EX POST PAYOFFS OF A TOLLING AGREEMENT FOR NATURAL-GAS-FIRED GENERATION IN TEXAS

Yun LIU, Hong Kong Baptist University, Phone: +852 59839567, email:

Chi Keung Woo, Hong Kong Institute of Education, Phone: +852 34112177, email:

Jay Zarnikau, Frontier Associates LLC and University of Texas, Austin, Phone:+852 59829567 , email:

Overview

To explore the problem of insufficient investment incentive for natural-gas-fired generation in Electricity Reliability Council of Texas (ERCOT), we use a large sample of over 134,000 15-minute observations in the 46-month period of 01/01/2011 – 10/31/2014 to estimate the effects of several fundamental drivers on the ex post payoffs of three hypothetical tolling agreements by heat rate. Our assumed heat rates reflect those of a new combined cycle gas turbine (CCGT), a new combustion turbine (CT) and an old CT. The fundamental drivers are postulated to be the natural-gas price, regional loads, nuclear generation, and wind generation. We find rising natural-gas price and non-West regional loads tend to increase the agreements’ ex post payoffs. These payoff increases, however, were reduced by rising West regional load, nuclear generation and wind generation. Finally, we find a substantial payoff decline due to large-scale wind generation development in Texas, lending support to the suggestion of ERCOT’s transition from an energy-only market to an energy-and-capacity market.

We organize the paper as follows. Section 1 gives introduction. Section 2 presents our methodology. Section 3 describes our data sample. Section 4 reports our results. Section 5 concludes.

Methods

ITSUR regression based on a rich ERCOT data file.

Results

We find an increase in ERCOT’s non-West regional loads tends to increase the ex post payoffs. Although a natural-gas price increase raises the agreement’s fuel cost, it likely enhances the ex post payoffs. Similarly, declining nuclear generation tends to increase the ex post payoffs. However, these payoff increases may vanish because of rising wind generation. Taken together, these findings lend support to a suggestion of ERCOT’s eventual transition from an energy-only market to an energy-and-capacity market, so as to mitigate the missing money problem magnified by the state’s large-scale wind generation development.

Conclusions

The loss of nuclear generation and an increase in the natural-gas price can improve the investment incentives for natural-gas-fired generation in Texas. However, this improvement can be negated by the state’s known wind generation development. Hence, there may be insufficient investment incentives for natural-gas-fired generation units that are critical for renewable integration and system reliability. Hence, ERCOT may eventually need a capacity market to resolve its inadequate reserve margin and stalled investments in natural-gas-fired generation units; this is notwithstanding that the investment in new natural gas plants no longer seems to be stalled, possibly due to newly adopted the $9,000/MWH price offer cap on 01/01/2015.

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