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Energizing the Big Apple

Uncertain market design affects generation investment planning.

Fortnightly Magazine - June 2008

must be electrically located in NY Zone J so they are geographically located within Zone J or physically connected to Zone J via dedicated transmission lines. This capacity is a mixture of over 130 mostly older thermal units, fueled by natural gas, fuel oil, or kerosene. Many are very small, with nearly 100 units rated less than 40 MW.

Included in this supply picture are remote resources that through dedicated transmission are treated as if in N.Y. Zone J. For example, the Linden Cogeneration plant in Linden, New Jersey is connected to Staten Island via underwater 345-kV transmission, which counts as if it were physically located within N.Y. Zone J. Several proposed projects with similar connections are under consideration. An example is the proposed 660-MW Hudson Transmission Project, which would connect a PJM substation in Bergen, New Jersey to ConEd’s 49th Street substation in Manhattan.

What types of resources make sense to power new generation in N.Y. Zone J? Historical zonal average energy prices in N.Y. Zone J have run almost $17/MWh above the NY-ISO Reference Bus, which is located upstate in Zone E. At first this may not seem like a large difference, as burner-tip natural gas prices tend to be higher inside Zone J than upstate. But even controlling for higher gas prices, the market heat rates faced by Zone J generation is significantly higher compared to the NY-ISO Reference Bus.

The effect of this difference in market heat rates is dramatic when illustrated in terms of the annual operating margins faced by gas-fired generation. A dispatch analysis of hypothetical combined-cycle, combustion-turbine and gas steam units 5 yields a very different picture for assets exposed to these two markets.The annual operating margins 6 for these assets at the NYISO Reference Bus in Zone E are relatively modest, nearly zero for the gas steam unit, and under $10/kW-year for the combustion turbine and about $30-70/kW-year for the combined-cycle unit.

Within Zone J, the annual operating margins are much higher, trending under $15/kW-year for the gas steam unit, about $20-60/kW-year for the combustion turbine and about $120-200/kW-year for the combined-cycle unit.

Market Design and Investments

These operating margin differentials have enormous implications for the design of the NY-ISO capacity market in Zone J. Traditional thinking has led to the conclusion that combustion turbines, with their lower capital costs, should serve as the benchmark for determining market revenue shortfalls used in capacity market price setting. As a result, combustion turbine capital costs are used to set the Cost of New Entry (CONE) in formulating demand curves in New York and other jurisdictions. This CONE, reduced by a forecast of energy and ancillary services operating margins, yields a “Net CONE” that is used to anchor the capacity market demand curve.

However, in New York Zone J, combined-cycle assets have a much greater energy operating margin potential than do combustion turbines. Historically, this higher operating margin potential has been in the range of $100 - $140/kW-year (see Figure 4) . This higher energy operating margin more than compensates the owners of the combined-cycle assets for