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POWER GRIDS AND CDM METHODOLOGIES Workshop for CDM stakeholders The World Bank Buenos Aires December 8, 2004. CONTENT. Characteristics of deregulated power markets in LAC Dispatch and spot market Contract market Criteria used for deciding new power plants

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  1. POWER GRIDS ANDCDM METHODOLOGIESWorkshop for CDM stakeholdersThe World BankBuenos AiresDecember 8, 2004

  2. CONTENT • Characteristics of deregulated power markets in LAC • Dispatch and spot market • Contract market • Criteria used for deciding new power plants • Planning and dispatch: case of Chile • What does a CDM project substitutes? Case of Chile • Comments on the CDM baseline methodologies

  3. Characteristics of deregulated power markets in LAC • Most LAC have developed deregulated Wholesale Electricity Markets -WWM- • Dominican Republic, Guatemala, Nicaragua, Salvador, Panama, Colombia, Ecuador, Peru, Bolivia, Chile, Argentina • Main features: • Competition in generation and supply. Deregulated prices • No central planning • Indicative Planning intended to provide information, only • Open access to the transmission system • Centralized dispatch based on merit order of variable operating costs (most countries) • Spot prices based on the system´s short run marginal costs (most countries)

  4. Characteristics of deregulated power markets in LAC • Usual practices

  5. Characteristics of deregulated power markets in LAC • Usual practices for contract supplies • Contracts established for 2 to 15 years • Contract prices based on: • First years of the reform: average of expected spot prices • Due to risk of fluctuations, the current practice is to set prices close to a proxy of the system development costs (capital + operation costs of new units) • Equivalent to concept of opportunity costs (costs of competitors) • Indexed with US CPI and fuel prices • In accordance to cost structure

  6. Characteristics of deregulated power markets in LAC • Usual practices for spot supplies • Gencos sell to “the system” • Discos purchase from the system • Price = average of expected spot prices for following 6 months • Adjustment “ex-post” in accordance with actual spot prices • Links between spot prices (including capacity component) and long term contract prices: • A permanent discrepancy in one direction cannot be sustained • Under equilibrium conditions, both converge • In theory, revenues from the contract market should be closed to those from the spot market • Contracts provide stability in revenues

  7. Criteria used for deciding new power plants • A Genco decides to invest: • When the revenues through contracts and/or the spot market covers its capital + operating costs • Spot revenues assessed for a likely expansion sequence • Investments decided under competitive pressure • Likely expansion sequence = such as spot revenues (capacity + energy) provide a given a return on assets • Return depends on the country risk and power sector risk • LAC: 10-14% on assets (real term, after taxes) • The possibility to sign LT contracts sometimes “accelerates” the decision to invest

  8. Criteria used for deciding new power plants • Practical approach: • 1- Determine a likely expansion sequence • Includes power plants already decided • New power plants added when spot prices get a level such that they provide a given return on assets • The expansion sequence includes the project (several sizes, start-up dates) • In hydro-thermal system, a least cost thermal “base-load” technology is usually selected • 2- Compute spot prices for that expansion sequence • 3- Computes revenues for the project selling P and E into the spot market • 4- Determine if and when revenues pay the project´s capital + operating costs

  9. WEM prices in Chile • Spot and contract prices in the central Interconnected System

  10. Planning and dispatch: case of Chile • Since the gas interconnection with Argentina: price driver are 370 MW combined cycle units burning NG (base load) • Before: coal units Costs

  11. Planning and dispatch: case of Chile • Since new CC units (most economic development units) require 25 US$/MWh, the MW planned must be “below” the existing coal units for dispatch • In order to avoid being the marginal unit Coal is marginal SRMC= 28 Gas is marginal SRMC= 14 Hydro reservoir Coal = 28 US$/MWh Gas = 14 US$/MWh Run of River =0 US$/MWh

  12. What does a CDM project substitutes? Case of Chile • Same would happen with new hydro power plants (instead of NG cc units): if too much capacity is added, the SRMC would drop • What does a CDM (base load) project substitute?Coal or NG? apparently coal (and some NG) Coal substitution? SRMC= 28 Gas substitution? SRMC= 14 Hydro reservoir Coal = 28 US$/MWh Gas = 14 US$/MWh Run of River =0 US$/MWh

  13. What does a CDM project substitutes? Case of Chile • In fact substitutes 100% NG since it will displace (or reduce the size) of a new cc unit • The same amount of coal is burned Coal substitution SRMC= 28 Gas substitution SRMC= 14 Hydro reservoir The CDM project substitutes MW in the cc unit Coal = 28 US$/MWh Gas = 14 US$/MWh Run of River =0 US$/MWh

  14. What does a CDM project substitutes? Case of Chile • Apparently a small CDM project is marginal and might not affect investment decisions • Certainly, a large project close to start construction or under construction will not be postponed. • But “marginal” does not mean “nil” • The impact of even a small project is relevant in the spot market • Example. • A 50 MW CDM base load project (less than 1% of the 7000 MW installed capacity in the Chilean SIC) has an impact of -1.5 US$/MWh in the spot prices if nothing is postponed (4% on prices) • The incumbents perceive an impact of 1.5 x 35 TWh = 52 MMUS$/year if they do nothing • => Very shortly they will postpone projects in order to avoid prices below development costs

  15. Comments on the CDM baseline methodologies • The “Combined Margin methodology” averages the Operating Margin (OM) and the Build Margin (BM) • We believe that only for very small projects the OM is applicable • Under the condition that the total capacity of all projects remains small • In principle, the appropriate methodology would be to recalculate the expansion sequence with and without the project. • Given the complexity, lack of transparency, gaming, etc., we believe that the BM methodology should have more weight • For base load CDM projects, a good approach seems to estimate the BM through the reduction in the capacity that is likely to be installed as base load (hydro and cc units in the case of Chile) • This is the “proxy plant method”

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