Does Competitive Electricity Require Capacity Markets? The Texas Experience

34 Pages Posted: 24 Jan 2013

See all articles by Andrew N. Kleit

Andrew N. Kleit

Pennsylvania State University

Robert J. Michaels

California State University, Fullerton - Department of Economics

Date Written: January 16, 2013

Abstract

All but one of U.S. power markets administered by Regional Transmission Operators require that sellers of power to end-users must own or have contractual access to generation capacity sufficient to cover their loads. The exception is the Electricity Reliability Council of Texas (ERCOT), which operates on contracts between generators and retailers, supplemented by markets for ancillary services. Recent concerns about adequacy of generation investment have led to consideration of imposing a capacity market in ERCOT. This paper examines the potential value of such a market. We begin with a critique of the economic theory behind capacity markets, which we find deeply flawed. We then apply that theory to ERCOT. In the process, we reexamine research on investment adequacy in ERCOT and the value of energy prices as signals for generation investment. We conclude that calculations of generator profitability based on realistic assumptions explain why investment has occurred in ERCOT in the past, why it is likely to continue doing so in the future, and why a capacity market would in reality be a source of inefficiency and a barrier to competition.

Keywords: electricity, capacity markets, ERCOT

JEL Classification: K2, L1, L9

Suggested Citation

Kleit, Andrew N. and Michaels, Robert J., Does Competitive Electricity Require Capacity Markets? The Texas Experience (January 16, 2013). Available at SSRN: https://ssrn.com/abstract=2205932 or http://dx.doi.org/10.2139/ssrn.2205932

Andrew N. Kleit (Contact Author)

Pennsylvania State University ( email )

University Park
109 Hosler Building
State College, PA 16802
United States
814-865-0711 (Phone)
814-865-3663 (Fax)

Robert J. Michaels

California State University, Fullerton - Department of Economics ( email )

Fullerton, CA 92834
United States
714-278-2588 (Phone)
714-278-3097 (Fax)

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