PJM Independent Market Monitor Again Cites Inherent Market Power Under Capacity Market Design

Monitoring Analytics, LLC, the Independent Market Monitor (IMM or MMU) for PJM, has released the 2011 State of the Market Report for PJM.

Conclusions from the report, particularly with respect to the capacity market, are similar to those contained in prior reports.

"The aggregate [capacity] market structure was evaluated as not competitive. The entire PJM region failed the preliminary market structure screen (PMSS), which is conducted by the MMU prior to each Base Residual Auction (BRA), for every planning year for which a BRA has been run to date. For almost all auctions held from 2007 to the present, the PJM region failed the Three Pivotal Supplier Test (TPS), which is conducted at the time of the auction," the IMM said.

"The local [capacity] market structure was evaluated as not competitive. All modeled Locational Deliverability Areas (LDAs) failed the PMSS, which is conducted by the MMU prior to each Base Residual Auction, for every planning year for which a BRA has been run to date. For almost every auction held, all LDAs failed the TPS which is conducted at the time of the auction," the IMM added.

Nonetheless, the application of mitigation measures resulted in "competitive" capacity market outcomes, the IMM said.

The IMM noted that the result of the chosen capacity market design, "is that any supplier that owns more capacity than the difference between total supply and the defined demand is pivotal and has market power."

"In other words, the market design for capacity leads, almost unavoidably, to structural market power. Given the basic features of market structure in the PJM Capacity Market, including significant market structure issues, inelastic demand, tight supply-demand conditions, the relatively small number of nonaffiliated LSEs and supplier knowledge of aggregate market demand, the MMU concludes that the potential for the exercise of market power continues to be high. Market power is and will remain endemic to the existing structure of the PJM Capacity Market," the IMM said.

"This is not surprising in that the Capacity Market is the result of a regulatory/administrative decision to require a specified level of reliability and the related decision to require all load serving entities to purchase a share of the capacity required to provide that reliability," the IMM said [emphasis added].

"The Capacity Market is unlikely ever to approach the economist's view of a competitive market structure in the absence of a substantial and unlikely structural change that results in much more diversity of ownership," the IMM said.

The IMM's recommendations for the capacity market were similar to those from prior reports.

Of most note to load, the IMM continues to recommend that the Short-Term Resource Procurement Target (2.5 percent demand offset) be eliminated, which would have the effect of raising capacity prices in the Base Residual Auction.

Additionally:

• The MMU recommends that there be an explicit requirement that capacity unit offers into the Day-Ahead Energy Market be competitive, where competitive is defined to be the short run marginal cost of the units.

• The MMU recommends that protocols be defined for recalling the energy output of capacity resources when PJM is in an emergency condition. PJM is developing these protocols.

• The MMU recommends that a unit which is not capable of supplying energy consistent with its day-ahead offer should reflect an appropriate outage rather than indicating its availability to supply energy on an emergency basis.

• The MMU recommends that the performance incentives in the RPM Capacity Market design be strengthened. The MMU recommends that generation capacity resources be paid on the basis of whether they produce energy when called upon during any of the hours defined as critical.