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Capacity Markets Capacity Markets Investment in Generation Investment in Generation

Capacity PaymentsCapacity Payments

October 31, 2005October 31, 2005J. W. CharltonJ. W. Charlton

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ObjectiveObjective

Advocate an organized capacity market in the form of a formal capacity market versus an energy only market

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NYISO OverviewNYISO Overview

NYISO formed December 1, 1999. Utility generation divestiture rate makes it one

of the most divested markets in nation. NYISO market volume about $7.5 billion in

2004 and over $30 billion since inception. Highest market volume in East.

Unique challenge: New York City is the world’s biggest and most complex load pocket. World finance and communications capital.

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* = Peak Load in Megawatts

IESO26,160 MW*

Hydro Quebec35,137 MW*

ISO - New England26,922 MW*

New York ISO32,075 MW*

New York ISONew York ISO"Hub of the Northeast""Hub of the Northeast"

PJM 135,000 MW*

PJM135,000 MW*

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NEW YORK NEW YORK ENERGYENERGY BY BY FUEL TYPE 2004FUEL TYPE 2004

8%1%

27%

15%

19%

28%

2%

GAS - 12387

OIL - 939

GAS & OIL - 40087

COAL - 22536

HYDRO - 28153

NUCLEAR - 40626

OTHER - 2443

GWh

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NY MarketsNY Markets

Day-Ahead Energy Market

Real-Time Energy Market

Ancillary Service Markets

Installed Capacity (ICAP/UCAP) Market

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Bilateral(forward)Contracts

50%

RealTime <5%

NYISODay-Ahead

Market45 – 50%

Bilateral Contracts outside the NYISO 50%NYISO Day-Ahead Market 45 - 50%NYISO Real-Time Market <5%

100%

Buying Power in New YorkBuying Power in New York

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Day-Ahead Energy MarketDay-Ahead Energy Market

Security Constrained Unit Commitment software simultaneously co-optimizes energy and ancillaries for the least cost solution

Hourly Locational Marginal Prices (LMP) Binding forward contracts to Suppliers/Loads Bilateral transactions accommodated concurrently

with supply and load bids Deviations settled against Real-Time Market Installed capacity suppliers are required to bid in

the Day-Ahead Energy market

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Real-Time Energy MarketReal-Time Energy Market

Real-Time Commitment (RTC) Multi-period security constrained unit commitment & dispatch Co-optimizes to simultaneously solve load, reserves & regulation Runs every 15 minutes, optimized over 10 1/4hour periods – total 2 ½

hours RTC15 posts at time 15 and optimized from T30 through T180

Issues binding commitments for units to start at T30 and T45

Real-Time Dispatch (RTD) Multi-period security constrained dispatch Co-optimizes to simultaneously solve load, reserves & regulation Runs approximately every 5 minutes Optimizes over a 60 minute period RTD15 posts at T15 and optimizes from T15 through T75

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Ancillary Service MarketsAncillary Service MarketsHighlightsHighlights

Market-Based ServicesRegulation10-Minute Spinning ReserveTotal 10-Minute Reserve30-Minute Reserve

Cost-Based ServicesScheduling, Control and DispatchVoltage SupportBlack Start

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NYISO Installed Capacity MarketNYISO Installed Capacity Market

ICAP Requirements: are set in advance for the upcoming Capability Year by the New

York State Reliability Council (NYSRC). Load Serving Entities (LSEs) meet their NYISO-allocated

ICAP requirements by: Self-Supply or Bilateral Transactions with Suppliers. Purchasing in the Capability Period Auctions (6-month strip). Purchasing in the Monthly Auctions (for balance of Capability

Period). Paying for the balance of their obligation procured on their behalf in

the Spot Market Auction (1-month) using a Demand Curve. All supply is certified/checked out monthly.

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NY Market Revenue StreamNY Market Revenue Stream

The New York Energy market: allows suppliers to recover their variable costs and to

compete for profits. The New York Ancillary Services market:

allows suppliers to recover lost opportunity costs when providing ancillary services.

The New York Installed Capacity (ICAP) market: is intended to promote Resource Adequacy and; allow suppliers to recover a portion of their fixed (capital)

costs. The total revenue from these markets is the total

revenue stream for suppliers.

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Need for ICAP MarketsNeed for ICAP Markets

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Revenue SourcesRevenue Sources

Potential sources of revenues for generating resources are: Revenue from the energy market during non-shortage hours,

net of fuel and operating costs Revenue generated in periods of shortage when prices can

“spike” to levels 20 times higher than the average annual energy price.

Revenue received in the capacity market. Ancillary services revenues

The economic value of these sources of revenue governs investment and retirement decisions in wholesale electricity markets

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SubstitutesSubstitutes

Capacity revenues and energy revenues are essentially substitutes. Under any combination of energy and capacity markets, it is

ultimately the market participants that determine the prices in both markets.

Markets with higher capacity revenues generally sustain higher capacity margins and, hence, exhibit less frequent price spikes associated with shortages.

Conversely, markets that generate lower capacity revenues will result in lower capacity margins and more frequent price spikes associated with shortages.

In the limit, energy-only markets that have no capacity revenues rely almost exclusively on severe price spikes to establish long-term economic signals.

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History and Political RealityHistory and Political Reality

The Northeastern U.S. Markets are a product of: the history of power system operation planning practices historic grid topology limitations on offer prices to limit market power abuse eliminating “seams” issues as barriers to trade, and the need to provide rational long-term price signals that would encourage

investment in new generation and transmission where needed The political reality is that energy prices will not be allowed to

“spike” to the levels necessary to encourage new generator investments.

Even if market design did not limit offer prices, regulatory uncertainty would discourage investment in new generating resources

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Insuring ReliabilityInsuring Reliability

Several proposals have been entertained to move to an “energy- only” market design. Simply cannot be made to work with offer caps of $1000 or less Regulators and many Stakeholders will not support higher offer caps Suppliers will forever face regulatory uncertainty

Traditional utility owners have divested, or are divesting, their generation portfolios or spinning them off to unregulated generating companies.

There has been significant debate over how to maintain an adequate reserve margin. Minimum installed capacity requirements were imposed on the regulated

utilities in the Northeast long before divestiture. To guarantee the same level of reliability under a market scenario,

all load serving entities are simply required to contract for sufficient capacity to meet their installed capacity obligations.

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Installed Capacity Markets Installed Capacity Markets in the Northeastern U.S.in the Northeastern U.S.

ICAP Requirements are set for the upcoming capability year.

Load serving entities can meet their ICAP requirements by:Self-SupplyBilateral Transactions with SuppliersForward Auctions Deficiency/Spot Market AuctionsAfter-the-fact penalty procurement

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Locational ICAP Locational ICAP Due to transmission constraints into certain

localities, areas or zones, some LSE’s must procure at least some of their ICAP requirements from resources electrically located within that locality. New York (NY) has had locational requirements since

inception. There are two such transmission constrained zones:

• New York City and • Long Island

PJM and ISO-NE have proposals pending before FERC to introduce locational ICAP to their control areas.

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Summary/ConclusionSummary/Conclusion

The design of the Northeastern installed capacity markets was born of the pre-existing planning and operating practices of the power pools in the northeast.

The market structures and design features recognize the need for: system reliability (insured through installed capacity requirements) overall market designs coordinating energy, capacity and ancillary services reining in potential market power encouraging robust competition mitigating potential barriers to trade certainty, market stability, and recognizing the political realities of energy price caps and regulatory

oversight. The designs presently employed with installed capacity markets

uniquely balances all of the market needs while appropriately recognizing the value of capacity to meet reliability criteria.