CERAWEEK: US energy transition highlighting need for capacity market evolution

One important impact of the energy transition toward more renewable resources in regional power markets is a decrease in wholesale electricity prices, which will be a challenge for unsubsidized merchant power generators needed for reliability, industry executives said March 4.

Decarbonization efforts in the US will require a massive amount of renewable energy and that means the natural gas-fired fleet of power plants is going to "run less and less over time, but when you need it you are going to need all of it," Thad Hill, president and CEO of Calpine Corporation, said during a virtual CERAWeek by IHS Markit panel discussion.

"We have a market construct today where energy revenue is important to those assets and as you put in more zero-marginal cost resources you are going to see that energy revenue drop and as that happens capacity market constructs become even more important," Hill said.

States in the northeast have been pushing back against mechanisms like the minimum offer price rule, or MOPR, that is designed to strip out the impact of state-level subsidies from capacity market bidding. Many in the industry claim the MOPR makes states pay twice for capacity – once through the subsidy and again through the capacity market.

Hill said he is "sympathetic" to states not wanting to pay twice and wanting to be able to choose their own resources. And how ever capacity markets are ultimately designed, there needs to be adequate compensation for existing power plants and incentives to invest in new plants, he said.

So, evolving capacity markets so states don't have to pay twice while also providing a "durable market mechanism" that keeps generation needed for reliability will dominate northeastern power market discussions over the near term, Hill said.

Gordon Van Welie, president and CEO of ISO New England agreed, saying "we will need more renewables but that will drive down energy prices" so the struggle is how to get the capacity market to show the true value of reliability if you have subsidized resources.

"Platts Analytics' Long-Term Electricity Forecast demonstrates declines in wholesale electricity prices (in real terms) in regions with aggressive decarbonization targets," Kieran Kemmerer, power market analyst with S&P Global Platts, said in an email.

"These regions, focused in the Western Interconnect and Northeast US, first demonstrate a mid-day sag in prices in shoulder months associated with high levels of solar generation. As renewable generation gains market share and battery storage grows to aid in serving peak load with renewables, on-peak prices begin to decline, with many regions demonstrating an off-peak price premium by the end of the forecast period in 2050," Kemmerer said.

Capacity market evolution

In an effort to ensure capacity prices are formed correctly, ISO-NE initiated a substitution auction allowing renewables to enter the capacity market without suppressing power prices, but the states do not like that design so it will have to change, Van Welie said.

The challenge is accounting for the additional risk to "unsponsored merchant resources" upon which we will become even more dependent, which is a complicated problem "we will discuss very vigorously over next 12 months," he said.

It is also important to point out that renewable resources do provide a level of reliability and it will be important to figure out how to model them better in order to rely on them for a portion of our reliability needs, Manu Asthana, president and CEO of PJM Interconnection, said.

"One of the things I like about capacity markets ... is they provide a steady and predictable stream of revenue for generators that incentivizes the right behavior and funds the right type of maintenance," Asthana said.

It comes down to how much insurance you want to buy through the market, Van Welie said. During the winter of 2017 to 2018 an extended period of polar vortex conditions had the ISO "running very close to the edge with regard to reliability," he said

All energy resources experience constraints at certain times, which creates gaps that power grid operators have to plan for. So, the question is how to structure the market design and hold people accountable to make sure resources are available when the operator calls on them, Van Welie said.

For example, a pay for performance mechanism was added to the ISO-NE capacity market, and looking forward, with increased variability from renewables it may be necessary to carry higher levels of reserves in the ancillary services market, he said.

And the energy transition is happening. PJM is seeing an interconnection queue that is 145,000 MW, 90% or more of which is wind, solar, battery or some hybrid of those, Asthana said.

"So this change is happening right now and our capacity markets do need to change," he said, adding that there is currently a stakeholder conversation underway regarding those changes and the Federal Energy Regulatory Commission chair Richard Glick has said he thinks the markets need to evolve.

"The first thing is finding a way to evolve the MOPR, but ultimately the markets do need to allow states to make their resource mix choices as a lot of the energy transition is being driven by some of the PJM states and we believe they need that flexibility, but equally the markets need to be able to compensate adequate dispatchable generation so that we can keep the lights on," Asthana said.