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Commission Watch

LICAP and Its Lessons:
Fortnightly Magazine - January 2005

or Ck. In reality, the price at C-target is only about 0.85 x OC. All of this is because the ISO front-loads the curve at low capacity levels with premium payments, but makes the curve less steep (with smaller negative premiums) at the back end, with the lower capacity levels. That's why the equilibrium point (C-target) is placed slightly off-center from the kink point.

In a unique perspective, John Daly points out that, due to the very steep slope of the LICAP demand curve, the ISO can create huge changes in LICAP price simply by recalculating the value of installed capacity along the x-axis. He notes that this could be accomplished through an apparently neutral process such as load forecasting. In his mind, the ISO should be required to apply to the FERC for authorization before it is allowed to recalculate peak demand or Operational Capability:

"The reality of the situation is that this is a rate case, and any change to OC would amount to a significant change in rates."

Fundamental Oversights

When all is said and done, the ISO's LICAP plan may prove to be most vulnerable because of several perverse results-situations in which the market seems to reach the opposite result of what you might expect:

  • Balkanization. First, the very idea of dividing the capacity market into zones with separate prices, on order to tailor the remedy to specific load-pockets and problem areas, may actually increase the prevalence of market power and manipulation.
  • Perverse Incentives. Second, while the plan is designed to increase resources and capacity delivery in particular crisis areas, it may have the opposite result when savings are considered across the entire ISO region.
  • Gaming by Load. Finally, for all its worries about market power, and its hard-wiring of auction format to make it impossible for suppliers to game the markets, the ISO may have overlooked the opposite problem -that the biggest threat for gaming the market may come from the customers who buy the capacity.
  • First, understand that the ISO proposes to use the same demand curve in every capacity zone, scaled down in proportion to the zonal ICAP requirement, but without regard to the risks created by this smaller scale. But as Robert Stoddard has noted, generation investment is necessarily lumpy. Faced with the task of designing strategies to maintain or boost capacity levels in smaller zones, suppliers face the risk of much larger price swings. That's because the addition of even a single, minimum-scale unit sharply depresses the LICAP price in the pocket, and it might takes years for normal load growth to absorb the addition.

    Also, there's the problem of the big fish in the small pond. A larger number of smaller-sized zones implies higher degrees of concentration of power plant ownership, with higher HHI indices.

    Second, consider the perverse case of the 345-kV transmission expansion project now underway by NSTAR in the NEMA/Boston LICAP zone, and the Southwest Connecticut Reliability Project planned for the SWCT zone. John Daly, from Boston Edison, predicts that while the two projects likely will produce annual LICAP