SCHOOL OF ELECTRICAL ENGINEERING

AND TELECOMMUNICATIONS

ELEC9714
Electricity Industry Planning &
Economics
by

David Hai-Vinh Vang

Bachelor and Master of Electrical Engineering

Contents

1 Introduction to the Electricity Industry and Electricity Industry Restructuring 1

1.1 What is the Electricity Industry (Physical perspective)? . . . . . . . . . . . . . . . . . . . 1
1.2 Electricity Industry Conversion Chain (Functional Perspective) . . . . . . . . . . . . . . . 1
1.3 Possible Definition of: . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
1.3.1 Economics . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
1.3.2 Planning . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
1.3.3 Investment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
1.3.4 Decision Making . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
1.3.5 Words . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
1.4 Decision Making in the Electricity Industry . . . . . . . . . . . . . . . . . . . . . . . . . . 4
1.4.1 Principle for Better Decision Making . . . . . . . . . . . . . . . . . . . . . . . . . . 5
1.4.2 Electrical industry Decision Making Challenges . . . . . . . . . . . . . . . . . . . . 5
1.4.3 The role of markets in the Electricity Industry Decision making. . . . . . . . . . . 6
1.5 Greatest Global Electricity Industry investment challenge . . . . . . . . . . . . . . . . . . 7
1.5.1 Australian (former) energy policy objectives . . . . . . . . . . . . . . . . . . . . . . 7
1.5.2 Australian (current) energy policy objectives . . . . . . . . . . . . . . . . . . . . . 8
1.5.3 Operational Decision making the electricity industry: as a centralised engineering
optimisation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
1.5.4 Investment decision-making in the electricity industry: as decentralised commercial
optimisation problem . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
1.5.5 Investment decision-making in the electricity industry: as a centralised commercial
optimisation problem . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
1.6 IEA Energy Atlas (not lecture material) . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
1.6.1 Electricity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
1.6.2 Renewable Energy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
1.6.3 Energy Indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
1.7 Energy Security . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
1.8 Economic Efficiency . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13

2 World Energy 14
2.1 2015 Energy Trilemma Index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
2.1.1 Australia’s Index Ranking . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
2.1.2 Switzerland . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
2.2 World Energy Issues Monitor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
2.2.1 What keeps energy leaders awake at night? . . . . . . . . . . . . . . . . . . . . . . 19
2.2.2 What keeps energy leaders most busy? . . . . . . . . . . . . . . . . . . . . . . . . . 19
2.2.3 New Issues of 2015 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20

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3 Generation Costs 21
3.1 Costs - now and in the future . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
3.2 Levelised Cost of Energy (LCOE) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
3.3 Location of Generation plants . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
3.4 Summary of each type of Generation plants . . . . . . . . . . . . . . . . . . . . . . . . . . 23
3.4.1 Coal Fire Generation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
3.4.2 Gas-fired Generation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
3.4.3 Hydro Generation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
3.4.4 Wind Farm . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
3.4.5 Solar Energy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
3.4.6 Biomass Energy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
3.4.7 Cogeneration Options . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
3.4.8 Nuclear Energy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
3.4.9 Geothermal Energy - Radioactive Rock . . . . . . . . . . . . . . . . . . . . . . . . 24
3.4.10 Tidal Energy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
3.4.11 Wave Energy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
3.4.12 Capturing CO2 from Power Station . . . . . . . . . . . . . . . . . . . . . . . . . . 24
3.4.13 Geosequestration Options . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
3.5 NEM in Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
3.6 Recent asset and investment estimates . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
3.7 Distributed Energy Options . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26

4 Broad Economic perspectives for Electricity Industry Decision Making 28

4.1 Capital Recovery Factor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
4.2 Externalities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
4.3 Economic characteristics of generation options . . . . . . . . . . . . . . . . . . . . . . . . 29
4.4 Commercial Perspectives . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
4.5 Investment Decision Challenges . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
4.6 Traditional monopoly Arrangements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31
4.7 Centralised decision making Model . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32
4.8 Optimal Resource Mix . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
4.9 Price Setting . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35

5 Market Oriented Approaches 36

5.1 Centralised (monopoly) decision making . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36
5.1.1 Electricity industry Restructuring Objectives . . . . . . . . . . . . . . . . . . . . . 37
5.2 Role of Markets in EL Decision Making . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38
5.3 Decentralised framework for electricity industry. . . . . . . . . . . . . . . . . . . . . . . . 38
5.3.1 Optimal pricing policy in a decentralised industry . . . . . . . . . . . . . . . . . . 38
5.3.2 An economic optimisation problem . . . . . . . . . . . . . . . . . . . . . . . . . . . 39
5.3.3 Operational dispatch as an Auction . . . . . . . . . . . . . . . . . . . . . . . . . . 39
5.4 How does an end-user know what to bid to buy electricity? . . . . . . . . . . . . . . . . . 40
5.5 Short Term: Decision making as a market clearing process . . . . . . . . . . . . . . . . . . 41

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 5.6 Electricity Market Models . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41
5.6.1 Gross Pool . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41
5.6.2 Net Pool . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 42
5.7 Electricity Pricing Theory . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 42
5.7.1 Motivation for trading in electricity derivatives . . . . . . . . . . . . . . . . . . . . 43
5.8 Longer-Term: Key role for derivatives (CFD) . . . . . . . . . . . . . . . . . . . . . . . . . 43
5.8.1 Key Parameters . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 43
5.8.2 Two sided CFD or swap is a piece of paper stating . . . . . . . . . . . . . . . . . . 43
5.8.3 Trader’s view of CFD trading . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44
5.8.4 Generator using CFD as a PPA . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45
5.8.5 Summary of CFD properties . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 46
5.9 Call and Put Options . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 46
5.9.1 Features . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 46
5.9.2 High Operating Cost . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47
5.9.3 End-user Hedge . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47
5.10 Market power issues in spot and derivative markets . . . . . . . . . . . . . . . . . . . . . . 49
5.11 Risk Positions and Strategies for market participants . . . . . . . . . . . . . . . . . . . . . 49
5.12 Toolbox for Restructuring . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 49
5.13 “Energy only or + capacity” Market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 50
5.13.1 Market Design . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 50
5.13.2 Conclusions on electricity market design . . . . . . . . . . . . . . . . . . . . . . . . 50

6 Australia Energy Market 52

6.1 Policy Objectives . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 52
6.1.1 Main Objectives . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 52
6.2 Australia’s arrangements for Energy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 52
6.3 Features of National Electricity Rules (NER) . . . . . . . . . . . . . . . . . . . . . . . . . 53
6.4 Energy Retailer Model . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53
6.5 Derivative trading in support of NEM . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 54
6.6 National Electricity Law (NEL) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 55
6.6.1 Network investment Decision-making . . . . . . . . . . . . . . . . . . . . . . . . . . 56
6.7 AEMO Planning . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57
6.7.1 Framework of Possible Policy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57
6.8 Key Environmental Issues for EI . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 58
6.8.1 Price on Carbon Emissions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 58
6.9 Electricity Industry Options . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 58
6.9.1 Key Drivers in Assessing EI Options . . . . . . . . . . . . . . . . . . . . . . . . . . 58
6.9.2 Key Drivers for Renewable Energy . . . . . . . . . . . . . . . . . . . . . . . . . . . 59
6.9.3 Extras . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59
6.9.4 Economic Feasibility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59

Bibliography 60

Appendix A 61

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List of Figures

1.1 Electricity conversion chain . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2

1.2 The energy ’socio-technical’ system . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
1.3 Energy Flows (Functional Perspective) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
1.4 Key Elements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
1.5 Total Electricity Generation (TWh) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
1.6 Electricity Consumption per Capita . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
1.7 Energy Production from Renewables (Mtoe) . . . . . . . . . . . . . . . . . . . . . . . . . . 11
1.8 Overall Energy Self-sufficiency (%) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
1.9 Defining Energy Security . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12

2.1 Top 10 Energy Trilemma Index performers overall and per dimension . . . . . . . . . . . . 14
2.2 Energy Trilemma Balance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
2.3 Energy Trilemma Index Rankings and Balance Score . . . . . . . . . . . . . . . . . . . . . 16
2.4 Diversity of Electricity Generation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
2.5 Fossil Fuel Reserves . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
2.6 Fossil Fuel Reserves . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
2.7 Energy Trilemma Balance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
2.8 Energy Trilemma Index Rankings and Balance Score . . . . . . . . . . . . . . . . . . . . . 17
2.9 Diversity of Electricity Generation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
2.10 Nuclear Supply . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
2.11 Fossil Fuel Reserves . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
2.12 Fossil Fuel Reserves . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
2.13 WEC’s Global Energy Issues Monitor 2015 . . . . . . . . . . . . . . . . . . . . . . . . . . 18

3.1 Open Cycle Gas Turbine (OCGT) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23

3.2 Closed Cycle Gas Turbine (CCGT) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23

4.1 PV Systems in Australia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28

4.2 Australia Electricity Bill . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28
4.3 Monopoly Arrangement . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31
4.4 Simplified Operating Cost Estimates . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32
4.5 Economic Dispatch . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
4.6 Optimal Resource Mix Chart . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34
4.7 Load Duration Curve . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34

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5.1 Current Load Duration Curve in 2014 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37
5.2 Market Suppliers and Consumers Selling Prices . . . . . . . . . . . . . . . . . . . . . . . . 39
5.3 Single Node Spot Market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 42
5.4 CFD and Electricity Trading . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44
5.5 CFD and Electricity Trading cashflow . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44
5.6 Call and Spot Generator Surplus . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47
5.7 Call and Cap End-users . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47

6.1 Regulated Network Services Model . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56

6.2 Network representation in the NEM . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56

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List of Tables

2.1 Australia 2015, Balance Scores . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15

2.2 Key Metrics . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
2.3 Australia 2015, Balance Scores . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
2.4 Key Metrics . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18

4.1 NEM Externalities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29

4.2 Characteristics of each plants . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
4.3 Functional Structure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
4.4 Investment Risks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31

6.1 A$b/yr AETA high and low technology cost scenarios . . . . . . . . . . . . . . . . . . . . 59

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Chapter 1

Introduction to the Electricity Industry

and Electricity Industry Restructuring

1.1 What is the Electricity Industry (Physical perspective)?

The electricity industry consist of the followings:

• Generation - Electricity is generated at a power plant

• Substation - consist of transformers that converts high voltage electricity to low voltage for
distribution

• Transmission - Transmission lines carry high voltage electricity long distances

• Distribution - Distribution lines carry low voltage electricity to customers

• Retail - Retailers meter electricity usage

• Consumption - Customers use electricity for lightning, heating and to power appliances

Recent changes to the physical structure of the electricity network:

• High voltage transmission lines are “undersea” for exporting between countries.

• Appliances are becoming more efficient in term of power consumption.

• All houses in VIC are connected to the grid with “Smart Meters” (1/2 hr reading interval)

• Change in generation, 30-40 coal fire generators are most likely to retire soon.

1.2 Electricity Industry Conversion Chain (Functional Perspective)

Function perspective focus on the electricity grid as a function of useful delivered energy in an
efficient median to the consumer. From Figure. 1.1, energy losses occurs in every stage of the electricity
conversion from primary to end-use energy form. To reduce these energy losses, each states in Australia
are implementing different kind of energy generating technologies, such as:

1
 • TAS: hydro power plants

• SA: gas and wind generating plants

• VIC: ground (young: mostly water and soil) coal plants

Figure 1.1: Electricity conversion chain

Some experts argue that direct fuel and heat, in a refined fuel system will transition into the electrical
system. Due to the reduction in gas and coal fire plants and an increasing demand for clean energy,
renewable source technologies such as solar, wind and hydro are transiting into the electricity system.

Figure 1.2: The energy ’socio-technical’ system

The electricity demands in NSW are falling due to deindustrialisation. However, unlike QLD electricity
demands, it gives an increase to wind and solar PV generation, while their largest consumer of electricity
are the coal fire plants. Similarly in SA, where coal fire plants activity are decreasing with wind power
system increasing to about 35%.

From Figure. 1.3, typically the electricity energy flow ends at the meter of the consumer. However,
from an electricity economical point of view, the energy flow ends at the appliances of the consumer. For

2
example, the light bulb useful energy is 10% of the 100% of the light bulb consumed. Therefore, if the
consumed energy is 30Watt, only 3 Watt of energy is useful energy, while the 23 Watt of energy is wasted
as heat.

Figure 1.3: Energy Flows (Functional Perspective)

1.3 Possible Definition of:

1.3.1 Economics

“The study of choices as they are affected by incentives and resources” Our analysis framework is built
around decision making: who makes them, what are their options and how are their decisions actually
made. Key issues include the mix of centralised and decentralised decision making most appropriate for
particular questions, cooperative and competitive motivations, information and knowledge.

1.3.2 Planning

“long term goals and create future strategies by forward looking decision making”

1.3.3 Investment

Investment is the production per unit time goods which are consumed but are to be used for future
production. Examples include tangibles (such as building a railroad or factory) and intangibles (such as a
year of schooling or on-the-job training)

Note: the opposite to investment is “exiting”.

1.3.4 Decision Making

A decision is the commitment to irrevocably allocate valuable resources with consequences. Decision
making is the cognitive process of selecting a course of action from among multiple alternatives.

Framework:

3
 • What decisions (available choices)

• How are they taken (process)

• Who takes them (individuals or groups)

Good decision making likely to require

• Well informed decision makers

• a good process that includes all stakeholders

• Autonomy for the decision maker (decision theirs to make)

A continuum (continuing sequence) between centralised (government and social norms) and decentralised
(commercial) frameworks.

1.3.5 Words

Deregulation the process of removing or reducing state regulations, typically in the economic sphere. It
is the undoing or repeal of governmental regulation of the economy

Liberalisation refers to a relaxation of government restrictions, usually in such areas of social, political
and economic policy.

Privatisation means the transfer of assets from the public (government) sector to the private sector.

Reform Make change in something in order to improve it.

Restructuring a reorganisation of a company with a view to achieving greater efficiency and profit, or
to adapt to a changing market.

Risk a situation involving exposure to danger.

Uncertainty the state of being uncertain.

Ambiguity a lack of decisiveness or commitment resulting from a failure to make a choice between
alternatives.

Centralised concentrate (control of an activity or organization) under a single authority.

Decentralised move departments of (a large organization) away from a single administrative center to
other locations, usually granting them some degree of autonomy

1.4 Decision Making in the Electricity Industry

In a decision making, the industry must decide on a wide range of objectives such that it will benefit
the industry in the upcoming future. The decisions that the industry can make are:

• Operational - loads, generation & network elements

• Investment - new future loads, generations & network

4
These decisions can be taken as:

• Individual end-users which generally act independently

• processes required for large decision with shared outcomes

And the stakeholders are:

• End-users • Regulated monopolies

• Large generators • Governments

Just like AEMO’s decision making, it too will contain an enormous amount of uncertainties in their
informations, but all that uncertainty risks are all transferred to the consumers.

1.4.1 Principle for Better Decision Making

1. Subsidiarity: take decisions at “closest” possible level to impacts

2. Autonomy: for decision makers, the decision is theirs to make

3. Accountability: hold decision makers responsible for their outcomes

4. Transparency: make it clear on what basis, with, what information, decisions are taken

5. Processes

1.4.2 Electrical industry Decision Making Challenges

The characteristics of a “Risk Infused Industry” within an electricity Industry structure are:

1. Physical Characteristics: A commodity which can not be stored and which requires a
dedicated transmission ’network’ with complex network dynamics

2. Mismatch in rate of change and predictability of Supply and Demand

3. Flat cost curve of generation where marginal cost is only 15% - 25% of total long run cost

4. Commodity nature of product inhibits value based competition resulting in limited degrees of
freedom for competition at the end user level

5. High asset intensity of the industry requiring long time frame investment decisions, where cost is
capital cost driven not opex driven

6. High political interest in the industry driving slow ’interest based’ decisions

The key elements of sustainability developments and interconnections that the electricity industry must
focus are: Economic, Social and Environmental

5
 Figure 1.4: Key Elements

1.4.3 The role of markets in the Electricity Industry Decision making.

A market is a form of coordinated decentralised decision making where participants aim to maximise
their commercial outcomes which requires well-specified tradeable goods and services thus can cause
participants to “reveal their preferences”. The EI needs formal market design since it is difficult to define
tradeable goods and services due to special characteristics of electricity and hence difficult to achieve clear
contractual obligations. It is also difficult to achieve adequate levels of competition due to potential for
market power in primary energy and generation yet little to achieve on the end-user participation.

Traditional industry structure are centralised which are supply-side. Centralised decisions are
unavoidable due to

• Instantaneous and continuous energy flow

• Network, generation and end-use services are hard to separate.

De-centralised decisions are unavoidable due to

• Demand-side of the industry that are largely privately owned

Industries worldwide have undertaken restructuring to provide greater role for market-based competition
which requires designer markets as special characteristics of electrical flows not amenable to traditional
commodity market.

6
1.5 Greatest Global Electricity Industry investment challenge

The number of people gaining access to electricityLikewise for investment for both grid and off-grid
in:
2010-2015 Gird: 100 Million
2010-2015 Urban: 150 Million
Off-grid: 100 Million
Rural: 250 Million
2016-2030 Gird: 150 Million
2016-2030 Urban: 50 Million
Off-grid: 320 Million
Rural: 780 Million
In 2009, the addition finance require for additional investment is $700 billion which is divided into

Mini-Grid 43%
Isolated off-grid 20%
Grid Connected 37%

1.5.1 Australian (former) energy policy objectives

To build a secure, resilient and efficient energy system that:

• provides accessible, reliable and competitively priced energy for all Australians

• enhances Australia’s domestic and export growth potential

• delivers sustainable and clean energy

Achieving these objectives results in

• Better energy markets

• maintaining energy security

• Transforming to clean energy

• Improving energy productivity

• Developing our energy resources

On a broader scale

• Energy Information

• Skills and creating social opportunities

• International engagement

• Sustainable development

7
1.5.2 Australian (current) energy policy objectives

To set out a cohesive policy to secure long-term domestic energy needs, maintain international
competitiveness and grow our export base.

• stable energy policy

• Government wants the policy to be clear and consistent to international investors

• give the community confidence that the energy industry is operating in an efficient and sustainable
manner.

1.5.3 Operational Decision making the electricity industry: as a centralised

engineering optimisation

• An inventory of existing generation, network and demand side electrical equipment

• Technical parameters, operating costs, industry benefits, operating constraints

• Uncertainties in performance, costs and benefits

• ability to control all generation, network and end-use equipment

1.5.4 Investment decision-making in the electricity industry: as decentralised

commercial optimisation problem

• all existing generation, network and demand-side electrical equipment

• All externality costs and benefits associated with operation of all these options

• All their technical parameters, operating constraints, operation and capital costs and derived energy
service benefits of demand

• Uncertainties in all of the above.

Establish markets that maximise overall operational societal benefits

Spot future prices for markets in energy and ancillary services and externalities that incentives
profit-maximising market participants to undertake operational decisions that contribute to maximising
societal welfare in short term.

1.5.5 Investment decision-making in the electricity industry: as a centralised

commercial optimisation problem

• An inventory of all existing and potential future generation, network and demand-side
electrical equipment

• All externality costs and benefits associated with operation and investment of all these options

• All their technical parameters, operating constraints, operation and capital costs and derived energy
service benefits of demand

• The ability to control all generation. network and end-use equipment and undertake all investment
decision making.

8
1.6 IEA Energy Atlas (not lecture material)

1.6.1 Electricity

Two countries, namely the People’s Republic of China (23%) and the United States (18%) dominate
the electricity production in the world. They are followed by India, the Russian Federation, Japan,
Canada, Germany, France, Brazil and Korea. The top ten countries account for more than two thirds of
global electricity production.

Figure 1.5: Total Electricity Generation (TWh)

However when looking at the electricity consumption per capita the ranking is quite different because
electrification rates, penetration of appliances, market saturation, electrical heating or cooling have a
major impact on the level of consumption per capita. For instance, while India is number 3 in terms of
production of electricity, India only appears at the 107th place in terms of electricity consumption per
capita. The consumption per capita map available on the IEA Energy Atlas is very informative on this
respect. Other maps are available for electricity; they include electricity production, share of fossil fuels
in electricity production, share of renewables in electricity production and share of nuclear in electricity
production.

Two thirds of world electricity production come more or less from fossil fuel followed by hydroelectric
plants 16.5%, nuclear plants 10.6%, biofuels and waste 2.0%, and geothermal, solar, wind and other
sources make up the remaining 3.3%.

9
 Figure 1.6: Electricity Consumption per Capita

1.6.2 Renewable Energy

Over the last 40 years, the contribution of renewables to world Total Primary Energy Supply (TPES)
had more or less been stable around 12.5%. Although solid biofuels (mainly fuel wood) are by far the
largest renewable energy source, representing three quarters of global renewables supply, recent dramatic
developments in solar and wind due to supporting policies have started to change the energy renewables
mix, especially for electricity production.

The steep growth of solar and wind compensated the decline in share of hydroelectricity, and therefore
renewables have kept their rank of third largest contributor to global electricity production. They
accounted for 21.6% of world generation in 2013, after coal (41.2%) and slightly behind gas (21.8%), but
ahead of nuclear (10.6%) and oil (4.4%). However, for some countries the share can be much higher,
and in fact equal or close to 100%. This is the case for instance for Iceland with 100% of its electricity
produced by renewables (geothermal and hydro) and Paraguay and Norway, with respectively 100% and
98% of their electricity produced by hydro. The map on the share of electricity produced from renewables
available in the electricity section of the IEA Energy Atlas clearly shows the large share of these countries
and several others. The maps contained in the renewables section of the IEA Energy Atlas represent total
production of renewables, the share of renewables in total energy production, the share of solid biofuels
in total renewables production, the share or renewables in total primary energy supply and the share of
renewables used for electricity production.

The map on the share of renewables in total energy production is especially informative because it
shows that some countries like Ethiopia are over 95% dependent on renewables, in fact in the case of
Ethiopia on solid biofuels not to say on fuel wood for cooking and heating.

The IEA Energy Atlas also allows you to look at the evolution of one indicator for one country or to
make a comparison between several countries. To do so, please go to the bottom of this text and play with
the pre-built graphs to make the comparisons you like for total production of renewables, the share of
renewables in total energy production, the share of solid biofuels in total renewables production, the share
or renewables in total primary energy supply and the share of renewables used for electricity production.

10
 Figure 1.7: Energy Production from Renewables (Mtoe)

1.6.3 Energy Indicators

Data from energy balances complemented or not by various socio-economic information are the basis
for useful indicators to go beyond pure energy flows. For instance, dividing the total primary energy supply
of a country by its energy production gives an indication on the level of self-sufficiency (or dependency)
of a country. Other indicators mix TPES and socio-economic data such as GDP and population: this
is the case for instance for the energy intensity of a country, a ratio between TPES and GDP, which is
often incorrectly used as a proxy for measuring energy efficiency in a country. Energy intensity is not an
indicator of energy efficiency; to build meaningful indicators to assess energy efficiency there is a need for
more detailed energy consumption and activities data (heating consumption and total floor heated floor
area, for instance for the residential sector).

The IEA Energy Atlas provides the user with five selected indicator maps: Total energy production,
energy self-sufficiency, overall energy intensity (based on GDP and GDP PPP) and energy consumption
(TPES) per capita. A quick look at the production map shows that the People’s Republic of China
(dominated by coal), the United States (coal, oil, gas and nuclear) and Russia (coal, oil, gas) are by far
the largest energy producers, followed by Saudi Arabia (oil) and India (coal), accounting together for half
of global production.

It is interesting to look for a little while at the energy intensity map. The fact that Iceland is #4 for
energy intensity perfectly illustrates the importance of dissociating energy intensity and energy efficiency.
If Iceland has a high energy intensity, it is not because the country is not energy efficient; on the contrary,
Iceland is a leader in several energy savings programmes especially for building because of cold winters.
If Iceland has a high energy intensity, it is because a large part of its electricity production comes from
geothermal and because the convention in international statistics for the efficiency of geothermal power
plants is around 10%.

The IEA Energy Atlas also allows you to look at the evolution of one indicator for one country or to
make a comparison between several countries. To do so, please go to the bottom of this text and play with
the pre-built graphs to make the comparisons you like for total energy production, energy self-sufficiency,
energy intensity (based on GDP and GDP PPP) and energy consumption per capita.

11
 Figure 1.8: Overall Energy Self-sufficiency (%)

1.7 Energy Security

The IEA defines energy security as the “uninterrupted availability of energy sources at an affordable
price”. Energy security has many dimensions: long term energy security which mainly deals with timely
investments to supply energy in line of economic developments and sustainable environmental needs.
Short-term energy security focuses on the ability of the energy system to react promptly to sudden changes
within the supply-demand balance.

Lack of energy security is thus linked to the negative economic and social impacts of either physical
unavailability of energy or prices that are not competitive or the lack of cost-effective storage or electrical
energy. The key measurements of “good energy security” of an electrical flowing industry are the availability
and unavailability as well as the quality of supply the point of end-use.

Figure 1.9: Defining Energy Security

12
1.8 Economic Efficiency

Today. the energy market is global, fast moving and facing increasingly complex challenges. One of
its biggest challenges is to balance the need for cleaner energy to slow down climate change, while at the
same time satisfy the demand for affordable energy from the emerging markets. Efficiency challenges are
narrowed down into three categories: Allocative, technical or productive and Dynamic efficiency.

• Allocative challenges: relates to the appropriate choice between goods and services, for example,
electricity versus gas

• Productive efficiency: choosing the cheapest method to produce a good or service such as picking
the best technology or work practices

• Dynamic efficiency: supporting innovation and response to change such as Research and Development
(R&D) technological change or environmental impacts or social expectations.

13
Chapter 2

World Energy

2.1 2015 Energy Trilemma Index

The World Energy Trilemma Index registers overall improvements across the three trilemma goals
(Energy security, Environmental Sustainability & Energy Equity). The Index provides a comparative
ranking of a total of 130 countries and awards countries with a balance score. The balance score highlights
how well countries manage the trade-offs between the three energy trilemma dimensions and identities top
performing countries with a AAA score.

In 2015, Switzerland. Sweden and Norway takes the top ranking in the Index. Figure. 2.1 shows the
Top 10 countries for each indexes.

Figure 2.1: Top 10 Energy Trilemma Index performers overall and per dimension

Managing trade-offs between the three dimensions continues to be a challenge for most countries,
as only Switzerland and Sweden obtain ’AAA’ balance score. Despite the evident challenges faced by

14
each country, Index results for the past five years show signs of progress for all dimensions of the energy
trilemma, proving that the transition towards sustainable, balanced energy systems is slowly occurring.

Over the past five years:

• Global energy intensity has diminished by 4.2%

• CO2 emission intensity has decreased by 4.5%

• Global electrification rate risen to 85%, with an additional 222 million people gaining access to
electricity.

• Gasoline has become more affordable in many countries.

From the 21st Conference of the Parties (COP21), discussion about varies regions in relation to emissions
production.

• Asia is almost 50% of global emissions, but the use of renewable energy is increasing, with half of
global investment in renewable energy made is Asia in 2014.

• Europe with ambitious GHG reduction targets set out, with a combination of continued deindustrialisation,
greater energy efficiency and the use of more renewable energy has allowed countries of the European
Union to decouple economic growth and GHG emissions.

• Responsible of 9% of the GHG emissions is countries in Latin America, face with an increasing
challenge driven by changing weather patterns and concerns related to the energy-water-food nexus,
which require the implementation of soft and hard resilience to adapt to potential ’new normal’.

• In the Middle East and North Africa, policies related to energy efficiency and diversification of
the energy mix are given a growing focus.

• Emissions in North America, accounting for 14% of the global total are expected to peak by
2030 and then decrease back to 2010 levels or even lower.Efforts to reduce GHG emissions from
the energy sector will likely focus on energy-efficiency improvements and the development of lower
carbon energy solutions, such as carbon capture and storage technologies.

• Sub-Saharan African countries, located in the lower Index half, registered low emissions from
the energy sector. These countries are expected to experience significant economic growth with
emissions increasing between 30% to 140% by 2050.

2.1.1 Australia’s Index Ranking

Table 2.1: Australia 2015, Balance Scores

Index Rank Country Balance Scores Energy Security Energy Equity Environmental Sustainability
17 Australia AAD 9.61 (Ranked 6) 8.99 (Ranked 14) 1.55 (Ranked 110)

15
Figure 2.2: Energy Trilemma Balance

Figure 2.3: Energy Trilemma Index Rankings and Balance Score

Figure 2.5: Fossil Fuel Reserves

Figure 2.4: Diversity of Electricity

Generation

Figure 2.6: Fossil Fuel Reserves

Table 2.2: Key Metrics

GDP / capita (PPP,
Rate of industrialisation 28.9% $45,094 (US$ per capita) (Group
USD); GPD Group
I)
TPEP : TPEC (net Energy intensity (million
2.06 0.15 quadrillion BTU per US$
energy exporter) BTU per USD)
Emission intensity (CO2 / CO2 emissions (metric
0.456 Mt per US$ 16.37
GDP) tons CO2 per capita)
Energy affordability (USD Population Access to
n.a. 100.00
per kWh) Electricity (%)

16
2.1.2 Switzerland

Table 2.3: Australia 2015, Balance Scores

Index Rank Country Balance Scores Energy Security Energy Equity Environmental Sustainability
1 Switzerland AAA

Figure 2.7: Energy Trilemma Balance

Figure 2.8: Energy Trilemma Index Rankings and Balance Score

Figure 2.11: Fossil Fuel Reserves

Figure 2.9: Diversity of Electricity

Generation

Figure 2.12: Fossil Fuel Reserves

Figure 2.10: Nuclear Supply

17
 Table 2.4: Key Metrics
GDP / capita (PPP,
Rate of industrialisation 26.7% $56,839 (US$ per capita) (Group
USD); GPD Group
I)
TPEP : TPEC (net Energy intensity (million
0.47 0.08 quadrillion BTU per US$
energy exporter) BTU per USD)
Emission intensity (CO2 / CO2 emissions (metric
0.12 Mt per US$ 4.93
GDP) tons CO2 per capita)
Energy affordability (US$ Population Access to
0.21 100.00
per kWh) Electricity (%)

2.2 World Energy Issues Monitor

The monitor provides a snapshot of what keeps energy leaders awake at night. It helps to define the
world energy agenda and its evolution over time. It provides a high level perception of what constitute
issues of critical uncertainty, in contrast to those that require immediate action or act as developing signals
for the future. Thus, it has developed into an essential tools to understand the complex and uncertainty
environment within which energy leaders must operate.

The World Energy Issues Monitor is comprised of 40 issues across four categories: macroeconomic
risks, geopolitics, business environment and energy vision and technology. The WEC’s Monitor is set in a
context of high uncertainty.

Figure 2.13: WEC’s Global Energy Issues Monitor 2015

18
2.2.1 What keeps energy leaders awake at night?

Energy prices/volatility has been a critical uncertainty since 2009, which highlights the issue’s
long-lasting importance to energy leaders. In 2015, price volatility remains a key concern, demonstrated
by the more than 50% drop in price over seven months where a barrel of crude oil was priced $108 in
January 2014, reaching its peak price of $112 in June before falling below the $50 benchmark in early
2015.
Commodity price and price volatility are consistently perceived to have a high impact across the
word, which highlights the link between both energy and non energy commodities (e.g. oil and gas) and
the issues of pricing.
The costs of non-energy commodities are failing in line with plunging energy prices, reflecting the
weaker demand from China and the trend of oversupply found with regards to a number of energy markets.
This is perhaps seen most notably for those countries and industries with the strongest links to this
relative slowing demand for example in Australia the price of iron ore fell by more than 49% during phases
of 2014 and in South Africa where commodity price are the second highest uncertainty issue.
Climate framework relates to the uncertainty on the outcome and time-horizon of global climate
negotiations (i.e questions of whether there will be global or regional price on CO2 and if so, what what
price)
The US-China ’climate deal’ makers a change in the positions of two of the largest greenhouse gas
emitters, increasingly putting pressure on other large emitters not bound by targets, such as India. The
extend of the situation will transform into actions, with meaningful effect for national policy and industry
implications.
The role of electric storage to secure the supply of electricity becomes even more important in
combination with the recent commitments towards energy security (G&) and access to energy (UN goal).
At the same time, incentives to deliver required storage and back-up capacity are not strong enough with
traditional market designs, which is a driving factor of uncertainty.
There is however a strong regional split with regards to the extend the issue is perceived to have an
impact on the sector. While Africa perceives climate to have a low impact on the sector, North America
and other OECD countries perceive the impact to be large on the sector, which reflects the expected
degree of commitment to legally binding climate target.
Electric storage is a top critical uncertainty and high chance issue having increased in impact
and uncertainty compared to 2014. The increasing shares of intermittent energy sources is expected to
quadruple by 2035 which further driving the need to storage facilities to secure the supply of energy.

2.2.2 What keeps energy leaders most busy?

Energy Subsidies, the International Monetary Fund estimates that in 2012 alone, $2 trillion of
government spending/lost revenue was allocated to subsidies fossil fuels globally.
Renewable energies and energy efficiency have consistently been need for action issues in 2013
and 2014. They play an important role towards fulfilling climate targets and commitments towards energy
energy security and access to energy. This is important in view of rising long term energy demand due to
increasing wealth and population growth.
Capital Markets is a high change issue, having moved from a top uncertainty in 2014 to a key
need for action issue in 2015. The WEC World Monitor report 2014 estimates that energy efficiency
investments of $1.7 trillion will be necessary in order to achieve a sustainable energy supply.

19
 China/India is an issue with last perceived impact across the world. Key factors that determines
the position of the issue is; for Africa the investment and trade relations as well as technology transfer
with China are a key driver for the perceived impact. In 2012, the Chinese foreign direct investment (FDI)
stock in South Africa, Nigeria and Sudan amounted to approximately $19.8 billion, making half of Chinese
FDL stock in Africa. In North America and other OECD countries, China’s economic development, energy
demand and its effects on energy prices plays a crucial role in the perceived impact associated with the
issue.

2.2.3 New Issues of 2015

Coal, in Asia and North America coal is a key need for action issue, which reflects the regions coal
demand, where Asia is the world’s largest consumer with a 14% share of total use, including the export
basis for the latter as we continue to see the displacement of cheap coal from the US to Europe.

20
Chapter 3

Generation Costs

The distinct ways to generating electricity incur significantly different costs. Generations costs only
focus on the overall expenditure of the plant.

3.1 Costs - now and in the future

Investment costs are costs incurred that offer potential for future production. Operation costs are
costs incurred for production using past investment. Questions asked is whether to invest now or later, or
how to operation your investment?

So which one is risker?

High up front investment costs with low operation costs

vs
Low up front investment costs with high operating costs

Electricity generation costs will definitely contain uncertainties

Capital Costs Operating

• Unit $/MW • Operation and Maintenance

– Unit Size – Type

– Build Time ∗ Fixed O&M ($/MW/year)
– Potential failure modes ∗ Variable O&M ($/MWh)
– Fuel Costs ($/MWh
– Environmental Externality Costs
($/MWh)
– Other possible social costs associated
with operation
– With major future uncertainties

21
3.2 Levelised Cost of Energy (LCOE)

Most commonly used tool for measuring and comparing electric power generation costs. It reflects
the minimum cost of energy at which a generator must sell the produced electricity in order to breakeven.
The calculation of LCOD requires a significant of inputs and assumptions. The formula for calculating
LCOE:

Pn I t + M t + Ft
t=1
(1 + r)t
LCOE = Pn (3.1)
Et
t=1
(1 + r)t

LCOE = Average lifetime levelised electricity generation cost

It = Investment expenditure in the year t

Mt = Operations and maintenance expenditure in the year t (carbon price and other costs may be
added)

Ft = Fuel expenditure in the year t

Et = Electricity generation in the year t

r = Discount rate

n = Life expectancy of the plant

3.3 Location of Generation plants

Resource Type

1. Uranium - Upper region of Northern Territory and Center South Australia

2. Black Coal - Majority South East of Queensland

3. Brown Coal - Victoria

4. Conventional Gas - North West Coast of Western Australia

5. Coal Seam Gas - Only at South East of Queensland

6. Oil - Same location as Conventional Gas

Plant Type

1. Tidal Energy - Upper coastal line of Western Australia and Northern Territory

2. Wave Energy - Bottom Coastal line of WA, SA, VIC and TAS

3. Wind Energy - South of Australia (WA, SA, VIC, TAS)

4. Solar Energy - Majority in NT and Center to North of QLD

5. Geothermal Energy - North of SA, WA and QLD

NSW has Black Coal, Wave Energy in Gunnedah Basin and Wind, Solar Energy

22
3.4 Summary of each type of Generation plants

3.4.1 Coal Fire Generation

3.4.2 Gas-fired Generation

Figure 3.1: Open Cycle Gas Turbine (OCGT) Figure 3.2: Closed Cycle Gas Turbine (CCGT)

Key tradeoffs between OCGT and CCGT:

• First stage is identity, a gas turbine generations energy by consuming natural Gas.

• In OCGT, the second stage, the excess heat is wasted while in a CCGT, the heat is transferred to a
Stack which travels through a stream line to operate a stream turbine which runs a different set of
generator.

3.4.3 Hydro Generation

Hydro uses the flow the water usually from damp to operate the generator.

3.4.4 Wind Farm

3.4.5 Solar Energy

Capital cost are very high: because of plumbing hot water and stream (PV is quarter of the capital
cost)

Trudge - 2D curved mirrors Linear fresnel: segmented mirrors used to mimic parabola shape

Dish: 3D parabola focusing the solar into one source

Tower(most popular): an array of helix stack, focusing the heat into one tower which can be connected
to storage tanks at low additional costs. Levelised cost of electricity with storage in the spreadsheet is on
par or lower that those without. 12hrs generator, and don’t store it, the generator must be rated for its
output rate. With storage, the plant can run on a lower rate hence, saving money (investment).

Storage is the most valuable thing. Operation cost: cleaning, plumbing and maintenance

23
3.4.6 Biomass Energy

Consumed crops or public wastes

3.4.7 Cogeneration Options

3.4.8 Nuclear Energy

A stream cycle power plant with heat provided by controlled ongoing nuclear fission.

Capital Costs for nuclear plants are much greater than coal plants due to its complexity build and
research that must be invest into nuclear plants. Also, nuclear plants has the highest construction fail
rate due to over budget or under scheduled plans.

Small nuclear module are small investments and easy to construct.

3.4.9 Geothermal Energy - Radioactive Rock

Australia has plentiful of radioactive rock at 3,000m covered by insulated layers. Trials is underway
in SA (Copper Basin).

Relies on high level of volcanic, Australia has radioactive rock aka Nuclear Hard rock deep into the
Earth’s crust. Relocation of people and equipments - geographic location is difficult. Oil and gas dig
deep down however they are very valuable, while geo thermal company only sees hot stream. People still
doesn’t understand the Earths crust which introduces a high level of uncertainties with this technology.

Hot sedimental aquifers rocks are under coal (French Switzerland).

3.4.10 Tidal Energy

Low-head hydro with two directional flow, less cost-effective than hydro. Usually place in fresh water
due to the corrosive effect of sea water on equipment. Hydro plant, driven by tidal wave, created by the
moon. 20MW plant O&M are high due to salty water & marine life can damage equipments

3.4.11 Wave Energy

Wave energy is similar to wind energy, energy density varies dramatically. Need strength to survive
storms yet cheap and sensitive enough to produce energy from small waves. Australia is in the lead with
a couple of pilot technology Blow hole like function where the wave energy is derives from wind energy

3.4.12 Capturing CO2 from Power Station

Post combustion: capture CO2 and stick it underground or varies chemical process that sucks CO2
and blow it out. CO2 is around 14% of exhaust gas, mainly is nitrogen. 1tonne of coal -> 3tonnes of CO2

IGCC Gasified gas and pre combustion: run hydrogen in a convert gas fire plant and capture the CO2

OxyFuel: handle lots of nitrogen to capture the C02, So burn all the nitrogen and capture the CO2
at the end. Trading cost of operating the plant versus cost for capturing CO2 gas

24
 Good news there are 3 options. Bad news, no obvious winner, therefore high uncertainty 600MWatt
coal fire plant ~> to a 400MW coal fire plant due to CO2 capturing and storage. Therefore most of the
money are spend upfront or capturing and storage of energy and CO2.

Low O&M is a real risk assessment of the plant

If lots of money and risk upfront with lots of risk in future operation=bad. Captured CO2 is used for
soft drinks

3.4.13 Geosequestration Options

Extensive experience with injecting CO2 to enhance recovery from depleting oil reservoirs. CO2 used
to enhanced oil recovery plant to produce more oil .

3.5 NEM in Summary

Participating territory QLD, NSW, Vic, SA, Tas, ACT

NEW regions QLD, NSW, Vic, SA, Tas
Installed capacity 48,321 MW
Number of registered generations 317
Number of customers 9.3 million
NEM turnover 2012 - 13 $12.2 billion
Total energy generated 2012 - 13 199 TWh
National maximum winter demand 2012 - 13 30,491 MW
National maximum summer demand 2012 - 13 32,539 MW

Coal plants runs harder typical higher than gas and hydro plants. It indicating that coal pant is the
cheapest. Installed capacity is 55000MW now With ~330 installed generators

3.6 Recent asset and investment estimates

The UK is constructing additional transmissions faculties to bring power plants away from the urban
regions. Investment rate is lower than networks. The network is mono-policy connect and investment is
market driven hence major disconnection between them.

25
 Australian electricity demand + supply Australia doesn’t have heavy industry close to people.

Electricity Consumption

• Non-ferrous (AL & MG metal, humongous of electricity in production) 176.5

• Agriculture 6.7

• Mining 70.5

• Food, textiles 26.1

• Wood, paper printing 20.0

• Chemical 15.6

• Iron and steel 26.7

• Other industry 41.4

• Construction 0.3

• Residential 223

• Commerce and service 168

• Rail transport 8.0

3.7 Distributed Energy Options

Distributed Generation

• Renewable energy sources including solar thermal, photovoltaics (PV), smaller-scale wind or biomass.

• small-scale fossil fueled generation. combined heat and power (CHP) plants powered with engines,
gas turbines or fuel cells

Network Load Management and Storage

• Direct energy storage, chemical battery technologies, super-conducting magnetic systems, fly wheels

Energy Market “Demand Response”

• Electrical end-user that actively respond to changing conditions; e.g.. “smart” buildings that control
heating and cooling to exploit their inherent thermal energy storage

Energy Efficiency

• End-user energy efficiency

The big modeling tools are the big stuff well however, terrible in the small smart decision planning

Peak demand is the highest demand. Its more jagged than the average consumption of energy

Factors contributing to failing demand

26
 • Energy efficiency

• Residential PV system

• Demand side participation

• Price elasticity: demand meeting price

• Overall economic conditions

• Deindustrialisation: lose in AL smelters

• Close down of large coal fire plants

• Underlying increase in population movement from electricity to gas

• Introduction of new load in the region. (i.e. LNG export in QLD 1GW of energy)

AEMO graphs doesn’t see PV, it sees as reduced demand When the demand starts falling, question ask
when will demand starts rising, which makes investment decision very very hard. AEMO wants more
investments.

27
Chapter 4

Broad Economic perspectives for

Electricity Industry Decision Making

Australia is the world leading residential PV penetration with majority of the PV systems located in
SA and QLD.

Figure 4.1: PV Systems in Australia

The average Australian electrical bill have increased about 200% due to the introduction of carbon
tax, 130% increase in network price and a 33% increase in energy price

Figure 4.2: Australia Electricity Bill

28
4.1 Capital Recovery Factor

A Capital Recovery Factor (CRF) converts a present value into a stream of equal annual payments
over a specified time, at a specified discount rate (interest). The generation cost consists of annualised
fixed and variable costs, The annualised fixed cost is calaculated from the overnight capital cost of each
generation technology using the CRF, Eqn. 4.1, where m is plant life and i is the discount rate.

i(1 + i)m
CRF = (4.1)
(1 + i)m 1

4.2 Externalities

NEM environment externality costs are likely outweigh direct costs. However, social and economic
benefits of delivered energy services which outweigh both direct and environment costs.

Table 4.1: NEM Externalities

Coal-fired generation in NSW (2009-10)
Note; supplying >90% of state $/MWh estimate
electricity
Direct Long Run Marginal Cost $50-55 (Acil Tasman report to
(similar to levelised cost) AEMO, 2009)
Direct Short Run Marginal Cost (fuel
$10-14 (Acil Tasman as above)
and VO&M)
$13 (mid-range estimate of
External Health damage costs
ATSE, 2009)
External Climate Change damage cost $65 (Stern Review estimate)

4.3 Economic characteristics of generation options

This table will give a better perspective of each characteristics of generation plants against other
technologies.

Table 4.2: Characteristics of each plants

Technology Unit Size Lead Time Capital Operating Fuel Cost CO2 Regulatory
Cost /kW Cost Emissions Risk
CCGT Medium Short Low Low High Medium Low
Coal Large Long High Medium Medium High High
Nuclear Very large Long High Medium Low Nil High
Hydro Very large Long Very High Very Low Nil Nil High
Wind Small Short High Very Low Nil Nil Medium
Hydraulic Small Very short Low Low High Medium Medium
reciprocating
engines
Fuel Cells Small Very short Very high Medium High Medium Low
Photovoltaics Very small Very short Very high Very Low Nil Nil Low

29
4.4 Commercial Perspectives

This table illustrates the characteristics of each functions in the energy network from the investors
point of view and the potential features for competition.

Function Key Economic Characteristics Implications

• Limited scale economies at plant level

Generation • Co-ordination economies at system level Potentially competitive

• Complementary with transmission

• Network externalities • Investment incentives need

special attention
Transmission • Not a natural monopoly
• One grid but possibly several
• Large sunk costs owners

• Natural monopoly
Distribution No competition
• Large sunk costs

System Operation • Monopoly (due to technical constraints) No competition

• Limited scale economics

End-user Supply Potentially Competitive
• No Special feature

Related Services • No Special feature Potentially Competitive

Table 4.3: Functional Structure

4.5 Investment Decision Challenges

Each technologies are associated with a level of uncertainty which can ranges from economic to legal
risks.

30
 Category Types Examples
Market Risk Inadequate price and demand to cover investment
and production cost
Economic Risk
Construction Risk
• Cost overruns
• Projection completion delays

Operation Risk
• Insufficient reserves

• Lack of capacity of operating entitles

Macroeconomic Risk Changes in inflation or interest rates

Regulatory Risk Changes in environmental obligations
Political Risk Transfer-of-profit Risk Foreign exchange convertibility
Nationalisation Risk Changing ownership of the assets
Documentation Risk Terms and validity of contracts and agreements
Legal Risk Governance Risk Process whereby societies make important decisions,
determine whom they involve and how they render
account
Jurisdictional Risk Enforcement Risk

Table 4.4: Investment Risks

4.6 Traditional monopoly Arrangements

Figure 4.3: Monopoly Arrangement

Vertical Arrangement, do not own the customers

31
4.7 Centralised decision making Model

From a policy, legal and regulatory context,

1. the physical electricity industry takes the highest priority which contains equipment, collective and
existing infrastructures (ramp rate, minimal operating level and emissions).

2. Engineering models, which consist of abstract plan of the generation plant (efficiency).

3. Economic models, taking consideration of humans and collectives (costs associated with operation).

To add: Fuel cost means everything, capital cost means nothing

Two main charts used to aid decision making is the Operating Cost Estimates (SRMC) and Economic
Dispatch.

Figure 4.4: Simplified Operating Cost Estimates

It is obvious that the most cheap energy generating plant will dominate other technologies that are
costly to operate. However, this charts gives a good indication of where each technology are position in
term of their operation cost.

32
 Figure 4.5: Economic Dispatch

The economic dispatch curve indicates the energy demand for each hour intervals. Most cheap
generation plant will operate at its maximum capacity regardless of the day. However, costly generation
plants such as Gas Turbine and Hydro supplies the peak demands only.

4.8 Optimal Resource Mix

The above two charts only considers variable operating costs. We need to consider capital, fixed and
variable O&M for any possible mix of future generation technologies. The Optimal Resource Mix does the
key comparison between generations.

• Investment lead time (construction time) and plant life.

• Direct Costs

– Fixed Cost (independent of output): investment, fixed O&M ($/kw/yr)

– Variable Costs (varies with output): fuel, carbon emissions cost, variable O&M ($kWh)

• External Impacts: environment, visual, noise

• Operating characteristics: startup time. operating constraints.

Total Annual Cost of Operation (TC)

T C($) = Fixed Cost + CF⇥Variable Cost⇥365⇥24($/kW/yr)

where

CF is capacity factor which is equivalent to percentage of time, indicating how hard the plant operates

33
 Figure 4.6: Optimal Resource Mix Chart

The optimal resource mix is the cheapest available options of generation plants for any capacity
factor. This is represented by the enveloped curve. The intersection of the total annual cost for each
technologies in the envelope curve represents the breakeven points.

The load duration curve is a representation of the load demand usually over one year period. The
breakeven points are then projected down to the load duration curve to determine the regions that the
optimal generation plants will operate in.

The difference load demand (%) is the amount of

available capacity that each plants can supply.
The advantage of this method is that it is simple
and transparent.
The key limitations are:

• How to incorporate renewable technologies

• Focus on finding the least-cost mix based on

deterministic assumptions of key cost factors

• Limited consideration of future uncertainty

and analysis of risk associated

Uncertainty is considered is a distribution not a

value. Or maps trade off, investment theory, risk
turn return low risk, low return high risk, high
return

Figure 4.7: Load Duration Curve

Therefore, there’s uncertainty near the high cost plants, ie CF -> 0.....1 i.e. relates to CO2 tax prices
Pushing up CCGT, theres is certainty in gas fuel price and reduces the risk of coal price, thus a trade off.

The Optimal Resource Mix method assumes that all plants are dispatchable across their entire
output range. However, this is not the case for renewable plants due to their non-changing total annual
cost over all output range. Renewables is a strategy to reduce uncertainty risk in gas, coal and carbon
emissions.

34
 One approach is to use Residual (net) load duration curve

• assuming priority dispatch for renewable generation (dispatch when available)

• Model renewable generation as negative demand

Integrate resource planning -planning methodology that minimises cost- least cost service delivery, not
least cost of electricity (differences involved due to network issues, security, efficiency cost)

Integrated resource planning looks at the loads and efficiency between the plant to the supply. Around
the full supply chain from resources to the deliver service. Integrate resource planning needs to consider
the chain.

This method is implemented when their is no competition between generation plants. In most
situation, the market determines the prices through negotiation or auction trading where uncertainty
comes from the market design or industry structure (supply-demand balance, degree of market power)

4.9 Price Setting

Cost - what it actually costs to make

Price - what you can sell it for

35
Chapter 5

Market Oriented Approaches

5.1 Centralised (monopoly) decision making

• Risk

– Low efficiency
– low innovation (lack of completion)
– stakeholder capture (politicians, contractors, the public, employees of the organisation)
– economically efficient signaling to the demand side

• Process issues

– transparency (vertically integrated utilises can be ether very high or very low)
– stakeholder consultation processes
– separation of powers between those who make the rules, put them into operation and judge
them.

In Australia, all generation planning, investment and operation are all undertaken by Electricity
Commission of NSW. NSW electricity consumption +9%/year in 1960-70s, +6%/year up to the early
1980s, then 3%/year.

Some statistics in 1984

Coal Plant 10,000MW

NSW System Gas Turbines 320MW
Hydro 3,000MW
Bayswater 2640MW
Under construction Mt Piper 1320MW
Tallawarra C 660MW

27 out of 36 countries, has power generating market (monopoly)

• Africa is majority vertical integrate regulated monopoly

• China is Unbundling - International Plant Propagators’ Society (IPPS)

36
 Commission Findings

Currently, the Electricity Commission generation plan is that they can defer a new base-load investment
proposed since they are:

• more focus on value of interconnection with Vic than ECNSW presently

• more gas turbines rather than base-load coal which will save money (~300MW of peaking per
600MW of base)

NSW generation planning suffers from procedural problems due to the lack of consultation with the public
in industry which is funded by consumers. Generation are large project which make the lead time difficult
to exercise adequate political control. Such organisation can inefficiently allocate societal wealth for excess
capacity which can cost NSW several $billions.

Figure 5.1: Current Load Duration Curve in 2014

The issue is that existing NSW plant mix is biased towards base-load generations which are are
adequate for present demand despite no significant new base-load plants since Mt Piper in the early 1990s.

5.1.1 Electricity industry Restructuring Objectives

1. Improve economic efficiency by facilitating competition

2. Enhance accountability to end-users and society through “customer choice”

3. Implement a market-based approach to environmental and social externalities

Integrated Resource Planning

A planning methodology which seeks the least cost option for meeting customers’ needs for energy
products. Least cost is determined from the perspective of the community as a whole and strictly should
include all costs borne by the community. The IRP methodology specifically compares both supplyside1
options with demandside2 options on a equal basis on determining the least cost option.
1 such as building power stations
2 such as promoting energy efficiency

37
5.2 Role of Markets in EL Decision Making

A market is a form of coordinated decentralised decision making where the participants aim
to maximise their commercial outcomes. The electricity industries need formal market design because of
difficulty defining tradable goods/services due to special characteristics of electricity. Hence difficult to
achieve clear contractual obligations.

• participants aim to maximise their commercial outcomes

• require well-specified tradeable goods or services and cause participants to reveal their preferences.

5.3 Decentralised framework for electricity industry.

Electricity pricing theory 1#

A single owner of an electricity industry could maximise Industry benefits of trade (IBOT)

• if all supply costs and all demand side benefits were known

Optimal prices in a decentralised industry:

• that set of prices that achieves the same IBOT incremental cost or loss of benefit of delivering
additional flow of energy at any particular location at any particular time similar to usual SRMC
definition.

• location specific, time specific, may be set by loss of benefits (values)

5.3.1 Optimal pricing policy in a decentralised industry

• location and time specific spot prices based on:

– local supply/demand balance

– network arbitrage subject to losses and flow constraints

• location and time specific prices based on

– plausible scenarios of future

∗ generation
∗ demand
∗ network losses
∗ flow constraints
– plausible effects of future decisions

38
5.3.2 An economic optimisation problem

A set of location specific spot markets

• In each energy flow meets QOS criteria at local spot price in successive short spot market intervals

A set of location specific derivative markets

• related to future spot price expectations at different locations

– predict aspects of future spot market behaviour

– permit reallocation of risks

Ancillary Services

• resources that maintain availability and quality of supply (systemic or location specific)

Regulatory monitoring of strategic behaviour

5.3.3 Operational dispatch as an Auction

Figure 5.2: Market Suppliers and Consumers Selling Prices

If the supplier is selling at $10 and a buying at $12, it is not beneficial for the seller, since there are
other buyers willing to pay more. Want to maximise the area between the supply to demand The clearing
price and quantity is the maximise demand & supply. i.e., never trade on the right of the clearing line.

With all buyers and sellers negotiated as a group, an efficient auction leads to bid to buy, offers to sell
as well as price and quantity while maximising the benefits of trade (consumers’s surplus + supplier’
surplus, surplus = [benefit - purchase cost] or [income - operating cost])

Double auction can accept offers to sell, starting from the lowest price. it can also accept bids to buy,
but starting from the highest. The auction stops when offer price equals to the bid price.

39
5.4 How does an end-user know what to bid to buy electricity?

For example, an aluminium smelter which needs 15MWh to make 1 tonnes of Aluminium which
sells for $1800/t. Non-electricity variable costs are $1100/t. What is the value ($/MWh) of consumed
electricity for this smelter?

$700/t for 15MWh/tonne

$700/15 MWh = $46.67/MWh

Therefore, if the

> $46.67/M W h $ losses

smelter buys at
< $46.67/M W h $ gain

Consider a simple power system with a hospital that values electricity supply at $1000/MWh and a
generator that has electricity generating costs of $30/MWh.

What is the economically efficient price and why?

Any value between $30/MWh to $1000/MWh. The economic solution does not care who profits and
market does not care bout decision of profit.

Consider a simple power system with a hospital that values electricity supply at $1000/MWh and
wishes to expand and hence would require an additional continuous MW of demand. Unfortunately the
generator is already operating at its maximum output and the construction of a new power plant would
cost $175,000/MW/yr with operating costs of $30/MWh.

What is the economically efficient price, and why?

$175, 000
+ $30/MWh = $59.98/MWh
365 ⇥ 24

Therefore, the efficient price is between $59.98/MWh to $1000/MWh

Consider a simple power system with a hospital that values electricity supply at $1000/MWh and
wishes to expand and hence would require an additional continuous MW of demand. Ample generation
is available at a wholesale price of $50/MWh. Unfortunately the network supplying the hospital is
constrained and the construction of augmenting the network is $437,000/MW/yr with operating costs of
$1/MWh.

What is the economically efficient price, and why?

$437, 000
+ $1/MWh + $50/MWh = $100.89/MWh
365 ⇥ 24

40
 Therefore the economically efficient price $100.89/MWh to $1000/MWh for the new augmented
network and electricity.

A single owner of an electricity industry could maximise IBOT3 into account:

• network losses and flow constraints

• security: probability and consequence of outages

5.5 Short Term: Decision making as a market clearing process

An electricity spot market can perform economic dispatch

• generators submits offers to sell

• End-users or retailers offers bids to buy

• Unbid decisions is forecast and the assumes that end-users are willing to pay spot market at ceiling
price

The electrical market update interval is 5 to 30 minutes where:

• energy are assumed to be a tradeable commodity

• with availability and quality of supply managed by ancillary services

5.6 Electricity Market Models

5.6.1 Gross Pool

NEM uses a gross pool market in which all generators sell all of their electricity through the
market which supply to demand instantaneously. From the generator’s offer, the market determines the
combination of generation to meet demand in the most cost-efficient way.

The market determines the spot price every 5 to 30 minutes for each of the five region of the NEM.
The short term 5 minute refresh sets the operation levels for dispatchable resources.

The gross pool is also temporal and location risk managed collectively: spot market, PASA4 and
SOO.

All generator and load pool must sell to the pool and buyers must buy from the pool.

3 Industry Benefits of Trade

4 Procurement and Supply Australasia

41
5.6.2 Net Pool

Used by UK NETA as a system based on ’bilateral5 contracts’, which measures the imbalances as the
difference between:

1. a user’s net contract position (sales minus purchases)

2. the user’s net physical output (production minus consumption)

the difference between contract and physical positions is recorded a an imbalance to be settled at a price
that is determined not by the market but by rules set out in the compulsory balancing and settlement
agreement. Therefore, the network is not modelled in the trading agreement.
System operator are given only one day of notice of bilateral trades - dispatches resources consistently.

Figure 5.3: Single Node Spot Market

5.7 Electricity Pricing Theory

A single owner of an electricity industry could maximise Industry Benefits of Trade (IBOT), if all
supply costs and all demand side benefits were known.
Optimal prices in a decentralised industry, that set of prices to achieves the same IBOT,

• incremental cost or loss of benefit of delivering an additional flow of energy at a particular

location at a particular time

• Similar to usual SRMC definition if no inter-temporal links:

– Location-specific; time-specific, both may be set by loss of benefit (value)

• Otherwise a set of prices that reflect future decisions options is based on best available model of
future price behaviour, including impacts of a specific decision on future prices.

• For investment, only future price matters

To establish market prices

Spot markets+Forward marketsand or Derivative Markets

5 involving two parties either derivative or physical contract

42
5.7.1 Motivation for trading in electricity derivatives

Generators that have fixed costs but face variable spot price

Retailers that buy at variable spot price and sell on pre-determined retail price. Retailers are usually
short life investments but prepare to sign long term contract.

Large end-users that buy at variable spot price and sell in competitive product market

opposing (complementary) risk profiles:

• generator natural seller of derivatives

• Large end-user, retailers natural buyer of derivatives.

5.8 Longer-Term: Key role for derivatives (CFD)

A derivative (contract) is a paper product. Also called “financial instruments”.

Its only relationship to the physical product is through the future spot price. It creates a financial
obligation related to a future spot market price outcome.

The spot market purely uses derivatives, buying future prices of electricity.

Key types of derivatives for electricity

• two sided contract for differences (CFD) or swap

• call options or cap (a form of one-sided CFD)

• put option or floor (a form of one-sided CFD)

5.8.1 Key Parameters

• Quantity of spot market units to which derivative applies (MWh)

• Spot market period(s) to which derivative applies

• Strike price (contract price), interpretation depends on the type of derivative

5.8.2 Two sided CFD or swap is a piece of paper stating

1. Contract price (strike price) = pc

2. Contract quantity = xc

3. A future spot time at which contract will be reverse traded (or closed out) at spot price ps

Trade in CFDs is only related to trade in the physical commodity by the spot price at which the reverse
trade is carried out which determines the financial value.

43
5.8.3 Trader’s view of CFD trading

CFD buyer

• Buys CFD at contract time: cost = pc xc

• Sells CFD at spot time; income = ps xc

• Net cost of CFD to buyer = xc (pc ps )

CFD seller

• Sells CFD at contract time; income = pc xc

• Buys CFD at spot time; cost = ps xc

• Net value of CFD to seller = xc (pc ps )

CFD Revenue = Xc (Current Spot Price - Generators willingness to sell)

Profit = Xc (End-user willingness to pay - Generators willingness to sell)

Electricity Cost = Xc (End-user willingness to pay -Current Spot Price)

Market in CFDs to allow adjustment of xc

Figure 5.5: CFD and Electricity Trading cashflow

Figure 5.4: CFD and Electricity Trading

Direct end-user using CFD as a hedge against price risk when investing.

End-user wanting to build 15MW factory buying from spot market with expected future price of
$50/MWh (spot market price), with a assume product contract value is $150/MWh.

At contract time, end-user buys (spot market price):

15MW CFD at $50/MWh = $750/h

pc = $150/MWh

ps = $50/MWh which is on the spot market price $50/MWh

xc = 15MW

The build plant, then locked in profit = xc (pc ps ) = 15(150-50) = $1500/h

44
 At spot price time, consider two cases:

• Spot price = $100/MWh

With consumption of 15MW, spot + CFD trading
Electricity cost = $750/h = 15(150-100)
CFD revenue = $750/h
Profit = $1500/h

• Spot price = $200/MWh

With consumption of 15MW, spot + CFD trading
Electricity cost = -$250/h (15MW x (150-200)$/MWh)
CFD revenue = $2250/h (15MW x (200-50$MW/h)
Profit = $1500/MWh (15MW x (150-50))

or Shut down factory and earn a profit from the CFD transaction alone:
profit from CFD = xc (ps pc ) = 15(200 50) = 2250$/h

5.8.4 Generator using CFD as a PPA

Company wanting to build a baseload generator (100MW) & required to sell directly into spot market:
– Assume that capital cost of plant is $175.2k/MW/yr ($20/MWh) and can run at 100% capacity factor,
SRMC = $20/MWh
At contract time, generator sells: 100 MW CFD @ 50 $/MWh starting in year x= 5000 $/h
Assuming plant gets built in time and on budget ‘Locked in’ operating profit = 100(50-20) = 3000
$/h from year x
What of overall profitability?
Profitability to the company is $2000/h or $17,520,000/h
At spot time in year x, consider two cases:
1. Spot price = 100 $/MWh With generation of 100 MW, spot + CFD trading
electricity revenue = $8000/h = 100MW(100-20) (price is above contract price) CFD revenue =-$5000
= 100(50-100) Profit = $1000/h ($8000+-$5000-$2000)
2. Spot price = 10 $/MWh
electricity revenue = $1000/h CFD revenue =$4000/h Profit = $0/h ($1000+$4000-$3000-$2000) or
shut down = $2000 (No O&M cost)

45
5.8.5 Summary of CFD properties

CFD protects against future price risk and hence supports longer term operating decisions but also
investment in both load and generation

• incentive to fully hedge expected spot price

Thus CFD market predicts future spot market in both price and volume (hedge volume)

Even when fully hedged, there is still an incentive to respond to spot price

• rewards voluntary price response

• generator not protected against outage risk

5.9 Call and Put Options

The seller must compensate the buyer if the spot price is above the strike price

Potential call option buyer

• consumer with inflexible demand

• unreliable base load generator, to replace when the plant breaks down when spot market is really
high

Potential call option seller

• reliable, high operating cost thermal generator (OGCT)

• low capacity factor hydro generator

5.9.1 Features

Options are single sided versions of CFDs

Unlike CFDs, the option layer must pay a fee to purchase the option

The option fee is based on an estimate of the close out value of the option at spot time:

• a call option will have non zero close out value if the spot price exceeds the option strike price

• a put option will have non zero close out value if the post price is lower than the option strike price

Can create composite derivatives such a collar combines a call option at a higher strike price with a put
option at a lower strike price.

46
5.9.2 High Operating Cost

Generator would like to assured operating surplus will earn return on investment.

• But if operating cost > expected spot price, they cannot benefit from a CFD contract

If generator reliable in both start and operation:

• sell call option at strike price = operating cost

• Then option fee provides return on investment with size of fee depends on likelihood of spot price
> strike price

If the plant doesn’t even operate, it will get pay regardless of operation. If the spot price increase over
generation price, the profit goes up. Therefore, the revenue price never increase. Profit is absolutely
independent from the spot price.

Figure 5.6: Call and Spot Generator Surplus

5.9.3 End-user Hedge

Figure 5.7: Call and Cap End-users

47
 End-user with 100MW inflexible load in market with high price volatility.

Developer can build peaking plant generator with 60 $/MWh operating cost

Average future spot price expected to be around $50/MWh

End-user buys call option from generator which then gets built prior to period T:

– 100 MW, 60 $/MWh, period T, option fee = F

Period T scenario 10: - spot price = 20 $/MWh

• Call option inactive, generator does not operate:

The spot price is lower than the actual operating cost. Therefore, the plant will shut down to not
have a negative revenue.
Earns fee F

• End-user buys at spot price:

Total cost = spot cost + F

Period T scenario 2: spot price = 200 $/MWh

– Generator pays end-user the option ‘close out’ value: 100x(200-60) = 14,000 $/h

– Generator sells electricity, incurs operating cost:

Surplus from spot market = 100x(200-60) = 14,000 $/h

– Generator surplus from spot + call option = F

– End-user buys 100 MW electricity at spot price, receives option ‘close out’ value from generator:

End-user cost = 100x200 -100x(200-60) + F = 6,000 $/h + F

– Shielded from spot price > strike price (60 $/MWh)

price
20 30 200
($/M W h)
probability 0.35 0.5 0.15

Assume that the expected spot consumption = 100MW

Average Spot Price = 0.35 x 20 + 0.5 x 30 + 0.15 x 200 = $52/MWh

• Cost without the option = 52 x 100 = $5200/h

• Cost with option, you only pay $60/MWh for the $200/MWh because of the call.
= (0.35 x 20 + 0.5 x 30 + 0.15 x 60) x 100 = $3100/h
This will save $2100/h average peaking plant will get.
Profit can increase if the spot price increases due to call.

48
5.10 Market power issues in spot and derivative markets

Spot Market Derivative market (purest

market)
Buyer have little discretion Buyers have much discretion
between market intervals between market intervals
Buyers cannot be sellers Buyers can also be sellers
Significant barriers to entry Few barriers to entry
Derivative market positions Risk assessment depends on
limit gains from price setting limited spot market power
Auction: market maker must Opportunities for bilateral
manage counter-party risks trade as well as auctions
Well define (updates every 5 Can sign longer term contracts
minutes) (15 mins to 30 years)

5.11 Risk Positions and Strategies for market participants

Generator Retailer Financial Intermediary

Natural New Long Physics capacity Short physical capacity No physical capacity
Position No Market positions
Commercial Close Long stop Close Short spot trade/arbitrage to
Objectives Lock in revenue exposure achieve profits
Fix margin prices
Hedging Strategy Sell Spot Buy Spot none
Long Time period Short spot position
DSM Contracts
Trading Strategy Trade around Hedge Trade to adjust or Arbitrage
around hedge
Implications High Plant must run and Hedges must cover None
Spot Price cover contracts demand

Derivative spot price moves as well.

• Market risk: price or volume changes in spot or derivative markets

• Credit risk: counterparty fails to meet contractual obligations

• Regulatory Risk: impact on derivative value due to regulatory decisions (such like Carbon Tax)

• Operational risk: internal decision making, equipment performance, liquidity management

5.12 Toolbox for Restructuring

• Privatisation - enhance performance

• Vertical Separation - facilitate competition and regulation

49
 • Horizontal Restructuring - create competing generators and suppliers

• Independent system operator - maintain network stability

• Markets and Trading agreements

• Access to transmission network - efficient location and interconnection of new generation facilities

• access to distribution networks - promote competition at the retail level

• Independent regulatory agencies - promote competition

5.13 “Energy only or + capacity” Market

Energy only markets intended to incentives generators to offer at their operating costs

• Ability to pay off capital, other fixed costs depends on how much and often market price above
operating cost.

• Some generators and market circumstances prices to low to cover fixed cost.

• Derivatives provide a means of securing prices in advance.

• Can only price to delivery energy. Use ’energy’ market + ’capacity’ market that provides revenue to
generators on their ability to provide capacity if and as required.

5.13.1 Market Design

1. Energy-only market

2. Energy markets with administratively determined capacity payments

3. Energy markets with reserve requirements

4. Energy markets with reserve requirements and centralised capacity markets

5. Energy markets with forward reserve requirement

6. Energy markets with forward reserve requirement and centralised capacity markets

5.13.2 Conclusions on electricity market design

A ’designer’ process

• industry specific laws and markets

• Considered as a social experiment with risks and ethical issues.

Technical, economic and policy issues:

• commercial behaviour is individual and competitive

• physical behaviour is continuous and cooperative

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Restructuring:

• must solve commercial, technical, legal and regulatory challenges

• potential to extend competition to most network services.

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Chapter 6

Australia Energy Market

6.1 Policy Objectives

Encouraging efficient provision of reliable, competitively-priced energy services to Australians,

underpinning wealth and job creating and improved quality of life and taking into account the needs of
regional, rural and remote areas.

Encouraging responsible development of Australia’s energy resources, technology and expertise,

their efficient use by industries and household and their exploitation in export markets

Mitigating local and global environmental impacts, notably greenhouse impacts of energy production,
transformation, supply and use.

6.1.1 Main Objectives

• Restructuring government owned utilities

• Removing barriers to inter-state and intra-state trade of energy

• Establishing a transparent, wholesale spot market for electricity to enable competition among
generators and retailers

• Establishing open access to electricity networks

• Enabling customers choice down to the smallest retail customer

6.2 Australia’s arrangements for Energy

Federal Government

• No express energy or environmental powers

• Tax, corporate, trade with external affairs powers

State Governments

• Traditionally made most energy plus environmental policy

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Council of Australian Government (COAG)

• Cooperative national policy including energy industry restructuring and environmental regulation

Energy Governance arrangements

• Ministerial Council on Energy (MCE) sets policy objectives

• Australian Energy Market Commission (AEMC) makes rules

• Australian Energy Regulator (AER) ensures compliance

6.3 Features of National Electricity Rules (NER)

NEM covers states that are operated by AEMO

• A multi-region gross wholesale electricity spot market with dynamic inter regional loss

• Generators bid price/quantity a day ahead, load ’bid’ in at $10,000/MWh

• 8 Frequency Control Ancillary Services markets for maintaining supply/demand balance over time
periods < 5 min

• No capacity market or equivalent; participants determine unit commitment through energy spot
market bidding strategy

Compulsory participants in NEM

• All dispatchable generators and links > 30MW

• Network service provider and retailers

Networks

• Regulated monopoly NSPs obliged to provide non-discriminatory access; technical connection

standards ’shallow’ connection costs

Outside formal NEM rules and arrangements

• Range of derivative markets to manage risk and underpin investment.

6.4 Energy Retailer Model

Retailers - buy energy from the wholesale market and sell it to end users or onsellers

Onsellers - buy energy from retailers and sell it to customers in embedded networks

Power purchase agreement providers - install generation at a customer’s premises and sell the
generation output to the customer.

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 AEMO Forecasts of ( Power System reliability ) AEMO Operation:
supply and demand and security standards
) Spot Market (
• 10 years (annual) • Network Data

• 2 year (weekly) • Demand forecast

• 1 week (hourly) • Reserve threshold

• day head spot price • Security constraint

and dispatch (5
• reliability safety net
min)

l
Derivative market

6.5 Derivative trading in support of NEM

Trading in swap (CFD) and cap (call option) contracts:

• Bilateral trading

• Over-the-counter instruments

• Exchange-traded CFDs (swaps)

Inter-regional hedges

• Specialised form of financial instruments

– to manage regional price difference risks

– funded by interconnector settlement residues

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 Instruments Description
Forward contracts Agreement to exchange the NEM spot
price in the future for an agreed fixed
• swaps (OTC market)
price. Settlement is based on the
• futures (SFE) difference between the future spot price
and the agreed fixed price. Forwards
are called swaps in the OTC markets
and future on the SFE
Options A right - without obligation - to enter
into a transaction at an agreed price in
the future
cap A contract that places a ceiling on the
effective price the buyer will pay for
electricity in the future
floor A contract that sets a minimum
effective price the buyer will pay for
electricity in the future
swaptions/future options An option to enter into a swap/futures
contract at an agreed price and time in
the future
Asian options An option in which the payoff is linked
to the average value of an underlying
asset during a defined period
profiled volume and options for A volumetric option that gives the
sculpted loads holder the right to purchase a flexible
volume in the future at a fixed price

6.6 National Electricity Law (NEL)

NEL contains NEM rules and access regime which both address network issues.

NEM trading rules:

• Market network service provider (unregulated intercon)

• Intra-regional network loss factors and constraints

Network access and pricing, revenue cap for regulated network service providers.

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 Figure 6.1: Regulated Network Services Model

Figure 6.2: Network representation in the NEM

The settlement residue is the difference in the spot market price on both region of the distribution.
Settlement profit usually goes to the retailer. Hence, there are laws to prevent retailers to have full control
of the network.

6.6.1 Network investment Decision-making

Each network service provider (NSP) takes own network investment decisions

• subject to review by independent regulator

– AER (transmission) or state-based (distribution)

• Accepted by Regulator if pass the regulator Test

– Reliability criterion or positive net benefit

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Required to consider distributed resource options

Regulator approved augmentation enters rate-base

• cost recovered from end-users

• supply reliability incentives for network operation

6.7 AEMO Planning

AEMO merges the role of the national electricity market operator with gas market operations in
Victoria. AEMO undertakes new functions:

• the planning and coordination of development of the National Transmission Network

• the preparation of a gas statement of opportunities

The National Transmission Planner (NTP) attempts to move the planning focus away from individual
jurisdiction to national grid.

An annual NTP development plan outlines:

• a long term strategic outlook (min 20 years) on national transmission flow

6.7.1 Framework of Possible Policy

Policy Levers Open to Government

Pros Cons
Legislation and Regulation Provide clarity where reduce overall efficiency when
requirements and standards resources diverted away
are set out in detail impose burden on affected
parties
inflexibility
Market-based Instruments Greater flexibility for difficult to determine optimal
achieving compliance caps or tax levels is
efficient allocation of insufficient information
resources Firms and households do not
have experience with similar
market
Education and Information reduce resource on can become desensitised
Strategies implementing regulatory
program
educate community on policy
and compliance
Government Spending mobilised quickly resource maybe require to
demonstrate leadership and establish and maintain
commitment program

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6.8 Key Environmental Issues for EI
• Land-use impacts

• water consumption

• pollutants

– regional air pollution

– Hazardous wastes
– water contamination

• Climate change

6.8.1 Price on Carbon Emissions

Costs associated with reducing emissions can be in form of

• Tax

• Emissions trading regulation

• Emissions reduction fund

Question is, who pays and how much?

Currently, the consumers pay for the carbon emission tax since retailer can increase the retailer’s
spot market price.

6.9 Electricity Industry Options

Key focus on electricity industry emission reduction opportunities in policy to date because of low/zero
carbon emission supply options. Options that are particularly interested are:

• energy efficiency

• lower-emission fossil fuel (CCGT)

• well-established renewable energy technologies

• carbon capture and storage (CCS)

• Nuclear power

6.9.1 Key Drivers in Assessing EI Options

Key factors that likely contribute to these sustainability objects

• technical status

• delivered environmental benefits

• present costs where known

• potential scale & speed of deployment

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6.9.2 Key Drivers for Renewable Energy

• climate change and other environmental impacts

• energy security

• falling costs for some renewable technologies

6.9.3 Extras

Wind a significant contributor in growing number

PV is growing fast

Iceland and Norway are the two largest renewable energy consumer

6.9.4 Economic Feasibility

Without Transmission With Transmission

Low Cost High Cost Low Cost High Cost
19.6 22.1 21.2 24.4

Table 6.1: A$b/yr AETA high and low technology cost scenarios

Current NEM costs approximately $10b/year at carbon prices of $50-100t/CO2.

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Bibliography

60
Appendix A

61