The Conundrum

There are16GW of onshore wind applications in Scotland and 8GW of offshore wind applications in England. There is no way of knowing how much capacity will be built as a result of these applications. There is also no way of knowing how much conventional fossil fuel generation will be retired, either as a result or for some other reason. However, we do know that the main load centre is in the southeast of England and that is not likely to change. We also know that it is very difficult to get planning permission to build transmission in areas of outstanding natural beauty and it will certainly be difficult to get planning permission for wind generators in a number of on-shore locations.

The Challenge

The key challenges for connection and integration of wind generation in Scotland into the GB electricity market (BETTA) are:

  • How to make timely, short-term connections of renewables on to the system
  • How to create a sustainable, longer-term arrangement that results in a cost- reflective environment for new, non-conventional generating technologies, including wind.

OFGEM Review

OFGEM is conducting a review of the transmission access arrangements with a view to addressing the challenges that wind generation will pose for transmission access. It is looking at a number of options and has said publicly that it is willing to look at other arrangements including international examples of arrangements in electricity markets that have been successful in achieving efficient transmission investment.

Recipes for Success

There will be many different ideas as to the optimal regime but we are not operating on a green field site.

Locational Marginal Pricing

After years of debate, the economists that specialise in transmission seem to agree that locational marginal pricing can be used as an efficient mechanism to allocate limited transfer capabilities over constrained interfaces to those market participants that value the ability to transfer power across the interface most highly.

Recent Experience

There is interesting experience from around the world of different recipes for efficient transmission expansion and congestion pricing, a lot of it very positive. We now know that market forces can be used to capture the value of transmission and that full locational marginal pricing (LMP) and markets in financial transmission rights (FTRs) are not as scary or as expensive to implement as we once thought.

The Economists, the Engineers and the Lawyers

Both engineers and economists worry about "connect and manage" models articulated by OFGEM in which much of the cost of accommodating new generation on the system (which could happen prior to the completion of the necessary remote reinforcements to allow for the additional power flows) is socialised.

Bringing in the lawyers to write everything up in codes and agreements only at the end of the day may be what happens but it would be a pity.

The electricity sector is no longer one in which the disciplines of economics, engineering and law run in separate channels. When they work together they can achieve a tapestry of much firmer fabric that will give society are more sustainable solution to one of its key challenges, namely that of climate change.

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Full Article

The Conundrum

There are a staggering 16GW of onshore wind applications in Scotland and 8GW of offshore wind applications in England. There is no way of knowing how much capacity will be built as a result of these applications. There is also no way of knowing how much conventional fossil fuel generation will be retired, either as a result or for some other reason. However, we do know that the main load centre is in the southeast of England and that is not likely to change. We also know that it is very difficult to get planning permission to build transmission in areas of outstanding natural beauty and it will certainly be difficult to get planning permission for wind generators in a number of on-shore locations.

The Challenge

The challenge for connection and integration of wind generation in Scotland into the GB electricity market (BETTA) will depend upon the level and materiality of renewables and the extent to which they disrupt a whole host of arrangements designed for the conventional power system which is there to serve peak demand. The key challenges are:

  • How to make timely, short-term connections of renewables on to the system
  • How to create a sustainable, longer-term arrangement that results in a cost- reflective environment for new, non-conventional generating technologies, including wind.


Integration of Wind Generation

The current arrangements were developed on the basis that generation would be operating at maximum output during times of system peak. It was therefore reasonable to design transmission on the basis that during peak demand conditions all generation will require full access to the network.

Wind, however, is dependent on the weather conditions to generate and correlation between peak demand conditions and output are very weak. Output coming from wind generation is variable and intermittent and forecasting it only becomes accurate close to real-time. The differences in operating characteristics, time of use of the system and duration have a fundamental impact on the way in which wind generation uses the system and drives investment in transmission. The current transmission investment access and pricing arrangements and the way in which transmission is regulated do not reflect the inherent characteristics of the technology.

OFGEM Review

In June of this year, OFGEM announced a review of the transmission access arrangements with a view to addressing the challenges that wind generation will pose for transmission access. In its Call for Evidence, it outlined a number of options and has said publicly that it is willing to look at other arrangements including international examples of arrangements in electricity markets that have been successful in achieving efficient transmission investment.

Existing Arrangements

At present, there is an "invest then connect" philosophy that would mean that the new wind generation could not be connected until the necessary system reinforcements had been made. Generators wishing to use the transmission system have to acquire Transmission Entry Capacity (TEC) and pay the associated Transmission Network Use of System (TNUoS) charges and Balancing Service Use of System (BNUoS) charges. The concept of Transmission Entry Capacity is attractive in principle and has been successful in achieving a great deal of transmission investment. It is a static measure that allocates a fixed volume of capacity throughout its duration. It does not take into account the features of wind generation that makes intermittent use of the system. It is clear that different non-conventional generation technologies may drive different levels of investment in the main transmission network through variation in output over time that is not correlated to either demand or generation from other sources. The TEC system is relatively inflexible and is not capable of discriminating between generating technologies. Moreover, it does not allow for the sharing of scarce transmission capacity when the system is constrained in that it does not provide a method of valuing transmission and allocating it to those who value it most.

Limits on Short Term Trades

A further problem with TEC, is that generation is not allowed to offer capacity to the system above the limit of the TEC that it holds. Generators are likely to be conservative in the amount of TEC that they are prepared to purchase in order to save cost, but this will make it difficult for them to offer low-cost generation into the system for short term trades. Although wind generation capacity can be predicted to an extent, there will be a limit to the longer term trading that a wind generator can accomplish and the ability to make the most of windy days in short-term trades will be very attractive.

Most new wind generation projects require a guarantee of firm access (i.e. TEC) to secure investment backing. However, as there is no alternative to TEC and access is a pre-requisite for financial support. Long-term fixed access is the only option in the new wind projects. The development of alternatives to TEC, e.g. products that offer firm access over a range of timescales, could provide more choice to developers and investors whilst still giving an assurance of access. There are clearly a number of more flexible short-term arrangements or products that could be grafted on to the existing system but they should not be done in isolation

Recipes for Success

The recipe for the successful design or more of an optimal regime for efficient transmission expansion is by no means simple and involves a number of different ingredients, as I discovered when I wrote a book that proved to be longer than I expected. Because that were so many different ways of doing the same or similar things, I found myself thinking in terms of "flavours" and called the book Global Transmission Expansion: Recipes for Success (it was published by PenWell Inc.) OFGEM has embarked challenging exercise to design a unique recipe based on a market design that it will not want to change radically and a regulatory regime for transmission that has achieved both operating efficiency and investment very successfully. It will need to identify what is broken and will need fixing to accommodate non-conventional generation and then articulate the optimal regime for efficient transmission investment to accommodate non-conventional generation, taking into account the many uncertainties that I mentioned at the beginning. Perhaps the most challenging part of the exercise will be to take the first steps on the way to that optimal system at a time when there is probably not much appetite for radical change to the features of the transmission access and pricing regime or of the market design that may well get in the way on the efficient sharing of transmission capacity, using market forces as much as possible.

There will be many different ideas as to the optimal regime but we are not operating on a green field site. The engineers will want a system that gives the system operator the ability to comply with security standards so that they can maintain system security and security of supply. They will also want one that encourages investment. The economists are likely to favour a regime that involves locational marginal pricing, the most elegant form of which brings together energy and transmission markets. BETTA keeps them separate. It would be quite a radical step to choose a system that redesigns both these markets in Great Britain, but there should be steps that move in the direction of locational marginal pricing.

Locational Marginal Pricing

After years of debate over the finer points of detail and the different flavours, the economists that specialise in transmission seem to agree that locational marginal pricing can be used as a mechanism to allocate limited transfer capabilities over constrained interfaces to those market participants that value the ability to transfer power across the interface most highly. It can be regarded as a scheme involving the payment of a "bottleneck fee" for the use of the scarce transmission. The fee is equal to the energy price difference between two ends of the transaction (nodes). This is based on the principle that the difference in the price of energy between the two nodes reflects the cost of transmission. This ensures that the system is used efficiently, because prices increase as the demand for electricity transmission increases (as in most markets). The difference in locational spot prices defines the opportunity cost or value of short-term transmission usage.

This mechanism needs to be accompanied by a system of financial property rights that could, among other things, provide hedges against congestion costs. The reason for this is that where locational marginal pricing is in place, a power purchase agreement will not be sufficient to provide a complete long-term price hedge (to minimise revenue volatility). Transmission congestion can produce significant movements in prices that are different depending on location. If sellers and buyers are located far from each other, transmission congestion might confront the buyer with a high locational price and leave the seller with a low locational price. The sellers need something more to provide the natural back-to-back hedge on fluctuations of the short-run marginal price. In the presence of congestion, revenues collected from buyers will substantially exceed the payments that need to be made to sellers. The difference is the congestion rent that arises because of constraints on the system and is paid, not to the system operator, but to the holders of the financial transmission rights, providing a price hedge against locational congestion differentials.

Recent Experience

There is interesting experience from around the world of different recipes for efficient transmission expansion and congestion pricing, a lot of it very positive. We now know that market forces can be used to capture the value of transmission and that full locational marginal pricing (LMP) and markets in financial transmission rights (FTRs) are not as scary or as expensive to implement as we once thought. Indeed, the software to implement a full LMP/FTR system is available virtually off-the-shelf and is capable of calculating the huge numbers of prices every few minutes. Engineers used to worry that LMP did not create incentives to invest but there are both arguments and increasing experience to suggest that it does. It is interesting to note that in Texas and California where there was outright hostility towards locational marginal pricing, both the regulators and the industry participants themselves have decided to adopt it.

The Economists, the Engineers and the Lawyers

The transmission economists and engineers of the world are now debating how, in future, transmission network capacity can be most efficiently shared amongst various generating technologies. It would not be economically efficient to size transmission systems to accommodate the maximum output of non-conventional generation at times of system peak. Transmission networks will always, occasionally, be constrained. Users competing for shared, scarce capacity in BETTA will need the opportunity to exercise choice between exposure to the short-term cost of access (during the periods of constrained operation) versus purchasing a fixed-price, firm-access product and paying use of system charges. To allow this choice using market forces, the argument in favour of some form of spot market for access in order to reveal the value of transmission in real-time does seem [compelling][could you change to 'strong' – just in case NG really do not want spot pricing – and this article will be quoted at them if that's the case!]. Within the present charging framework, this is difficult to achieve as it only considers long-term access or no access at all.

Both engineers and economists worry about "connect and manage" models articulated by OFGEM in which much of the cost of accommodating new generation on the system (which could happen prior to the completion of the necessary remote reinforcements to allow for the additional power flows) is socialised. They do so from a security and reliability standpoint as well as a cost-causation perspective. Socialisation of costs give no cost signals, locational or otherwise and results in a levy across all industry participants that ultimately would be borne by the consumers.

The lawyers worry that a regime that does not work for everyone will wind up being difficult to document and result in disputes. The "how to do it" skills that they bring will be just as important as the "what to do" skills. By now they have seen many different ways of writing transmission and market rules around the world and often input at the design stage.

Bringing in the lawyers to write everything up in codes and agreements only at the end of the day may be what happens but it would be a pity. The electricity sector is no longer one in which the disciplines of economics, engineering and law run in separate channels. When they work together they can achieve a tapestry of much firmer fabric that will give society are more sustainable solution to one of its key challenges, namely that of climate change.

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The original publication date for this article was 09/01/2008.