INSIGHT

Transmission access: from COGATI to CMM (REZ)

By Kate Axup, John Greig, Amy Byrne, Madeleine George
Energy Renewables

The ESB's proposed congestion management model 7 min read

On 26 August 2021, the ESB published its final advice to Energy Ministers on the post-2025 redesign of the NEM (ESB Advice). Our recent Insight provides an overview of the ESB Advice and the four reform pathways proposed by the ESB.

As part of the transmission and access reform pathway, the ESB Advice proposes a congestion management model (CMM) designed to:

  • improve market signals to new generators and storage providers to locate their projects where there is available transmission capacity;
  • ensure better use of network capacity; and
  • reduce uncertainty for investors.1 

The proposal is designed to complement state-based initiatives for the establishment of renewable energy zones in areas identified as optimal for generation investment (REZs) and the ESB Advice sets out how the ESB proposes to adapt the CMM for REZs (CMM(REZ)).

In this Insight, we examine the CMM(REZ) proposal and how it differs from today's system. We also compare and contrast it with previous proposals mooted in the AEMC's Coordination of Generation and Transmission Investment (COGATI) review and – noting that a key aspect of the CMM(REZ) proposal remains outstanding – put forward some 'food for thought' as we await the outcome of the 24 September meeting of Energy Ministers at which the ESB Advice was discussed.

What is the CMM(REZ) and how does it differ from the status quo?

The CMM(REZ) is designed to provide better locational signals to investors and to ease congestion by both imposing congestion charges on generators who locate outside of a REZ, and awarding congestion rebates to generators who locate within a REZ. Generators may also receive a congestion rebate if they locate in a non-REZ area where there is spare hosting capacity.2 Incumbent generators would also receive a congestion rebate to maintain their status quo.

Today

Today, the NEM operates on an open access regime, but does not guarantee dispatch, either physically or economically. If dispatched, a generator receives the loss-adjusted Regional Reference Price (RRP) for each MWh of electricity dispatched (DQ).

Both the ESB and the AEMC are of the view that, particularly when there is congestion in the network, the status quo can lead to aberrant bidding behaviour by generators, including that described as 'disorderly bidding' or a 'race to the floor' behaviour. It is thought that this does not lead to the dispatch of generators based on their actual costs of generation, resulting in market inefficiencies and, ultimately, higher prices to customers.3

Today's open access regime can also mean that the subsequent connection of generation in an area adversely affects incumbent generators in that area, who made the decision to invest in that area prior to the connection of subsequent generators.

Locational marginal pricing

The ESB (and before it the AEMC) notes that the RRP in fact comprises a locational marginal price (for each location) (LMP) and an intra-regional settlement residue, meaning that the revenue of a generator can be represented as follows (putting aside the impact of loss factors):

Revenuecurrently = [LMP X DQ] + [(RRP – LMP) X DQ]4

The LMP is thought to more accurately reflect the efficiency of different generators: the lower the LMP, the more efficient the generator is, and hence the more reason to dispatch that generator over one with a higher LMP.

The notion of an LMP may be foreign to many but it is already calculated by AEMO's NEM Dispatch Engine, so it should not be a matter of AEMO and market participants taking on the risk of a significant software overhaul on that account.

The CMM(REZ) proposal

A CMM uses the disaggregated elements of the RRP to (hopefully) drive more efficient bidding behaviour and dispatch outcomes. This occurs by changing the way in which the intra-regional settlement residue is calculated and distributed to market participants.

Under a CMM model, dispatched generators will receive their respective LMP for the MWh dispatched and:

  • new generators who locate within a REZ will receive an intra-regional settlement residue payment (or 'congestion rebate');
  • new generators who locate outside of a REZ will not receive a congestion rebate (and therefore will effectively be subject to a 'congestion charge'); and
  • incumbent generators will receive a congestion rebate intended to replicate their existing receipt of the RRP.

This can be represented as follows:

RevenueCMM = [LMP X DQ] + [(RRP – LMP) X allocated quantity]5

The swing factor will be the 'allocated quantity', which is the portion of the total intra-regional settlement residue amount available for distribution to eligible generators.

The way in which the allocated quantity will be calculated is yet to be determined for the different categories of generators (ie incumbent; within a REZ; outside a REZ; within non-REZ areas which nevertheless have genuine network capacity/no constraints; etc). This critical part of the ESB's proposal remains outstanding. Incumbent generators will need this information to form a view on whether the status quo will in fact be preserved for them under the CMM(REZ) model, and investors will need certainty around this aspect of the equation to form a view on revenue and project economics.

For example, during times of congestion, one formulation might result in an allocated quantity being deemed to be nil as to generators outside a REZ and allow settlement residues to be allocated to generators within a REZ and incumbent generators. In this sense, the proposal is to 'reward' those generators who locate new generation in optimal (network) locations.


Comparison with COGATI

The previously proposed COGATI reforms included an access model that implemented dynamic regional pricing (or LMP) and financial transmission rights (FTRs).6 Those reforms also aimed to provide better locational signals to generators and storage providers as to where they might best construct new generation and transmission assets and to address the perceived disorderly bidding issues.

The dynamic regional pricing model proposed in the COGATI reforms also contemplated participants being settled at their respective LMPs, and so in that respect there is much in common with the ESB's proposal.

The major difference, however, is that rather than allocating the settlement residues (as now proposed by the ESB), under the COGATI approach the residues relating to losses would be returned to consumers through an offset to transmission use of system charges, whereas residues relating to congestion would be used to create FTRs. FTRs were effectively a financial right entitling the holder to receive from AEMO an amount representing, for a specified trading interval and specified location, the difference between the RRP and the LMP for that location. It was anticipated that generators would bid in an auction for these FTRs as a means of allowing them to manage their exposure to congestion. FTRs would be offered for each generation site for trading intervals for years into the future.

Such FTRs/auctions are not unknown in electricity markets but are extremely complex, particularly where the generation locations are dispersed.7 Whilst economists may view them as rational, some have thought they are not fit for purpose for a market of the nature and size of the NEM. The 'allocation' proposal now mooted is likely to be simpler, though there is some disquiet, suggesting that incumbent generators (particularly thermal coal and gas) should not be grandfathered.

Some food for thought

  • Whilst complex, it's unclear whether these reforms will result in a 'big bang' change to the market. The grandfathering of existing generators is significant, but it remains to be seen whether the net economic position of incumbent generators will really be unchanged in times of congestion – how will their 'allocated quantity' be determined?
  • What will be the position of generators who are in early stages of development? On what side of the fence will they fall?
  • The reforms are designed to disincentivise some 'bad' bidding behaviour. Assuming one accepts the 'bad' behaviour thesis in the first place (not everyone does), if the CMM(REZ) approach does have that effect, then this will be a 'plus' for the market (other than for those who previously benefitted from that 'bad' behaviour).
  • Do REZs in fact deliver 'better' network outcomes? One would not want to see REZ-based generators receiving an allocation of settlement residues (to the exclusion of others), if the REZ itself is fundamentally flawed.
  • While the CMM(REZ) proposal appears less likely than the proposed COGATI reforms to require a fundamental change to existing PPAs (because the RRP continues to exist under the CMM(REZ) model), the possibility remains that disaffected counterparties will look to invoke market disruption and change-in-law provisions to amend PPAs, as much will depend on how the PPA is written: compare a PPA under which a generator is obliged to pay its counterparty RRP against a PPA that compels payment of 'the RRP to the extent received' by the generator, or any of a myriad of other permutations.

Next steps

While the capacity-market aspect of the ESB Advice is the reform pathway that has attracted the most attention, the issue of transmission and access is fundamentally important for all market participants. A package of final reforms is to be prepared following the 24 September 2021 Energy Ministers meeting and will be provided to National Cabinet for consideration in October. We will follow the outcomes relation to the CMM(REZ) model with great interest.

Footnotes

  1. ESB Post 2025 Market Design Final Advice to Energy Ministers Part A, Energy Security Board, 26 August 2021, p 46.

  2. ESB Post 2025 Market Design Final Advice to Energy Ministers Part C, Energy Security Board, 26 August 2021, p 44.

  3. ESB Post 2025 Market Design Final Advice to Energy Ministers Part A, Energy Security Board, 26 August 2021, p 44.

  4. ESB Post 2025 Market Design Final Advice to Energy Ministers Part C, Energy Security Board, 26 August 2021, p 50.

  5. ESB Post 2025 Market Design Final Advice to Energy Ministers Part C, Energy Security Board, 26 August 2021, p 50.

  6. Interim Report – Transmission Access Reform: Updated Technical Specifications and Cost-Benefit Analysis, Australian Energy Market Commission, 7 September 2020.

  7. Juan Rosellón & Tarjei Kristiansen Financial Transmission Rights: analysis, experiences and prospects (2015).

Stay informed

Subscribe to our insights and updates