Energy markets will deliver the flexible, decarbonised power system needed, not capacity markets

(EurActiv, 17 Dec 2018) Energy only markets will enable the integration of the European electricity market and development of the flexible resources needed to support a decarbonised future, write Philip Baker and Michael Hogan, offering a critique to RTE’s Impact Assessment of the French Capacity Market.

Philip Baker and Michael Hogan are senior advisors at the Regulatory Assistance Project (RAP), an independent, non-partisan, non-governmental organisation dedicated to accelerating the transition to a clean, reliable, and efficient energy future. 

Energy-only markets (EoM) are the building blocks of Europe’s integrated electricity market. Not only do they avoid distortion in cross-zonal trading, they encourage development of flexible resources such as storage and demand response needed to ensure supply reliability in a low-carbon future. This is possible because EoMs are meant to allow energy prices to reflect the value our security of supply standards assume customers place on uninterrupted supply.

If EoMs (and the bilateral trade they incentivise) are to be relied upon to support needed investment, investors need to be confident that regulatory and political interference will be avoided and that, when resources are scarce, wholesale energy prices will be allowed to rise to reflect the real value of energy. We are not at this point yet – most of Europe’s energy markets have price caps or other features that prevent generation from accessing this scarcity value via infra-marginal rent (that is, the difference between the clearing price, which is meant to reflect the marginal cost of energy, and a generator’s marginal production cost). This also prevents wholesale buyers from being exposed to the true marginal cost, which suppresses the bilateral trading that underpins the effectiveness of the EoM.

The Commission’s proposed Clean Energy for All Europeans package therefore accepts that additional investment support in the form of capacity markets may be required as a temporary measure. The emphasis is very much on “temporary.” Before the introduction of a capacity market can be justified, Member States must establish a clear need for new investment, a clear case that the market will not support the needed investment, and a programme of market reform to provide a realistic exit strategy.

However, a recent report by RTE, the French system operator, contradicts the Commission’s belief that EoMs are a practical and cost-effective means of ensuring reliability. Firstly, RTE questions the assumption that removing price caps and allowing energy prices to rise to high levels, potentially to the value of lost load when demand for energy and needed reserves exceeds the supply of both, will be acceptable from a political or social justice point of view. Secondly, RTE asserts that capacity markets, such as that introduced in France, represent a more cost-effective means of delivering generation adequacy than an EoM. In other words, rather than being a necessary evil to be discontinued as soon as is practical, RTE asserts that capacity markets are the more acceptable option and should become a common and permanent market feature.

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EurActiv, 17 Dec 2018: Energy markets will deliver the flexible, decarbonised power system needed, not capacity markets