Energy Legal Blog

No Common Denominator on Capacity Markets

While organized energy market operators generally agree on locational marginal pricing (LMP) as the basic framework for valuing energy, no similar consensus attends capacity markets.  The New York Independent System Operator (NYISO) presently is retooling its capacity market for New York City in response to a FERC order, and the California Independent System Operator (CAISO) continues to wring its hands over the issue of capacity markets. 

Even though Consolidated Edison divested most of its New York City generation when the NYISO was created in 1999, ownership of in-city generation remained concentrated, requiring rules to mitigate installed capacity (ICAP) prices.  When talks about revising the ICAP rules broke down last July, FERC announced its expectation that the NYISO, working with market participants, would develop market rules that ensured long-term reliability without overcompensating generators.  In response, the NYISO proposed to continue to use auctions and a demand curve for pricing capacity, but also to add features such as must-offer obligations for larger suppliers, as well as an offer ceiling and price floors based on a percentage of the cost of new entry, in order to mitigate seller and buyer market power.  The market's response has been mixed.  Some have urged the use of forward capacity markets in the NYISO.  PJM and ISO-NE have adopted variations of that model, which entails procurement of capacity several years in advance, rather than only several months in advance.

Meanwhile, the CAISO continues its stakeholder process to develop a capacity market.  None will be in place as of the commencement of the CAISO’s LMP market in the spring of 2008.  This won’t be unique for organized market operators.  The Midwest ISO has no centralized capacity market, but instead relies on utility compliance with reliability obligations imposed by the applicable states and reliability organizations.  The Electricity Reliability Council of Texas likewise operates an energy-only market.  Concern by the CAISO and state authorities, however, have driven analysis of a potential capacity market in this energy-import dependent state.   But in November the CAISO’s market surveillance committee (MSC) recommended holding off on development of specific capacity market rules.  It pointed out that capacity market rules typically emphasized generator must-offer obligations, whereas the California’s needs tended to be more specific due to its environmental and renewable energy mandates, and reliance on imports, hydropower and intermittent resources.  Generator interests responded to the MSC’s opinion by pointing out capacity market rules were needed to help promote infrastructure development.