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Economist: "Vast Majority" of Capacity Market Payments in RTOs Go To "Resources That Are Economic" That Will "Operate The Same" Regardless of Capacity Payment
The "vast majority" of the capacity payments in the eastern RTO capacity markets, "are made to resources that are economic and will operate the same without regard to the magnitude of the capacity payment they receive," economist James F. Wilson said in comments to FERC in a proceeding reviewing the efficacy of capacity markets.
"The high level of controversy [in capacity markets] reflects that the capacity prices and payments tend to be highly sensitive to the various auction rules, administrative parameters, and also market participants' actions such as plant retirements, while the vast majority of the capacity payments are made to resources that are economic and will operate the same without regard to the magnitude of the capacity payment they receive. While it is appropriate for capacity payments to be available to resources on a non-discriminatory basis, it is recognized that for most resources, whether they receive $1 or $20 or $400/MW-day as a capacity payment would have little or no impact on their performance during the delivery year," Wilson said.
The appropriate role for capacity market constructs, "is to provide a residual spot capacity auction to acquire additional capacity to meet resource adequacy targets," Wilson said
"The goal should be for the role of these constructs to shrink over time as the energy and ancillary services [E&AS] markets develop, the demand side becomes more active, and forward contracting returns," Wilson said (emphasis added).
"In PJM, for instance, in the coming years demand response will be about nine percent of peak load, and over time the demand response will increasingly become a more operational resource, dispatched at a range of prices and more frequently price-setting in E&AS markets. New shortage pricing rules, in combination with an increasingly active demand side, should result in many more hours when E&AS prices clear at prices well above the marginal costs of generation. Over time, the so-called 'missing money' should go away, and with it, the justification for administrative capacity markets. In addition, when there are demand-side offers at prices up to and even above the value assigned to involuntary load drop (the Value of Lost Load, or 'VOLL'), the value distinction between voluntary and involuntary load drop is eliminated, and a Loss of Load Expectation criterion such as 'one day in ten years', based on that distinction, loses meaning," Wilson said.
While Wilson said that PJM is not there yet in terms of this end-state paradigm, EnergyChoiceMatters notes that it is fair to evaluate whether Texas is already at this goal. Given the potential for $9,000 scarcity pricing (perhaps aided by an administrative demand curve), plus the near-ubiquitous deployment of smart meters (and complete deployment in the major load centers) and the ever-increasing offering of peak-management products from REPs, it seems Texas is ready to meet this end-state design where due to shortage pricing and an active demand-side, there is no longer a "missing money" problem justifying administrative intervention in the competitive market.
Separately, the Maryland PSC offered a thorough summary of the problems plaguing capacity markets.
A FERC Staff white paper on capacity markets, "did not address equally how these markets have failed to achieve what should be a primary focus: harnessing the forces of competition to provide adequate generating capacity at a reasonable cost," the PSC said.
"In PJM, we have witnessed billions of dollars per year transferred from PJM consumers to capacity suppliers under the mistaken belief that this money is needed to keep the system operating reliably over the long term," the PSC said.
"Despite these wealth transfers, we have seen little evidence to support the argument that this money is indeed producing the level of investment that is needed, when it is needed, and where it is needed, and doing so in a way that will provide reliable electric service at a reasonable cost. Indeed, in response to this lack of new investment where needed and out of concern for the future reliability of electricity supplies in their respective regions, some parties in organized markets with a clearly defined jurisdictional responsibility to electricity users, including the States of Maryland, New Jersey and Virginia, have taken concrete steps to procure new capacity precisely because the centralized RTO/ISO markets on which we are told to depend have not demonstrated to our satisfaction that we can entrust the future energy security of our citizens on those markets," the PSC said
"Instead, based on both Maryland's experience in PJM and the review provided in the Staff White Paper, capacity market mechanisms that determine how providers of capacity will be paid have become an unwieldy compilation of administrative processes overlaid upon complex and sometimes arbitrary bidding processes. The constant and contentious changes to the market structures under which market participants must operate have resulted in questionable benefits to consumers and provided little long-term certainty to the market relative to what is expected to be needed – particularly that which is required to attract new market entrants. Rather, these markets have largely facilitated the transfer of wealth from a large number of customers to a limited number of existing owners of largely depreciated generation facilities that were originally financed and paid for by the customers of the vertically integrated, regulated utilities that built them," the PSC said.
"Efforts to incent new generation by building in higher price levels via administratively-determined bidding mechanisms have seen incumbent generators profit from the additional revenues provided by capacity markets without ever having to deliver new capacity into the market place. Indeed PJM Stakeholder processes in which the Maryland Commission now participates are proposing administratively established Minimum Offer Prices which well exceed regulated jurisdiction cost of service allowances provided to fund new generation construction, raising concerns that competitive capacity markets intended to lower costs to the end-user may in fact be raising them," the PSC said.
"The current PJM RPM does not reflect the new and changing realities of the wholesale capacity market and does not appear to provide sufficient revenue incentives to encourage the development of both new generation resources and associated products to meet a changing competitive environment. Rules basically designed to keep existing capacity in operation and to incent traditional new capacity to serve an ever-growing demand for electricity may not be adequate in a world that is replacing existing capacity with more efficient generation, renewable resources, energy efficiency, demand response and other new technologies and modes of operation," the PSC said.
"We therefore question the wisdom of putting all of our generation eggs into a single capacity market basket that has been in need of continual administrative repair since its inception," the PSC said.
Finally, the American Public Power Association noted that 3-year capacity markets have proven insufficient to support long-term investments in 20-year (or longer) assets such as power plants, and therefore, have only served to enrich existing asset owners rather than supporting investment in material amounts of new capacity.
"[T]he current RTO-administered capacity constructs are generally shorter-term in nature, and are subject to the short-term economics existing at each auction interval (e.g., low natural gas prices) as well as arbitrarily ordained 'locational' constructs that create additional price volatility. Hence, they are not well-suited to support longer-term investments," APPA said.
"As a result, RTO-administered centralized capacity constructs have over time generally proved better at funneling revenues to existing resources (some of which are of questionable value on public policy grounds, given their age and operating efficiency) and to demand-side resources than supporting new, more efficient generation. And now, even revenues to existing generation resources are less than their owners would like," APPA said.
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September 10, 2013
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Reporting by Paul Ring • ring@energychoicematters.com
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