Re-powering markets : market design and regulation during the transition to low-carbon power systems.

246 Pages·2016·7.667 MB·English

by  OECD

Secure
Sustainable
Together
Re-powering
Markets
Market design and regulation

during the transition to

low-carbon power systems

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Re-powering
Markets
Market design and regulation

during the transition to

low-carbon power systems
INTERNATIONAL ENERGY AGENCY
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RE-POWERING MARKETS Foreword
Market design and regulation during the transition to low-carbon power systems
Foreword
The 2015 ministerial meeting of the International Energy Agency’s (IEA) member states embraced
a new strategic vision to turn the IEA into the global clean energy technology hub. Importantly,
this new vision is coupled with maintaining and reinforcing the core IEA mission on energy
security. There is no field where clean energy and energy security interact more powerfully than Page | 3
electricity regulation and market design. The most powerful image of an energy security problem
is a major city in darkness. An interconnected economy with its telecommunications and machine
tools is as reliant on the high-quality supply of electricity as its consumers’ welfare is on lighting
and electric appliances.
For a century, a centralised high-carbon power system kept the lights on. The price has been the
generation of over a third of global carbon emissions. Thus, to gain the full social and political
support required for decarbonisation, the level of supply security that society has come to expect
cannot be compromised. Some countries like Brazil and France have built decarbonised power
systems on the basis of large-scale conventional low-carbon technologies, but they are exceptions
benefiting from unique natural resources and policies. The most promising technological progress
has been seen in wind and solar photovoltaics, which have accounted for the large majority of
recent low-carbon deployments. These two variable renewable sources, however, are qualitatively
different from a system operation and regulatory point of view. Wind and solar are primarily
replacing production from dispatchable capacities in different locations and connection levels;
consequently, the transition requires system operation and regulatory reforms.
This should not stop the transition. Previous IEA analysis in The Power of Transformation has
shown that large shares of variable renewables can be integrated into the power system in a
secure and cost-efficient fashion by mobilising flexibility resources. Rapid improvements in low-
carbon, demand-response and storage technologies can lead to a smarter, more efficient and
more secure system, but achieving their full potential requires new approaches to policy and
regulation. While technology is racing ahead, network infrastructure development is lagging
behind. Innovation is not only about smart meters; it is also about smart regulation for new
flexible business models involving millions of electricity consumers. The old regulatory paradigm
designed to deliver kilowatt hours from a centralised system in a unidirectional fashion with
meters read only once a year is unlikely to unleash the real-time flexibility that new technologies
promise and that the new low-carbon power system will require. If regulatory regimes, market
design and system operation end up lagging behind technology deployment, the result may
undermine electricity security and, ultimately, the low-carbon transition itself.
Re-powering Markets is the first official publication of the IEA that analyses the electricity market
framework for low-carbon power systems. It discusses, for all relevant dimensions of electricity
market design, the balance that policy makers must strike between supporting innovation and
competition while mobilising capital for the deployment of low-carbon sources. It covers the
characteristics of a market design fit for the transition to low-carbon power – one that has proper
price signals and the competitive provision of flexibility and adequacy. It addresses in detail the
policy and regulatory aspects related to the largest and most complex machine in the world: the
electric network, a network which has never been more essential but must nevertheless be
transformed. Re-powering Markets is the flagship output of the IEA Electricity Security Action
Plan and is a key IEA contribution to the post-Paris energy transformation.
Fatih Birol
Executive Director
International Energy Agency
Table of Contents RE-POWERING MARKETS
Market design and regulation during the transition to low-carbon power systems
Table of contents
Foreword .................................................................................................................................. 2
Acknowledgements ................................................................................................................... 9
Executive summary ................................................................................................................. 11
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Introduction ............................................................................................................................ 17
Chapter 1 • Re-powering markets: Context and key issues ...................................................... 21
1.1. Electricity reforms ............................................................................................................ 21
1.2. Challenges facing the power sector during the energy transition ........................................ 25
1.3. Re-powering markets ....................................................................................................... 34
References ............................................................................................................................... 39
Chapter 2 • Low-carbon generation investments ..................................................................... 43
2.1. Aligning electricity market design and low-carbon electricity: What does it take? ......... 45
2.2. Market and carbon price uncertainty can hinder low-carbon investment ...................... 54
2.3. The regulatory transition: Low-carbon investment support instruments ........................ 59
Conclusion ............................................................................................................................... 69
References ............................................................................................................................... 71
Chapter 3 • Short-term markets .............................................................................................. 73
3.1. New operational requirements for large shares of variable and distributed resources:
Increasing flexibility ................................................................................................................. 74
3.2. Resolution of market design ............................................................................................. 81
3.3. Designing short-term markets fit for a high share of renewables: A strawman proposal 88
References ............................................................................................................................... 94
Chapter 4 • Reliability, adequacy and scarcity pricing .............................................................. 97
4.1. Regulation of reliability..................................................................................................... 98
4.2. Market design implications: Scarcity pricing .................................................................. 108
Conclusion ............................................................................................................................. 116
References ............................................................................................................................. 119
Chapter 5 • Designing capacity markets................................................................................. 121
5.1. Capacity mechanisms are increasingly used .................................................................. 121
5.2. Targeted volume-based capacity mechanisms .............................................................. 127
5.3. Market-wide capacity mechanisms ................................................................................ 131
5.4. Regional markets and capacity trading .......................................................................... 147
Conclusion ............................................................................................................................. 150
References ............................................................................................................................. 151
Chapter 6 • Demand response ............................................................................................... 153
6.1. Benefits of demand response ......................................................................................... 154
6.2. Participation of demand in electricity markets .............................................................. 158
6.3. Dynamic pricing .............................................................................................................. 167
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Market design and regulation during the transition to low-carbon power systems
Chapter 7 • Interconnected transmission networks ............................................................... 173
7.1. Networks as the backbone of the electricity market ..................................................... 175
7.2. Current state of play ....................................................................................................... 179
7.3. Investments in new interconnectors .............................................................................. 183
7.4. Market-based network infrastructure investments ....................................................... 191
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Conclusion ............................................................................................................................. 193
References ............................................................................................................................. 193
Chapter 8 • Regulation of distribution networks .................................................................... 197
8.1. Distributed resources call for a rethinking of regulation ............................................... 198
8.2. Design of market platforms for distributed resources ................................................... 202
8.3. Towards DSO regulation 2.0 ........................................................................................... 206
Conclusion ............................................................................................................................. 216
References ............................................................................................................................. 216
Chapter 9 • Retail pricing ....................................................................................................... 219
9.1. Retail prices, competition and behind-the-meter generation ....................................... 219
9.2. Retail price reform .......................................................................................................... 227
Conclusion ............................................................................................................................. 233
References ............................................................................................................................. 233
Chapter 10 • General conclusion and key recommendations ................................................. 235
Key recommendations: A new market framework for decarbonisation ............................... 238
Abbreviations and acronyms ................................................................................................. 241

List of figures
Figure 1.1 • Organisation of the power sector ............................................................................... 22
Figure 1.2 • Map of the status of liberalisation .............................................................................. 23
Figure 1.3 • Capacity addition in OECD Europe by technology, 1960-2014 ................................... 25
Figure 1.4 • Contributions to annual emissions reductions between a 6°C and a 2°C scenario .... 26
Figure 1.5 • Impact of decarbonisation on the merit order of generation .................................... 27
Figure 1.6 • Evolution of net load for different shares of variable renewables ............................. 30
Figure 1.7 • Regional, locational and local electricity markets ....................................................... 31
Figure 1.8 • Overview of different building blocks of electricity markets ...................................... 36
Figure 1.9 • PJM billing for services (2014) ..................................................................................... 38
Figure 2.1 • Market-technology matrix .......................................................................................... 46
Figure 2.2 • Breakdown of the levelised cost of various technologies by cost component, United
Kingdom by 2020 (7% discount rate) .......................................................................... 48
Figure 2.3 • Cash flows of a wind project (USD/MWh) .................................................................. 49
Figure 2.4 • Electricity prices, three weeks in 2050 ........................................................................ 50
Figure 2.5 • Modelled price duration curve in ETP scenarios, 2050 ............................................... 51
Figure 2.6 • Finding the right electricity price and structure to optimise distributed resources ... 52
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Market design and regulation during the transition to low-carbon power systems
Figure 2.10 • Renewable capacity built by support instruments, OECD Europe 2005-14 .............. 62
Figure 2.11 • Market value factor of wind and solar PV as a function of their market share in
Germany ................................................................................................................... 63
Figure 2.12 • Modulating premiums and level of support as a function of wholesale market price65
Figure 2.13 • Probability distribution of the IRR for onshore wind with and without support ...... 66
Figure 2.13 • Probability distribution of the IRR for onshore wind under different support
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schemes .................................................................................................................... 66
Figure 2.14 • Probability distribution of the IRR for onshore wind under different support
schemes .................................................................................................................... 67
Figure 3.1 • Load duration curve of wind and solar generation in Germany, 2013 ....................... 76
Figure 3.2 • California ISO Long-Term Procurement Proceeding Scenario 24 March 2024 ........... 77
Figure 3.3 • Forecast errors of different system components 24 hours before real time, Germany
2014 ............................................................................................................................ 79
Figure 3.4 • Timeline of centralised and decentralised markets .................................................... 84
Figure 3.5 • Illustrative locational pricing ....................................................................................... 90
Figure 3.6 • Evolution of prices during the adjustment period ...................................................... 91
Figure 3.7 • Cost-reflective, complex bids ...................................................................................... 91
Figure 3.8 • Illustrative timeline during the adjustment period ..................................................... 92
Figure 3.9 • Overview of the evolution of the design of power markets ....................................... 93
Figure 4.1 • Duration of unplanned power interruptions (2008-12) ............................................ 108
Figure 4.2 • Scarcity pricing in Australia (NEM) ............................................................................ 111
Figure 4.3 • Proposed operating reserve demand curve in the ERCOT region ............................ 113
Figure 4.4 • Number of hours per month with prices at system-wide offer cap ......................... 114
Figure 4.5 • Investment cycles and reliability standards .............................................................. 116
Figure 4.6 • Modelled prices in four areas during one week in February .................................... 117
Figure 4.4 • Total reliability costs for different gas-fired capacity additions ............................... 118
Figure 5.1 • Simplified decision tree, energy-only market versus capacity mechanism .............. 122
Figure 5.2 • Wholesale market supply curve with strategic reserve (illustrative)........................ 127
Figure 5.3 • Development of Swedish strategic reserve .............................................................. 130
Figure 5.4 • Components of PJM wholesale price ........................................................................ 133
Figure 5.5 • PJM capacity market revenues by resource type ..................................................... 133
Figure 5.6 • PJM variable resource requirement curve for 2017/18 delivery period .................. 135
Figure 5.7 • RPM clearing prices by LDA ....................................................................................... 139
Figure 5.8 • NYISO ICAP demand curves for 2014/15................................................................... 144
Figure 5.9 • Historical NYISO ICAP spot prices .............................................................................. 144
Figure 5.10 • Successful bidders in the UK capacity market 2014 ................................................ 146
Figure 6.1 • Modelled demand response and supply curve in the European Union in 2050 ....... 154
Figure 6.2 • The different roles of demand response with high share of renewables ................ 155
Figure 6.3 • Source of demand response in PJM (2014/15 delivery year) ................................... 157
Figure 6.4 • Approaches to demand response ............................................................................. 159
Figure 6.5 • Demand response revenue by market in PJM 2008-14 ............................................ 163
Figure 6.6 • Examples of methods used to calculate the baseline ............................................... 166
Figure 6.7 • Electricity tariffs during weekdays in DTE Energy ..................................................... 168
Figure 6.8 • Peak-time rebate tariff in Colorado with Xcel Energy (simulation) .......................... 169
Figure 7.1 • Trilemma of transmission and distribution network planning ................................. 173
Figure 7.2 • Investment under the NPS 2015-40 (%) .................................................................... 174
Figure 7.3 • Share of energy produced, December 2014 ............................................................. 176
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Market design and regulation during the transition to low-carbon power systems
Figure 8.3 • Number of consumers connected at different voltages in Italy ............................... 203
Figure 8.4 • Distribution market-wholesale market interface ...................................................... 206
Figure 8.5 • Core mission and new objectives of distribution network regulation ...................... 207
Figure 8.6 • Annual generation wind duration curve in Germany ............................................... 209
Figure 8.7 • Evolution of the allowed revenues (left) and projected investment (right) of the
Electricité Réseau de Distribution France (ERDF) for the regulatory period 2014-17 ..... 211
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Figure 8.8 • Network tariff development in selected states of Australia ..................................... 211
Figure 9.1 • Average electricity prices in the industry sector by cost component in the European
Union in the New Policies Scenario (NPS) ................................................................ 220
Figure 9.2 • Average household retail tariffs in United States, France and Germany .................. 221
Figure 9.3 • Evolution of the unitary surcharges in France (CSPE) and Germany (EEG)............... 221
Figure 9.4 • Switching rates in selected countries, 2014 .............................................................. 223
Figure 9.5 • Voluntary prices for small consumers in Spain as of 5 February 2015 ..................... 225
Figure 9.6 • Comparison of LCOE for PV and the average retail price in Germany ...................... 227
Figure 9.7 • Cost components and tariff structure of selected retail electricity prices ............... 227
Figure 9.8 • A slippery slope towards self-consumption .............................................................. 228
Figure 9.9 • Evolution of the Spanish network access tariff structure ......................................... 229
Figure 9.10 • An example of hourly profile of household load and solar PV generation ............. 232
Figure 10.1 • Potential for market revenues for conventional, low-carbon plants and transmission
infrastructure, indicative values suggested by different sources (%)....................... 235
List of maps
Map 5.1 • PJM locational delivery areas ...................................................................................... 139
Map 5.2 • NYISO load zones ......................................................................................................... 142
Map 5.3 • Neighbouring capacity markets in selected countries of Western Europe ................. 147
Map 5.4 • Neighbouring capacity markets in Northeastern United States .................................. 148
Map 7.1 • Comparison of solar (left-hand map) and wind (right-hand map) resources in the
United States ............................................................................................................... 175
Map 7.2 • RTOs, ISOs and NERC regional entities ........................................................................ 180
Map 7.3 • EU interconnection levels in 2020 after completion of current projects of common
interest ........................................................................................................................ 181
Map 7.4 • Transmission lines of common interest (PCI), TYNDP 2014 ........................................ 184
Map 7.5 • CREZs in Texas .............................................................................................................. 188
Figure 9.4 • Share of retail sales from retail power marketers, United States ............................ 222
List of tables
Table 1.0 • Overview of the key dimensions of market frameworks for decarbonisation ............ 11
Table 2.1• Major risks of a power plant project, allocation and possible mitigation actions ........ 70
Table 3.1 • Technical resolution of market operations .................................................................. 82
Table 4.1 • Reliability standards and metrics in Europe ............................................................... 105
Table 4.2 • Reliability standards and metrics used in selected areas of North America .............. 106
Table 4.3 • Large-scale system blackouts involving several power system areas ........................ 107
Table 5.1 • Capacity mechanism experiences in selected markets .............................................. 124
Table 6.1 • Overview of demand response programmes in PJM ................................................. 162
Table 7.1 • LOLE in the Pentalateral Region in two periods ......................................................... 178
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Market design and regulation during the transition to low-carbon power systems
Table 8.3 • Indicative list of outputs to measure the performance of Distribution Network Operators
(DNOs) ......................................................................................................................... 213
Table 9.2• Overview of network tariffs structure ......................................................................... 230
Table 10.1 • Overview of market framework for the decarbonisation ........................................ 236
Page | 8 List of boxes
Box 2.1 • What can be learned from modelling electricity prices in 2050? ................................... 50
Box 2.2 • Sensitivity analysis of electricity prices to CO2 and gas prices ....................................... 55
Box 2.3 • Variable renewable premium in Germany ...................................................................... 61
Box 2.4 • Multiple policy layers in the United States ..................................................................... 64
Box 2.5 • Modelling investors’ risks under different support instruments using Monte Carlo
simulation ........................................................................................................................ 66
Box 2.5 • Modelling investors’ risks under different support instruments using Monte Carlo
simulation (continued) ..................................................................................................... 67
Box 3.1 • Technical-economic features of power systems, the law of physics and long-lived
assets ............................................................................................................................... 75
Box 3.2 • Day-ahead markets in nodal pricing systems – US case study ........................................ 83
Box 4.1 • Value of lost load (VoLL) .................................................................................................. 99
Box 4.2 • Effective load-carrying capability (ELCC) ....................................................................... 101
Box 4.3 • Can markets optimise blackouts? ................................................................................. 109
Box 4.4 • Scarcity pricing in the ERCOT region ............................................................................. 114
Box 4.5 • Modelling the economics of resource adequacy with high shares of renewables ....... 117
Box 5.1 • The reference technology for estimating CONE ........................................................... 136
Box 6.1 • Demand response in France .......................................................................................... 160
Box 6.2 • Level playing field for demand response illustrated in Belgium ................................... 163
Box 7.1 • Reinforcing the Eastern Interconnection ...................................................................... 179
Box 7.2 • Ten-year network development plan ............................................................................ 182
Box 7.3 • Renewable integration and grid planning in Texas ....................................................... 188
Box 8.1 • Distributed conventional energy generation ................................................................ 199
Box 8.2 • The future role of DSOs: a European perspective ......................................................... 208
Box 8.3 • Output regulation in Great Britain ................................................................................ 215
Box 9.1 •The Spanish Electricity Tariff Reform ............................................................................. 225
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RE-POWERING MARKETS Acknowledgements
Market design and regulation during the transition to low-carbon power systems
Acknowledgements
This publication was prepared by the Gas, Coal and Power Division (GCP) of the International
Energy Agency (IEA), in co-operation with other directorates and offices of the Agency. The
publication was designed by Manuel Baritaud under the supervision of Laszlo Varro, Head of
Division and Keisuke Sadamori, Director of Energy Markets Security. Page | 9
The main authors and analysts were Manuel Baritaud (Chapters 1, 2, 3, 4, 6), Sylvia Spruck
(Chapters 5, 7, 8, 9), Christelle Verstraeten (Chapters 6, 9), Matthew Wittenstein (Chapter 5),
Simon Müller (Chapter 2), Noor Miza Razali (Chapter 9) Jesse Scott (Chapter 2) and
Charlotte Vailles (Chapter 4). Special thanks to Jessica Isaacs, Tomi Motoi and Luis Munuera for
additional contributions and support. Janet Pape provided consistent and comprehensive
formatting as well as administrative support.
This study also benefited from input provided by numerous IEA experts, in particular (in
alphabetical order): Marco Baroni, Simon Bennett, Sylvia Beyer, Paolo Frankl, Christina Hood,
Cédric Philibert, Keisuke Sadamori, Daniele Sinopoli, Johannes Trüby, Brent Wanner and
Dave Wilkinson.
Justin French-Brooks and Therese Walsh were the primary editors of this report. Thanks go to the
IEA Communication and Information Office for their editorial and production guidance and to
Bertrand Sadin for graphics.
Expert reviewers and contributors
Richard Baron of the Organisation for Economic Co-operation and Development (OECD) served as
the official reviewer of the report.
Many senior government officials and international experts provided input and reviewed
preliminary drafts of the report. Their comments and suggestions were of great value. They
include (in alphabetical order by organisation): Carsten Lehmkoester (Amprion GmbH), Gonzalo
Saenz De Miera (Director of Energy Policy at Iberdrola), Stefan Ulreich (E.ON), Bernard De Clercq
(Elia System Operator, Belgium), Juan Alba (Endesa, Spain), Juan Perez (EPEX Spot), Philippe
Vassilopoulos (EPEX Spot), Tom Howes (European Commission), Manuel Sanchez Jimenez
(European Commission), Matti Supponen (European Commission), Matt Wieckowski (European
Commission), Richard Lavergne (Ministère de l’Ecologie, du Developpement Durable et de
l’Energie, France), Mark Pickup (Ministry of Business, Innovation and Employment, New Zealand),
Tomasz Dabrowski (Ministry of Economy, Poland), Doug Arent (National Renewable Energy
Laboratory NREL, USA), Jan-Horst Keppler (Nuclear Energy Agency), Craig Glazer (PJM
Interconnection), Stephen Woodhouse (Pöyry), Graham Weale (RWE), Katrin Schaber
(Stadtwerke München SWM), Elaine O Connell (Department of Energy & Climate Change DECC),
Mike Hogan (The Regulatory Assistance Project, United States), Marion Labatut (The Union of the
Electricity Industry – EURELECTRIC), Avi Gopstein (U.S. Department of State) and Michael Grubb
(University College, London).
The individuals and organisations that contributed to this study are not responsible for any
opinions or judgments it contains. All errors and omissions are solely the responsibility of the IEA.
The work could not have been achieved without the support and co-operation provided by many
government bodies, organisations and companies worldwide and was sponsored by a voluntary
16 contribution from Japan (Ministry of Economy, Trade and Industry).
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