Wind's Near-Zero Cost of Generation Impacting Wholesale Electricity Markets

May 8, 2018

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Close-up of an electrical transmission tower.
A recent Argonne National Laboratory journal article studies U.S. capacity markets and finds that electricity market design must continue to evolve to achieve cost-effective policies for resource adequacy. Photo by Al Puente, NREL 01308

Wind generation can create exciting opportunities and interesting challenges when integrating large quantities of energy into the electric grid. Wind's near-zero marginal cost of generation in particular is noticeably impacting competitive wholesale electricity markets in the United States and around the world. In a recent article published in The Electricity Journal, researchers from Argonne National Laboratory (ANL) reviewed a range of market mechanisms that are currently being used to ensure long-term reliability in electricity systems with increasing quantities of wind generation.

"The emergence of wind, solar, storage, and distributed resources in modern power systems has made it increasingly important for markets to adequately compensate the diverse set of attributes that provide value to the system," said ANL Researcher Todd Levin, one of the co-authors of the study. To quantify the cost and reliability impacts of these different market designs, the ANL team is now conducting original modeling studies based in part on the findings from this study.

Most wind generation costs are incurred either during construction or ongoing maintenance, so once a unit is in operation, there is essentially no cost associated with producing each megawatt-hour of electricity. As a result, increasing wind penetrations tend to drive down wholesale electricity prices in competitive markets, prices that thermal (coal, nuclear, and natural gas) power plants traditionally rely on to provide the bulk of their revenues. This effect can be caused by other technologies as well. In fact, the 2017 DOE Staff Report to the Secretary on Electricity Markets and Reliability found that low natural gas prices have been the primary contributor to wholesale price reductions in recent years. Thanks to its low marginal cost, wind generation also tends to displace generation from thermal plants, reducing their output levels and associated revenues from electricity sales. As these effects become more pronounced, it is likely that they will increasingly affect decisions by investors and owners to construct new or retire existing thermal plants.

While market signals may prompt unprofitable resources to exit the market, excessive retirements may cause supply shortages during periods when demand is high or wind generation is low, leading to deterioration of system reliability. As a result, new market design mechanisms are continually being explored to ensure that individual generation units earn adequate compensation for their contribution to system stability and reliability, which will ultimately help enable higher levels of wind generation.

A capacity market is one such mechanism that has been implemented in four U.S. electricity markets to ensure that sufficient generation capacity is available to meet future demand. Capacity markets provide generators with an additional revenue stream for being available to reliably generate electricity during periods of peak demand, regardless of whether they are called upon to generate. The ANL research highlights the differences in market rules across each of the four U.S. centralized capacity markets, how these market rules are currently supporting long-term system reliability, and how the rules may need to evolve in the future as wind (and solar) penetrations continue to increase. Specifically, this study reviews differences in how each market determines its need for capacity and suggests that the resulting capacity demand curves should be benchmarked more closely to the incremental reliability value of additional capacity.

The study also analyzes performance incentives in the four existing capacity markets and identifies substantial differences in how capacity credits for wind power and energy storage are determined. Finally, a review of outcomes from capacity market auctions reveals a large variability in capacity prices over time and between the different markets.

"Our review indicates that current capacity markets are somewhat divergent and not well understood," said co-author and ANL Researcher Audun Botterud. "They need to evolve further to ensure that capacity adequacy is achieved in a cost-effective manner, particularly in light of the changing resource mix."