(1) Proceed towards full liberalisation of the
wider electricity system
Effective investment in, and operation of, the
wider electricity system is a precondition for
efficient electricity supply. This requires liberalisation of sectors suitable for competition (fuel
production, generation, retail), use of markets to
procure key services (capacity, balancing), and
the pricing of externalities, such as air pollution
and carbon emissions.
(2) Align incentives with public policy
objectives
Make the incentives of network providers consistent with the provision of a reliable and
affordable supply of electricity by controlling the
monopoly behaviour of network companies and
ensuring that prices reflect underlying costs:
• Reform electricity network institutions. Electricity networks are natural monopolies, with
little scope for improvement through competitive markets. It is therefore critical that their
incentives are aligned with public policy
objectives. A monopoly faces incentives to
underinvest in new infrastructure and to charge
prices that are higher than its costs.
A state-owned company may face incentives to
prioritise short-term political objectives, rather
than longer-term public policy objectives.
These incentives can be mitigated through
institutional reform of the electricity network.
One option is to reform the network company’s
incentives through performance-based regulation enforced by an independent regulator.
Another is to separate network operation and
ownership through the creation of an independent system operator (ISO). The UK and most
European
countries
currently
use
performance-based regulation, while the USA
uses the ISO model across its transmission
systems, for example, PJM Interconnection (the
transmission system in north-eastern USA).
• Consider the use of locational pricing. Efficient network investment and operation make
use of information on network congestion. If
implemented, locational (nodal or zonal)
pricing can help reveal the costs of network
congestion. Nodal pricing is used in several
US states, Argentina, Chile, Ireland, New
Zealand, Russia and Singapore, while zonal
pricing has been adopted by most European
countries and Australia. However, locational
pricing has disadvantages as well as advantages. Importantly, locational pricing is most
effective once time-of-use pricing is fully
implemented across network users.
(3) Take further action to meet the challenges
of a decarbonised system
The electrification of energy demand and improvements in the efficiency of electrical appliances will
make the future volume and demand for transmission capacity more uncertain. Flexible resources
such as electricity storage and demand response can
substitute for new network investment, as long as
sufficient investment incentives are present:
• Designate strategic zones for transmissionscale renewable generation to reduce planning and investment uncertainty. Renewable
energy resources may be located far from
demand centres and thus require large-scale
transmission investment. Uncertainty over the
volume and location of generation can be
mitigated through zoning.
• Ensure there are revenues available to
encourage providers of flexible resources to
offer a full range of system services. The
flexible resources needed for decarbonisation
contribute several system services, such as
balancing and frequency response, but there
may be underinvestment if markets do not
exist for these services. Several electricity
markets in western China run demand curtailment markets, allowing flexible resources
to generate revenues.
(4) Prepare for the development of a decentralised electricity system, and its associated
digitalisation
By investing in the coordination of decentralised
resources, their control, balancing, security and
data flows:
Special Report 1: A Study of China’s Energy Supply Revolution
81
wider electricity system
Effective investment in, and operation of, the
wider electricity system is a precondition for
efficient electricity supply. This requires liberalisation of sectors suitable for competition (fuel
production, generation, retail), use of markets to
procure key services (capacity, balancing), and
the pricing of externalities, such as air pollution
and carbon emissions.
(2) Align incentives with public policy
objectives
Make the incentives of network providers consistent with the provision of a reliable and
affordable supply of electricity by controlling the
monopoly behaviour of network companies and
ensuring that prices reflect underlying costs:
• Reform electricity network institutions. Electricity networks are natural monopolies, with
little scope for improvement through competitive markets. It is therefore critical that their
incentives are aligned with public policy
objectives. A monopoly faces incentives to
underinvest in new infrastructure and to charge
prices that are higher than its costs.
A state-owned company may face incentives to
prioritise short-term political objectives, rather
than longer-term public policy objectives.
These incentives can be mitigated through
institutional reform of the electricity network.
One option is to reform the network company’s
incentives through performance-based regulation enforced by an independent regulator.
Another is to separate network operation and
ownership through the creation of an independent system operator (ISO). The UK and most
European
countries
currently
use
performance-based regulation, while the USA
uses the ISO model across its transmission
systems, for example, PJM Interconnection (the
transmission system in north-eastern USA).
• Consider the use of locational pricing. Efficient network investment and operation make
use of information on network congestion. If
implemented, locational (nodal or zonal)
pricing can help reveal the costs of network
congestion. Nodal pricing is used in several
US states, Argentina, Chile, Ireland, New
Zealand, Russia and Singapore, while zonal
pricing has been adopted by most European
countries and Australia. However, locational
pricing has disadvantages as well as advantages. Importantly, locational pricing is most
effective once time-of-use pricing is fully
implemented across network users.
(3) Take further action to meet the challenges
of a decarbonised system
The electrification of energy demand and improvements in the efficiency of electrical appliances will
make the future volume and demand for transmission capacity more uncertain. Flexible resources
such as electricity storage and demand response can
substitute for new network investment, as long as
sufficient investment incentives are present:
• Designate strategic zones for transmissionscale renewable generation to reduce planning and investment uncertainty. Renewable
energy resources may be located far from
demand centres and thus require large-scale
transmission investment. Uncertainty over the
volume and location of generation can be
mitigated through zoning.
• Ensure there are revenues available to
encourage providers of flexible resources to
offer a full range of system services. The
flexible resources needed for decarbonisation
contribute several system services, such as
balancing and frequency response, but there
may be underinvestment if markets do not
exist for these services. Several electricity
markets in western China run demand curtailment markets, allowing flexible resources
to generate revenues.
(4) Prepare for the development of a decentralised electricity system, and its associated
digitalisation
By investing in the coordination of decentralised
resources, their control, balancing, security and
data flows:
Special Report 1: A Study of China’s Energy Supply Revolution
81