The National Electricity Market (NEM) was introduced in the late 1990s following market design work done in the early 1990s. It is not surprising, then, that its initial design reflected the physical capacity of the generating system as it existed at that time, which was largely coal-fired, synchronous capacity.
However, the newest coal-fired plant in the NEM was commissioned in 2007, and is now 14 years old. The Energy Security Board (ESB) notes that since 2012, 90% of generation investment in the NEM has been in wind or solar capacity. That capacity is weather dependent and does not presently have the technical ability to provide the ‘essential system services' (frequency, inertia, operating reserves and system strength) that were traditionally provided as a by-product of energy’ by synchronous spinning generation.
What has the ESB recommended?
The second ESB workstream recommended a series of immediate, medium, and longer-term reforms that focus on unbundling, valuing and entrenching a market for the services currently provided as a matter of course by traditional synchronised generators in four areas:
- Frequency control;
- Operating reserves services;
- Unit commitment for security and system security mechanisms; and
- Enhanced system strength frameworks.
In each case, the recommendation is to create a new market for a service or an extension to an existing market. The markets will:
- be characterised by rivalry between sellers, but will have a single buyer, either AEMO or a transmission network; and
- take the form of either a ‘spot market’ like that which currently applies to the wholesale supply of electricity, or a forward market, like the ‘day ahead’ markets which operate in some other countries and in wholesale gas markets in Australia.
The work on frequency control is the most urgent and builds on substantial reforms introduced over the last few years. Work on the other three areas has, in many cases, already commenced, but will continue over the next two years.
For the changes to deliver the desired result through the existing grid, the rewards will need to be enough to persuade traditional generators to maintain those services or for new technologies to elect to provide those services. There will be a need for appropriate safeguards to ensure the services are provided to a cost/benefit standard that consumers are properly informed about. Lastly, costs of the services will need to be allocated so that those who either cause the need for the service, or benefit from it, pay for it.
Why are changes needed?
The ESB says that the growth of renewable generation, coupled with the retirement over time of thermal generators ‘increases the need’ for services that maintain the electricity system's security ‘to be properly valued’.
For an integrated electricity system to function securely and reliably, the grid must be kept at a relatively stable frequency with enough available electricity supply to meet changes in demand, and interruptions to networks and generations due to weather conditions and mechanical failure.
At present, generators are required, as a condition of connection to the national grid, to meet prescribed or agreed technical standards, including by responding in a prescribed way to disturbances in frequency on the system. In addition, since the introduction of the NEM, generators have supplied and been paid for ancillary services by means of the rapid increase or reduction of dispatch either to the energy market operator AEMO through the NEM, or by contract to network service providers.
In recent years, the importance of these services has been highlighted by the fact that some (largely renewable) generators are physically not able to provide these services.
While the provision of these services was always critical to the maintenance of the system, typically generators (in particular) relied on revenue from the sale of electricity through the spot and derivative markets for the NEM, rather than the sale of ancillary services, though this has changed somewhat in recent years.
Refining existing markets
Some changes are already underway. The ESB has noted and effectively endorsed rule changes for a fast frequency response market initiated by the generator Infigen, and adopted by the rule-maker, the Australian Energy Market Commission (AEMC) in July 2021.
In addition, it noted that AEMO has progressed a rule change to:
These changes might be seen as refinements to and enhancements of ancillary service markets which already exist.
Perhaps more importantly, the ESB recommends developing mechanisms to value and sell existing services which are not presently separately valued in the NEM.
What are the new services?
If the recommendations are implemented, three new services will be for sale:
- Operating reserves, defined by the ESB as the keeping by generators of ‘spare capacity’ to manage energy market risks. These can either be to meet hedging obligations or to take advantage of market conditions. Similar opportunities exist for customers with large interruptible loads;
- System Strength, which might be defined as maintaining an acceptable electrical fault level within a system at its various nodes; and
- Inertia (defined in the National Electricity Rules (NER) as the ‘contribution to the capability of the power system to resist changes in frequency by means of an inertial response from equipment that is … coupled with the power system and synchronised…’).
Considerable progress has already been made in relation to operating reserves and system strength.
For operating reserves, the AEMC is considering two alternatives for the sale to AEMO of ‘ramping’ services 30 minutes ahead of time. Public consultation has taken place on both mechanisms. However, cost recovery and risk allocation mechanisms were expressly ruled out of scope in that consultation. A draft determination on the rule change is due in December 2021.
While the NEM has always imposed system strength obligations on AEMO, the jurisdictions and market participants, the ESB singled out two recent rules change proposals for:
- transmission networks to procure system strength; and
- to ensure system strength standards are not ‘gold plated’, including ‘an efficient’ level of system strength in network connections.
The ESB has also recommended further commercial and technical investigation into establishing a spot market for inertia in the NEM. It sees this as a longer-term project, noting that the West Australian Wholesale Electricity Market has adopted an approach for valuing inertia that will go live in October 2022. Accordingly no formal developments in relation to inertia can be expected before this time.
In the meantime, the ESB notes that a proposal for establishing a ‘day ahead’ market for unit commitment is under review by the AEMC.
Next stage reforms – known unknowns
The ESB notes that ‘some supporting system services which are currently provided predominantly as a by-product of synchronised generators may not be easily disaggregated, quantifiable, or specifically able to be defined’ (emphasis added), so no spot market may be formed in relation to them.
It has recommended:
- the use of a Unit Commitment for Security tool, to allow the optimisation of system strength services procured by transmission networks; and
- a System Security Mechanism as a tool to allow for the procurement of other system services on a contract (rather than spot market) basis.
In the longer term, the ESB notes that there may be more opportunities to ‘disaggregate the ancillary support currently provided by the synchronous fleet’ during the period in which ‘experience is built-in operating the system in new conditions’. That is, these are new market conditions and it can be expected that some lessons will be learned on the way.
What is ahead for participants?
In the short term, generators, customers and load aggregators should consider:
- the opportunities for additional revenue that might be available to them as draft rules and final decisions for frequency control, operating reserves services, unit commitment and system strength frameworks provide;
- the way in which any the costs of procurement of the additional services are apportioned to market participants either through market fees or transmission charges.
In the long term, market participants will need to keep abreast of ESB discussions on the rule change proposals for inertia, more unbundled essential system services, the inertia market, and an integrated ahead market.
