China's northeastern province of Shandong is the country's second-largest power producer and third-largest power consumer by volume. It also hosts China's highest solar PV generation capacity and was the largest coal-fired power producing province in 2022.
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In recent weeks, Shandong has exhibited a phenomenon that has become the hallmark of energy transition in the power sector in several parts of the world including Australia, the US and Europe -- negative electricity prices.
Shandong's spot power market, which was among the first to launch in China, saw a record-breaking 22 consecutive hours of negative electricity prices in early May because of excess generation from its two main sources, coal and renewables.
The development underscores key energy transition challenges facing the global power sector -- the inelastic nature of coal-fired baseload power that cannot adjust to demand fluctuations, an outdated power grid that lacks interconnectivity with neighboring provinces to sell excess power, obsolete power contracting structures and inefficient spot markets unable to accommodate cheap renewable energy.
Shandong's negative power prices also signal the importance of the government's push to redesign the national power market and grid infrastructure to absorb the next phase of renewables expansion. It paves the way for the usage of gas-based power and battery storage to handle intermittency.
A reconfiguration of the power market is also needed as negative electricity prices send the wrong market signals.
In the past month, Shandong's power price decline spurred nation-wide discussions focused on why generators have to pay consumers to dispose of electricity, whether negative prices could become the new norm for power producers and if enthusiasm for renewable investments will die down.
However, the negative spot prices are not representative of the full market.
Shandong requires large users to secure mid-to-long-term contracts covering at least 90% of power consumption, and less than 5% is estimated to settle at spot prices, Qin Weixiao, senior analyst with S&P Global Commodity Insights said in a recent report.
Qin said negative spot prices might benefit retailers and large users, but the scale is limited, most of the retail power market is underpinned by contracts at a fixed rate, and most power users do not get a share of the "free lunch."
"However, when spot prices frequently clear at negative levels, power system reliability and long-term generation investment could be jeopardized as the market players, system operators and prospective investors may be given a false sense of power supply security and raise concerns about risks in power investment returns," Qin said.
Inflexible coal, intermittent renewables
The negative electricity prices coincide with low demand as Shandong has been phasing out emission-intensive industrial plants, shifting many to southwest provinces with abundant hydropower, and many of the remaining ones were closed during the Golden Week holidays in early May.
Shandong remains one of China's industrial pillars, producing refined products, aluminum, steel, cement, and chemicals for local and overseas markets.
On the supply side, coal accounts for 69% of Shandong's power generation mix and over 80% of the coal-fired generation is combined heat and power, or CHP units, that cannot flexibly adjust power output.
"Shandong has the country's largest CHP capacity to serve its strong demand for industrial heating, and residential and commercial building heating. The must-run CHP generation during the heating season, complemented by other technologies, is more than sufficient to meet the demand, causing occasional negative prices at night," Qin said, adding that high solar penetration further suppressed spot prices during the day.
While coal-fired power producers are unable to turn off output and are forced to sell surplus electricity at negative prices, renewable generators operate with almost zero marginal costs. Shandong installed large volumes of both distributed solar PV and utility-scale solar involved in spot market trading.
"When the sun shines, Shandong spot market prices are hit with a double whammy, as distributed PV generation brings down system demand and utility-scale PV adds to the generation supply," Qin said.
Need for flexibility
Qin said as one of China's first eight pilot markets for spot power trading, Shandong is no stranger to negative prices with the first instance coming in the December 2019 heating season and more frequently in trial operations since December 2021.
"Having completed 16 months of continuous spot trading and settlement by March 2023, it [Shandong] is one of the most developed spot markets," she said.
As spot electricity markets are rolled out in more provinces with large inflexible coal fleets and aggressive expansion of renewables, more power systems will be tested.
"To mitigate the long-term risks, system flexibility is key in achieving real time power balance amid rapid intermittent renewable penetration and higher volatilities in the load curve," Qin said, adding that retrofitting of CHP plants and deploying energy storage systems are crucial steps.
In Shandong's spot market, standalone battery storage represents only about 1% of the system's peak demand, the S&P Global report said.