What Is a Capacity Market?
Capacity markets provide economic incentives to attract investment in new and existing supply-side and demand-side capacity resources in New England as needed to maintain bulk power system reliability requirements.
Forward Capacity Market
ISO New England is working to implement the Forward Capacity Market (FCM), which will provide economic incentives to attract investment in new and existing capacity resources in New England. This helps to ensure that sufficient capacity is available for reliable operation of the bulk power grid.
Developed through industry and regulatory consensus, the FCM contains an auction structure through which capacity resources compete to obtain a market-priced capacity payment, in exchange for a commitment to be available in the years ahead to meet the region's electricity needs. These resources may provide decreased electricity use through Demand Resources or supply from Generating Resources. The Forward Capacity Market includes several innovative elements.Auction: ISO New England projects the reliability needs of the power system roughly three years in advance and holds an annual auction for power resources, including new and existing power plants and demand resources. In order to participate in the competitive auction, capacity resources must first complete a Qualification process demonstrating their ability to provide capacity for their proposed megawatt amount and location. The first auction will be held in February 2008 for the capacity needed in 2010.
Pay-for-Performance: This mechanism reduces payments to those resources that are not available during periods of high demand for electricity. The intent of this process is to provide a strong incentive for resources to perform when they are most needed.
Transition period: Fixed payments are provided for capacity resources during a multi-year transition period beginning December 1, 2006. Those payments produce revenue certainty for generators.
Minimizing costs: A key element in FCM is a deduction for a provision called "Peak Energy Rent" that helps ensure fair and reasonable capacity costs by reducing capacity market payments for all power system resources when prices in the energy market go above a certain level. This usually occurs when electricity demand is high. Peak Energy Rent prevents over-collection of payments from two separate markets (energy and capacity) for a resource that performs during periods of high demand. This is based on the general principle that the energy market is designed to compensate resources for variable operating costs and the capacity market is designed to compensate resources for fixed costs. Thus, any revenues collected in the energy market above these marginal costs are a potential "over-collection."
Reducing energy use: Another innovative feature of FCM is its acceptance of Demand Resources (energy efficiency, load management, and distributed generation) as capacity, which will enable these resources to compete with generating resources in the auction. Allowing these Demand Resources into the market provides new incentives to move forward on projects and also encourages conservation measures. ISO New England has already seen a significant show of interest from both demand and traditional supply-side resources to participate in FCM.
