Merchant Interconnectors David Newbery EPRG Winter Research Seminar Cambridge 15 December 2006 http://www.electricitypolicy.org.uk
Outline Strong pressure from EC to increase interconnection impeded by vertical integration, regulatory delays Merchant interconnectors as solution? for HVDC links for transit through e.g. Switzerland What are the economics? What are the regulatory issues? D Newbery EPRG Winter 2006 2
Day-ahead price levels 2005 >51 Euros/MWh 41-50 Euros/MWh 31-40 Euros/MWh < 30 Euros/MWh n.a. D Newbery EPRG Winter 2006 3
Merchant Interconnectors Receive arbitrage profits and AS income Risk borne by private investors avoids regulatory hold-up? In exchange for more relaxed conditions Are private profits aligned with social benefit? Interconnecting two jurisdictions? for transit countries? An issue for proper inter-tso compensation? D Newbery EPRG Winter 2006 4
Regulation EC 1228/2003 of 26 June 2003 for network access to cross-border exchanges Article 6 on congestion management: 1. to use market based solutions 3. Maximum capacity to be made available 4. Unused capacity to be reattributed to the market 5. TSOs to apply netting as far as technically possible 6. Revenues to be used for increasing IC capacity or taken into account for network charges D Newbery EPRG Winter 2006 5
Increasing cross-border capacity New investment can be exempted from rtpa if investment enhances competition for maximum of 15 years? whether to impose UIOLI up to NRAs? UIOLI could reduce profitability of IC This could determine whether built D Newbery EPRG Winter 2006 6
Percent of time contractual constraints exist in Benelux (Brattle, 2003) D Newbery EPRG Winter 2006 7
BritNed National Grid and NLink - a subsidiary of TenneT,... are developing a project for an interconnector between Britain and the Netherlands. BritNed would have a capacity of between 600-1300MW, be 250km long, and cost between 300 and 400m (NGC web site) We will be effectively connected to relevant markets, much like an electricity crossroads. This is beneficial for the market and good for the security of electricity supplies. (TenneT web site) D Newbery EPRG Winter 2006 8
Economic analysis What is the potential profit? assuming no impact on prices now and in possible futures What impact does BritNed have on prices? on the APX and UKPX spot and contract what is the resulting profit? What impact does BritNed have on profit of NorNed? On other interconnectors? D Newbery EPRG Winter 2006 9
Impact on agents of IC D Newbery EPRG Winter 2006 10
Ignoring price impacts Annual hourly import and export revenue for Britned 30,000 25,000 Euro/MW/year 20,000 15,000 10,000 5,000 2003 2002 2004 2005 0-5,000-10,000 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 exports shown as negative values hours NL time D Newbery EPRG Winter 2006 11
Q4-05 Allowing for 2% losses but no impact on prices Monthly interconnector revenue 80,000 70,000 60,000 50,000 40,000 30,000 20,000 10,000 0 Q3-01 Q4-01 Q1-02 Q2-02 Q3-02 Q4-02 Q1-03 Q2-03 Q3-03 Q4-03 Q1-04 Q2-04 Q3-04 Q4-04 Q1-05 Q2-05 Q3-05 base peak peak hour imports peak hour exports D Newbery EPRG Winter 2006 12 Euros/MW/month
Monthly interconnector revenue per MW 50,000 40,000 30,000 total monthly revenue export revenue import revenue shown negative 20,000 10,000 0 Jun-01 Aug-01 Oct-01 Dec-01 Feb-02 Apr-02 Jun-02 Aug-02 Oct-02 Dec-02 Feb-03 Apr-03 Jun-03 Aug-03 Oct-03 Dec-03 Feb-04 Apr-04 Jun-04 Aug-04 Oct-04 Dec-04 Feb-05 Apr-05 Jun-05 Aug-05 Oct-05 Dec-05-10,000-20,000-30,000-40,000-50,000 D Newbery EPRG Winter 2006 13 Euros/MW/month
Adjusting APX to average of UKPX prices (1,000 MW) million/year /MWh Unadjusted Additive adjustment Proportonal adjustment Average original APX Average UKPX price price 2002 123 139 138 30 24 2003 214 266 249 46 26 2004 74 74 74 32 31 2005 131 110 130 52 53 Average 136 147 148 40 34 D Newbery EPRG Winter 2006 14
Simulating the effect of Dutch prices aligning on German prices "NL" trade over interconnector 25,000 20,000 15,000 total trade revenue export revenue import revenue (shown as negative) Euros/MW/month 10,000 5,000 0-5,000-10,000-15,000-20,000-25,000 1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35 37 39 41 43 45 47 49 51 D Newbery EPRG Winter 2006 15
Effect on profits of aligning APX with EEX prices, (1,000 MW) million/yr APX APX adjusted EEX 2002 123 138 86 2003 214 249 86 2004 74 74 59 2005 131 130 110 Average 136 148 85 D Newbery EPRG Winter 2006 16
Do auction prices predict IC value? Averages same Comparison of auctions and base-load contract differences 25 20 Euros/MWh 15 10 5 0 Q1-02 Q2-02 Q3-02 Q4-02 Q1-03 Q2-03 Q3-03 Q4-03 Q1-04 Q2-04 Q3-04 Q4-04 quarter contract difference average of monthly auctions D Newbery EPRG Winter 2006 17
Estimating the price impacts APX price on generation for hour 12 2005 1000 Euros/MWh 100 10 6,000 7,000 8,000 9,000 10,000 11,000 12,000 13,000 generation MW D Newbery EPRG Winter 2006 18
Price vs generation all hours 2005 1000 Peak regression Euros/MWh (log scale) 100 10 5,000 6,000 7,000 8,000 9,000 10,000 11,000 12,000 13,000 available capacity MW Off-peak regression D Newbery EPRG Winter 2006 19
Total BritNed profits (1,000 MW) in million /year before and after various price impacts No impact on prices Pre- BritNed, Post- Norned 2002 130 116 59 2003 218 194 100 2004 77 66 24 Average 142 125 61 Post- BritNed, Post- Norned D Newbery EPRG Winter 2006 20
Impact of ICs on APX price levels and Pre- BritNed, Pre- Norned variability Pre- BritNed, Post- Norned /MWh Post- BritNed, Post- Norned Mean SD Mean SD Mean SD Average 33 54 30 39 29 32 D Newbery EPRG Winter 2006 21
Rough estimate of impact of BritNed on NorNed profits Revenue from NorNed without BritNed million/year Revenue from NorNed with BritNed 2002 115 86 2003 178 129 2004 62 44 average 118 86 D Newbery EPRG Winter 2006 22
Conclusion on BritNed Profitability depends sensitively on magnitude of price impacts operating and capital costs internal network constraints (Randstadt) impacts on NorNed Moderately robust to changes in price levels D Newbery EPRG Winter 2006 23
The Swiss case for merchant interconnectors Switzerland is a major transit hub and also the southern control centre a key member of ETSO but is not part of the EU or EEA companies are vertically integrated Swiss regulation is evolving and merchant transit investment is happening D Newbery EPRG Winter 2006 24
Limitations of regulatory solutions for interconnectors Vertical integrated utilities fail to invest to avoid competition Conflict between jurisdictions if benefits & costs have distributional impacts Inter-TSO compensation may not be adequate for new line burden placed on transit country D Newbery EPRG Winter 2006 25
Vertical integrated companies reluctant to build capacity if it lowers prices low price 1 GW line Country A high price Country B T Constraint, 2 GW -> NTC 2GW D Newbery EPRG Winter 2006 26
Difficulties for regulated investment - transit low price Country A 1 GW line Why would B want to pay for the benefit of A and Country B C? Country C Does TSO compensation suffice? high price D Newbery EPRG Winter 2006 27
Inter-TSO payments Current TSOs compensation is provisional: PM Florence process to choose replacement ETSO prefers With & Without Transits method: WWT IIT proposes Average Participation method: AP Choice will impact CH transmission charges the level via effect on total income possibly structure of charges? returns to cross-border transmission D Newbery EPRG Winter 2006 28
IIT study for 2002 for DGTren D Newbery EPRG Winter 2006 29
Payments to Payments (Provisional Method) for 2002 Payments by countries mill. euros Use of Use by receipt Total use of CH s network =34.6, use by CH =22.4, so net receipt 30 by CH is 12.3 m Euros
Payments under WWT method CH s network used 162.5, uses others 105.2, receives 57.2 D Newbery EPRG Winter 2006 31
Payments under AP method CH s network used 155.6, uses others 132.6, receives 22.9 32
Interconnectors and Inter-TSO payments The AP method ignores country boundaries This could penalise short interconnectors and reward counter-flow transits AP seems more compatible with efficient internal T charging and therefore more credible and durable? Marginal methods attractive for incremental investments? i.e. long-term contract for new lines D Newbery EPRG Winter 2006 33
Why allow MTI at all? Ideal vision: RTO optimises regional grid, allocates investments to TSOs with suitable compensation Optimistic in short-medium run? MTI makes transmission investment contestable forces TSO/regulator to set sensible charges and regulatory test may encourage needed investment otherwise resisted by vertically integrated incumbent ideally replicates the optimistic solution failing which may be better than status quo provided regulatory test sound D Newbery EPRG Winter 2006 34
Principles for Merchant Lines ensure that any costs imposed on system are correctly charged otherwise other users may bear cost ensure that benefits delivered to system are rewarded to encourage MTI where in national interest to encourage designs that maximise Swiss benefit ensure that MTI does not pre-empt preferable regulated lines through a carefully designed regulatory test D Newbery EPRG Winter 2006 35
Network charges (e.g. Peru: Perez-Arriaga, 2006) Long-term locational signals are important only for new connections and disconnections Peru model: transmission pricing by method A and B A: existing lines and users B: for new lines and users A charges: can be based on previous methods B charges: deep incremental cost of entrant (also as in PJM) liability/credit to significant disconnections (mainly G) D Newbery EPRG Winter 2006 36
Recommendations ETSO (and Swissgrid) need to agree a future cross-border compensation scheme for existing grid - possibly different for expansions? this will form part of charges/payments for MTI Regulator will need to define a regulatory test and conditions under which MTI can become regulated conditions under which charges may change and/or offer long-term contract for charges D Newbery EPRG Winter 2006 37
Conclusions Can be hard to make MTI profitable but they may have other benefits: on competition, security, integration CEC/ETSO assistance to support? Put pressure on ETSO to devise good crossborder tariffs and to identify socially profitable interconnectors D Newbery EPRG Winter 2006 38
Merchant Interconnectors David Newbery EPRG Winter Research Seminar Cambridge 15 December 2006 http://www.electricitypolicy.org.uk