A U.K. capacity market auction this month served up a lesson for market planners, after delivering prices so low as to discourage clean energy development.
The T-4 auction, which aimed to secure power capacity for 2021 and 2022, smashed pricing expectations with a clearing price of GBP £8.40 ($11.73) per kilowatt a year, down almost 63 percent from the £22.50 ($31.44 at current rates) achieved in a similar contest last year.
The result was hailed as a victory for U.K. bill payers.
"This capacity market auction clearing low once again proves that competition is successful at providing security of supply at the lowest cost to consumers," said Lawrence Slade, chief executive of industry body Energy UK, in a press note.
“[These auctions] have supported innovative, emerging technologies whilst ensuring we get the best value from existing assets," he said.
Other observers, though, questioned whether such low prices would support innovative, emerging technologies in the future.
While around 7 gigawatts of coal-fired generation failed to secure contracts in the T-4 contest, according to Platts, there was not a great deal of new capacity either. More than 43 gigawatts, or 86 percent, of the 50.4 gigawatts awarded in the auction went to existing generation assets.
A further 2 gigawatts or so of capacity was awarded to newly built interconnectors ElecLink, IFA2 and Nemo Link, which were allowed to participate in the auction for the first time this year.
Existing interconnectors accounted for a further 2.4 gigawatts and demand response added another 1.2 gigawatts. Only 762 megawatts of new generation got contracts in the auction.
By generation type, the auction was dominated by combined-cycle gas turbines, which carried off more than 45 percent of the capacity on offer. Nuclear secured a further 15.7 percent, and combined heat and power took 9.2 percent.
Energy storage secured about 5.3 percent of the available capacity, just under 2.7 gigawatts, across 34 projects, most of which already had existing contracts. Almost a third of the capacity that entered the auction failed to secure a contract.
Only 650 megawatts of the winning capacity secured long-term contracts, for 15 years of supply. The remaining suppliers got one-year contracts, meaning they will have to bid again in future auctions.
The eye-poppingly low clearing price, short duration of contracts and level of capacity exiting the auction all point to the fact that T-4 was very much a buyer’s market.
Aris Karcanias, senior managing director and co-lead of FTI Consulting’s Global Clean Energy Practice in London, England, said the U.K. market has seen a surge of investment in small-scale generation, battery projects and new interconnectors, leading to an oversupply of capacity.
“This is an important trend that will likely last until the coal plants start to retire around 2021 and beyond,” he said.
Until then, he said, very low clearing prices are likely to be the norm, particularly as further interconnection projects and demand response programs are expected to come online. All of this brings into question the economic viability of developing new flexible capacity in the U.K.
And the U.K. is not alone. “The French power market is similarly oversupplied and will likely tighten [only] when coal plants and nuclear plants retire from 2022 and beyond,” Karcanias said.
French power market reference pricing is around €10 ($12) per kilowatt, roughly equivalent to the T-4 clearing price.
“Such a low price is at least good news for the energy bill payers in the short term, but does raise a number of important questions," said Karcanias. "The low T-4 auction price suggests we have a flexibility problem, not necessarily a capacity problem.”
Forecasting demand in European grids such as those of the U.K. and France is becoming increasingly challenging, he said.
This means the older and less flexible traditional generation sources currently being lined up to provide power might not be well suited to function in tomorrow’s markets.
“I'm of the view that the capacity market instrument needs to evolve with market complexity and begin to address and truly incentivize flexibility,” said Karcanias.
“For me, it's clear that when prices fall from £22.50 to £8.40 in a year, the mechanism is either working extremely well in favor of the consumer, or indeed there is a system need that is now not being addressed," he said.