Action area 4: Redesigning power markets in line with decarbonization and affordability objectives Power and commodity markets have been designed around energy systems with variable expenditures, so these markets fluctuate according to the cost of commodities. The natural gas burned by a combined-cycle gas plant built in the mid-2000s might have been expected to account for 60 to 70 percent of its lifetime cost. But variable expenses over the life of a solar or wind farm are very low: operations and maintenance costs are just 10 to 20 percent of lifetime costs, according to our analysis. Potential challenge Today’s market designs factor in operating costs, as prices are based on marginal production costs for power generation units. This system has created an incentive for technological developments such as more efficient combustion turbines. But in the future, more primary energy supply will come from variable intermittent renewable resources with close to zero marginal costs. Current markets do not provide an equivalent operational mechanism to support the transition. Indeed, the current market structure pays for neither the energy produced nor for the changes that would be necessary to create a reliable and resilient system. Key priorities To redesign power markets to meet decarbonization and affordability objectives, business leaders and policy makers could consider four key priorities: 1. Reviewing power markets to strengthen the system in the long term and attract investment. Wholesale power markets are based mainly on energy markets, reflecting the cost of the power generation technology that produces the incremental (marginal) unit of energy at any given time. Although this system ensures the effective dispatching of resources, it does not provide adequate long-term price signals to support investment decisions in new infrastructure, such as renewables or flexible capacity (for example, battery storage).
Power markets could be revised to bolster long-term resilience and attract investment while stabilizing the cost of supply for end users. Options for redesigned power markets could include not only centralized competitive auctions (such as contract-for-differences for renewables and long-term auctions for energy storage) but also power purchase agreements (PPAs). Centralized market platforms or green-sourcing obligations for large customers and retailers might also be possible. One potential design outcome could be balancing longer-term price signals for reliability, resilience, and decarbonization with incentives for short-term resource efficiency, scarcity, and system balancing. In any case, market participants, planners, and policy makers would probably need to go on paying close attention to managing the price and supply volatility that consumers face. Recent energy volatility has caused significant public distress and could diminish confidence in the possibility of a relatively orderly transition. However, volatility may also create a price signal for investments in the system’s flexibility and balancing. 2. Creating more transparency in energy pricing, with more granular bidding zones. Many national markets have a single clearing price for electricity and little to no accounting for transmission grid constraints. However, these constraints often cause discrepancies between the demand for and supply of power within clearing regions. Complex mechanisms have been introduced to ensure grid balancing but often do not provide clear pricing signals, particularly for demand-side resources. Introducing more granular bidding zones—as many markets, including New York, Norway, Sweden, and Texas have done—could create more transparent pricing signals across the energy system. More localized bidding zones enable price clearing to occur at or near the point of generation. The resulting local price reflects transmission constraints. If the basis risk in the market were included, the signals
Accelerating the journey to net zero
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