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Chapter 3: BETTA, Balancing Mechanism and Risk Management

3.6 Risk Management

3.6.2 Other Aspects of Risks in Electricity Markets

According to the description of BETTA and its impact on the market risks there are various types of risks that must be managed under BETTA [20]:

 Price: The demand of the electricity cannot be predicted very accurately.

It has a variable nature and this causes the electricity to be volatile. The demand profile is always changing due to different reasons like weather,

national events and technical issues; on the other hand, there should be a second by second balance in the power system.

 Volume: One of the main stages in BETTA is Imbalance Settlement which brings significant volume risk to market participants. Generation and supply companies should try to make a balance between their actual and contractual positions, or they be penalized by imbalance cash-out prices. In addition the BM offers and bids reflect the cost of imbalance charges.

 Credit: BETTA is a free market and unlike the Pool all parties are self-dispatched; thus, credit and counterparty risks are important. All parties should have the ability to deliver and meet their contracts’ terms and be able to pay for it. The existence of power exchange can help to remove the risks.

3.6.2.1 Electricity Market Risks Associated with Renewable Obligations (ROs)

Currently, UK alongside European countries have set up several legislations and Renewable Obligations (ROs) in order to increase the proportion of renewable energy sources in short and long term futures and reduce the dependency on conventional energy sources such as oil, natural gas and coal.

The Climate Change Act 2008 established an ambitious binding target for the UK to reduce its greenhouse gas emissions by 80% compare to the 1990 level by the year 2050 [64]. Furthermore, in order to make it feasible to achieve to this target, UK should gradually reduce its greenhouse gas emissions by 37% by 2020 and 60% by 2030 [64].

Additionally, all the European Union (EU) member states have agreed on a target that 20% of all EU energy should come from renewable sources by 2020. In order to achieve to this target each member state has set a national legal target, e.g. the UK’s target is 15%. However, presently, only 3% of UK energy is coming from renewable sources [65].

On the other hand, in order to meet this 15% target, three main UK sectors – electricity, heat and transport – should be involved in the process. The largest contribution is likely to come from the electricity sector, about 30% of the generated electricity should come from renewable sources and only about 12% of heat and 10% of transport energy will be provided by renewable sources [64].

According to above, three main pillars should be considered for future electricity markets regulations, structures and modeling:

Figure 3.18: Three Main Future Electricity Markets Pillars

In order to have a low carbon economy and consider the climate change targets, electricity markets, especially bilateral markets, need to consider the other two main pillars:

 Affordability: To keep electricity bills down.

 Security of Supply (SoS): To keep lights on.

To the purpose of achieving to these three pillars, electricity market modeling is essential since the establishment of electricity market will have some impact on sustainable generation and will introduce some new risks into the renewable energy field. Market regulations and legislations can reduce the profitability of GenCos and

SupplyCos, since most of the renewable resources are unpredictable such as wind and solar energy. For instance, GenCos having wind farms are able to predict their output with 60-70% accuracy. This results in a 30-40% imbalance [20] and they will face severe differences between their contractual and actual positions and their exposures to the risks will increase. Consequently, it is necessary to model electricity markets to reduce these kinds of risks and also avoid market participants from playing market power owing to lack of market players in both sides of the market.

More detailed discussion has been provided in Chapters 4 and 5.

Europe is currently in the process of designing and developing a top-down methodology to support the planning of a future pan-European transmission system that potentially includes prioritized corridors or electricity highways that have the capability to address pan-European electricity transmission and market requirements from 2020 and up to 2050 [66]. The proposed top-down methodology supports the planning of a pan-European Electricity Highways System (EHS) [67] by providing a modular and robust expansion plan that will be in line with the previously mentioned three pillars. This means that more interconnections between EU members will be constructed and in purpose of trading electricity in such a network, bilateral electricity market will play a significant role.

3.7 Summary

This chapter investigated operation of UK electricity market structure, BETTA, as a bilateral electricity market in details and concluded that by participating in bilateral electricity markets, in which major electricity trading are conducted years ahead of gate closure bilaterally, the exposure to the risks can increase. Several aspects of risks that can be introduced by participating in such a market structure have been reviewed. According to these aspects, the need for bilateral electricity market modeling exposed. Furthermore, the impacts of other market obligations have been examined.

Chapter 4: Oligopolistic