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Markets for low carbon, low cost electricity systems (working paper)

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Published: October, 2017

Today we are publishing a working paper on the future design of the energy market as part of a program that follows on from analysis for the Energy Transitions Commission, and new concepts presented as part of Eurelectric’s Market Design 2050.

In this paper, we highlight at least four major problems of incremental refinement to existing market models:

• Under high penetrations of variable renewable energy, hourly prices based on marginal costs could drop to zero or below for extended periods of time, no longer sending meaningful signals for operations or investment. If this happens, the markets could threaten the financial viability of much of the generation business.
• Electricity prices in current markets are determined by the last unit of supply needed to meet demand, which is often natural gas fired generation. But as gas’s role on the grid diminishes, it may no longer make sense to
closely link gas and electricity prices.
• Existing market models could cause financing costs to rise significantly, even for those generators not directly exposed to the market price, increasing the costs of electricity systems and overwhelming the benefit of efficient
system operation that these markets are intended to foster.
• Market mechanisms as currently structured could further blunt incentives for investment and innovation and, as a result, delay the emergence of new technologies and innovative business models required to keep a low carbon
electricity system low in cost.

We propose to achieve both goals by separating these two activities into their own markets:

• An energy market will be a market for commodity electricity production, independent of time and location, that relies on auctions for long-term energy contracts to enable long-term low cost financing of low cost, capital intensive energy resources. While generators will be able to choose which market they wish to participate in, we believe that this market will attract mainly the low carbon, less flexible energy supply from renewable energy, nuclear, carbon capture equipped fossil fuels, and possibly combined heat and power. This market will set the notional wholesale price for electricity used in many system wide planning and investment decisions.

• A delivery market will be a market for the delivery of energy when and where it is needed to meet demand and ensure reliability. This market would concentrate incentives for flexibility on is the participants that are best
suited to manage those risks. Prices in this market would vary locationally and fluctuate widely across the day and year. The price in the delivery market would be in addition to (or subtracted from if the delivery price goes
negative) the wholesale price in the energy market.

This concept is only a starting point. We believe it highlights the biggest challenges facing cost-effective  decarbonization of the power sector, but further development is needed before this concept can be robustly  applied to specific markets. We believe that new electricity market models can be a critical tool in enabling a cost-effective transition to a low carbon electricity system, spurring innovation in technology and market models that will lead to further improvement in costs, quality and the environmental performance of the future electricity system.

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Keywords
  • electricity
  • electricity markets
  • energy finance
  • energy infrastructure
  • energy transition
  • EU energy policy
  • EU Energy Union
  • policymakers
  • renewable energy
  • utilities