By Gerard Wynn
LONDON, July 10 Keeping ageing power plants in
reserve may be a better way for European countries to deal with
rising renewable power than more costly and elaborate energy
Many European Union countries are investing in new power
plants to replace ageing assets, to meet EU pollution limits
and, in the case of Belgium and Germany, to accommodate a
The trouble is that this increasingly urgent new investment
coincides with an upheaval in European electricity markets as a
result of ambitious renewable power targets for 2020 and an
A shift to more wind and solar power requires flexible,
conventional back-up capacity. On a still, cold, winter evening,
for example, gas would have a faster response time to fill the
gap than coal and nuclear.
Most European governments plan to intervene in energy
markets - or already have - to ensure that new back-up capacity
But that policy risks actually creating power shortages, if
electric utilities postpone investment plans in the hope of
getting a subsidy.
Renewable power, with its low marginal cost, has priority
access to the grid. As its generation capacity increases, the
role of gas-fired plants will shift more to providing flexible
back-up power, which means their operating hours will tend to
diminish and their profitability shrink.
They have already been suffering recently, partly as a
result of the increase in renewables and also because of weak
power demand and high gas prices.
The margin in Germany from gas-fired electricity generation,
or so-called spark spread, has been negative for the past year,
while in Britain, with its higher power prices, the margin has
been only narrowly positive.
Chart on clean spark spreads:
Policymakers are worried that utilities may become
increasingly reluctant to build gas plants as more renewable
power connects to the grid and the profitability of gas-fired
For gas plants to get a sufficient return on investment at
times of peak demand when renewables are unavailable, wholesale
power prices would have to be allowed to rise to extremely high
Some generators fear that policymakers would then step in
and cap prices, creating what is termed a "missing money"
There are two basic approaches to solving the problem -
using energy market incentives through a so-called capacity
market or setting aside a strategic reserve.
Under a capacity market, the regulator would identify any
shortfall in a country's back-up capacity three to four years
ahead and arrange delivery through the existing energy market.
It could oblige electricity suppliers to pay for the extra
capacity, buy the capacity itself, or invite bids from
generators to make it available through an auctioning approach.
The extra capacity would continue to participate in energy
markets, rather than being reserved just for emergencies.
Spain, Portugal, Greece and Ireland already have some kind
of capacity market, while France, Britain and Italy are working
on plans for one.
A strategic reserve approach is much simpler.
The network operator, for example, could buy generating
capacity, possibly including older power plants nearing
retirement, and set it aside for emergency use only.
Finland and Sweden have strategic reserves for deficits in
spot electricity markets.
Germany allows grid operators to pay generators not to close
older capacity in order to provide a reserve in winter. It has
also discussed the possibility of moving to capacity markets in
One advantage of a bidding approach to capacity markets is
that these auctions could be technology neutral and in theory
drive down costs.
But capacity markets are elaborate. Complexities include
deciding on eligibility, devising an auctioning platform or
supplier obligation, and establishing market rules including
penalties for non-compliance.
In the three years that Britain has been developing its
electricity market reform, including a capacity market, its
power supply outlook has deteriorated, watchdog Ofgem said two
That is partly because of the imminent withdrawal of 2,000
megawatts of ageing gas-fired capacity, which would appear a
perfect target for a strategic reserve.
A strategic reserve is simpler, quicker to implement and
would be separate to energy markets and so distort them less.
Even Britain's grid operator, National Grid, has
questioned the need for a capacity market.
"Capacity payments, even if made via an auction which could
help to find the best 'market' price, could prove unnecessarily
expensive to consumers if inappropriately designed," it said in
a memo to an "Energy and Climate Change" panel of lawmakers for
a report published in 2011.
"The mechanisms currently employed by National Grid as
system operator to procure balancing services could be extended
or amended to provide additional back-up capacity."
Britain's Department of Energy and Climate Change (DECC)
itself said a strategic reserve would be cheaper, in an
assessment of impacts published last November.
"A strategic reserve has the advantages of being a small
intervention in the market and of having a smaller impact on
bills," DECC said.
"Although the modelled (cost) impact was more positive than
a capacity market, the strategic reserve option was rejected on
qualitative grounds. It does not address the 'missing money'
problem. The latter problem in particular is seen as an enduring
problem with energy-only markets and which will become more
significant as the power sector decarbonises and as flexible
capacity expects to run less frequently."
Given that Britain currently has one of the lowest rates of
renewable power in the European Union, it could be argued that
its plans for a capacity market are premature.
On balance, a strategic reserve is preferable.
And there are many ways in which countries can increase the
efficiency of existing assets to complement such an approach.
Such measures include increasing cross-border
interconnections to better link supply surpluses and deficits
and using smart meters to improve demand response, when energy
consumers have the option of lower tariffs during off-peak
In addition, wind and solar farms could be forced to provide
more balancing services - meaning they are taken off the grid
when there is excess power supply - from which they have so far
been excused under wider measures to support low carbon power.