Ensuring the Reliability of Electricity Supply

1. Ensuring the Reliability of Electricity Supply Florence School of Regulation May 11, 2006 Claude Crampes ccrampes@cict.fr

2. Contribution to the Regulatory Round Table on "Liberalisation and Security of Supply: a Challenge for Regulation" CC/FSR

3. 1. What reliability means. • North American Electric Reliability Council (NERC) definition, www.nerc.com • “Reliability is the degree to which the performance of the elements of the electrical system results in power being delivered to consumers within accepted standards and in the amount desired”. • Reliability encompasses two concepts: • Security • Adequacy. CC/FSR

4. Security and Adequacy • Security • the ability of the system to withstand sudden disturbances, such as electric short circuits or unanticipated loss of system facilities. • this aspect concerns short-term operations and is addressed by ancillary services which include: voltage support, congestion relief, regulation capacity, spinning reserves, non-spinning reserves, replacement reserves. • Adequacy • the ability of the system to supply the aggregate electric power and energy requirements of the consumers at all times. • this aspect concerns planning and investment and is addressed by planning reserves, installed capacity, operable capacity or available capacity. CC/FSR

5. Occurrences in the Green Paper SEC(2006) 317 • Security 43 + secure 12 • Adequacy 0 + adequate 3 • Reliability 1 + reliable 0 CC/FSR

6. In the Green Paper • Actually, Commission's "Security" is Ferc's "Adequacy": • example p. 8 of the GP: 'Liberalised and competitive markets help security of supply by sending the right investment signals to industry participants.' • and Ferc's security is addressed by Commision's 'physical security': • example p.8 of the GP: 'The physical security of Europe’s energy infrastructure against risks from natural catastrophe and terrorist threat, as well as security against political risks including interruption of supply is critical to predictability.' CC/FSR

7. However … • Definition 28 of the Directive 2003/54/EC concerning common rules for the internal market in electricity: • ‘security' means both security of supply and provision of electricity, and technical safety; CC/FSR

8. Why does it matter 1? • VOLL • lost load due to system collapse vs. • lost load due to inadequate supply • see V. Costantini and F. Gracceva (2004), Social Costs of Energy Disruptions, INDES WP n°6, CEPS, Brussels, March. CC/FSR

9. Why does it matter 2? • FERC's security is a public good • it requires public intervention. • FERC's adequacy is a private good • it should be supplied through market mechanisms … even though some coordination may be required. CC/FSR

10. 2. Security • Security is a "public good": • each user of the grid cannot purchase his own level of security, unlike private goods or services. • no possibility of exclusion: once a "security charge" has been set, an individual must either accept the risk that follows from the charge, or choose not to use the grid. • Yet, each individual has his own demand curve for security: • if individuals are different, their demand curves are different, • as the grid's users have different valuations for security, efficiency should require a different security price for each user: Lindhal prices. CC/FSR

11. Market mechanisms fail to provide security CC/FSR

12. Lindhal prices p p p social demand for security willigness to pay of a willigness to pay of b marginal cost pb pa security q° security security q° q° CC/FSR

13. security provision • the SO (or the MO) is the surrogate for demand • it procures electricity reserves in advance, which can be quickly dispatched to maintain system reliability in real time. • problems on the demand side: • how much security (reserve capacity) to install? • how to price it to individual generators and consumers? • problems on the supply side: • which grid's users will produce security? • how to reward them? CC/FSR

14. demand side • in general, the optimal level of security is fixed empirically • technical threshold imposed by political pressure • no clear idea of how much individual users are ready to pay • need for systems to extract information • consequence • uniform price • obvious redistributive effects: some users subsidize others. • Nota: there is a bunch of literature on revelation mechanisms that limit opportunistic behavior (Clarke- Groves- Vickrey, Green-Laffont). CC/FSR

15. supply side • standard organization in electricity markets • the ISO assigns generating units to reserve status through an auction separate from energy markets; • each generator submits a two-part bid for reserve: a capacity price and an energy price; • the ISO ranks the bids by using some scoring rule and makes assignment and dispatch decisions; • all units with the reserve status receive a capacity payment and units which are dispatched to generate in real time receive an energy payment. CC/FSR

16. market design • how to fix the scoring rule and the settlement rule without abandoning excessive rents to generators; • auctions mechanisms analyzed by Bushnell and Oren (1994) and Chao and Wilson (2002); both have two-part bids • one part offering a price for capacity availability • another offering a reserve price for energy called in real-time. CC/FSR

17. final remark on security • security problems are exacerbated under decentralization  unbundling advocacy should be systematically accompanied with proposals for the efficient provision of security CC/FSR

18. 3. Adequacy • Adequacy is a "private good" • Two main references: • C. Vásquez, M. Rivier and I. Pérez-Arriaga (2002), “A market approach to long-term security of supply", IEEE Transactions on Power Systems, vol 17, n°2, pp. 349-357, May • S. Oren (2004), “Ensuring Generation Adequacy in Competitive Electricity Markets” www.ieor.berkeley.edu/~oren/pubs/Adequacy Paper.pdf • Three basic approaches to ensuring adequacy • Planning reserves requirement • Energy only markets • Capacity payments CC/FSR

19. 3.1. Planning reserves requirement • US (PJM, NYPP, New England). • Load Serving Entities are required to have a prescribed level of reserve capacity above their peak load within a certain time frame, or to contract with generators for the reserve. • The reserve requirements and the capacity markets provide generators with the opportunity to collect extra revenue for their unutilized reserve generation capacity and provide incentives for the building of reserves beyond the reserves that meet the short term needs for ancillary services. • Reserve capacity obligations are accompanied by formal or informal capacity markets that allow trading of capacity obligations among the LSE. CC/FSR

20. 3.2. Energy only markets • USA (California), Nordpool, Australia (Victoria pool). • Generators bid only energy prices. • In the absence of constraints, all bids below the market-clearing price in each hour get dispatched and paid the market-clearing price. • The primary income sources for recovery of capacity cost is the difference between the market clearing price and the generators' marginal costs. CC/FSR

21. 3.3. Capacity payments • UK, Spain, Latin American countries. • Generators are given a per MW payment based on their availability (whether they get dispatched or not) or based on generated energy as an adder to the energy market clearing price. • The capacity payments are collected from customers as a prorated uplift similarly to other uplift charges such as transmission charge. CC/FSR

22. Market-based capacity payments • Pérez-Arriaga: standard capacity payments are fixed administratively, based on the ex ante physical characteristics of the equipment. • A system of marketable "calls" would protect energy buyers against too high prices on the spot market. Selling calls, energy producers are rewarded for the insurance they provide. Additionally they must pay a penalty when they fail to supply the energy they have contracted upon. • The options are marketed by the SO or the MO through yearly uniform price auctions. CC/FSR

23. final remark on adequacy • adequacy problems are exacerbated under decentralization  unbundling advocacy should be systematically accompanied with proposals for efficient coordination between production investment and transport investment. CC/FSR