Elsevier

Energy

Volume 172, 1 April 2019, Pages 45-56
Energy

Capacity certificate mechanism: A step forward toward a market based generation capacity incentive

https://doi.org/10.1016/j.energy.2019.01.091Get rights and content

Highlights

  • A new incentive called Capacity Certificate is proposed.

  • The main features of this incentive are described.

  • The efficiency and performance of this incentive are assessed.

  • Better performance over Energy-only and Capacity Payment mechanisms is illustrated.

Abstract

Theoretical studies and practical experiences in power systems show that electricity market by itself cannot create an effective mechanism for optimal investment in generation capacity expansion. This is due to some inherent characteristics of power systems, such as high investment costs, and various risks in profit and return of capital. On the other hand, the political, social, and economic consequences of shortage of power generation are intolerable in any conditions. As a result, several incentives such as capacity payment, capacity auction, capacity obligation, and strategic reserve have been introduced to support investment in generation capacity. But all these incentives suffer from a number of inadequacies and inefficiencies. In this paper, first a new incentive called Capacity Certificate is proposed and its characteristics are explained. Then, taking the advantage of System Dynamics, the impact of this mechanism on long-term performance of power market is studied from the generation capacity expansion perspective, and is compared with energy-only and capacity payment mechanisms. Indicators such as system reserve and the overall customer payments reveal the benefits of the proposed mechanism. In addition, this mechanism effectively motivates the customers to optimize their energy consumption, while none of the other incentives has such a capability.

Introduction

In a restructured power system, maximizing profit is the main motivation for investors while the Independent System Operator seeks to minimize generation costs, as well as maintaining an acceptable level of reliability which requires providing adequate generation capacity [1,2]. Although in a perfect market case, management of such conflicts will be left to competition in the market, but the exclusive features of the power market have resulted in drastic doubts about the efficiency of market mechanism to handle an acceptable generation capacity expansion in power systems [3,4].

Advocates of energy-only market believe that the market mechanism provides sufficient signals for optimal and secure investment in generation capacity expansion and extra motivations are not necessary. In this case, the only revenue of producer is obtained from energy market. keeping high cap price, the permissibility of price spikes, demand response based on price and definition of reliability levels for different loads are characteristics of most of the energy-only markets [5]. In this model vast shortages would be inevitable in case of inadequate supply [6,7].

On the other hand, practical experiences of some power systems, like limited subsidized government investment in electrical generation on electricity market by New Jersey and Maryland [8], and theoretical studies that evaluate the performance of different market designs [9,10] have shown that energy-only market mechanism cannot provide the necessary conditions for proper generation capacity expansion, and because of creation of scarcity pricing boom and bust cycles of investment will happen, because the generation industry is a capital intensive one with high risks in return of capital.

As a result, due to the sensitivity of electricity as a commodity and widespread socio-political consequences of electricity shortages, the majority of market designers have decided to interfere in market and introduce different mechanisms to ensure adequate sufficient generation capacity. The objective of these mechanisms is to keep existing generation capacities available, and to motivate the investors to construct new generating units. In Ref. [11] concept of Security of Supply problem and different capacity mechanisms that is used to solve this problem is presented. A review of the main criteria to be taken into consideration in the design of these mechanisms is discussed in Ref. [12]. Important challenges in the process of designing capacity markets are described in Refs. [13,14]. In Ref. [15] a capacity market mechanism has been proposed for new England to achieve the above mentioned objectives.

Among various capacity mechanisms, capacity payment is more welcome due to its simplicity of implementation. In this mechanism, a specific amount is paid to the power plants based on their available capacity, regardless of the amount of energy produced. Price spikes are avoided at the same time by lowering the price cap of energy market [16]. The amount of payment can differ with regards to different power plant technologies, as well as existing or new units of the same technology. The obvious manipulation of the market and the high costs that are ultimately imposed on customers can be considered as the major disadvantages of the capacity payment mechanism [17].

The auction mechanism has been introduced to reduce costs and warm up competition in providing the required capacity. In this mechanism, the independent system operator estimates the amount of capacity required, one to five years before the delivery year, and based on this estimation, the amount of required generation capacity will be procured using various auction methods. The exact estimation of the required capacity is the main challenge in this mechanism. In markets where the capacity auction mechanism is used, usually the same entity plays the role of system operator and market operator [18,19].

In capacity obligation mechanism, the load is supposed to be supplied through contracts with the manufacturers or purchasing power plant based on the demand forecast. In this case, there is no clear sign to motivate the investment, which can obstacle the entry of new power plants [20,21].

The strategic reserve mechanism is designed to provide the required capacity in periods of capacity shortage. In this method, independent system operator persuades the old units to generate at the time of capacity shortages according to pre-concluded contracts. The purpose of this method is to prevent the old units from being retired and to use them at capacity shortage, and in particular to keep them in use in abnormal conditions. This method is not very effective in signaling new investment, hence it is used in markets having adequate supply at the time being, and low load growth rate in future [22,23].

A comprehensive review of the performance, the advantages and the disadvantages of each of capacity mechanisms is carried out in Ref. [24]. The results are summarized in Table (1). Table (2) shows some of the world's electricity markets and the capacity mechanism they use.

In order to compensate the inefficiency of existing mechanisms, a new mechanism called Capacity Certificate is proposed in this paper. In this case the long-run capacity expansion is not left to “energy only” market alone. The difference between our proposed mechanism and previously proposed mechanisms like capacity payment is the fact that capacity certificate is based on a secondary market and is supported by forcing the new loads to buy this certificate before being connected to the grid. The main features of this mechanism, which cannot be found in common mechanisms, are:

  • Each new customer is required to purchase capacity certificate in proportion to its demand. Existing customers are required to purchase capacity certificates if they want to increase their demand.

  • Investors will sell capacity certificates in proportion to new capacity they add to the power system.

  • Price of capacity certificate is determined on a supply-demand basis, and provides an appropriate feedback to signal the actions of investors and customers.

  • Capacity certificate can be tradable, and this could push the traders' capital towards generation capacity expansion. This feature is not touched upon in this article.

  • Possibility of selling capacity certificates by customers in proportion to their releasable demand will lead to improved energy efficiency.

To conclude, the mechanism proposed in this paper, is based on a different and new concept when compared to the existing mechanisms. Here the new customer is forced to buy Capacity Certificate before being allowed to be connected to the grid. In this way it is guaranteed that there is adequate new generation to supply the new demand. The price of the Capacity Certificate is fixed according to supply and demand. Investors are facing a reasonable risk since they can negotiate the potential customers in advance. This new concept forms two important features that are not observed in existing mechanisms:

  • -

    Introducing the Capacity Certificate (in fact the available capacity of a power plant) as a tradable commodity (beside the energy generated by a power plant which is exchanged in energy market).

  • -

    Encouraging the customers to improve their efficiency and reduce their demand.

As far as the authors of this article are concerned, only in French electricity market a capacity mechanism known as capacity certificate is used to provide generation capacity for peak hours. This certificate has a limited lifetime and is valid only for a specific year, and as a result, is fundamentally different from the mechanism described in this article [37].

Also there is a distinct difference between Capacity Certificate and the Renewable Energy Certificates (RECs) or Tradable Green Certificates (TGCs). These Certificates are supporting mechanisms for renewable energy sources [38,39]. The TGC or REC is a commodity proving that certain amount of energy is generated using renewable sources and is conceptually different from the Capacity Certificate that is related to the installed capacity.

In the second part, the proposed capacity certificate mechanism is introduced and its features are described. In the third section, the modeling of capacity certificate mechanism will be presented using system dynamics. In the fourth section, effect of proposed mechanism on generation capacity expansion is studied and its efficiency is evaluated by long-term power system simulation. The last section is dedicated to the conclusion.

Section snippets

General

The main objective of the capacity certificate mechanism is to encourage investors to invest on new generation capacity and providing adequacy of system in a competitive approach. Design of the capacity certificate mechanism is based on a two-sided market including supply and demand, power plants and customers can be present on both sides of the market. “Capacity Certificate” which is the subject of this paper is a kind of tradable securities that customers, as a prerequisite to the grid

Problem modeling

After power system deregulation and establishment of electricity market, to describe the long-term behavior of the power market two general approaches have been utilized [50,51]:

  • 1)

    Simulation models such as System Dynamics (SD) where the focus is on the impact of market mechanisms and regulation on the main factors such as investment trends and market price.

  • 2)

    Planning techniques or optimization models that are used to study the optimum expansion plan in a market with pre-established regulations.

In

Simulation

In order to compare the efficiency of the proposed mechanism with the existing mechanisms and to evaluate how it affects the generation capacity expansion, a typical electricity market is taken into consideration. The study period is 60 years, the characteristic of load duration curve is shown in Table 4, and the details of each generating technology are presented in Table 5. The annual load growth rate is given to be 5%. Also it is assumed that a capacity, as shown in Table 5, comes into

Conclusion

Due to the load growth and retirement of power plants, maintaining an acceptable level of reliability in power grids requires providing adequate new generation capacity. Due to unique features of power systems, in a restructured environment, there are serious doubts on the adequacy of the market mechanism to motivate investors to provide these new capacities. Thus, various incentives have been introduced encourage investors to invest in this industry. Incentives presented so far, are facing

Acknowledgment

This research has been carried out in line with the current policy of the Ministry of Energy of the Islamic Republic of Iran to change the incentive of the electricity market from Capacity Payment mechanism to Capacity Certificate mechanism. We would like to express our appreciation to the Iran Grid Management Company (IGMC) for their supports to this research work.

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