Electricity Market Reform: Assessment of a Capacity Payment Mechanism

09 March 2011
Sean Gammons, Vakhtang Kvekvetsia, Richard Druce, et al.

A NERA team was commissioned by Scottish Power to:

review the arguments for the creation of a "market-wide" capacity payment mechanism
(CPM) in the electricity market of Great Britain given the challenges the market
faces over the coming years (e.g., in particular, growth in intermittent wind generation);
assess the relative performance of a market-wide CPM versus the kind of "targeted"
scheme proposed by the government in its proposals for Electricity Market Reform
(EMR); and
identify solutions for potential problems related to the implementation of a market-wide
CPM (e.g., double payment).

Their analysis suggests that many different forms of capacity can provide back-up for growth in intermittent generation. It also suggests that a market-wide (or at least "broad") capacity mechanism combined with a variable energy price will encourage the provision of such capacity more effectively than a targeted capacity mechanism. The market-wide capacity mechanism is a more efficient remedy than a targeted capacity mechanism for underinvestment caused by investors' distrust of peak energy market prices. Although the EMR raises the problem of "double payment" in relation to a market-wide capacity mechanism, such a problem does not necessarily exist and, even if it does, there are a number of practical solutions that avoid it.