Power options need balance

By BRIAN FALLOW

Confronted with the second power crisis in three years the Government has been grappling with the problem of how to ensure security of electricity of supply.

It unveils its preferred policy option on Tuesday.

New Zealand is estimated to need about 800MW of "firming capacity" to cover the risk of a dry year in the hydro system.

This is thermal generating capacity which would normally be surplus to requirements but which could be called on when inflows to the hydro lakes dwindle to a tiny trickle.

There are two ends to this problem.

At one end the aim is to ensure that efficient modern generation plant is built.

But it is also desirable to ensure that doing that does not entirely dislodge older, more expensive capacity from the system so that it cannot be called upon in emergencies.

The risk the Government faces is that in intervening to ensure that older plant is available as reserve capacity it could distort the market in a way that has a chilling effect on new investment in generation, especially by the private sector.

The aim is to provide a degree of insurance against the sort of supply/demand imbalances that send spot prices on the wholesale electricity market through the roof, and trigger a loss of production by firms exposed to the spot price.

The less risk there is of high spot prices the less incentive there is for firms to hedge against them by signing fixed-price contracts.

But the more demand is hedged the more comfort anyone building a new power station would have.

The danger is that providing too much insurance against dry years would leave too little incentive, for the private sector at least, to build new generation.

The price signals from the spot market may sometimes be shrill and piercing, but policymakers muffle them at their peril.

So Government intervention which could encourage more people on to spot prices might have to be complemented by some mandatory hedging arrangement of the kind contemplated in the mid-1990s - a requirement that electricity retailers and major users cover at least a large percentage of their expected demand in hedge contracts.

The Government appears to have discarded the more radical structural change options, such as separation of generation from electricity retailing or centralised buying.

If, as seems likely, the Government plans some mechanism whereby the owners of older plant are paid to keep them available in reserve, that raises several difficult design issues:

Who decides when that capacity is to be used?

Would it be a case of merely paying the plant's owner a retainer and leaving it to the normal offer and bid pricing mechanism of the spot market to determine when the plant was dispatched?

Or would someone be empowered to decide that the reserve capacity should be cranked up, and if so on what basis?

Who should pay and how?

Firming capacity should not be thought of in terms of whole power stations. It is not an either-or distinction between baseload and reserve plant, but rather a continuum.

Meridian Energy chief executive Dr Keith Turner explains it like this:

"Firming capacity is capacity that comes on progressively depending on how dry it is. You might start with relatively low-cost plant that instead of running at a load factor of 80 per cent runs at 90 per cent. As you get further up the cost curve, and generally that means older plant, the less it would run in a normal year and the more in a dry year. But there is no cut-off."

Some plants, however, might be exclusively held in reserve, like Mighty River's Marsden B, designed to run on oil and never used.

"If you build more baseload gas-fired combined cycle plants, the more you produce from them the less you you are going to produce from more expensive plants like Huntly. So Huntly would shift more into that firming role. Instead of running on average 800MW, say, it might run on average 600MW. But in a dry year it has the capacity to run at 1000MW."