than a quantity-based auction approach Possibly less theoretically efficient because price-based adjustment will tend to be very approximate But, once calibrated, much easier to avoid the zero/infinity challenge, which reduces arbitrary risk in the market and may reduce the cost of long-term capacity investment when needed A quantity-based approach (auction) is equally feasible, But involves a comprehensive change Also requires administered (quantity) curves in order to avoid the zero/infinity problem Requires significant attention to what precisely is being auctioned May benefit from a process in which auctions address rolling requirements one, two, and three years out Based on experience elsewhere, adjustments will be needed periodically to get the kinks out Any proposed structure should promote efficient contracting incentives 19

20 Thank you For more information please contact us: Power UCliCes Energy By Insight Rigour Value Mike Thomas Recca Liem By phone (mobile) By mail Tower 1, Metroplaza 223 Hing Fong Road, Kwai Fong, Hong Kong Online 20