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October 31, 2013
Brattle Economists Identify Characteristics of Successful Capacity Markets Ahead of European Implementation

Economists at The Brattle Group have identified several important characteristics of successful capacity markets based on experience in their work with resource adequacy designs in North America and Europe over the last decade. This analysis, which was presented today at the Association for Power Exchanges (APEx) Conference 2013 in New York City, is timely given that much of Europe is considering or in the process of implementing capacity markets.

The analysis identifies ten common characteristics of successful capacity markets:

1. Well-defined resource adequacy needs and a comprehensive understanding of the drivers of those needs

2. Clear understanding of why the current market design will not achieve resource adequacy targets without a capacity construct

3. Clearly-defined capacity products, consistent with needs

4. Well-defined obligations, auctions, verifications, and monitoring

5. Efficient spot markets for energy and ancillary services

6. Recognition of transmission constraints and locational reliability challenges

7. Participation from all resource types

8. Carefully-designed forward obligations

9. Staying power of the market design (to reduce regulatory risk) while addressing deficiencies

10. Designs that capitalize and build on the experience gained in other markets

The study’s authors, Brattle economists Johannes Pfeifenberger and Kathleen Spees, cautioned against adding capacity markets prematurely without a thorough understanding of the resource adequacy needs of a market and what drives those needs. They note that it is critical that capacity markets do not explicitly or inadvertently discriminate between existing and new resources, exclude participation by demand-side and renewable resources, or ignore locational constraints and interactions with neighbouring markets. It is also important to note that capacity markets will not be effective if out-of-market payments are being made to some resources (including via long-term contracts) that lead to oversupplied markets and distorted short- and long-term investment signals.

“International experience with capacity markets will be very valuable in designing security of supply measures here in Europe,” said Drs. Serena Hesmondhalgh and Jürgen Weiss, principals in Brattle’s London and Rome offices respectively. “The experience gained by our U.S. colleagues over the past decade also shows that implementation details can be more important for the ultimate success of a capacity market than its broad design framework, including how the capacity value of demand response, renewables, interconnectors, and imports and exports between national markets is determined.”

The presentation, “Characteristics of Successful Capacity Markets,” is available for download below.