Tripling Texas Wholesale Prices Wouldn’t Adequately Raise Reserve Margin, Says Report

A report released on Friday by consultants at the Brattle Group concludes that tripling peak wholesale power prices in Texas (from $3,000/MWh to $9,000/MWh by 2015), as is being considered by Texas utility commissioners and grid operators to encourage power plant construction in the power-strapped state, would only raise the region’s reserve margin to 10% above peak demand—less than the 13.75% reserve margin recommended by federal regulators.

The report prepared for the Electric Reliability Council of Texas (ERCOT) analyzed resource adequacy concerns and identified options for better aligning market design and reliability objectives in the grid operator’s region, which comprises about 85% of Texas.

Last month, ERCOT said it expected its reserve margins to plunge to 9.8% as soon as 2014, to 6.9% in 2015, and to a negative margin by 2022—well below the grid operator’s 13.75% target for electric generation capacity that exceeds the forecast peak demand on the grid.

The study’s authors found that ERCOT’s energy-only market worked well for many years to support efficient operations and attract sufficient generation investment to maintain resource adequacy, but new investment “is now impeded by low wholesale power prices due to low natural gas prices and an efficient existing generation fleet.”

The study also concludes that ERCOT’s current energy-only market is not likely to support sufficient investment to meet the resource adequacy target. Simulation results suggest that the "long-term economic equilibrium" reserve margin may be only 6% under current market conditions and rules. Raising the cap to $9,000/MWh, as proposed by the Texas Public Utilities Commission (PUC), could bring the reserve margin up to 10%.

“The projected reserve margin outcomes are highly uncertain due to unknown factors such as the likelihood of extreme weather, uncertainties about investors’ beliefs and risk tolerances, and difficulties modeling scarcity market conditions accurately. For example, sensitivity analyses suggest that long-term average reserve margins could be between 1 and 7 percentage points below the reliability target under a price cap of $9,000/MWh,” it says.

The analysis shows that reliability targets could be achieved with a significant increase in price-responsive demand that helps prevent load shedding but without eliminating high prices. However, it would likely take several years before a sufficient level of demand response could be achieved. Given the large and uncertain gap between the equilibrium reserve margin and the target, the authors conclude that either the market design needs to be adjusted or the reliability objectives revised.

To resolve this mismatch between current market design and reliability objectives, the authors suggest that ERCOT and the PUC first evaluate whether the current target is higher than necessary, given the much greater incidence of distribution-level outages and the ability to avoid shedding certain critical loads. They point to other regions’ different reliability criteria and recommend establishing the target based on an analysis of marginal benefits and costs. They also recommend defining a lower "minimum acceptable" reliability level before any out-of-market backstop measures would be considered.

The report discusses the advantages and disadvantages of four options for attracting greater investment should policymakers demand a higher reserve margin than the current energy-only market can be expected to deliver:

• Energy-only market with price adders: requires only modest adjustments to the current market design, but is not a dependable way to meet the target.
• Energy-only market with backstop procurement: requires only modest change, but can be inefficient and undermine market-based investment. Backstop procurement should be used only rarely to maintain a minimum acceptable level of reliability, while otherwise letting the market determine investment.
• Resource adequacy requirements on load serving entities: would require significant adjustment to the current design, but presents a dependable way to achieve a target reserve margin; creates a specific "demand" for resource adequacy that all types of resources can compete to meet.
• Resource adequacy supported by a centralized forward capacity market: the most significant change to market design, though likely the most efficient way to achieve a given reserve margin target; provides forward transparency and competition to efficiently meet supply challenges.

   
The authors also recommend various market design enhancements to better enable demand-side resources to participate in efficient price formation, as well as other measures to achieve efficient pricing during both scarcity and non-scarcity conditions. They recommend increasing the offer cap to $9,000/MWh or a similar level corresponding to the value of lost load when shedding load, though scarcity prices should start at a much lower level, such as $500/MWh, when first depleting responsive reserves.

Scarcity prices would increase gradually as the severity of the event worsens, reaching $9,000 only when actually shedding load. As Dr. Sam Newell, the lead author of the report and a principal of The Brattle Group, commented, "This would be more reflective of system costs and will help demand response participate in efficient price formation, which will ultimately support a more stable investment environment and system reliability."

Source: POWERnews, The Brattle Group