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Competitive Power Markets

a research report on Competitive Power Markets

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Competitive Power Markets

  1. 1. Knowledge Series Competitive Power Markets Growth Imperatives and Critical Success Factors
  2. 2. Table of Contents OVERVIEW .................................................................................................................................. 1 TU UT POWER EXCHANGE MECHANISM ........................................................................................... 2 TU UT POWER EXCHANGE BENEFITS ................................................................................................. 2 TU UT POWER EXCHANGES IN INDIA ................................................................................................ 2 TU UT SHORT TERM TRANSACTION OF ELECTRICITY IN INDIA .................................................. 2 TU UT ISSUES CONFRONTING THE DEVELOPMENT OF POWER MARKETS ................................ 3 TU UT CONCLUSION ............................................................................................................................. 6 TU UT ABOUT INFRALINEENERGY ...................................................................................................... 7 TU UT August 2009 Page 2 of 8 Competitive Power Markets: Growth Imperatives and Critical Success Factors
  3. 3. Overview As the Indian economy continues to surge ahead, its suggested the development of power markets, power sector is also expanding concurrently to governed by appropriate regulations. It created a support the growth rate. The demand for power is liberal and transparent framework for power growing exponentially and the scope of growth in this development. Power trading through exchange is at a sector is immense. India's total installed capacity of nascent stage and the volumes of exchange are small. electricity generation has expanded from 105,045.96 The power market in India comprises mainly of long- MW at the end of 2001–02 to 150323.41MW at the term power purchase agreements (PPAs) with a small end of June 2009. The government has targeted a proportion of short-term (up to 1 year) bilateral capacity addition of 78577MW in the 11 th Plan. P P contracts. Prior to 2003 the market was characterized by vertical Power is mostly traded between power surplus integration with the state electricity boards forming a packets in Eastern Region (ER) and Northeastern monopoly and excessive price regulation. Each state’s Region (NER) on one-hand and deficit areas in electricity board was responsible for generation, Northern Region (NR) and Western Region (WR) transmission and distribution within its own on the other. jurisdiction. But the SEBs turned loss making and inefficient. In the wake of the growing power needs The Electricity Act 2003 paved the way for new and the continuous surplus-shortage situations faced trends like Open Access, power trading, etc. This has in various parts of the country, the government helped in streamlining power flow from surplus introduced Electricity Act 2003 for restructuring of regions to deficit regions and thus attempts to strike a the power sector and to introduce competition and balance. Power Exchanges envisioned to bridge the increase efficiency. It delicensed generation, demand and supply gap by introducing a common recognized trading as a separate licensed activity and bidding platform that brings together various power introduced open access in T&D. sector participants to buy and sell electricity through an auction based system. EVOLUTION OF THE POWER MARKET The demand for power has continually outstripped India being a predominantly agrarian economy, some supply. India currently faces an energy deficit of 9- states experience seasonal surpluses of power while 10%. The power demand, which varies from region some face deficit. Thus inter-state transmission of to region, creates an ideal situation for the trading of electricity became the need of the hour. RLDCs were power, thus enabling better capacity utilization. formed to facilitate such transfer of electricity. The Following conditions are necessary for competition Central Government set up Central Generating Stations to assist the state governments in • Multi buyer and seller model overcoming shortages, and also promoted private • Responsiveness of demand and supply to participation. However, the contracts were mostly price long term for duration of twenty five years or more. • Equal access to essential facilities like To meet short-term demand the states resorted to transmission and distribution trading of power through bilateral trading agreements • Efficient marketplaces on the basis of mutually negotiated prices. States resorted to energy banking where in a surplus state CERC issued the Guidelines for setting up and would supply energy to a deficit state and in deficit operation of the power exchange in February 2007. situation, it would claim back that amount of energy The general approach of CERC was to allow .But at times, when both states faced deficit and operational freedom to the exchange within an there was no excess electricity to return to the state overall regulatory framework and deliberately kept a that banked electricity, lead to complications. distance from its governance. The participation in the power exchanges was voluntary and no existing The Electricity Act, 2003, an astutely drafted Power Purchase Agreements and bilateral contracts legislation, ushered in and formalized the concept of were to be disturbed. Issues like allocation of trading of electricity within the country and also Transmission Capacity for power exchange and August 2009 Page 1 of 8 Competitive Power Markets: Growth Imperatives and Critical Success Factors
  4. 4. application of Open Access charges & trading margin and information to plan their bidding strategy. It are to be decided by CERC. Performs activities of schedule coordination, settlement handling and physical delivery, under a Power exchanges emerged as a market based single roof and further assists in creating deep and institution for providing price-discovery and price liquid market on hourly basis for any size of bid. risk management to the generators, distribution They also eliminate credit risk by performing the role licensees, traders and consumers. of a counter party to all trade. POWER EXCHANGE MECHANISM POWER EXCHANGES IN INDIA Currently CERC permits the purchase and sale of Particulars IEX PXIL National electricity on a day ahead market basis through Power exchanges. The Indian markets are based on the Exchange auction trade mechanism where bids for the purchase (proposed) and sale of contracts of one hour duration that cover Date of August 31, September July 3, 2009 all 24 hours for the next day are collected by between approval by 2007 30, 2008 CERC 10am and 12am. Date of June 27, October Yet to take off commencement 2008 22, 2008 The model adopted by the power exchanges in India of operations is based on that of the Nordpool market. The Indian Promoters Financial National NTPC, power market is divided into 10 separate bid areas Technologi Stock NHPC, PFC, which have different prices incase the unconstrained es (India) Exchange and Tata electricity flow between biding areas exceeds the Ltd, PTC of India Consultancy available transfer capacity. India Ltd (NSE) Services Financial & National Services Commodit Flow Chart of Power Exchange Mechanism Limited ies & (PFS) Derivatives Exchange Ltd (NCDEX). Share in volume 93% 7% - traded A new trend that is emerging is that the existing generation companies have reduced their long term power sale commitments from 90-100% to 75-80% and sell the remaining 20-25% through the open market which provides them better returns thus improving their financial position. Power exchanges act as a catalyst for efficient transfer of power at fair and transparent prices using open access. In FY2006- 07, short term market size was worth Rs.7200 cr and it is expected to increase about Rs. 40000 cr in coming five years. POWER EXCHANGE BENEFITS SHORT TERM TRANSACTION OF ELECTRICITY IN INDIA The power exchanges provide a fair and transparent According to the Monthly monitoring Report by mechanism for efficient price discovery of the power CERC on Short-Term Transactions of Electricity for traded. The trading system is based on an auction the month of April 2009, total electricity generation mechanism and is divided into multiple sessions excluding generation from renewable and captive meant for sell, buy, trade matching and price power plants in India was 62486.24 MUs .Of the revision, which provides bidders with sufficient time total electricity generation, 4432.07 MUs (7.09%) August 2009 Page 2 of 8 Competitive Power Markets: Growth Imperatives and Critical Success Factors
  5. 5. transacted through short term i.e. 2210.34 MUs (3.54%) through Bilateral (through traders and direct between distribution companies), followed by 1815.66 MUs (2.91%) through Unscheduled Interchange (UI) and 406.07 MUs (0.65%) through Power Exchanges (IEX and PXIL). Of the total short- term transactions, Bilateral constitute 49.87% (40.50% through traders and 9.38% direct between distribution companies) followed by 40.97% through UI and 9.16% through Power Exchanges. There are 42 trading licensees as on April 30, 2009, of which 14 licensees undertook trading during April 2009. Top 5 trading licenses had a share of 88.80% in the total volume traded by all the licensees. Figure 1: Share of various kind of electricity trading as a percentage of total electricity generated and percentage of short –term electricity trade in The volume of electricity transacted through IEX and April’09 PXIL was 376.72 MUs and 29.35 MUs respectively. The volume of total Buy bids and Sale bids was 821.30 MUs and 485.48 MUs respectively in IEX ISSUES CONFRONTING THE DEVELOPMENT and 52.18 MUs and 59.30 MUs respectively in OF POWER MARKETS PXIL. The weighted average price of electricity transacted through Trading Licensees and Power 1. Lack of Participation in Electricity Trading Exchanges was Rs.7.21/KWh and around on Power Exchanges: One of the most Rs.10.00/KWh, respectively. The price of electricity important objectives of setting up power for UI transactions was around Rs.6.00/KWh.The exchanges in India was to introduce gap between the volume of buy bids and sale bids competition. The very concept of competition placed through power exchange shows that there was lies on the premise of presence of a large number more demand (1.69 times) when compared with the of buyers and sellers, so that no single player can supply offered through IEX and it was less demand exert undue influence on the entire market. (0.88 times) when compared with the supply offered The multi-buyer and multi-seller model as through PXIL. envisioned by the Electricity Act 2003 is yet to materialize in a concrete manner. The current These observations point out that the total quantity power exchanges in India IEX and PXIL suffer of electricity traded via the power exchanges was a on both the accounts: meager 0.65% of the total electricity generated in the • Lack of sufficient participation especially on month of April and 9.16% of the total short term the seller side trade in the same month. These statistics don’t highlight good performance of power markets. The • Strong influence of the top five trading power markets in India initiated by the setting up of licensees. Amongst themselves they share IEX on June 9, 2008 and subsequently PXIL, vide 88.80% of the total market the Electricity Act 2003, still have a long way to go. The composite development of power trading in Even six years after the Act, all of the state utilities India currently faces a lot of challenges. haven’t unbundled and even the unbundling states continue to procure power in a joint manner, thus reducing the number of active participants. Power markets are yet to see the light of the day when every eligible player is active in the market. As a first step in this direction, the technical hassles related to power exchanges need to be resolved at the earliest. The preparedness of the participating entities is a big question therefore the participants as well as the employees of the power exchanges need to be well versed with the operations and technology in use. In case of shortage situation, power utilities purchase power from other utilities or captives and sell it to the August 2009 Page 3 of 8 Competitive Power Markets: Growth Imperatives and Critical Success Factors
  6. 6. purchasers. This kind of trading activity must be participation and liquidity to power markets is to brought under the ambit of the Power Exchanges. introduce various kinds of products to suit There are some other positive outcomes in the different consumer needs. There is a need to pipeline such as the introduction of Open Access differentiate between markets for physical contracts up to three years and provisions to enable delivery and market for financial products. large buyers such as NTPC and SAIL to connect Currently 100% of the Indian power exchange directly to the CTU. Both these proposals are market operates in the delivery mode and trades awaiting approval by CERC. Besides, appropriate in derivatives/ futures are yet to evolve. regulatory framework to encourage developments of Power markets should enable both; trade of power markets, Financial Institutions need to play an power as a commodity and the trade of active role in the deepening and expansion of Indian derivative instruments with power as an power markets. underlying commodity. In due course of time as the market develops, ancillary and related 2. Definition of Appropriate Market place and products such as energy efficiency certificates, its Forces: In order to ensure the success of renewable energy certificates and transmission Power Markets, it is imperative to ensure the rights can also start getting traded in the power working of a free, fair and transparent market markets. Provisions such as easy down selling of place and its various participants. This existing delivery contracts by the consumers and necessitates the step to first define market place standardization of new contracts should be appropriately. Power Markets are typically enabled. The need to induce liquidity and defined on the basis of tenure and geographical stability in the initial physical phase calls for limits. In terms of tenure the transmission timely introduction of standard, risk contracts are available either in short term period management products such as electricity futures of less than three months or long term period of options and swaps. It goes without saying that up to twenty five years. This huge gap needs to proper regulatory environment would be be bridged and calls for the introduction of required to ensure smooth roll-out of these medium term contracts of one to five years. In products. In the pipeline: PXIL has applied to addition to this, real time/ balancing contracts the CERC for approval of following three new also need to be developed. These contracts are categories of products: typically based on random events and contingencies and give rise to intra-day demand • Long tenure products: week-ahead, 1st month and supply need of power. These kinds of ahead, 2nd month ahead and 3rd month ahead contracts enable a participant to enter the market contracts. on a real time basis and trade power. • Intra-state products: The intra-state products In the geographical context, the biggest challenge involve 2-day-ahead transactions wherein a is that Indian power exchanges operate on a market participant can buy/sell power from/to “multiple control points”, as a result of which other market participant within the same state. there are transmission constraints on a single • However, the unmatched trades would be line. One of the solutions suggested to deal with brought to the national day-ahead market on this problem is to develop the infrastructure for a next day. super capacity highway to assist fast and • Day-Ahead-Contingency (DAC) product: It has decongested transmission of electricity. The been designed by PXIL to provide buyers and process to connect regional and national markets sellers with additional opportunity to clear their to each other via the national grid must be volume at the end of the day after trading is over quickened. The regulatory commission must for the day-ahead market. According to PXIL make it mandatory for states to foretell their authorities, given the perishable nature of procurement requirement and assist them in the electricity, surplus electricity which could not be construction of enabling transmission traded during the earlier session can still be infrastructure at their respective boundaries. cleared if the sellers reduce their price bids and buyers requiring electricity match such prices 3. Introduction of Innovative Market Products: The Indian Power Markets are characterized by • Lack of liquidity: The bulk of trade in Indian is lack of innovative financial products and through PPAs leaving little or no surplus liquidity. One of the best ways to attract greater available for short term trading. Also, it causes August 2009 Page 2 of 8 Competitive Power Markets: Growth Imperatives and Critical Success Factors
  7. 7. price volatility and sends distorted price signals. time for the regulator to step in? The market The PPAs should be freely down-sold by the matching mechanism being used now in the day- consumers, who are large scale participants in the ahead market, needs to be suitably evolved to exchange markets. Secondly, lack of liquidity suit the needs of products of longer tenure. provides a great learning and experimentation There are various market matching mechanisms opportunity. It can be harnessed to introduce which can be utilized for the power markets such products in a relatively shallow and less as pay-as-bid auctions and Vickrey Auctions, to impactful market. name a few. 4. Deficit Market: An important point to 6. Regulation: Though the Indian exchanges highlight here is that India is perhaps the only currently operate under CERC’s supervision, country to have a growing power market in an broader market defining regulations delineating overall deficit condition. In such a scenario, the the role of each participant in the power market benefits of trading cannot be sufficiently passed value chain are yet to be developed. The concept on to the consumers. Therefore, it goes without of power trading is still in its nascent stage and saying that generation capacity addition to appropriate regulatory framework to guide its bridge the demand supply gap is a pre-condition success is critical. Regulators should work in to ensure efficiency of power markets. Besides, in collaboration with the power exchange a deficit market the participants face quantity authorities to keep in mind participants and risk in addition to price risk. Deficit market also consumer interests and at the same time ensure a poses a hindrance to the introduction futures vibrant and smooth functioning of the trading, as their delivery on maturity cannot be exchanges. Particularly, the regulator should look guaranteed. into the following issues: • Consumer Interest: 5. Pricing Mechanism: While introducing o Prevent speculative trades exchange-traded collective transactions, a form o Prevent predatory pricing of point-of-connection tariff on MW usage basis o Ensure Price stability was conceptualized. This mechanism though o Ensure justified proportion of volumes suitable to the day-ahead market, isn’t amenable in short, balancing and real-time to long term contracts. In fact the pricing markets mechanism varies across the various categories of o Encourage growth in diversity of trading contracts. Below are mentioned some participation over time characteristics of the pricing of different term o Keep a check on abuse of opportunities contracts. for transfer pricing This varied inherent nature of different term • Regulatory perspective on contracts makes the entire process of pricing o Level of trading margins complex. In such a scenario, it is essential to o Capital requirements define the extent of regulatory jurisdiction over o Norms for cross-border trade pricing. The prices determined by market forces o Assessment of long-term costs and have been an up hill task, therefore it becomes all recovery the more important to deliberate over the fact that should exchange prices be completely left to demand and supply forces. When is the right Near Term Contracts Short Term Contracts Long Term Contracts - Prices determined by demand - Based on seasonal and diurnal - Based on long term demand supply supply interaction demand-supply patterns trends - Electricity almost commoditized - Prices characterized by underlying - Pricing of generation asset, fuel, - Pricing on the basis of risk-reward asset delivery, specific asset characteristics- matrix for quality of planning and - Implicit pricing of transmission such as location, fee, duty flexibility in supply options and congestion - Pricing on the basis of fit with long- - Pricing on the basis of utility of term demand growth projections, end-use, bargaining power of quality of power supply (economies of counterparties, enforceability of scale, peaking capability, technology reliability guarantees used, risk-sharing formulae) August 2009 Page 5 of 8 Competitive Power Markets: Growth Imperatives and Critical Success Factors
  8. 8. 7. Open Competitive bidding (short- term): CONCLUSION In the short term trade, market participants and The Indian Markets are substantially different intermediaries are invited for discovery of best levels from power markets elsewhere in the world. Its of sale and purchase prices. But, this works well only very nature poses unique challenges in the in an unconstrained and efficient market. In a development of the market and the product as constrained market, characterized by limited well. In consideration of the issues highlighted evacuation paths, lack of participation and overall above, a lot remains to be done on the part of shortage situation, it leads to price spikes. Thus, in regulators and power exchange authorities to order to tackle such a situation, the exchanges should ensure smooth functioning of the power adopt a method based on a combination of markets. Some of the important matters highlighted in this paper are summarized below • Adequate leeway to participants to deploy sound • The markets lack participation and liquidity. commercial practices in entering short-term Appropriate steps, such as introduction of arrangements; and innovative products, must be taken up and financial assistance should be provided to • Evolving, over a long term, a bidding encourage wider participation. methodology that allows generators and utilities • The operating staff and participants need to be in an unconstrained system to discover a system- adequately trained Marginal-Price • The Power Markets needs to be defined clearly and appropriately, keeping in mind the aspects 9. Information Asymmetry: There are a varied of tenure and geography. group of entities involved in trading through the • Besides, medium term contracts its high time to Power Exchanges, each having its own set of introduce financial products in the markets with valid information. Valuable information thus power as the underlying asset. gets distributed in different form, structure and • The products and trading methods need to keep places. Also, the timeline for this information is price volatility in check and an open auction not laid down. Thus, there is an urgent need to methodology is perhaps more apt in the context. streamline all relevant data and develop a • In view of the varied inherent characteristics of comprehensive data to cater to the needs of different term contracts, pricing mechanism power trading and help in making the entire needs to be developed accordingly. Also, the process more efficient. regulatory jurisdiction over pricing norms needs to be clearly defined • Appropriate Regulation must protect consumer’s “Indian Markets are Substantially interest and lay down norms regarding capital Different than the Markets requirements and monitoring. A comprehensive Worldover” database of power markets information must be developed at the earliest. August 2009 Page 2 of 8 Competitive Power Markets: Growth Imperatives and Critical Success Factors
  9. 9. August 2009 Page 7 of 8 Competitive Power Markets: Growth Imperatives and Critical Success Factors
  10. 10. ContactUs Rishi Baid Email: rishibaid@ymail.com UTH August 2009 Page 8 of 8 Competitive Power Markets: Growth Imperatives and Critical Success Factors