TPM Options Review

On 16 June 2015 the Electricity Authority (EA) released that latest in its series of working papers: the Transmission Pricing Methodology Review: TPM options working paper (the “TPM Options Paper”). It is understood that the EA intends the TPM Options paper to be the last of the working papers, with the results of the current consultation enabling it to move to selecting a specific TPM option to assess against the current TPM. In a somewhat unusual situation, ASEC prepared three responses to the TPM Options Paper:

• A report for the Independent Electricity Generators Association (IEGA);
• A report for Electra (a distributor) and King Country Energy (a small generator and retailer and member of the IEGA); and
• A letter from ASEC on the treatment of the Loss and Constraints Excess (LCE).

The EA’s proposals created sufficient alignment of interest between the parties that the three responses could be prepared without risk of arguing at cross purposes.

Traditional analyses of embedded generation are typically focussed on short-run effects, concerned to ensure that pricing does not provide incentives to avoid or reduce use of the current transmission system. A long-term view, on the other hand, suggests that this approach may not be correct and may result in being locked in to existing technologies and existing network structures.

The report for the IEGA develops a theoretical framework for embedded generation within the construct of a planner seeking to optimise the mix of local generation, local transmission, and remote generation for a distribution network. The same framework readily allows energy efficiency and other demand management initiatives.

Both the IEGA and Electra/KCE reports address a wide range of issues that arise with the various proposed TPM Options. Perhaps the greatest concern is that the allocation of the proposed Residual charge results in an under-allocation of approximately $52m to the directly-connected industrial customers, which will instead be paid by the consumers connected to distribution networks. The same allocations provide an incentive for larger industrial consumers to disconnect from distribution networks and connect to the transmission network.

The letter on the treatment of the Loss and Constraints Excess reinforces the submission made in March 2014. The EA proposes to credit the LCE that arises on Connection and Deeper Connection assets to the parties that pay for those assets, but credit the remainder of the LCE in bulk against Transpower’s revenue requirement. The treatment of LCE on Connection and Deeper Connection assets is appropriate, but the treatment of the remainder is not. The proposed TPM Options also include an “Area of Benefit” charge to recover the cost of specific transmission investments. The parties that pay for those new assets should also receive the LCE generated on those assets.

For more detail on these issues and more, see the relevant submissions:

• report for the Independent Electricity Generators Association;
• report for Electra and King Country Energy; and
• ASEC submission on the Loss and Constraints Excess.

ASEC Disagrees with Electricity Authority Proposals

Andrew Shelley Economic Consulting Ltd (ASEC) has submitted on its own behalf to the Electricity Authority's ("the Authority's") consultation on the use of the "loss and constraints excess" (LCE) to offset transmission charges.*

The Authority issued its working paper, Transmission pricing methodology: Use of LCE to offset transmission charges, on 21 January 2014. ASEC made this submission because the Authority's working paper lacked the intellectual rigour that should reasonably be expected from professional economists. In a letter to the Authority, Andrew Shelley states that "it is important to distinguish between conjectures that seem logical and robust demonstrations of fact."

Mr Shelley's letter demonstrates that the LCE should be returned to the party paying for transmission. If this is not done then locational marginal pricing creates a distortion in favour of market participants owning transmission assets (and thereby keeping them out of the wholesale electricity market). Mr Shelley also argues that the resulting “muting” of the marginal price signal is not a concern from an economic perspective, with a price equal to marginal cost only being optimal in a narrow set of circumstances such as perfect competition.

It has been claimed that payment of LCE to parties that pay for transmission could introduce a risk that generators would "game" the LCE. Mr Shelley examines this claim and concludes that it is unlikely that generators will have such an incentive, with an increase in LCE normally being associated with a decrease in generation and decrease in profitability.

ASEC's letter to the Authority can be downloaded here.

Note: The LCE arises from the pricing system used in the wholesale electricity market. Locational marginal prices are set based on the marginal cost of electrical losses and constraints, whereas the average cost of losses is the cost actually incurred. A fundamental characteristic of the physics of electricity is that electrical losses are proportional to the square of current, which means that marginal losses are greater than average losses. In the wholesale electricity market this means that more money is collected from customers than is paid to generators, and the difference is termed the "loss and constraints excess". This does not represent a super-profit, but is instead currently returned to consumers by way of a reduction in lines charges.

ASEC Report finds Benefits from Distributed Generation and ACOT Payments

A new report by Andrew Shelley Economic Consulting Ltd (ASEC) finds that distributed generation (DG) provides significant benefits, and that Avoided Cost of Transmission (ACOT) payments made to distributed generation embedded within distribution networks also provide benefits. ACOT payments are made to generators embedded within a distribution network and which generate at peak periods, thereby avoiding transmission charges based on peak.

In November 2013 the Electricity Authority issued a "working paper" which, in essence, claims that there are little or no benefits obtained from distributed generation that is embedded within distribution networks, and indicating that such payments should be eliminated. Andrew Shelley Economic Consulting Ltd (ASEC) was retained by the Independent Electricity Generators Association (IEGA) to examine the Authority's analysis and, where relevant, to provide estimates of benefits derived from distributed and embedded generation and from ACOT payments themselves.