In this chapter a range of different models for organising the Irish electricity market are considered. On balance it is concluded that a gross pool, the market structure proposed by the two regulators (AIP, 2005a), would be the most appropriate basis for organising an all-island market. Under such a market regime all electricity would be sold in the pool (and all electricity bought in the pool). In addition to the pool there should be a scheme of centrally administered capacity payments. The cost of these capacity payments would be levied on all consumers. Subject to certain restrictions outlined earlier in the chapter, these payments would be made to all generators that are available to generate, whether or not they are actually called upon to supply electricity. Failure to meet promised commitments would incur a heavy penalty payment, (which would be used to reduce use of system charges). The formula for calculating the total amount of the payments would be based on the total capacity needed to guarantee a secure supply multiplied by the cost of a peak generator.
This regime would be both transparent and relatively certain for new investors. This aspect of certainty, reducing the cost of capital for investment, will be essential in a market that will require continuing investment in new generating capacity over the coming decade. Failure to provide a reasonably transparent and predictable market could substantially raise the cost of capital for investors. Inevitably that would be passed on to consumers as higher prices. However the electricity market is organised, the bulk of the risk inherent in the market will be passed forward to consumers rather than carried by shareholders. The market structure must reflect this.
While strategies to minimise the cost of capital for investment will play the primary role in controlling electricity prices for consumers, nonetheless measures also need to be put in place to minimise operating costs. The market design suggested here will also incentivise efficiency in operating costs. Failure to deal with overstaffing could leave open an opportunity for a new entrant to profitably enter the market, squeezing out inefficient incumbents. However, the strategy suggested in Chapter 6 for dealing with the issue of dominance in the market should also play an important role in encouraging greater efficiency in the sector.
A final consideration in designing any new market structure for the island of Ireland is whether the island itself is likely to become part of the British electricity system in the next decade through enhanced interconnection. If Ireland had sufficient interconnection to Britain de facto Ireland would become part of the British market. As is the case with gas today, the price for electricity would be set on the much larger British market and no Irish players on that market, including the ESB, could significantly influence that price.
As discussed in Chapter 4, it now seems likely that a second interconnector will be built early in the next decade. Whether or not this would be sufficient to make Ireland part of the British system is not clear. This needs significant additional research to understand where the critical threshold would lie. On the basis of current information, with an additional interconnector of 500MW, it would appear that Irish prices would still diverge significantly from British prices for much of the normal day, leaving market players still dependent on the design of the Irish market to determine average price and return on capital.
This issue is important for all potential investors. As their investment will be expected to last at least 20 years their expectations about the market structure will affect their assessment about the likely rate of return on capital. The study done on the costs and benefits of an East-West interconnector (DKM et al., 2003) did suggest that it should go ahead. However, the study also stressed the urgency of making a firm decision on the project so as to reduce uncertainty for potential investors.
• The structure proposed for the all-island electricity market by the two regulators seems likely to provide the best opportunity for securing a competitive supply of electricity for consumers on the island of Ireland over the next decade.
5.6
Summary
• The electricity pool, when combined with a suitable regime of capacity payments, should encourage supply at a minimum price. It should also increase the transparency of the regime.
• The capacity payments regime will play an important role in minimising risk for investors and reducing the cost of capital. The cost of capital is a key ingredient in determining the final price of electricity for consumers.
• This regime would provide the right signals for new investment ensuring the provision of adequate electricity generation capacity at least cost.
• Nothing in this regime would prevent the electricity market of the island of Ireland being eventually integrated into a British Isles or a north-west European market by the end of the next decade.