jrevuelta

Interview to Javier Revuelta

“It is possible to reach a high penetration of renewable energy with just minor regulatory changes, complementing and not modifying the present pool with elements that have already been planned in our regulations.”

We continue with the 2020 editorial line: climate challenges. We have interviewed another collaborator to deal again with a regulatory challenge to transit to a sustainable energy system: the adaptation of the market to a 100% renewable system. We have asked Javier Revuelta, Principal at AFRY Management Consulting, his point of view on this challenge.

With the present regulatory framework, would it be possible to implement a 100% renewable system?

Even in countries that have reached grid parity such as Spain since 2019, there is a financial barrier on renewable energy penetration for a balanced market. This balance, not considering political issues, happens when the market revenue is cannibalized until it reaches the minimum repayment demanded by investors. Generally speaking, it happens when a technology value capture ­­­−that depends on the electrical system and the fuel prices− gets closer to LCOE of that technology in the moment of the investment.

It is possible to overcome those economic balance levels with centralized or decentralized complements already planned in the present regulations, such as: governmental tenders or the voluntary sale of Guarantees of Origin (GOs). In the first example, tenders partially isolate the yearly revenue of an installation from the market price thanks to the pool complements paid by the regulator and, usually, collected by the access tariffs or other regulated mechanisms. In the second one, a marketer can pay the developer for those renewable energy GOs as a second revenue source and collect the cost from consumers by establishing higher prices with the label 100% renewable marketer.

So, if we understand regulatory changes as the organization of additional tenders in the present market, they can and must be organized to overcome the financial balance barrier, that, without doubt, is less than 100%. On the other hand, if the organization of tenders is already a tool in the present framework, then we can say that the framework does not need to be strictly changed, and we just must put it into practise. Theoretically, when renewable penetration overpasses the balanced market level, the total power target could only be reached with tenders, specially if it is a 100% renewable target.

However, even with tenders, at AFRY we foresee that the present market complemented with tenders allows a high penetration of renewable energy but not 100%, which implies additional challenges and costs. A high share of renewable penetration is complicated without high interconnection capacity and/or energy storage systems, which need relevant regulatory changes.

Summing up, it is possible to reach a high penetration of renewable energy with just minor regulatory changes, complementing and not modifying the present pool with elements that have already been planned in our regulations. Higher renewable penetration, around 80% and above, will probably need major regulatory changes to stimulate other elements and technologies.

Which countries have the best regulatory framework adapted to this scenario?

Countries with a high electrical renewable penetration usually is thanks to their hydro power and low population density, such as: Norway, Austria or Switzerland in Europe and Brazil in America. Denmark, the 4th of the rank in Europe, has strongly committed to wind power development and has reached a 60% of electrical renewable penetration thanks to incentives and a strong interconnection with Germany, country that absorbs their surplus and guarantees their supply.

The example of Chile is interesting. A country with an ambitious renewable target whose hydro power capacity is not especially high. Its regulatory framework and market design are very different from the European ones. Distributors-marketers have the obligation to guarantee part of the future energy with long-term contracts. In this situation, government targets can use both the optimal financial dispatchment of power plants, and the cost recouping from the generation regardless of the wholesale hourly prices.

Closer to us we find El Hierro island system, whose hydro-wind plant generates over 60% of renewable power production a year. It is a strongly regulated system, not only in the planning of the investments in generation, but also in its operation and retribution of the investment and operational costs regardless of the wholesale market. It would be impossible to establish such a regulatory framework in the Spanish peninsula under the European and Spanish regulations.

 

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Figure 1 – Renewable power penetration and 2020 & 2030 targets. Source:  Fuente: Eurostat & AFRY

 

Should the electrical market evolve towards an alternative model to stimulate the development of renewable energy projects?

The electrical market is made up of a lot of items: the daily and midday algorithm, all the external pool complements, the incentives for renewable energy sources, the capacity payment for combined cycle power plants, the system adjustment services or even the tax system.

It seems clear that in deregulated markets the daily pool will not be a sufficient investment sign in the long-term to allow a high renewable penetration. So, there are many theoretical ways to complement the pool revenue, from centralized tenders to imposition of renewable quotas to marketers. GOs may not be a solution to attract large volumes due to their short annual life and the high uncertainty of their prices.

In most electrical markets, regulatory barriers are not really stablished to stimulate renewable sources over the market price but when other technologies such as thermal or hydro suffer and everyone asks for an incentive, including consumers as their electrical bill increases. So, Governments must choose between increasing the price signals, re-regulate other technologies or surrender and curb their renewable ambitions.

In the meanwhile, there is a question about whether the missing money for renewable generation sources and the rest of technologies should come from free shortage prices −Europe’s favourite option− or from long-term contracts that only governments can in practice guarantee, as marketers cannot count on their clients’ fidelity not even for 3 months, not to say 20 years.

Will the consumer and regulators surrender to punctual very high prices? Or will Governments give up the overambitious targets and turn again to a strong re-regulation to impose and guarantee the necessary investments? For the time being, the Winter Package makes quite clear its preferences for this decade. For the 2030 and 2040 decades, targets and frameworks must be reconsidered for sure.

In a 100% renewable system, energy storage projects are essential, how can this kind of projects be encouraged?

Once again, there are deregulated and regulated paths, each option with its complexities.

The deregulated path would be not only to eliminate any legal price limit, as stated by the European Directive on renewables, but also to eliminate the pressure of the Regulator in shortage times. In Spain, where energy pool prices are published under 100€/MWh, the cultural change seems complex.

The regulated path would be via long-term contracts with the Government. It also implies a challenge as it needs the validation from Europe and strong changes in the national regulations, that were already changed two decades ago in the opposite direction. There are different possible regulated paths, hybrids of a completely regulated asset and another one in competence in the pool but complemented with some kind of capacity payments to complete its market revenue. Incentives could also be given to hybrids of renewable plants and energy storage systems or a capacity mechanism for storage plants could be prepared.

The investor has both, the appetite to develop storage systems based on different technologies −hydro, thermal, chemical, mechanical…− and uncertainty for the future framework and the kind of energy storage service we need. High power with low energy storage? Low power and high energy? High power and energy?

In AFRY’s opinion, in Spain, the most feasible option, not the easiest to develop, would be a capacity payment complementary to a conventional electrical market operation. The choice of the best storage project would be the result of a cost-benefit study. Benefits would be modelled based on a simulation of the total costs of the system and cost would be the result of a competitive tender.

Want to know more about this regulatory challenge? Click for an inteview to another expert on adaptation of the electrical market.

Javier Revuelta

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Javier is Principal at AFRY Management Consulting. He is an electrical engineer and holds an MBA by INSEAD business school. He has developed his career in Red Eléctrica de España in system operation and planning. At AFRY he is in charge of electrical energy projects in Europe and South America.