What has the Capacity Market (CM) ever done for us?
The Capacity Market certainly has not done what it was intended to do – bring forward large new gas-fired power plants. But it has done what it was not intended to. It has it has kick-started the much-desired flexible system, and it has been key in bringing forward more than one group of powerful new energy industry participants.
First to take part in the new market were the large corporates – initially industrial users, but soon commercial and other large customers as well. Step by step they have become more actively involved. First, that meant offering up existing capacity as part of the national CM ‘pool’, making backup power plants (admittedly, often diesel engines) available at times of need.
Sharp energy managers who had seen this new revenue stream quickly realised – with the help of response providers – that they could access further income, if those on-site units were operated more often in response to market. Sara Bell is quite right when she argues that we do not want to have diesel engines operating more often, worsening air quality and and raising carbon emissions. But that is an issue for emissions regulations, not the Capacity Market, and I think it is a phase that will pass. Just as the Large Combustion Plant Directive played a major part in closing old fossil fuel plant, so the new Medium Combustion Plant Directive will drive out dirty diesel plants – but after a few years experience of the CM and other power markets, their owners will replace them with options that can continue to offer revenues, as well as costs. They may realise that a battery does the job without requiring fossil fuel deliveries – or even, combined with wind or solar eliminates fuel expenditure entirely.
The second step for those industrial and commercial users has been the option of bidding demand side response (DSR) into the Capacity Market, and again Sara Bell is quite correct in saying these options have been disadvantaged in the market design. It is not free to join this market; hardware, software or possibly human-factor changes are required, so (although it is hard to imagine C&I customers signing up for 15-year contracts) limiting contracts to one year is simply not attractive enough.
But on the other hand the CM timing has been fortuitous. In many cases, demand side response requires much less investment than it did in the past. Many firms are part-way there, because in meeting energy efficiency directives and standards they have installed building management systems.
This has all begun a major shift in industry influence. It now includes not only the large corporates, but also fleets of investors funding stand-alone projects. That should bring change the type of power industry participants lobbying government, shifting it away from traditional capacity providers.
The Capacity Market has not been the only midwife to these new flexible participants, but it has been a hugely important first step for many.
What will the current Capacity Market hiatus do for us?
If the Capacity Market did something quite unexpected in laying the groundwork for a flexible, responsive system with lots of new participants, what will be the result of a market ‘pause’, over one winter or possibly two?
That too – and again quite unplanned – may have a positive effect. The Capacity Market has been (partial) midwife to a more diverse, dispersed industry. But it has done that while keeping some pretty old, inflexible plant on the system. That has worked well for a short while. Keeping them in the merit order has delayed the advent of replacement capacity for a few years – and if it had not done so, DSR might be competing with much better, more flexible, gas plant now. (It would not be the first time the UK has been able to take a policy leap simply because it delayed so long: if we had invested in newer, more efficient coal plant, we would face a much more difficult decision over whether to close it down this decade.)
Now, though, a winter of volatile prices may not be a bad thing. Fast flexible plant or DSR can take advantage of price spikes, leaving the old, slow plant out of the money. It may come at just the right time for the industry take out some of the dead wood and allow the green shoots of the DSR market to grow.
Turns out, the market knows best
Government introduced the Capacity Market to provide the ‘missing money’ that was holding back new gas plant. Instead, it did something more interesting.
It showed that the government and industry were absolutely right in saying that a more diverse, flexible industry was needed. It was needed so badly, as the energy industry changed (and is still changing) that although government has been slow in incentivising flexibility directly, the market found a way.
As the article suggests markets are much better at bringing forward investment rather than regulation. Given the social and political issues though governments find it difficult to stop interfering in energy markets. Also the power industry has a tendency to look to government to solve its problems. The UK in particular has suffered from a series of sticking plaster changes to the energy environment and the only approach that is economically sustainable is to transfer as much as possible into the real commercial world of the market.
The solution would seem to be that industry should anticipate political/ social hot spots. For example (m= market led solution, g= Government led solution) 1m) suppliers could work harder with social enterprises to reduce fuel poverty and debt issues 2m) generators to offer (via auction in particular) packaged profiles that directly meet the needs of small suppliers. 3m) A cap and floor product (similar to that offered by Ofgem to interconnectors see 4g below) should be developed to create a revenue stream for storage. 4m) A standard “market price” CfD or supply contract should be established to help develop “no subsidy” renewables.
Government and Regulators should try and limit intervention including ensuring that any mechanisms they establish transfer into the market sector. Some examples include 1g) Only offering nuclear and CCS CfDs at the same price as Offshore wind clears at. Longevity and technical risk probably justify additional protections but if they mean a higher £/MWh price – forget it. 2g) Ofgem should transfer supplier failure mutuality to the insurance market starting by forcing all suppliers to demonstrate that they are commercially viable. 3g) Both the CfD and the CM should be transferred to the market. So for CfDs government takes the risk during construction but once the project is generating the CfD (or its benefits and risks) should be auctioned off. The CM needs to become a contract and provide some benefits (see Ireland’s CM which includes a cap on €/MWh for those who have CM deals and thereby reduces consumer costs). 4g) The cap and floor protection for interconnectors should be widened and then market tested with a view to that also being transferred into the market.
Nic Rigby NRG Management Consultancy Ltd