The Complex Interaction between Capacity and Dynamic Pricing

Jerry Watson | Nov 15, 2012

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It is under-appreciated that the driver of real time price volatility is capacity not energy. The current outcry for, energy only, real time pricing is another simplistic and on its own will not work long term. Dynamic pricing is an energy only strategy with only indirect ties to capacities value and cost. This outcry is a clear indication of the poor understanding of the difference between energy and capacity. The danger for customers is the potential magnitude of the price volatility.

Capacity

The North American electric system is arguably the largest, most complex machine ever built. The capacity portion of that machine is poorly understood and confused with the electrical energy it transforms from other primary energy forms. The unanswered challenge for the energy sector is to come up with an equitable method to charge retail customers for their capacity demand. Currently, retail customers are not concerned with capacity usage; only their energy usage is relevant to charges incurred. Some have a fuel charge with a fixed charge per KWH on top of it, or just an all in fixed charge. None is based on the true determinant of capacity, the highest demand during highest load period of the year. The elimination of the disconnect between retail customers and the value of the capacity they consume is integral but ignored initial step in any long term stable minimally regulated market type design.

An informative overview of capacity market designs for PJM was prepared by The Brattle Group1. Keep in mind that air-conditioning load drives capacity needs. Reducing or controlling comfort cooling load is just as beneficial to the system as adding capacity. This is just one of many complicating factors.

In order to meet long-term capacity needs successfully, capacity planning or markets must do three things:

  1. Markets must extend far enough into the future to allow the lead-time required for the addition of resources.

  2. The incentive must be of adequate magnitude and duration that the risk/reward ratio is attractive to investors.

  3. Even though subjective to a degree, it must maintain an economic balance between capacity types.

The easiest way to get adequate capacity in the optimal configuration is to simply buy it, this way the controlling authority gets to determine when, where, quantity and technology type. There are several complex methods employed to reach the end of having adequate capacity. Typically, the general intent of these methods is to create some sort of a semi-free capacity market that still puts the steel on the ground when and where needed. No current alternative design does a better job than the traditional vertically integrated regulated utilities of bringing and keeping capacity in service as needed.

Another complication to insuring adequate capacity is retirements of existing capacity. This is also the most likely avenue for the gaming of market type systems. All market systems have a reliability provision to keep capacity unprofitable for energy generation but profitable as capacity from being retired. The owners are insured a profit for continued operation often in the form of a capacity payment or an equivalent. This creates an incentive for owners to retire even marginally profitable machines to get the lower risk of assured profits. The market flaw is these machines are profitable they provide a benefit greater than their cost, but do not generate adequate margin in the energy market to cover their costs. These assets need payment for the capacity they supply in order to be solvent. A viable market design should provide this innately any design that does not is flawed and will need a "out of market" or regulated solution to maintain adequate capacity.

There are several less than optimal solutions to capacity acquisition. The issues with capacity acquisition are many; for example, what may the best for investors, speculators and generators may not be best for customers. What is the best near-term solution may not be best long-term solution.

Capacity, like most things it is more complex than it appears on the surface. The relationship between energy and capacity cost is inversely related; as the overnight cost of capacity goes up the cost of the energy it produces go down. For example, simple cycle combustion turbine capacity is cheaper than combined cycle capacity but the combined cycle uses less fuel for each unit of energy output. To a large degree future predicted fuel prices sets the balance. Oil and gas prices pushed the US towards coal and nuclear after US oil production peaked combined with the oil embargo of the 1970's. After Three Mile Island, nuclear capacity became cost prohibitive. High natural gas prices and political pressure on coal made nuclear look good for short a while, but the collapse of natural gas prices and the prediction long-term low natural gas price has made gas fired the current apparent best choice.

However, it is still not this simple, building too much of what appears the obvious choice now, Gas fired generation, will punish the ratepayers if gas price predictions are wrong. Capacity choices must be well managed to hedge this risk. Right now, everyone in the US is in love with Natural gas. If only one of our current gas assumptions is wrong gas prices, could move north quickly and punish those with large proportion of natural gas in their portfolio.

The driver of underinvestment in capacity is a lack of certainty. Investing in generation in an energy only market is risky. It is weather speculative; it can be years between rewarding weather patterns. It requires one to predict the behavior of competitors, how much other capacity will competitors add. It necessitates predicting future prices and the amount of time prices will be at profitable levels. Obviously, it lacks the certainty needed for leveraged investment. There are many designs to correct this flaw all of which devise a controlled means to bring adequate capacity online to meet system needs. These schemes are of varying complexity and details. It may not be the optimal configuration but planned "out of market" systems are generally successful in assuring capacity reserves are adequate.

As consumers, we exercise greater control during mundane purchases than some areas regions do for capacity additions. Generally, we did not put her money on the counter with our minimum specifications, and then let the store clerk decide the details of product we will receive. We shop and select the goods that best fit our needs at what we consider a reasonable price. This is a lesson the energy sector should emulate. It is unlikely that by random chance that unmanaged capacity additions driven purely by economic incentive alone will be optimum. Without some sort of a methodical planned approach, the capacity purchasing entity fails to create a "person-hood" to act as the capacity consumer to protect the interests of final the capacity customers.

Charging retail customers for the Capacity consumed

It will take smart meters to accomplish this, which is why it is only now becoming practical, capacity charges are common practice for industrial customers already. For a residential customer it would be there usage during the highest system load periods of the year. The remainder of the bill would be the energy charge, which will vary, based on usage. The important concept is capacity is real it is a product of the machinery. The quantity of capacity a customer uses on the worst day exists for that customer on the all other days. This tenet is greatly under-appreciated. How many retail customers even realize this, it is likely very few. In fluid a society even the details of a mechanism to charge customers for capacity by the KW year would have its challenges.

The upside is, if that customer can reduce consumption for those critical times their capacity bill will be reduced. In the absence of a predictable charge for capacity, there is little incentive to reduce capacity consumption. Charging customers for capacity would create a market place with incentive to reduce capacity consumption and to utilize substitutes that are more economical if and when available. Potentially there are many of these, from energy storage in electric vehicle batteries to Ice Storage Air Conditioners etc.

Volatility of Dynamic Pricing is Inversely Related Reserve Capacity

In short order, utilities, generators, and Load Serving Entities (LSE) will line up to tout the advantages to customers of real time dynamic pricing. Why? Dynamic pricing shifts a good deal of risk away from suppliers to customers. It is unlikely that many of the regulating entities have the depth of understanding needed to appreciate this and are likely to join the bandwagon since it is new and involves advanced technologies. Sadly in the US the rallying cry is, if it's "smart" it's good.

Several researchers and reports extol the benefits of dynamic retail pricing to customers; however, I challenge anyone to find a single study that exposed the subjects to the prices necessary to insure adequate future capacity. Like the ERCOT energy only design, they will work well at first but will self-destruct as capacity reserves diminish over time. They will also work during a study to determine the benefits of dynamic pricing as long as capacity is adequate. All the studies I read have been done under the favorable conditions of a market with adequate capacity. The methodology may have been fine, but their predictive value is near zero, these studies are like children hunting Easter eggs on Easter Sunday, they found what they were hunting partially because they were hunting under the ideal conditions to find it. After implementation, it could take several years for the market design flaws to induce the price spikes of a magnitude and frequency to invalidate this previous research and demonstrate that energy only dynamic pricing is not an adequate market design and is not in long-term best interest of customers.

The ERCOT ISO took over in August of 2001 and is just now beginning to have serious issues that will necessitate protocol and market design changes. It is eleven-year success does not make the design less flawed it simply means it started with a lot of extra capacity that was further aided by wind rush in west Texas. The same is true of dynamic pricing it may work well for years or indefinitely if another mechanism is incorporated to insure adequate capacity. Any other, of many, capacity acquisitions mechanisms will allow retail price caps at levels that customers can and will tolerate. However, if dynamic pricing is the only capacity incentive it will eventually crush retail customers and breed longer and more frequent blackouts. Capacity addition will always lag behind capacity needs in a purely energy only market.

In a previous installment, the flaws of the ERCOT energy only market were noted in particular the Brattle Group report that asserts that even spikes of $9000/MWH, 200 times typical levels, would be inadequate to create incentive to build adequate capacity to provide desired ERCOT reserves.2 This report is informative; it is another excellent read for anyone interested in the energy market designs.

Real time pricing will not incent adequate capacity at reasonable prices. What it will do coupled with retail pricing is subject customers to price spikes of hundreds of times typical levels and move risks to the retail customers that are largely outside of their control. Risks from poor plant maintenance, poor planning, poor line maintenance, fuel prices, fuel shortages, hedging failures, and poor infrastructure will be transferred to the customer through dynamic pricing. It produces a counterproductive incentive for generators. Generators will benefit from poor performance by inducing higher prices for their product.

California's early market failures clearly demonstrated this flaw when Enron and others used strategies like the now infamous "Get Shorty," "Death Star," and the "Forney Perpetual Loop" to drive real time wholesale prices up to benefit generators and traders. The California regulators and their consultants misinterpreted the situation and made large-scale long-term purchases at prices so high that they defaulted on the ridiculous obligations and spent years battling it out in the legal system. The mistake was buying energy when they needed capacity. The water department obviously over stepped it expertise when it went in the power business. The overnight cost of new capacity at the time was around $10/MWH but California paid around a $100/MWH for energy and its associated capacity. Simple capacity plus fuel and Variable O&M deals (Tolling Agreements) would have saved all the pain. These are the easiest and lowest risk deals for both buyer and seller. The novice water department took a simplistic energy only approach based on heavily skewed forward pricing curves that made ridiculous prices look like bargains. Whether induced by manipulation or not they should have backstopped them against fundamentals like the overnight cost of generation capacity.

In conclusion: Capacity and Dynamic prices are interrelated. It is definitely possible to build a dynamic market place that will benefit retail customers and electrical energy suppliers. Will we do it? Unlikely, far too much of our expertise is theoretical, with the involved experts each looking at small piece of greater whole through the focus of their own specialty and then making general assumptions about the remainder that fits their own outlook and model. Some of the best examples are Secretary Chu and Chairman Wellinghoff both demonstrating a limited perspective and agenda far removed from a functional market place for the mutual benefit of all stakeholders.

  1. http://www.brattle.com/_documents/UploadLibrary/Upload807.pdf

  2. http://www.ercot.com/content/news/presentations/2012/Brattle%20ERCOT%20Resource%20Adequacy%20Review%20-%202012-06-01.pdf

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Comments

Some of the best examples are Secretary Chu and Chairman Wellinghoff both demonstrating a limited perspective and agenda far removed from a functional market place for the mutual benefit of all stakeholders.

Likley.

Large-scale solar generation of electricity may be a scam for one simple reason.

3412.14163 BTU = 1 kWh

More has to go in than comes out. Second law of theomodynamics.

OK, probably naive here, but I'm assuming that a utility determines it needs more capacity if it notices it is using its higher priced generation sources with greater frequency. That, along with demographics for their market, etc., gives them the determination that yes, we should build another coal plant, because our NG turbines are triggering more often. And we should build it HERE because that's close to the new growth and near some lines which are not at capacity at this point. Something like that.

On the face of it, I don't see how that information flow would be impacted by real-time pricing. Except it might delay some building as the market deals with peak usage a bit more efficiently. An issue would be if the market was totally open, then two entities could perhaps build two large plants at the same time, resulting in overcapacity. Or the fear of that might prevent any plants from being built at all.

The perspective that the investor takes risk and move forward for creating more and more capacity and the market. However, currently world accross due to several regulations and environmental issues, the investors still need active support from the Executive of the respective govenment by saying that we are there at your door step. This is still a pipe dream

It's like this. Regulators can provide consumers with all the electricity they want at a price certain (fixed price variable volume) and stop trying to influence their behavior, or they can push other initiatives that attempt to promote conservation and limit the amount of reserve capacity that largely sits idle but has to be charged to consumers. One way to pursue the second path is by mandating various types of demand limiters on consumer appliances. Another is by having retail prices vary in accordance with system conditions and using the price signal in conjunction with automation to deliver adequate comfort (in the case of air conditioning) while moving demand around. For residential consumers, demand charges are probably going to be less palatable than time-varying (dynamic) prices. Demand charges are hard enough for sophisticated commercial and industrial consumers to deal with. Residential consumers would be unable to cope.

Another way of skinning the dynamic pricing cat that offers some certainty to consumers and producers is to offer (or perhaps require) consumers to purchase a subscription that entitles them to a fixed amount of electricity at a fixed price. The amount could be an hourly load profile, a flat block, or any variation you can think of. Consumption in excess of the subscribed amount would be charged at the wholesale spot price. Amounts not consumed would be credited at the spot price. Devices would still have a workable signal, consumers would be able to manage their electricity budget, and suppliers would have a more predictable revenue stream.

The California ISO has been claiming it needs 4,600 MW of new, gas-fired generation to provide backup for all of the wind and solar that's being procured to comply with the state's 33% mandate. A preliminary analysis by the ISO shows that this capacity is expected to operate for about 8 hours or less in 2020. If you do the math, that works out to north of $30,000 per MWh of delivered energy. It raises the average cost per kWh by just over 2%, which is expensive insurance in most markets. If air conditioners received a price signal on the order of $30/kWh, particularly if there was some advance notice and an opportunity for A/C users to precool in anticipation, I guarantee you the problem would take care of itself and consumers would probably not even notice.

Just the threat of having to deal with a $9,000/MWh scarcity prices should incentivize consumers and their retail providers to think pretty hard about how electricity is used on hot summer days and whether there are smart ways to move demand around without adversely affecting people's lives and livelihoods. Building capacity that's used only infrequently is a waste of capital and resources. Surely we can do better in the 21st century.

Jack Ellis, Tahoe City, CA

Jack, I wrote this very quickly I hope it makes sence.

I realize all the demand siders, have this vision of reduced demand as the markets salvation, It is a good thing we did not come up with this concept in the 1920 or would all be using a single 40 watt light bulb and cycling it on and off every15 minutes. Personally, I have no desire to attempt to modify behavior, what I am advocating is more basic it is for each consumer to pay for what they use be it energy or capacity.

I agree with most of your comment, what I do not agree with is dynamic pricing being more “palatable” long term. My first issue with dynamic prices how is it even going to function. The dynamic pricing concept do not match the US electrical energy market in any of it forms. We are yet determine what even defines the real time price of electrical energy. Is it system average? Is it based on day ahead balanced schedules cost? I hope it is not purely spot the worst candidate for the role. I was a power trader, there are times time when no energy is trading at spot, what would the real time price be then the bid or the offer? These two can be a far apart.

I do not believe we have thought this through and are likely to go off half-cocked by the temptation to use our new gadgetry since the use of computers has had some much positive impact in so many other arenas.

I have another article following that goes into more detail on the Time of Use (TOU) and dynamic pricing. The two products are only remotely similar. TOU is pricing without Critical Peak Pricing (CPP) is a structured predictable pricing system that can be scaled quite fairly and only increases the cost of peak capacity usage.

On the other hand, dynamic pricing without caps or a defined range still function as capacity charges. The issue is they concentrate the capacity charges into short windows and move all risk to the ratepayer. Generators will be rewarded for poor performance through higher prices for their product which is an obvious incorrect incentive. I question the logic of starting any new structure that has such an apparent flaw.

I use a very similar example in my next piece to your $30,000 example, other than I scale it back to a single hour for around a $100,000/Mwh. This is the flaw created by not charging for capacity directly. In theory, scarcity prices will precede capacity additions by years until there is a predictable return on capacity investment. Think about it, through dynamic prices retail customers with pay for the shortage of capacity to incumbent generators not more capacity like our current regulated system.

I still say the fairest most straightforward way to charge for capacity is to charge for capacity not some scarcity induced derivative in the form of massive price spikes.

Jerry Watson

Jerry says that in a dynamic pricing regime "Generators will be rewarded for poor performance through higher prices for their product" Sorry buddy, but that's simple the accepted operation of any free market. If their prices get too lucrative, then competition should show up and underbid them, PROVIDED detractors such as yourself don't scare regulators into erecting barriers to market entry, either from other local generation or from long-distance transmission.

You are raiising strawman arguments against a genuinely open market. Why would I care if, in one hour per year, the price might possibly go to $1000 / kwh if my market-connected home controller is pre-programmed to shut down all controllable loads if the 15 minute interval price goes to $0.50 / KWH and to isolate my premesis from the grid totally if the interval price goes above $1.00 / kwh, as would be the default settings in the installed controllers?

Just more scare tactics.

The REAL problem in any free market system is trying to get new additional capacity built in time to keep the grid stable. I agree with that issue, since an entire plant's 500 or 1000 MW must be installed and operable the minute only 1 KW of its output is required.

The solution should be for the ISO to take bids for, and pay for, needed standby and emergency peak units, ideally low efficiency low capital cost low crew size capacity and perhaps shared across other ISO's, which is dispatched only when absolutely required, is paid for with an ISO surtax (very small, eg. 1% to 5%) on all grid consumption, and is employed primarily to point out investment opportunities for investors to build and operate new capacity in increments and at times when the new capacity can be economically justified by investors.

Len,

Your solution is still an out of market solution for capacity addition and is in agreement with my position. I was shocked to see you suggest such a thing and feel possibly to some small degree I made my point.

Regressing to your previous comment, in the US our citizens are not allowed to decide whether or not they want to wear a seatbelt in his/her own car when he/she bears all the risk of injury only the economic risk is borne by society and usually then only in the case of serious injury. In spite of this and many other laws and regulations in that vein, do you really believe that a laissez-faire electrical grid has a chance of adoption in the US? I am attempting to remain within the realm that has at least a minuscule chance of adoption. FYI, FERC is exercising more and more control of the grid not less.

Even if I spot your argument a complete reversal in regulatory direction, do you really think the populous is going to embrace sitting without any electrical conveniences for an ever increasing number of hours per year in the name of a free market? Speaking for the ratepayers my conjecture is they expect the same service level but want a lower price.

If a significant fraction ends up sweaty on a series of hot afternoons due to air-conditioning rotations driven by whatever mechanism economic or otherwise the populous will demand even more regulation to make sure it does not happen again. Me, I am an American, I get mad if my cable is out and I miss a “Person of Interest” rerun, it is hard for me to imagine my sudden willingness to tolerate being uncomfortable in my living room caused by my utilities poor planning.

Here is a flash for you, The Electrical energy market is not operating real time in the US. The real time market in the US is a balancing mechanism only and is generally only a few percent. It is silly to think this small fraction should set any overall pricing level. The brunt of the market is settled at least day ahead and many parts months and years ahead.

Withholding generation is illegal in the US and that is unlikely to change. The agreement to make generation available within the constraints of the equipment itself is the price of admission for connection to the US grid and is monitored through the Generation Availability Data System (GADS or EGADS the E being for Electronic).

The historic pattern in US is new generation replacing old. The oldest plants often used during the peak times of the peak season until it makes economic sense to retire the Unit. Units will still get old and become obsolete any in market structure. The capacity spectrum has new capacity at one and older units nearing retirement at the other. Load growth, which the US is currently seeing little of, is not the only driver. It is a simplification to say that a new peaking plant that sat idle all summer added no value. It is like saying homeowners insurance only has value when your house burns down and should only be purchased when a fire is anticipated.

As far as scare tactics, I hope the readers of this form have a depth of understanding adequate to nullify any value scare tactics might have. Make a note of my scare tactics if we do go to dynamic pricing without caps and or tight range limits, I fear time will prove my “scare tactics” to be both scary and prophetic. Actually prophetic is a strong word since the consequences are readily predictable.

Gerry, my proposal to require the ISO to manage marginal units of capacity to deals with the "large increments of addition" is not new to this time, see the comments on my articles and in the blog on this site.

I agree with you that the US market rarely if ever exposes customers to real costs at times of peak, which is in fact its largest failing. It is designed to provide all customers with the equivalent of Chrysler 300 autos when some want Cadillacs and others want only Fiat 500's. Cushioning customers from the economic effects of unthinking consumption at peaks by taxing them (probably) more than necessary at times of very low wholesale prices, rather than educating them on the consequences, is a strangely socialist concept for a nation which prides itself on believing that when possible unfettered markets should be employed.

The key to having the IMEUC system work, and accomplish its aims (eliminating the waste of money, resources, and environment inherint in protected monopoly generation) is to expose customers to the real effects of their consumprion actions, including the highest peak prices at times of energy shortages, cushioned only from the minor inconvenience of the large incremental addition problem.

I don't know why any real-time pricing system, especially one used by ordinary consumers, wouldn't have some reasonable maximum cap of say, 50 cents or 100 cents per kilowatt hour. That would preclude any of these scary billing scenarios that seem to be brought up again and again. On the other hand, the price would change enough that many consumers could still benefit from the price information, and make their power usage decisions accordingly.

Jim is correct. Indeed the regulators and politicians who decide these things already know this.

The Time-Of-Use billing rates now widely being implemented with smart meters (at least here in Ontario) are regulated, and are set typically at 3 fixed rates for off-, mid-, and on-peak values. This is their attempt to show consumers a relationship between energy prices and demand seen in wholesale real-time prices the generators pay throughout the day. Granted TOU rates are not true real-time prices, but for a portion of the population it encourages them to some degree of load shifting. Not all consumers will respond but some do. And by having the fixed on-peak rates, all consumers are still protected from the scary billing scenarios alluded to.

To make it more effective, a natural progression from TOU fixed billing rates is to move to real-time prices, with peak caps as Jim says, and help for consumers to automate their energy usage habits, and automate their purchasing of energy to let them shop for the best deal any time of the day. This is where Len's IMEUC system, or some derivative of it, would work quite nicely, combined with government support to help consumers to adopt the grid communications hardware and software to use it
.

There is little dynamic about current TOU schemes. TOU without CPP is a tweak to the current system. TOU rates can be scaled to favor the utility or the customers, without CPP timers alone are all that is needed to control usage. Adding Critical Peak Pricing brings to the table the same technological issues as dynamic pricing. I really like what the coops are doing with their TOU plans, but not the IOU plans. I do not agree that dynamic pricing is a natural progression is it more of a leap of faith.

A question I keep asking is, what is the real time price of electrical energy? I haven’t received a satisfactory answer and I do know the answer. Is it spot? For that matter what is spot? LMP? System Average? Day ahead settlement prices? There are lots of relevant questions. How about LSEs will they determine spot for their customers? How will the LSEs compete? How will the munies fit in? Will all PPAs be voided? Will the control areas serve as an energy clearing house and eliminate the bilateral market? Will schedule balancing be eliminated and just see what happens day by day hour by hour?

It looks like even here we have a consensus that our “free dynamic market” must have price caps. Unfortunately ERCOT researchers have determined that $9/kwh will produce less than 10% reserve capacity. If dynamic prices are to incent capacity additions $1/kwh price cap is far short of the mark. Considering this, going forward it will need to be all DSM. It is good thing we did not take this course in 1920 that 40 watts/house would have prevented most of the electrical innovations of today being useable.

Capacity additions are not a problem in Ontario under any pricing scheme for two big reasons:

1) Ontario's provincial government alone manages capacity by doling out construction contracts and permits for ALL new generation that is allowed to connect to the public grid. They use public tax revenue to fund all new capacity additions.

2) The needs for future capacity are relatively easy to predict by the government because overall demand growth follows predictable trends related to population growth and to economic activity growth.

Real-time pricing is generally viewed in Ontario as the spot market prices generators pay, which is monitored and tracked every minute by the Independent Electricity System Operator. In fact they are so good at monitoring the whole system in terms of grid assets and their operating condition, and their future down times,, and managing energy flows throughout the grid, that they can accurately predict far in advance the grid's localized peaking capacity headroom available.

So there is really no need to rely on CPP levels alone to drive capacity additions. By ensuring there is always enough peak capacity margins, CPP levels would never spike to very high levels.

TOU billing I agree doesn't have a significant effect on demand curves but it has some effect on peak levels by lowering them, at least a bit anyway. Exposing consumers to real-time prices would probably have a much greater effect on load shifting, and the adoption of DSM by consumers.

Correction - private interests are allowed to construct their own generation using their own funding for their own use in Ontario. However if they wish to connect their excess capacity to the public grid, Ontario has strict regulations and permits controlling who is allowed to do so. Indeed they encourage private interests to do so particularly with lucrative feed-in tariffs for renewable energy.

Jerry,

Thanks for your comments. I'm trying to understand this better. You said:

"Unfortunately ERCOT researchers have determined that $9/kwh will produce less than 10% reserve capacity."

Problem is, I don't see how this is different now. Consumers pay no huge prices during peak times. What I assume must be done is that the overage of the regulated price is dumped into a pool which gets dipped into during peak times and pays for the high cost extra capacity. (So in a way, the whole grid is Keynesian.... lol).

I still don't see how real-time pricing can't effect the same result. If consumers are protected from high peak prices (say $1 per kwhr as a cap) then they would also have to pay a small surcharge to cover peak surges when needed. (Something like what's done now.) Maybe advanced consumers could even forgo the surcharge and be exposed to "raw" spot pricing. (Not for the faint of heart....)

I'm sort of on the fence about this as unregulated electricity pricing is very problematic (California, Fred Banks firm warnings against it, etc.) but the regulated industry is thus pretty stodgy and slow to react to change. If PHEVs prove cost-effective, it represents a huge risk/opportunity for the grid which is might not currently be flexible enough to accommodate. That would be a shame.

PHEV's are the future elephant in the room for the grid, no doubt about it.

The grid’s flexibility is a major concern for the distribution utilities and the generators. How does a PHEV owner pay for his recharges away from home? Every shopping mall and industrial site that offers charging stations will have to meter and track every PHEV owner who uses them. I doubt our utility companies will want to track and bill the PHEV owners, it would create a billing nightmare for them. So it will be up to the PHEV charging station owners to do the metering and billing.

Utility companies should be worried much more about demand management from the guaranteed demand growth we will see as millions of PHEVs arrive in the coming years. It's either complex demand management or adding capacity. They will probably need to implement both.

To me the question is "How will the grid adapt to the two future disrupters which should be with us very soon?". The disrupters are micro-CHP for residential use, and PHEV/EV's.

If presently available and economical CHP technology such as WhisperGen or Honda were applied in Ontario today, there would be a sudden addition of about 8 GW (33% of existing generation) of new time-flexible distributed generating capacity in heating season, and perhaps 3 GW in the remaining period. The new generation would be gas-fired, near 100% efficient (since the electricity is simply topped from heating fuel which would be burned anyway), located at the loads, need no transmission, and have negligable grid losses.

EV/PHEV charging has the potential to account for 4 GW of load continuously 24 hrs per day in Ontario, or more ideally 8 GW (33% of existing generation) of new load during off-peak hours.

The obvious issue, ESPECIALLY regarding microCHP, is that the existing market system is flatly incapable of dealing properly with the units. They need access to the grid to smooth out their loading profile, a financial incentive system to move their peak output into the time slots when it is needed, and a fair and equitable method of compensating them for their service, with minimal overhead and regulation regarding grid connection as a generator.

IMEUC, or something similar, is the only proposal I've seen with any hope of dealing with this sea change in how the grid is operated. Uses modern communications and computer technology to zero out transaction costs for both suppliers and buyers, and provides the information and the tools needed by the ISO to keep the grid stable. As a bonus, it uses market incentives to achieve the goals.

Independent Market for Every Utility Customer - Preliminary Business Case

Independent Market for Every Utility Customer - Part 2 - Market Operation

"or more ideally 8 GW (33% of existing generation) of new load during off-peak hours."

Wow, I didn't know it can potentially be that big. Ontario's government would be in a crisis if it believed it needed to increase capacity by 33% over a short time frame.

A problem I see is that consumers will want to charge their EVs anytime at will given the charge times are much longer than filling a gasoline tank. They won't like it if they are forced into a time slot by some DSM imposed on them.

The only solution I can see is your IMEUC system Len. At least under IMEUC consumers will feel they have real choices – pay the current price for power if they feel like recharging their EV now, or plan on waiting for a later time slot and pay less through the IMEUC purchasing mechanism. Makes perfect sense to me.

Jim,

The difference is the additional fees for capacity are built into the rate base, customers are charged around $.10/kwh 24/7. TOU rates do the same thing peak power is more expensive everyday so capacity charges are built in the rate.

If dynamic prices are adopted and generators only revenue stream are those prices it is not built into the rates unless an arbitrary adder is included. Prices will be lower almost all the time likely around $.05/kwh and random scarcity induced prices spikes will need to contribute that other $.05 currently being collected. According to the Brattle Group ERCOT study those prices will need to exceed $9/kwh to provide mandated reserves.

Framed another way $100/month (levelized) customer now pays $1200/year. Using dynamic pricing the customer may pay $600/per year for three years then pay $2000 in July for following two years and $50 all other months. The net theoretically could remain similar. However, ratepayers will have to pay this several years while the incentive builds for investors or DSM heavily which will lower prices and eliminate the incentive to add capacity. It is somewhat of viscious cycle.

My conjecture is, Dynamic prices will create the boom and bust business cycle in the electrical energy sector much like the US economy had prior the greater regulation after the 1930s depression.

Dynamic prices have a couple of other obvious flaws. First it incents generators to underperform to improve prices which penalizes rate payers. Secondly, any investment is weather speculative, the next summer may be cooler, to justify investment the high prices have to be consistent and are likely to lead investment by years.

It is more complex than this but I hope this helps.

Jerry has a valid point that a true free market system such as dynamic prices with no adders could result in economic boom and bust periods in the electrical energy sector, just as we see happen historically in the overall economy.

However, I suggest to you Jerry this is precisely what some people WANT to happen, including many of our political leaders in government. They WANT generators to face more competition amongst themselves, thinking this would lower electricity prices preventing the public from being gouged. Sadly we consumers would suffer any consequences of reduced reliability during the bust cycles.

Too, Len’s IMEUC proposals if I understand them correctly have provisions in it to prevent generators from underperforming if they try to push up dynamic prices this way.

Well, IMEUC makes no specific provision for generation which chooses to voluntarily withhold from the market simply in order to raise prices, only the standard anti-monopoly provisions of any such market, eg. no single entity can own more than about 33% of the total. But I put to you Jerry, why don't you also suspect Walmart of raising the price of winter sock by withholding them from the market? Electricity, being impossible to store, is even less vulnerable to this activity than winter socks.

Thanks for the clarification Len. And I agree with your comparison to Wallmart.

BTW if large scale storage became practical and economical in the distant future, the generators would still avoid withholding there output in storage to raise prices because - large scale storage would enable all kinds of additional competition from renewables to become price competitive. Moreover, many utility customers would start investing much more in their own on-site generation to get themselves completely off the grid. So the large grid central generators would be shooting themselves in the foot if they tried any price manipulation.

The Wal-Mart is analogy, as is almost any consumer good, is a flawed analogy it does not fit the application to the point it is almost silly. One can get socks at Target, Dollar General, Family Dollar and various other retailers. If Wal-Mart closed its doors like Zaryes, Woolworth, Grant, Cooks and others have done a replacement will still be available. Another Sam Walton type will rent and old building and fill the niche. If SOCO on the other hand shut down the rest of the interconnect could not support its load during peak times. It would take years and billions of dollars to replace its generation. A pair of socks is not an exact replacement for a seven billion dollar nuclear plants that was ten years in the making.

It does not take 33% to effect the grid any amount exceeding the capacity reserve margin withheld will cause blackouts to some degree during peak times. FYI Wal-Mart does not sell socks in real time or for a loss. It has a pile of socks as does it competitors as a consumer one can buy a lifetime supply of socks on any given day.

As an energy trader, I could have my way with the ratepayers in Lynn’s market. Markets do not operate on ideals or altruism. A real market is Darwinian and driven by greed and self-interest. This is what the rules must contain.

In Lynn’s design, if I were trying to maximize my revenue as a generator, and make no mistake if allowed they will, I would use a hockey bidding strategy. At first, I would bid my minimum at a reasonable level to bring my plant in the market and then rapidly increase my offer price. If graphed this pattern would resemble a hockey stick ergo the name.

Many of my competitors will understand the rationale will doing the same offer pattern since we will all benefit at the ratepayers expense. We will in effect collude (cooperate) to make more profit without ever speaking about it by simply pursuing an obvious rational means of maximizing profits. Hockey stick offerings usually make more money than a flat offer curve.

Through tacit collusion, competition will influence the angle of the handle more so than the pattern itself, without a cap we all offer a few megawatts at several thousand dollars. The traders will watch the weather forecast and any available generation data and like sharks smelling blood in the water will go into a frenzy of taking money from the ratepayers anytime they can.

The stick handle contains a wealth of info for the energy trader. In the absence of rules preventing it, the offers will be scaled to maximize this intelligence. A savvy trader can see the price pattern increase as others take the same approach and over time make the curve ever steeper. At some point it becomes safe to either shorten the flat section of the bid or raise the level of the minimum offers. Left to their own devices the traders will naturally push the prices upward. It is called common interest and greed and been seen already in the US power market.

Lynns assumption the generators will all go broke trying to be the low cost supplier is absurd as is believing individual households are on par with generators. A generator can make money tomorrow but the blackout will still bere today.

Currently the market-derived systems have rules prohibiting Hockey stick bidding and many other practices like wash trades and use algorithms to detect it. It is often attributed to market power when it actually more insidious, those with market power can accomplish price control alone. Those without market power have to follow the pack and those with market power.

If the US were to adopt this design I will be looking for a trading job that offers a bonus based on net book. I should be able to make enough to retire in style in the short window before the market is reregulated.

Len,

I read through your market design it is much better than I anticipated based on your comments and short excerpts. You have not did it justice. You had failed to mention long-term contracts for base load generation a major stabilizer in any design and a secondary means to insure the right mix of generation capacity.

My interpretation is your design has a very traditional base load block at a premium price which of course recovers the capacity cost of these more capital expensive technologies. This block has excellent price certainty and allows planned capacity addition by your "market manager." The less firm blocks appear to be a discount to the firm blocks which may or may not be the case based on the time frame. It offers several rate schedules so customers can pay more for certain generation if they desire it a common practice already. Overall, it looks like re-regulation. I expected it to be a little more radical, I am missing the magic or the advantage over TOU rates other than it adds capacity type purchase options.

I do appreciate yours and the comments of other it has been fun, Thanks Jerry

"If SOCO on the other hand shut down the rest of the interconnect could not support its load during peak times." -- In IMEUC, the grid does not shut down simply for the loss of any part of generation, because in either mode of shutdown (either a) with >24 hrs advance warning or b) without advance warning) the market is using the "advance purchase of options to consume" strategy, so in case a) no options to consume will have been sold (and customers will have needed to restrict their consumption to the available generation) or in case b) the Market Manager's financial penalties for failure to deliver on options sold will be far more crippling than any possible future gains in the market.

Jerry, I'm not convinced that in IMEUC the Market Manager will need to be much involved in baseload generation, as you seem to think. I tend to think that most needed increases in baseload will need such support in order to get built (due to the above discussed problem of "entire output must be online as soon as 1 kw is required", but otherwise I see no reason that private investors cannot own, operate baseload (or peaking for that matter) simply operating under IMEUC market rules.

" I am missing the magic or the advantage over TOU rates" -- Agreed, theoretically a TOU structure which would be too complex to explain to customers could accomplish nearly the same outcome, but look at the complexities. The regulators would need to set different prices for each hour of the day and each month of the year at least. Some entity would need to get involved in implementing a dramatic Demand Management system of prices and of proving that customers actually do reduce demand when they claim payments for doing so.

The system would need 10 times the regulatory staff and utility lawyers, would cost al lot MORE than present regulation to operate, and wouldn't deliver as much of the benefits as IMEUC.

IMEUC is radical for implementing customer-controlled and programmable if desired, computer intelligence to eliminate all the above system overheads and transaction costs.

A TOU rate structure also could not deal with weather variations, eg. an unusually hot streak increasing demand (IMEUC prices) or cold spell reducing demand (IMEUC prices).

Good debate Len and Jerry. I'm really on the fence on this. But some dynamism is needed on the part of the utilities if they are to shoulder more of the energy burden from transportation (which they should do). I don't believe the IEA that says the U.S. is flush with oil now.

The easiest way for the U.S. to lower it's oil consumption is for the greater electrification of passenger vehicles. But how is this done? How are ROAD TAXES acquired? We need a grid 2.0.

Also, nice that Jerry didn't balk too much at IMEUC. What I like about it is everyone (in theory) is a consumer AND a producer, then the natural tendency would be to minimize use and maximize production, which sounds good to me.

Glad to see Len's IMEUC proposals viewed favourably by Jerry et al. The question is how to get it going in practice.

I suggest it needs government driven mandates to get it going. First by overhauling regulation, and then most importantly by forcing distribution utility companies to give up their ownership of their billing meters, or otherwise allow customers to pay for upgrades to their meters to enable IMEUC technology at will.

Lastly I think our governments need to give utility companies and consumers help in adopting IMEUC technology, like financing for implementing the initial hardware and in educating consumers how to use and benefit from it. I'm not a big fan of government interventionism to foster new stuff on a wide scale like this especially at taxpayers’ expense, but left unto the regulators and utility companies themselves it will never happen.

As soon as consumers who try out an IMEUC system realize they are automating their own shopping skills to buy electricity at the best deals they can find, effectively to minimize their energy bills, the adoption of IMEUC would snowball with much less government interventionism over time just because it becomes fashionable. i.e. if my next door neighbour gets it and tells everyone on the block how neat and great it is, and that it is saving money on his energy bill continuously, it wouldn’t be very long before half the neighbours on the block adopted it.

It looks like VersaPower of Littleton, Colorado and Calgary, Alberta may be the first to market with a working Solid Oxide Fuel Cell system designed as a residential and small commercial Natural Gas fueled distributed CHP system. But they won't be able to crack the market as they should without a system like IMEUC, which provides automatically for every generating entity to participate equally in the electricity market. SOFC stacks, at least to now, have been a "start up and run" proposition, since their seals cannot withstand a large number of heating / cooling (startup / shutdown) cycles. Otherwise, the 70% efficiency is very attractive, both to individual customers and to society.

There are many effcetive market designs, some better than others. As stated several times, I am convinced that none are optimum. The simplest way to me appears to simply charge for capacity like is done for industrial and large commercial customers. Len concept has a lot granularity, which I also support. Each customers buying the type of capacity they want is very simple and is actually merely an accounting function. Each capacity type from solar to nuclear has its own cost. The folks that want a lot of nuke in their personal generation mix would buy expensive capacity with little fuel cost. A combined cycle natural Gas customer would pay less for capacity, but more for fuel. But again all this would simply be accounting functions. Any mix within the boundaries of system including DSM could all be done through accounting and would provide incentives based on the customer choice.

What I oppose it trying to do this in real time and putting the customers at risk for real time price spikes since they have little, if any, control of many of the factors that create these excursions. I keep thinking if I say this enough someone will hear it, all the customers controls is their own demand (Capacity Usage) and the most cleanest most direct method and as far as I can tell simplest method is to charge them for the product they are in fact using rather than any the complex indirect systems that strong and fruitful minds have came up with to make this tie.