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The Nation's Grid Chiefs: On The Future of Markets

Exclusive interviews with the CEOs of five regional transmission systems.

Fortnightly Magazine - October 2006

ends up discounting their share price. It’s what utility companies are fearful of: that their share price will take a hit. Now the way to solve this is for the state authorities to guarantee that the utilities will be held harmless. But that is something that’s not normally forthcoming, so it hasn’t found much traction.

That leaves the third approach, which is some form of capacity market. And really there are only two basic types. One is a spot market—UCAP/ICAP, or LICAP, which is the locational version of it—but the problem is that it looks administrative because there’s no way to come up with a real value of lost load, so the creation of a sloping demand curve administratively provides a price for capacity at different quantity levels.

Fortnightly: Wall Street didn’t understand LICAP. In fact, a lot of people didn’t understand it.

Van Welie: The parameters of the LICAP demand curve are complicated, but relatively simple to administer, once the demand curve parameters have been set. This was a proposal that had been developed in New England, but we failed to get a supermajority of stakeholders to support it. So a compromise was reached on a second type of capacity market, the forward capacity market. From an ISO perspective, it will be a complicated system to administer. It’s a forward auction that procures the estimated amount of capacity three years into the future. And the price for the capacity is set in the auction, so you can’t argue that it’s not a market-based price.

The auction clearing price for new capacity is the price that is then paid to everyone supplying capacity. It’s a longer-term auction; it looks a little like an RFP, if you think about it, because there’s a five-year commitment period to new capacity resources.

And the other thing it has built into it is a very high penalty for non-availability of generation. Which, ironically, is what the energy-only market would produce. An energy-only market is designed to create a very strong incentive to be available, because a resource only gets paid in an energy-only market if it’s actually running. Therefore, the idea in a forward capacity market is to try to mimic that as much as possible.

Fortnightly: Suppose some states in your region imposed a partial ban on imports of coal-fired power, or some sort of cost penalty or tax. How would that fit within your market structure? Are you preparing for this now?

Van Welie: It doesn’t impact the markets, per se. The markets will price any regulatory constraint, and that’s what you are doing: A regulatory constraint is being added that will affect the price of electricity. You already see that coming with RGGI, the “regional greenhouse gas initiative” (see, www.rggi.org), which will cap the amount of carbon that generators can emit. We’ve done some studies that show what the implications will be over time. The bottom line is that existing coal-fired generation will have to be displaced with something that doesn’t emit as much carbon, or owners of those facilities will have

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