A market approach to long-term security of supply

The problem of ensuring that there is enough generation capacity to meet future demand has been an issue in market design since the beginning of the deregulation process. Although ideally the market itself should be enough to provide adequate investment incentives, there are several factors that prevent this result from being achieved, and some actual markets have already experienced problems related with a lack of generation capacity. A regulatory framework to address this question is presented. The procedure is based on an organized market where reliability contracts (based on financial call options) are auctioned, so both their price and their allocation among the different plants are determined through competitive mechanisms. This results in a stabilization of the income of the generators and provides a clear incentive for new generation investment, with a minimum of regulatory intervention. Additionally, the method represents a market-compatible mechanism to hedge demand from the occurrence of high market prices.

I. Introduction

The most fundamental characteristic of the restructuring process that is taking place in numerous countries around the world is that market mechanisms have replaced the highly regulated procedures that were used in the decision-making processes under the traditional regulation. In particular, within a liberalized market there are no mandatory expansion plans that determine which generation units have to be installed in the system and when. Instead, market participants decide on their own, according to their business expectations, whether they want to build a certain facility or not. This is the reason for the regulators' concern about whether there will be enough installed capacity to meet demand in the long term. This has always been a contentious issue in market design since the beginning of the liberalization process [1].