The Convergence of Market Designs for Adequate Generating Capacity With Special attention to the CAISO’s Resource Adequacy Problem
The Convergence of Market Designs for Adequate Generating Capacity With Special attention to the CAISO’s Resource Adequacy Problem
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Date
2006-04
Authors
Cramton, Peter
Stoft, Steven
Advisor
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Abstract
This paper compares market designs intended to solve the resource adequacy (RA)
problem, and finds that, in spite of rivalrous claims, the most advanced designs have
nearly converged. The original dichotomy between approaches based on long-term
energy contracts and those based on short-term capacity markets spawned two design
tracks. Long-term energy contracts led to call-option obligations which provide marketpower
control and the ability to strengthen performance incentives, but this approach fails
to replace the missing money at the root of the adequacy problem. Hogan’s (2005)
energy-only market fills this gap.
On the other track, the short-term capacity markets (ICAP) spawned long-term
capacity market designs. In 2004, ISO New England proposed a short-term market with
hedged performance incentives essentially based on high spot prices. In 2005, we
developed for New England a forward capacity market, with load obligated to purchase a
target level of capacity covered by an energy call option.
The two tracks have now converged on two conclusions: (1) High real-time energy
prices should provide performance incentives. (2) High energy prices should be hedged
with call options. We argue that two more conclusions are needed: (3) Capacity targets
rather than high and volatile spot prices should guide investment, and (4) Long-term
physically based options should be purchased in a forward market for capacity. The result
will be that adequacy is maintained, performance incentives are restored, market power
and risks are reduced from present levels, and prices are hedged down to a level below
the present price cap.
Notes
A White Paper for the Electricity Oversight Board.