EMR paper on final design of the Reserve Capacity Auction

Public Utilities Office

Jan 30
EMR paper on final design of the Reserve Capacity Auction

On 23 January 2017, the Electricity Market Review (EMR) published a paper describing the final design of the Reserve Capacity Auction (RCA) and how such an auction would be implemented.

This follows a the publication of a preliminary auction design paper in December 2015 and subsequent stakeholder engagement.  The EMR states that it is not seeking any specific feedback on its report, instead future consultation will be through the Reserve Capacity Mechanism Consultation Group.

The paper identifies the key features of the auction as follows:

  • Auction triggers are (i) Australian Energy Market Operator (AEMO) 3-year ahead forecasts show 5-6% excess capacity or (ii) if no excess capacity is forecast, then the first auction will be in 2021 for the 2024/25 Capacity Year – whichever is triggered first.
  • The Reserve Capacity Auction (RCA) is held 3 years prior to the Capacity Year in which the capacity needs to be delivered.  The 3-year forward period (i) supports entry of some supply options, e.g. demand response, capacity uprates that can be implemented within the period (ii) better matches the procurement and development time-frames or new peaking generation and (iii) with potential new entrants (and major retro-fits) into the auction a greater number of supply options can compete so supporting more economically efficient outcomes.
  • The RCA will comprise of a single round of sealed bids (as opposed to a descending clock auction).  Although sealed bid auctions reveal less information (e.g. to support efficient, timely investment decisions) the advantages include the protection of business information, mitigation against gaming potential and price transparency benefits by revealing some information post auction.
  • The price for delivered capacity will be set for 12 months – participants are able to bilaterally contract outside of this time-frame to provide added stability for capacity cost and revenues.
  • A rebalancing auction will be held 12 months prior to the Capacity Year in which capacity is to be delivered.  This allows both (i) a generator who have been cleared in the RCA but is unable to deliver capacity by the CY as anticipated, for example a project is delayed, then it can trade out its position prior to delivery and (ii) AEMO is able to buy or sell back capacity if there is a change in demand.
  • Auction able to clear at quantities below the Reserve Capacity Target (RCT).  If the cost of additional capacity is greater than the Benchmark Reserve Capacity Price, the the auction will clear at below RCT (but above any reserve capacity floor) as is will be cheaper (more economically efficient) to have unserved energy/lost load rather than buy in more capacity.

The EMR paper recognises the need for instruments to mitigate the exercise of market power in an auction.  The intent is for the ERA to determine a threshold price that all existing resources must offer below.  The level will be set sufficient to cover the expected bid prices of at least 80% of capacity in the market.

AEMO will administer the auction and engage with stakeholder around training and guidance in participating in an auction.

The next steps for the EMR Project Team is to determine the shape of the demand curve required for clearing capacity auction bids.   This is expected to take six months.  In addition, the report suggests a Market Rules changes in support of the RCA will be available by the end of 2017.

Background

Although a capacity auction is possible under the current Wholesale Electricity Market (WEM) Rules, the circumstances for an auction have not been triggered given that no shortfall in generation capacity has ever been forecast, or observed.  Instead, the opposite has occurred and the WEM has experiences excess capacity.  In Capacity Year 2016/17, the EMR identifies this as 23% additional capacity at a cost of $120,199 per MW or $116million; mainly driven by lower electricity demand than was forecast.

As outlined above, the EMR proposals will trigger a RCA by 2021.  In the interim, the EMR process legislated transitional reforms to the reserve capacity mechanism in May 2016.  These reforms include a changes to the capacity price formula that involve maintaining the existing administered price mechanism but with (i) a steeper pricing curve and (ii) a different pricing arrangement for demand side management capacity.