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Renewables, market power may force electricity generation market change - academic

Friday 14th September 2018

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New Zealand may have to consider changing its wholesale electricity market as increasing volumes of solar and wind energy make it harder to fund traditional large-scale generation, an Auckland academic says.

The falling cost of wind and solar technology, which already have very low operating costs, may undercut the wholesale power prices New Zealand generators have traditionally relied on to fund investment in new plants.

Stephen Poletti, a senior lecturer in energy economics at the University of Auckland, says it may be time to consider moving to the capacity payments that many other countries use to ensure sufficient new plants are built to meet long-term demand. In those markets, government or regulators auction long-term contracts for new generation.

Poletti says New Zealand’s “energy-only” market gives the major generators too much power to set prices that are well above their operating costs. They in turn argue the higher prices are needed to fund on-going investment, he said in an interview with BusinessDesk.

“Either there’s no market power, or we need market power to get investment.”

Poletti says that disparity will only get more pronounced as more solar and wind – which can be bid into the market at very low marginal cost – is developed here. That will make it harder to fund more costly generation sources from what such plants can earn on the spot market for wholesale electricity.

“We do need to think about what the market might look like in 20 to 30 years as well.”

Poletti is planning to submit on the topic to the independent electricity review the government has initiated. There is no evidence of excessive profits in the sector, the review panel said in an issues paper earlier this week.

Poletti today released a study suggesting that in the six years through 2016 the country’s generators had pocketed $5.4 billion more than would have been possible in a competitive market.

The work built on the widely discredited 2009 study undertaken by Stanford University professor Frank Wolak for the Commerce Commission. He found generators extracted market rents of $4.3 billion in the seven years through 2007.

That study, which the commission took no further, was widely criticised for not reflecting the critical role that the pricing of hydro storage plays in the New Zealand system. Nor did it recognise the impact of transmission constraints, thermal fuel costs and availability, and the general complexity of energy supply in an island nation with a relatively small number of players.

Treasury noted that Wolak’s claimed excess profit was implausible, given it would have accounted for more than 90 percent of the after-tax profits earned by the major generators in those years.

Poletti’s modelling has attempted to improve that work by reflecting the changing value of hydro storage over time and tie that to pricing.

While the simulated lake levels and prices did not follow exactly the same path, they were similar to actual events, showing the model was not simply dispatching more hydro plant at the cost of storage.

The end-of-year lake levels in both the competitive benchmark model and the computer simulations were also very similar.

“The agreement is very good considering that the real world is considerably more complex than this model,” Poletti says in the 55-page paper.

The study suggested wholesale market revenue exceeded what a competitive market would have delivered by up to 19 percent in 2010 and 2011. That excess then jumped to more than 40 percent for the remaining years.

Poletti said that may reflect the volume of low-cost wind and geothermal that entered the market during those later years, and the closure of the more expensive gas-fired Otahuhu and Southdown plants in 2015.

He acknowledged that analysing market power in hydro-dependent systems is “notoriously difficult” and that the model treats storage at the national level. Accordingly, it may not accurately reflect scenarios, such as during the past two years, when South Island storage was typically very low, but North Island storage was unusually high.

The model could also be further improved by recalibrating it, given the changes in the generation market during the study period, and the role that the increasing volume of hedge contracts plays in the market, he said.


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