the demand side in a zero-marginal cost world · only a sub-set of most elastic demand enters the...

T H E D E M A N D S I D E IN AZ E R O - M A R G I N A L C O S T W O R L DJesse D. Jenkins

PhD Candidate, Institute for Data, Systems and Society

Researcher, MIT Energy Initiative, Electric Power Systems Center

L E T S T H I N G A B O U T A N E X T R E M E C A SE…

A N E N T I R E LY ( NEA R ) Z E R O M A RG I N A L C O S T P O W E R SYSTEM:

Re n ew ables + Nuclear + S tora g e + D e m a n d - s i d e Flexibility

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All resources sti l l recover fixed costs via inframarg ina l rents

• Increase in frequency of zero prices does not m e a n decrease in average price.

• Requires very h i g h prices dur i ng scarcity periods (well a b ove m o st price caps)

Prices are ~zero when generation is adequate; rise to induce demand rat ioningand storage discharge when generation is inadequate.

• D e m a n d elasticity, stora ga n d reserve scarcity pricinall increase preva l a n ce ofnon - zero prices.

“Everyone is a p e a ker”

- recover all fixe d costsdur i ng “scarcity periods.”

e, g

•

“Scarcity periods” 1-‐7% of hours when prices spike to drive demand

ra<oning or storage discharge(at non-‐zero opportunity cost)

IN E Q U I L I B R I U M

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S H O R T A N D L O N G - R U N E F F I C I E N C Y

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Long-run: eff ic iency determined by incentives for effic ient entry and exit.

• Long- te rm uncertainty is a signif icant fa ctor: variable renew able energy supply,n o n - m o n o tonic dema nd, pol icy intervention

C onsumers a n d p r o d u cers are bot h r isk averse , b u t with in verse preferences.Ind icates p o tential for w elfare-enhancing exc h a n g e of risk via long-te r mcontracts or h e d g e s (a n d coordination of entry to s m o o t h in vest ment cycles).

First-best ou tco m e s d e p e n d on abil ity of demand to ind icate (differentiated)wi l l ingness to p ay to b e h e d g e d against scarcity.

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Short-run: eff ic iency determined (a lmost) entirely by effic ient rat ioning ofdemand (and operation of storage) dur ing periods of generation scarcity.

• D e p e n d s on active part ic ipation of elast ic demand in real-t ime clearing ofenergy m a r ket a n d ba l a nc i ng supp l y/dema nd dur i ng “scarcity periods.”

I mpl i cation: D e m a n d ca n n o longer b e insulate d from effic ient price s igna lsdur ing scarcity periods.

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T H E R O L E O F D E M A N D

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(At least) Three options:

1. Today’s parad i gm

Only a sub-set of m o st elastic d e m a n d enters the “supply side” (of energy and/orcapacity m a r kets) as “demand response” resources via a g g re ga tors. Entai lstransact ion costs that h ave l imite d part icipat ion to large loads to d a te. Mostcu stomers on fixe d price (volumetric) tariffs. “Second-best ” situation.

Almost en<rely inelas<c demand curve

Aggregate supply curve

1. TO D A Y’S P A R A D I G M ( T R A D I T I O N A L R E S O U R C E MIX)

A handful of elas<c demands bid into supply stack as “demand response” resourcesP

–($

/MW

h)

Almost en<rely inelas<c demand curve (non-‐scarcity period)

6Q – (MWh)


1. TO D A Y’S P A R A D I G M ( Z E R O VA R I A B L E C O S T R E S O U R C E MIX)P

–($

/MW

h)

A few storage resources bidding non-‐zero opportunity costs

A handful of elas<c demands bid into supply stack as “demand response” resources

Zero variable cost resources

Almost en<rely inelas<c demand curveAlmost en<rely inelas<c demand curve (non-‐scarcity period)

7Q – (MWh)

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Only a sub-set of m o st elastic d e m a n d enters the “supply side” (of energy and/orcapacity m a r kets) as “demand response” resources via a g g re ga tors. Entai lstransact ion costs that h ave l imite d part icipat ion to large loads to d a te. Mostcu stomers on fixe d price (volumetric) tariffs. “Second-best ” situation.

2. The emerg ing frontier: dynamic retail pr i c ing

D yn a m i c retail pr ic ing provides short-te r m ma rg i na l price s ignal to all dema nd.Prices s ignal scarcity value a n d i n d u ce elastic customers to red u ce dema nd.R i sk averse or inelast ic customers ca n opt in to fixe d price contracts with

retailers w h o absorb volatility for a premi um. “First-best” short-run outcome.

Inelas<c por<on of demand (likely under fixed price contracts with retailers) (scarcity period)

Elas<c demand animated by real-‐<medynamic retail pricing (scarcity period)

2. E M E R G I N G P A R A D I G M ( T R A D I T I O N A L R E S O U R C E MIX)P

–($

/MW

h)

Demand(non-‐scarcity period)

9Q – (MWh)



2. E M E R G I N G P A R A D I G M ( Z E R O VA R I A B L E C O S T R E S O U R C E MIX)P

–($

/MW

h)






10Q – (MWh)

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Only a sub-set of m o st elastic d e m a n d enters the “supply side” (of energy and/orcapacity m a r kets) as “demand response” resources via a g g re ga tors. Entai lstransact ion costs that h ave l imite d part icipat ion to large loads to d a te. Mostcustomers on fixe d price (volumetric) tariffs. “Second-best ” situation.

2. The emerg ing frontier: dynamic retail pr i c ing

D yn a m i c retail pr ic ing provides short-te r m marg i na l price signal to all demand.Prices s ignal scarcity value a n d i n d u ce elastic customers to redu ce dema nd.R i sk averse or inelast ic customers ca n opt in to fixe d price contracts with

retailers w h o absorb volatility for a premi um. “First-best” short-run ou tcome.

3. Ideal future structure?

As in # 2 b u t cu stomers also faci l itate efficient long-te r m ou tco m e s b y enteringinto long-te r m h e d g e contracts (“reliability options”) with gene rators, eitherdirectly or via intermediaries (a g g re ga tor/retailers). D e m a n d is h e d g e d againstscarcity prices (for N years) in exc h a n g e for fixed-price p aym e n t to gene rators,b u t still see efficient short-run signal to i n d u ce elastic d e m a n d to ration first.

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3. I D E A L S H O R T - R U N S T R U C T U R E (S A M E A S # 2 )

Q – (MWh)

P –

($/M

Wh

)







3. A C E N T R A L I Z E D L O N G - T E R M R E L I A B I L I T Y O P T I O N S A U C T I O N ?

Conserva<ve es<mates for un-‐submiVed consumers added to upper leW of demand curve and considered inelas<c

Aggregate demand curve for firm capacity reliability op<ons (call op<ons) submiVed by large customers and retail intermediaries with different willingness to pay

Cleared price per MW-‐yr for fixed price payment in long-‐term reliability op<ons

13Q – Firm capacity (MW)

Aggregate supply curve for firm capacity supply (put op<ons) submiVed by generators and storageA diverse set of non-‐zero bids for zero variable cost resources, as generator’s fixed costs and expecta<ons of energy market revenue (due to different expectated output during scarcity periods) all differ.

P –

Co

st o

r w

illin

gnes

s to

pay

($

/MW

--‐y

r)

Cleared capacity on supply & demand side enter into reliability op<ons; uncleared bids reflect unhedged generators/demand that can s<ll play in energy market

A N “IDEAL” S C E N A R I O ( B E C O M I N G P O S S I B L E S O ON?)

compet i t ion betw een elastic dema nd, self supply, a n d firm gen eration.14

• Efficient short-run scarcity pr i c ing is u n ca p p e d a n d passed to d e m a n d ind yn a m i c prices.

C entral ize d and/or bi lateral m a r kets for mult i -year reliabil ity opt ions contractsbetw een gene rators (a n d storage) a n d d e m a n d (or their intermediaries)exc h a n g e inverse risk preferences a n d hel p m a n a g e long-te r m u n certainty.

Retai l competi t ion faci l itates consumers’ abil ity to indicate differentiate dwil l ingness to p ay for f irm capacity a n d h e d g e against scarcity prices b yallow i n g customers to s ign u p for different retailers or rates with a differentport ion of their p e a k d e m a n d h e d g e d (at different mont h l y fee). Retai lers thenact as intermediaries in reliability options contracts.

No free-ridership : indiv idual customers m u s t b e able to receive differentiatedreliabil ity , a n d in cases of administ rative d e m a n d rationing, cu stomers thath ave h e d g e d least are first to h ave d e m a n d ca p p e d (at their contra cte d peak).

Automat ion of d e m a n d m a n a g e m e nt , contracts that allow direct control b yagg rega tors , a n d distr ibuted energy resources ca n all increase d e m a n d - s i d eelasticity a n d offer a n alternative to p aying for reliability options, faci l i tat ing

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Jesse D. Jenkins

PhD candidate, Institute for Data, Systems & Society

Research assistant, MIT Energy Initiative, Electric Power Systems Center Massachusetts Institute of Technology

[email protected] |Linkedn.com/in/jessedjenkins |Twitter @JesseJenkins

mailto:[email protected]

the demand side in a zero-marginal cost world · only a sub-set of most elastic demand enters the...

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