The French Capacity Mechanism

30 JUNE 2016
Assessment of the impact

of the French capacity
mechanism on electricity
markets
ASSESSMENT OF THE IMPACT OF THE FRENCH CAPACITY MECHANISM ON ELECTRICITY MARKETS
Contents
Contents ................................................................................................................................................................................... i
List of figures ......................................................................................................................................................................... v
List of tables ....................................................................................................................................................................... viii
Abbreviations and technical units ................................................................................................................................. ix
Preface .................................................................................................................................................................................... xi
1. Executive summary...................................................................................................................................................... 1
1.1 Context and objectives of the study ............................................................................................................ 1
1.1.1
Drivers of the introduction of a capacity mechanism in France ................................................. 1
1.1.2
Interface between CMs and energy markets ..................................................................................... 1
1.1.3
Specific features of the French CM ........................................................................................................ 2
1.1.4
Objectives of this study ............................................................................................................................. 3
1.2 Modelling approach .......................................................................................................................................... 5

1.3 Assessment of the impact of the CM in France ....................................................................................... 6
1.4 Comparison of the impact of the CM with other policies implemented in Europe ................. 11
1.5 Conclusions ........................................................................................................................................................ 17
1.6 Structure of the report ................................................................................................................................... 18
2. Theory: Impact of policy interventions on electricity markets .................................................................. 19
2.1 Price formation on power markets ............................................................................................................ 19
2.2 Policy and regulatory interventions ........................................................................................................... 22
2.3 Review of the different types of CM and their interface with electricity market ...................... 24
2.3.1
Issues with energy-only markets and rationale for a CM ............................................................ 24
2.3.2
The different types of CMs ..................................................................................................................... 26
2.3.3
Analysis of potential impacts of CMs on the energy market ..................................................... 27
3. Description of the French CM and its potential impacts on European electricity markets ............. 30
3.1 Rationale for the introduction of a CM in France ................................................................................. 30
3.2 The legal and regulatory framework ......................................................................................................... 32
3.3 Description of the French CM principles and its specificities ........................................................... 32
Copyright FTI Consulting, Inc., 2016
3.4 Identification of the potential impacts of the French CM on the energy market ..................... 35
4. Quantifying the impacts of the French CM ...................................................................................................... 37
4.1 Introduction........................................................................................................................................................ 37
4.2 Description of the modelling approach ................................................................................................... 37
4.2.1
Model description ...................................................................................................................................... 37
4.2.2
French power sector scenario and main background assumptions ........................................ 39
4.2.3
Modelling approach to assess the available capacity in two market design scenarios.... 42
4.2.4
Impact of the market design on risk aversion and cost of capital ........................................... 44
4.3 Assessment criteria .......................................................................................................................................... 46

4.4 Comparison of an EOM and the French CM design scenarios ........................................................ 46
4.4.1
Impact on security of supply ................................................................................................................. 46
4.4.2
Impacts on available capacity ................................................................................................................ 49
4.4.3
Economic efficiency ................................................................................................................................... 52
4.4.4
Impact on energy markets ...................................................................................................................... 60
4.4.5
CO2 emissions.............................................................................................................................................. 64
5. Comparison of the impact of the French CM with other public policies implemented in Europe65
5.1 Introduction........................................................................................................................................................ 65
5.2 Presentation of the scenarios for the four policy schemes ............................................................... 66
5.2.1
The German strategic and climate reserve ....................................................................................... 66
5.2.2
Policy support to renewable generation in Germany ................................................................... 70
5.2.3
Nuclear phase-out in Germany ............................................................................................................. 73
5.2.4
Carbon price floor in the UK .................................................................................................................. 75
5.3 Assessment of the impacts of the four interventions ......................................................................... 78

5.3.1
Security of supply ...................................................................................................................................... 78
5.3.2
Impacts on available capacity ................................................................................................................ 79
5.3.3
Impact on energy markets ...................................................................................................................... 84
5.3.4
Economic efficiency ................................................................................................................................... 93
5.3.5
CO2 emissions.............................................................................................................................................. 95
6. Conclusions .................................................................................................................................................................. 99
ii
6.1 Impacts of the French CM compared to an EOM ................................................................................. 99

6.2 Comparison of the impacts of the French CM compared to other policy interventions .....100
7. Appendix A - Description of dispatch model ................................................................................................102
European power plants database ......................................................................................................................102
European power market assumptions .............................................................................................................102
Geographic scope of the model .........................................................................................................................103
Price calculation .......................................................................................................................................................104
Back-casting calibration ........................................................................................................................................104
Power dispatch model credentials ....................................................................................................................106
Renewable power generation modelling ........................................................................................................107
Wind Power production ...................................................................................................................................107
Solar Power production ....................................................................................................................................107
Wind and solar bids in wholesale market ......................................................................................................108
Nordic and Alps hydro modelling ....................................................................................................................108
Pumped storage......................................................................................................................................................108
On-site storage........................................................................................................................................................108
GARCH Methodology .............................................................................................................................................108
8. Appendix B - Description of capacity market model ..................................................................................111
Perfect competition capacity model .................................................................................................................111
Inter-temporal capacity model ...........................................................................................................................111
Interaction with power market model ..............................................................................................................111
Capacity market bids ..............................................................................................................................................112
Existing units ............................................................................................................................................................112
New units...................................................................................................................................................................113
Remaining debt may represent a significant part of the avoidable cost of the existing plants.114
9. Appendix C - Description of key scenario modelling assumptions .......................................................115
Macroeconomic context ........................................................................................................................................115
Economic growth ....................................................................................................................................................115
Demographic change ............................................................................................................................................116
iii
Energy efficiency .....................................................................................................................................................116

Demand .......................................................................................................................................................................116
Supply ..........................................................................................................................................................................117
FTI-CL Energy assumptions .................................................................................................................................117
Renewables ...............................................................................................................................................................118
Nuclear .......................................................................................................................................................................120
Combined Cycle Gas Turbines (CCGT) ............................................................................................................121
Coal
........................................................................................................................................................................122
Bibliography ......................................................................................................................................................................124
iv
List of figures
Figure 1-1: Comparison of LOLE between a CM design and an EOM design ................................................. 7
Figure 1-2: Impact of the CM on customer costs (difference between the CM and EOM
counterfactual scenario) ..................................................................................................................................................... 8
Figure 1-3: Impact of the CM on social welfare (difference between the CM and EOM counterfactual
scenario) ................................................................................................................................................................................... 9
Figure 1-4: Change in the available capacity (difference between the CM and EOM counterfactual
scenario) ................................................................................................................................................................................. 10
Figure 1-5: Average power prices in France and its neighbouring countries in the EOM and CM
scenarios ................................................................................................................................................................................ 11
Figure 1-6: Impact on available capacity of the CM and other policy intervention compared to the
counterfactual scenario .................................................................................................................................................... 13
Figure 1-7: Power price impact of the CM and other policy interventions compared to the
counterfactual scenario .................................................................................................................................................... 14
Figure 1-8: Impact on domestic cross-border flows of the different policy interventions compared to
the counterfactual scenario ............................................................................................................................................. 15
Figure 1-9: Impact on CO2 emissions of the different policy interventions compared to the
counterfactual in 2020 ...................................................................................................................................................... 16
Figure 1-10: Breakdown of the impact of the German strategic reserve on customer costs .................. 17
Figure 2-1: Wholesale electricity market clearing price in regular and scarcity conditions (with
inelastic demand) ................................................................................................................................................................ 21
Figure 2-2: Wholesale electricity market clearing price with and without mark-up on SRMC ............... 22
Figure 2-3: Taxonomy of CMs ........................................................................................................................................ 27
Figure 3-1: Maximum peak demand in different weather condition scenarios (winter 2016-2017) .... 31
Figure 3-2: French CM design ........................................................................................................................................ 34
Figure 3-3: General organisation of the CM (timeline) ......................................................................................... 35
Figure 4-1: Geographic scope of FTI-CL Energys European power market model ................................. 38
Figure 4-2: Peak demand duration curve and sample selection........................................................................ 39
Figure 4-3: Nuclear decommissioning paths ............................................................................................................ 41
Figure 4-4: Energy-only market design optimisation process ............................................................................ 43
Figure 4-5: Capacity market design optimisation process ................................................................................... 44
Figure 4-6: Energy revenue distribution across the modelled samples .......................................................... 45
Figure 4-7: LOLE in the CM scenario and in the EOM scenario.......................................................................... 47
Figure 4-8: Evolution of CCGT capacity in the CM scenario ................................................................................ 49
Figure 4-9: Evolution of peaking capacity in the CM scenario ........................................................................... 50
Figure 4-10: Change in the available capacity (difference between the CM and EOM counterfactual
scenario) ................................................................................................................................................................................. 51
Figure 4-11: Evolution of capacity prices ................................................................................................................... 52
Figure 4-12: Impact of the CM on customer costs (difference between the CM and EOM
counterfactual scenario) ................................................................................................................................................... 53
Figure 4-13: Energy revenue distribution across the modelled samples in an EOM with a price cap at
26,000/MWh ....................................................................................................................................................................... 56
Figure 4-14: Impact of the CM on social welfare (difference between the CM and EOM
counterfactual scenario) ................................................................................................................................................... 58
Figure 4-15: Average power prices in France and its neighbouring countries in the EOM and CM
scenarios ................................................................................................................................................................................ 61
Figure 4-16: Comparison of load duration curve between CM and EOM scenarios in 2030 .................. 62
Figure 4-17: Impact of CM on the French net export balance ........................................................................... 63
Figure 4-18: Impact of the CM on congestion rents .............................................................................................. 64
Figure 4-19: Impact of CM on CO2 emissions in France and in Europe in 2030 .......................................... 64
Figure 5-1: Germanys planned capacity and climate reserve ......................................................................... 67
Figure 5-2: Installed capacity over 2005-2015 ......................................................................................................... 72
Figure 5-3: Renewable capacity development with and without renewable support ................................ 73
Figure 5-4: Evolution of nuclear capacity in Germany under Nuclear Energy Acts of 2010 and 2011 75
Figure 5-5: CPF implementation in the UK ................................................................................................................ 77
Figure 5-6: EU ETS and CPF assessment ..................................................................................................................... 78
Figure 5-7: LOLE in Germany in the EOM scenario and with the German strategic reserve set at 5
percent of the peak demand .......................................................................................................................................... 79
Figure 5-8: Impact of the CM and other policy interventions on the available capacity .......................... 81
Figure 5-9: Impact on the available capacity active in the market of the German climate reserve ...... 82
Figure 5-10: Impact on the available capacity of the German RES support .................................................. 83
Figure 5-11: Impact on the available capacity of the German nuclear phase-out plan ............................ 84
Figure 5-12: Impacts on domestic power prices of different policy interventions ..................................... 85
Figure 5-13: Impacts on the French power price of different policy interventions .................................... 86
Figure 5-14: Percentage of time when the price difference exceeds 5/MWh as a result of different
policy interventions ............................................................................................................................................................ 90
Figure 5-15: Percentage of time when the price difference exceeds 1/MWh as a result of different
policy interventions ............................................................................................................................................................ 91
Figure 5-16: Impact on cross-border flows of different policy interventions ............................................... 92
Figure 5-17: Impact on congestion rents of different policy interventions ................................................... 93
Figure 5-18: Breakdown of the impact of the German strategic reserve on customer costs .................. 95
Figure 5-19: Impact of the German climate reserve on CO 2 emissions in 2020........................................... 96
vi
Figure 5-20: Impact of the German RES support on CO2 emissions in 2020 ................................................ 97
Figure 5-21: Impact of the German nuclear phase-out on CO2 emissions in 2020 .................................... 97
Figure 5-22: Impact of the UK CPF on CO2 emissions in 2020 ........................................................................... 98
Figure 7-1: FTI-CL Energys European Power Market model ........................................................................ 103
Figure 7-2: Back-casting calibration French hourly prices, November 2012 .......................................... 105
Figure 7-3: Back-casting calibration GB hourly prices, October 2012 ....................................................... 105
Figure 7-4: Back-casting calibration German hourly prices, October 2012 ............................................. 106
Figure 7-5: Back-casting calibration Belgian hourly prices, October 2012 .............................................. 106
Figure 8-1: Interaction between the capacity and energy markets ............................................................... 112
Figure 8-2: Existing units ............................................................................................................................................... 113
Figure 8-3: New units ..................................................................................................................................................... 113
Figure 9-1: Electricity consumption against temperature in European countries .................................... 117
Figure 9-2: Installed capacity of hydropower by 2015 ....................................................................................... 119
Figure 9-3: Installed capacity of wind power by 2015 ........................................................................................ 119
Figure 9-4: Installed capacity of solar power by 2015 ........................................................................................ 120
Figure 9-5: Installed capacity of nuclear power by 2015 ................................................................................... 121
Figure 9-6: Installed capacity of CCGT by 2015 .................................................................................................... 122
Figure 9-7: Installed capacity of coal by 2015 ....................................................................................................... 123
vii
List of tables
Table 2-1: Potential impacts of CMs ............................................................................................................................ 28
Table 4-1: Renewable capacity in 2030 ....................................................................................................................... 42
Table 5-1: Historical nuclear shut down schedule in Germany .......................................................................... 74
viii
Abbreviations and technical units

ARENH
Accs Rgul lElectricit Nuclaire Historique
BMWi
German Ministry of Economics and Energy
BNetzA
Bundesnetzagentur, the German Energy Regulator
Brottes Act
Law 2013-415
BWR
Boiling water reactor
CCGT
Combined-cycle gas turbine
CCS
Carbon Capture and Storage
CHP
Combined heat plants
CM
Capacity Mechanism
CPF
Carbon Price Floor
CPS
Carbon Price Support
CRE
French Energy Regulation Commission
DSR
Demand Side Response
EC
European Commission
EDF
Electricit de France
EEG
German Renewable Energy Act
EIA
US Energy Information Administration
ENTSO-E
European Network of Transmission System Operators for Electricity
EOM
Energy-only market
ETS
Emissions Trading Scheme
(G)ARCH
(Generalized) Autoregressive Conditional Heteroskedastic
GB
Great Britain
IEA
International Energy Agency
INSEE
Institut National de la Statistique et des Etudes Economiques
LOLE
Loss of load expectation
MW
Megawatts
MWh
Megawatt hours
NOME Act
Law 2010-1488
NPV
Net present value
NTC
Net Transfer Capacity
OCGT
Open-cycle gas turbine
PWR
Pressurised water reactor
RES
Renewable Energy Sources
RTE
French TSO
ix
SEDC
Smart Energy Demand Coalition
SRMC
Short-run marginal cost
TSO
Transmission System Operator
UK
United Kingdom
VOLL
Value of lost load
WEO14
IEA World Energy Outlook 2014
WEO15
IEA World Energy Outlook 2015
Preface
This report presents the key results of a study for RTE Assessment of the impact of the French
capacity mechanism on electricity markets which started in July 2015 and concluded with a public
launch event on 10 May 2016. FTI-CL Energy has been asked by RTE to:
Assess the French capacity mechanism and its impact on the electricity market, based on a
dynamic modelling of European electricity markets from 2017 to 2040; and
Compare the French capacity mechanism impact with the impact of other public policy
interventions.
FTI-CL Energy would like to thank RTE for their support as well as stimulation during the numerous
discussions throughout the study, as well as the wider group of policy and industry stakeholders
who contributed to the study through exchanges with the FTI-CL Energy experts.
Editorial of this report closed on 30 June 2016.
The views and analysis presented in this report are those of the FTI-CL Energy authors and not the
views of RTE or FTI Consulting, Inc. or its management, its subsidiaries, its affiliates, or its other
professionals. The right of Fabien Roques, Yves Le Thieis and Charles Verhaeghe to be identified as
the authors of this work has been asserted in accordance with the Copyright, Designs and Patents
Act 1988.
CONTACTS
Fabien Roques
Charles Verhaeghe
Yves Le Thieis
Compass Lexecon
Compass Lexecon
Compass Lexecon
Senior Vice President
Vice President
Economist
froques@
cverhaeghe@
ylethieis@
compasslexecon.com
compasslexecon.com
compasslexecon.com
22 Place de la Madeleine
4th Floor
Paris, 75008
France
Phone: +33 1 53 05 36 15
fax +33 1 53 05 36 16
xi
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xii
1. Executive summary
1.1 CONTEXT AND OBJECTIVES OF THE STUDY
1.1.1
Drivers of the introduction of a capacity mechanism in France
Concerns over security of supply have emerged in the past ten years in France as well as in a
number of European member states. The issue materialises in a specific way in France as peak
demand has increased more rapidly than energy consumption over the past decade. This results in a
high peak demand, which is very volatile from one year to another and the sensitivity to
temperature due to electrical heating is unique in Europe: during winter, when temperature
decreases by 1C, consumption increases by 2,400 MW at peak.
Controlling the pace of peak demand growth is therefore critical for maintaining security of supply
in France. In order to provide better incentives to keep the power system in balance and to
complement energy efficiency policies, the government decided in 2010 through a law on the new
organisation of the electricity market to establish a capacity mechanism (CM) with a design aimed
at addressing the French power system specificities. The CM regulatory framework has been set up
gradually by a decree in 2012 and detailed rules in 2015 that establish a capacity obligation for
suppliers. The first delivery year will be 2017.
Moreover, in 2015 France passed a new law which provides some key directions for the energy
transition towards a low carbon economy.1 This law sets ambitious objectives for the development
of energy efficiency, as well as renewable and low carbon energy sources, while remaining costcompetitive and maintaining an adequate security of supply.
1.1.2
Interface between CMs and energy markets
A number of European countries have implemented or are considering CMs of different types, such
as capacity payments, strategic reserves or capacity markets. The way in which these mechanisms
interact with the energy market and impact market participants differ considerably.
The European Commission (EC) launched in 2015 a sector inquiry into CMs in 11 member states2
and has also opened an in-depth investigation into the French market-wide CM.3
LOI n 2015-992 du 17 aot 2015 relative la transition nergtique pour la croissance verte.
Press release of the EC, 20 April 2015: http://europa.eu/rapid/press-release_MEMO-15-4892_en.htm.
The EC is particularly sensitive to potential impacts on energy markets of such mechanisms. Energy
markets complemented by a CM have different incentives compared to a theoretical energy-only
market (EOM).4
The introduction of CMs or other national energy policies in theory has an impact on electricity
markets, both:
In the short term: The CM may influence the participation strategy (e.g. dispatch or bidding
behaviour) of existing operators in energy markets; and
In the medium to long term: The CM may influence investment, mothball and retirement
decisions of existing and new operators.
Whilst the intrinsic goal of CMs is to influence market participants behaviour in order to maintain
security of supply in line with the politically-driven reliability standard5, a sound CM design can limit
the impact to what is necessary to achieve the policy objectives of the mechanism and avoid
distortions6 of the electricity market.
1.1.3
Specific features of the French CM
In the case of the French CM, several key features have been designed in order to avoid any effect
on the bidding strategies and dispatch decisions of the participants in the energy market. For
instance, the capacity certification is based on the availability of capacities, which avoids any impacts
on the short-term merit order for dispatch, as capacity providers (generation or Demand Side
Response (DSR) operators) are not obliged to generate or to be activated. The main impact of the
French CM should therefore be concentrated on the medium- to long-term evolution of the
available generation and DSR capacity, through modification of market players investment,
mothball and retirement decisions.
Press release of the EC, 13 November 2015: http://europa.eu/rapid/press-release_IP-15-6077_en.htm.
A theoretical EOM is understood as a market without any forms of capacity remuneration or public
intervention to ensure security of supply.
A Loss of load expectation (LOLE) of three hours per year.
In the report, we distinguish impact and distortions. We define distortions as negative impacts of the
mechanism on the wholesale power market functioning, which would lead to an inefficient use of the
generation mix, not following the economic merit order.
In addition, interconnection capacities have been taken into account implicitly in the design of the
French CM, which acknowledges the mutual dependence of EU countries in terms of security of
supply and therefore lowers domestic capacity requirements.
Furthermore, the French CM is not an isolated initiative: it is embedded in an in-depth market
design reform, with measures such as the completion of the electricity regional initiatives, the
revision of renewable energy sources (RES) support schemes to integrate RES in the markets, or
the direct participation of demand-response in all market structures.
1.1.4
Objectives of this study
FTI-CL Energy has been asked by RTE:

To assess the French CM and its impact on the electricity market, based on dynamic modelling
from 2017 to 2040; and
To estimate the impacts of different types of public policy interventions in order to provide
perspective on the results found for the French CM.
Our modelling aims to assess the impact of the CM in a realistic setting and to capture the current
electricity market functioning in practice, including its imperfections. Our model is calibrated in
order to reproduce the electricity market dynamics and this is validated by historical back-casting.
Our approach is therefore different from a theoretical exercise which would evaluate the impact of
the CM compared to a theoretical perfect energy market. We have for instance kept the current
price cap on day-ahead energy markets, i.e. of 3,000/MWh. However, this current price cap is
considerably lower than the theoretical optimal price cap (estimates of the value of lost load are
close to 26,000/MWh) due to various reasons such as asymmetric information, internalisation of
the probability of political intervention, and the absence of counterparties to accept such a high
price. We also run a sensitivity analysis without a price cap in order to test the robustness of our
modelling results under this assumption.
In order to evaluate the impact of the French CM, a counterfactual energy-only market (EOM)
theoretical scenario is considered. This should not be understood as implying that the EOM scenario
is a reference market design, it is merely a counterfactual scenario illustrating what the market
design would be without a CM.
In the EOM counterfactual scenario, available capacity is driven by the investment, mothball, and
retirement decisions of rational profit-maximising players based on expected costs and revenues
taking into account the current price cap in the day-ahead market (3,000/MWh) and by taking
into account revenues in the energy market and other market segments (balancing and reserve
markets). The EOM does not guarantee the reliability standard set by the government is met.
In the CM scenario, market participants have to meet the capacity obligation so the available
capacity is optimised in the same way as in the EOM scenario while respecting the reliability
standard set by the government and therefore taking into account the expected revenues in the
CM.
This report identifies the interactions between the CM and the electricity market, and quantifies the
effects of these interactions in the short, medium and long term, using a range of criteria and
indicators:
Security of supply criteria: we compute the loss of load expectation (LOLE). The reliability standard
defined by the French public authorities is three hours of LOLE.
Economic efficiency criteria: we evaluate the total consumer cost and the social surplus.
Available capacity criteria: we evaluate the impact on the installed capacity (both on the supply
side and on DSR).
Energy market impact criteria: we evaluate the impact on the power price, as well as the impact
on the total imports/exports between France and its neighbouring countries.
CO2 emissions criteria: we evaluate the impact on CO2 emissions both in France and in its
neighbouring countries.
In order to provide some context, we have also modelled other policy interventions in European
electricity markets to compare their impact with the impact of the CM. The objective is not to
evaluate these policies, but to provide some elements of comparison with the effect of the French
CM as regards the magnitude of their impacts. The other regulatory mechanisms that we have
assessed are the following:
The Strategic Reserve in Germany, including the forced inclusion of lignite plants in the reserve
(the so-called Climate Reserve);
The renewable energy sources (RES) support policy in Germany, comparing a scenario with higher
RES development, following the 2012 Renewable Energy Act (EEG) reform, to a development as
anticipated before 2011;
The Nuclear Phase-Out in Germany decided in 2011; and,
The Carbon Price Floor (CPF) introduced in 2013 in the United Kingdom (UK).
These public interventions are aimed at different objectives and, as such, are not directly
comparable. However, they provide a benchmark to compare across a range of metrics: (a) whether
the impact of the CM is significant; and (b) whether this impact is proportionate in light of its
benefits and of the impact of other public interventions that characterise current European power
markets.
Assessing whether the impact of the French CM is proportionate also requires taking into account
its benefits. This study therefore estimates social welfare gains associated with the French CM.
However, such a benefit assessment is not performed for the other policy interventions. The reader
is therefore advised not to draw hasty conclusions on the public interventions considered in this
study, which would not make sense without a dedicated cost-benefit analysis.
1.2 MODELLING APPROACH

To assess the impact of the French CM, we have modelled the European power system using our
FTI-CL Energy proprietary dispatch model based on the optimisation platform Plexos coupled with
a capacity market model, which we have developed internally. The model is designed to simulate
the dynamics of European power markets in a realistic way and is calibrated to reproduce historical
prices.
The model provides an hourly optimal dispatch of each unit connected to the grid, taking into
account operational constraints, and for each year simulates the capacity market clearing price, and
computes optimal investment, mothball and retirement decisions. The model accounts for demand
fluctuations, renewables output and variability, and the specificities of hydro power and
interconnectors.
The model covers 15 European countries, including the United Kingdom, Ireland, France, Belgium,
the Netherlands, Germany, Austria, Italy, Switzerland, Denmark, Norway, Sweden, Finland, Spain and
Portugal. Countries beyond this geographic scope are modelled at an aggregated level. It takes into
account existing and planned interconnections between France and neighbouring countries.
For each year, the model optimises market participants operational, investment and retirement
decisions based on the net present value of their expected costs and revenues. It assumes perfect
competition and no asymmetry of information for market participants, but it includes some degree
of risk aversion, which leads to a lower cost of capital in the CM scenario compared to the EOM
scenario. A sensitivity analysis of the degree of risk aversion is presented in order to test the
robustness of our results.
A range of other reports which analysed the impacts of CMs have been published.7 However, our
study is to our knowledge the first one to use a realistic and dynamic characterisation of European
electricity markets in order to capture the effect of the CM in the transition until 2040 rather than
once equilibrium is reached. This is particularly of interest given the overcapacity that exists today in
some European countries due to the economic recession and the slow recovery of power demand
on the one hand and to the policy-driven development of RES on the other.
The set of forward looking assumptions used in the model are based on RTEs and ENTSO-Es
power system outlook scenarios. In particular, the French diversification scenario is used as an
initial starting point to calibrate the model, although the electricity mix is optimised endogenously
based on market participants optimal decisions.
1.3 ASSESSMENT OF THE IMPACT OF THE CM IN FRANCE

As early as 2017 and for all subsequent years, the reliability standard set by the French public
authorities is not met in the EOM due to the closures of unprofitable plants. In contrast, the
CM allows meeting the reliability standard in all years.
The modelling of the EOM counterfactual scenario shows that market participants do not internalise
the full value of security of supply. Indeed, in the medium term (2017-2021), more generation
capacity is mothballed or shut down and DSR not developed due to the absence of sufficient
remuneration compared to what is expected in RTEs adequacy assessment8 and compared to
what is necessary in order to maintain security of supply at the desired level. The LOLE gradually
increases in the EOM scenario and in 2017 already exceeds the reliability standard set by the French
public authorities.
In the long term (2022-2030), mothballed plants come back in the market, but there is a lack of a
strong enough economic signal to trigger timely new investments. As a result, the development of
DSR and new investments in combined-cycle gas turbines (CCGTs) are delayed, while no open-cycle
gas turbine (OCGT) is built on an economic basis.
See for instance: Union Franaise de l'lectricit (UFE) and German Association of Energy and Water
Industries (BDEW), 2014. Energy transition and capacity mechanisms: A contribution to the European
debate with a view to 2030. Frontier Economics, 2014. Impact Assessment of Capacity Mechanism.
RTE Bilan prvisionnel, 2015.
Consequently, in the absence of CM, security of supply deteriorates substantially, most notably in
but not limited to France. From 2017 onwards, the LOLE exceeds the three-hour reliability standard
and reaches up to ten hours per year in subsequent years. Conversely, the CM effectively guarantees
that security of supply meets the policy objective of three hours of LOLE (Figure 1-1).
LOLE (hrs)
20
18
16
14
12
10
8
6
4
2
0
CM - LOLE
EOM - LOLE
Figure 1-1: Comparison of LOLE between a CM design and an EOM design

Source: FTI-CL Energy, 2016
On average from 2017 to 2030, the French CM reduces costs for French consumers by
400M/year as the reductions in investment risk and energy and curtailment cost outweigh the
additional capacity costs (Figure 1-2).
In the medium term (2017-2021), the CM contributes to limiting costs for consumers as it slightly
reduces the energy cost component of the bills, as well as the cost of curtailment. On the other
hand, consumers have to pay for capacity availability, but the resulting capacity price remains low,
given that no major investment is required.
Between 2022 and 2024, the CM slightly increases costs for consumers as some investments, critical
to maintaining security of supply, are anticipated compared to the EOM scenario.
In the long term (after 2025), the CM significantly reduces costs for consumers through a decrease
in energy prices and in the amount of curtailed energy 9, which largely compensates for the capacity
cost. One of the reasons for the reduction of total costs for consumers, in addition to lower
Curtailed energy is evaluated at the value of loss of load at 26,000/MWh. The value is based on RTE
benchmark.
curtailments, is that financing costs for new investments are lower with a CM, since the CM helps
secure revenues, which leads to a lower cost of capital and thereby reduces total costs. This is
especially true for peaking plants that only run for a limited period of time during infrequent cold
periods.
3
Customer cost ( billion)
2
1
0
-1
-2
-3
-4
-5
Energy cost
Ancillary service
Cost of Unserved Energy
Total (m)
Capacity Cost
Figure 1-2: Impact of the CM on customer costs (difference between the CM and EOM counterfactual scenario)
The CM increases social welfare in France by more than 500M/year on average with the
introduction of the CM over the outlook (Figure 1-3). The CM therefore benefits not only
consumers but also generators and DSR operators, who have more stable revenues with the
CM and benefit by more than 100M/year on average over the outlook from capacity revenues
and reduced market risks and cost of capital.
Indeed, when additional DSR capacity and mothballed CCGTs are necessary to maintain security of
supply, capacity providers benefit from higher capacity prices, but this is partly compensated by
lower energy revenues with fewer price spikes.
2.5
Social surplus ( billion)
2.0
1.5
1.0
0.5
0.0
-0.5
-1.0
-1.5
-2.0
Capacity provider surplus
Consumer surplus
TSO surplus
Total
Figure 1-3: Impact of the CM on social welfare (difference between the CM and EOM counterfactual scenario)
As the CM aims at guaranteeing the adequacy between supply and demand, it has an impact
on the available capacity (Figure 1-4). The CM helps to select the most competitive
technologies for all timeframes to meet the reliability standard.
In the medium term, all oil plants are closed and three CCGTs are mothballed between 2017 and
2021 with or without the CM, but the CM induces the development of the most cost-effective
technologies to ensure adequacy, which is DSR in the medium term based on our cost assumptions.
The CM fosters the emergence of aggregators and the development of more DSR capacity than in
the EOM. However, these capacity needs could be fulfilled by other technologies, such as
mothballed CCGTs or closed peaking units, depending on cost assumptions.
In the long term, the CM triggers new investment in cost-effective capacities:
DSR covers at least 50 percent of the incremental capacity need beyond 2023 up to 2040);
From 2024, timely investments in new CCGTs are triggered; and,
From 2026, new OCGTs are allowed to be built, which are not economical without a CM.
It is also worth noting that the CM will likely be favourable to the development of competition and
new entry on the supply side, as it results in more DSR and gas-fired capacities than in the EOM
scenario, which are owned or can be invested in by several companies, including new entrants.
10
9
Available capacity (GW)
8
7
6
5
4
3
2
1
0
CCGT
OCGT
OIL
DSR
Figure 1-4: Change in the available capacity (difference between the CM and EOM counterfactual scenario)
The CM does not modify the behaviour and strategies of market players in the energy market
or the short-term merit order. In the long term, it corrects the market failure where electricity
prices are not reflecting the true cost of security of supply and helps to obtain more optimal
available capacity given policy objectives (Figure 1-5).
The French CM is effectively designed not to alter market participants bidding strategy and
dispatch decisions in the short term. French capacity providers bid in the energy market on the basis
of their short-run marginal cost (SRMC) in the same way as they do in the EOM.10
The existence of a CM incentivises generators and demand-side response (DSR) operators to
maximise their availability during winter, but it does not force them either to generate or to modify
their bids in the energy market.
In a longer-term horizon, the average wholesale electricity price reduces slightly (by about 5 percent
in 2030) because of the additional capacity necessary to ensure resource adequacy which leads to a
lower occurrence of price spikes (Figure 1-5). Moreover, this price reduction effect is very limited in
neighbouring countries (about 1.6 percent in Germany and 2.2 percent in Great Britain in 2030).
10
We also take into account the possibility for mostly peak capacity providers to apply a mark-up on
their SRMC when system margins are tight, in order to recover part of their fixed costs.
10
Average power price (/MWh)
80
-3.4
70
-1.5
-0.4
60
50
-1.1
-0.8
40
30
20
10
0
FR
DE
GB
FR
2020
DE
GB
2030
CM
EOM
Figure 1-5: Average power prices in France and its neighbouring countries in the EOM and CM scenarios
Note: the number above each bar indicate the difference in average power price in /MWh between CM and EOM.
1.4 COMPARISON OF THE IMPACT OF THE CM WITH OTHER POLICIES IMPLEMENTED IN EUROPE
As part of their national energy policy objectives and responsibilities, member states put in place a
range of policies which can lead to changes in the volume of available capacity. These policy
interventions aim to achieve national policy objectives either for security of supply or support to
specific technologies in order, for instance, to reduce CO2 emissions. CMs are one of these policy
interventions which can be implemented by member states in the energy sector.
The objective of this study is to contribute to the European policy debate by providing quantitative
estimates of the impacts of different policy interventions in electricity markets. The study compares
the impact of the French CM on the electricity market with the impact of policy interventions aimed
at guaranteeing security of supply and/or supporting specific technologies. The objective is not to
evaluate these policies, but to provide some context in order to assess the effect of the French CM
in comparison to other types of policy interventions. The impact of four policy interventions is
assessed:
11
The German Strategic Reserve11: it is composed of a capacity reserve which targets security of
supply and a climate reserve which aims to reduce CO2 emissions (up to 2.7 GW of lignite power
to be retired from the energy market). We assume a perfect capacity reserve, which does not
affect the energy market. Our focus is therefore on the impact of the climate reserve. In the
counterfactual case, we assume that lignite plants are not retired before reaching the average age
of 45 years.
Policy support to renewable generation in Germany: the Renewable Energy Act (EEG) came into
force in 2010 to support a stronger growth of renewable energy sources (RES). In the
counterfactual case, a lower RES development scenario is considered, based on the expected
development of RES prior to the EEG.
The nuclear phase-out in Germany: all 17 German nuclear power plants are to be shut down by
2022. In the counterfactual case, an energy mix without nuclear phase-out is modelled.
The carbon price floor (CPF) in the UK: a carbon tax (the Carbon Price Support, CPS) topping up
the European Emission Trading Scheme (ETS) carbon price was introduced in 2014 and it
increased up to 18/tonne between 2016 and 2020. In the counterfactual case, only the EU-ETS
price is charged to power plants operators.
Whilst the impact of the different policy interventions is difficult to compare as they aim at
different objectives, the modifications of the available capacity induced by some of the other
policy interventions modelled are much more significant than the changes driven by the French
CM.
The amount of additional capacity induced by the French CM is comparable in the long term to the
German strategic reserve. In contrast, the German high RES scenario brings in an additional capacity
of 43 GW in 2020 and 70 GW in 2030, while the nuclear phase-out policy results in a decrease of 6
GW in 2020 (Figure 1-6).
11
The planned capacity and its evolution are sourced from Platts, 2015 and from the White Paper by
the Federal Ministry for Economic Affairs and Energy on an electricity market for Germanys
energy transition, which was the best information available when the study was performed.
12
80
40
20
0
-20
CCGT
OCGT
WIND
Nuclear phase-out
2020
High RES
Strategic (climate) reserve
CM
Nuclear phase-out
High RES
CM
Installed capacity difference (GW)
60
2030
SOLAR
NUCLEAR
COAL
CHP
SR
DSR
Total
Figure 1-6: Impact on available capacity of the CM and other policy intervention compared to the counterfactual scenario
Notes: The change in installed capacity of the strategic reserve takes into account the impact of the climate reserve.
Policy interventions may drive electricity prices upwards or downwards, but the impact of the
French CM in absolute terms on power prices is not greater than the other policies modelled.
The effect on average prices of the German strategic (climate) reserve is similar to the French CMs,
but the nuclear phase-out in Germany or the CPF in the UK have a much more significant impact on
average prices than the French CM, and they more frequently affect the price formation. More
precisely, the nuclear phase-out increases German prices by about 4/MWh or 10 percent in 2020
and by about 8/MWh or 12 percent in 2030; the CPF increases GB prices by about 9 and 5/MWh
in 2020 and 2030, equivalently 16 and 7 percent of the counterfactual prices. With regard to the RES
support, the impact on prices is very substantial in the medium term, but as the generation mix rebalances itself in the longer run, the impact reduces.
13
10.0
2020
8.0
6.0
4.0
2.0
0.0
-2.0
-4.0
-6.0
FR
DE
GB
Average power price difference (/MWh)
Average power price difference (/MWh)
10.0
2030
8.0
6.0
4.0
2.0
0.0
-2.0
-4.0
-6.0
FR
DE
GB
CM
High RES
Nuclear phase-out
CPF
Figure 1-7: Power price impact of the CM and other policy interventions compared to the counterfactual scenario
The French CM has an impact on cross-border flows because the available capacity is modified
to maintain security of supply, but it is more limited than the impact of some of the other
policy interventions.
The French CM modifies cross-border flows by about 1 TWh in 2020 and by 11 TWh in 2030, whilst
some other policy interventions have a greater impact on cross-border flows: the German RES
support increases exports by 24 and 50 TWh in 2020 and 2030 per year respectively, and the UK CPF
increases import by 9 and 14 TWh per year in 2020 and 2030 respectively.
14
2020
CPF
Nuclear phase-out
High RES
CM
CPF
Nuclear phase-out
High RES
50
40
30
20
10
0
-10
-20
-30
-40
-50
CM
Net export difference (TWh)
2030
Figure 1-8: Impact on domestic cross-border flows of the different policy interventions compared to the counterfactual
scenario
The French CM has a marginal impact on CO2. Policy interventions aimed at decarbonisation
reduce CO2 emissions but other interventions may increase emissions.
Although the French CM does not aim to reduce CO2 emissions, it marginally reduces overall CO2
emissions in France and its neighbouring countries as more efficient CCGTs plants in France reduce
net electricity imports from thermal plants in neighbouring countries.
In contrast, some other policy interventions have strong and negative consequences in terms of CO 2
emissions, especially the nuclear phase-out, which has significantly increased CO2 emissions.
15
30.0
30.0%
20.0
20.0%
10.0
10.0%
0.0
0.0%
-10.0
Emission difference (%)
Emission difference (million tonnes)
-10.0%
CM
Strategic
(climate)
reserve
High RES
Nuclear
phase-out
Emission difference (million tonnes)
CPF
Emissions difference (%)
Figure 1-9: Impact on CO2 emissions of the different policy interventions compared to the counterfactual in 2020
The French CM reduces on average consumer costs, mainly because it reduces load shedding
(cost of curtailment) and the financing cost of new investments. The strategic reserve leads to
a high level of security, but it induces around 800M per year of additional costs for
consumers. These addition costs are mostly due to the climate reserve.
In the EOM scenario, the LOLE in Germany rises up to ten hours per year in the medium to long
term. The implementation of the strategic reserve largely covers this risk as the LOLE falls down to
0-1 hour per year.
The impact in terms of consumer costs is difficult to compare across the different mechanisms that
we modelled as they aim at different policy objectives, such that our findings should be interpreted
with caution. The strategic reserve and the French CM both aim at securing supply, even though the
strategic reserve also includes a specific measure to close lignite plants, which contributes to
decarbonisation. The costs arising from these two goals are distinguished in the following analysis.
The French CM on average reduces consumer costs, mainly because it reduces load shedding (cost
of curtailment) and the financing cost of new investments. In comparison, the modelling shows that
the strategic reserve generates a net cost for consumers estimated at around 800M/year, as
presented in Figure 1-10. This is because: i) Consumers do not benefit from lower energy prices
insofar as capacity in the reserve is not valued in the market; ii) The contracting costs of a theoretical
strategic reserve are estimated to be 130M; iii) The reduction of the security of supply risk is limited
in 2020 and is valued at around 260M in 2030; and iv) The climate aspect of the reserve
16
increases energy costs and contracting costs for consumers by around 650-870M per year. Indeed,
lignite plants are replaced by gas plants in the merit order, which increases wholesale prices on
average. In addition, their contracting costs are higher than those of the plants which would have
been contracted in a technology neutral strategic reserve (without forcing lignite plants in).
Costs of the strategic and climate reserves (m/year)
1200
1000
800
600
400
200
0
-200
-400
Capacity reserve Climate reserve Strategic reserve Capacity reserve Climate reserve Strategic reserve
2020
Contracting cost
Activation cost
Additional Ramping cost
2030
Cost of unserved energy impact
Energy cost
Total costs
Figure 1-10: Breakdown of the impact of the German strategic reserve on customer costs
Therefore, most of the net cost for consumers is due to the climate aspect of the strategic
reserve. Without this distortion in the constitution of the reserve, a theoretical perfect strategic
reserve still induces a net cost in the first years of implementation. But over the period 2018 to 2030,
it is a zero-sum game for end consumers.
1.5 CONCLUSIONS
The internal energy market does not allow meeting all energy policy objectives by itself. Different
mechanisms are implemented to drive electricity market outcomes towards various EU policy
objectives including security of supply, renewable development and/or decarbonisation.
The French CM is designed to maintain security of supply at the reliability standard and the study
shows that it effectively achieves this goal in a cost efficient manner. The CM maintains the LOLE to
3 hours while it increases social welfare and reduces net costs for end consumers by 400 M per
17
year on average. In comparison, a strategic reserve approach does not appear to be a more
economical alternative to secure supply.
The French CM does not modify the behaviour of market players in the energy market, but it
necessarily has an impact on the available capacity in the medium to long term, in order to meet its
objective of securing the power system in France. The modelling thus shows that it has an impact on
prices and cross-border flows in the long term, although this impact is comparable to or lower than
most of the other regulatory or policy interventions considered. Moreover, the French CM does not
increase CO2 emissions at the European level.
1.6 STRUCTURE OF THE REPORT

This report is structured as follows:
Section 3 presents the theoretical functioning of an energy market and discusses how policy
interventions may interact with the energy market;
Section 4 describes the French CM and its potential impacts on the electricity market;
Section 5 quantifies the impacts of the French CM;
Section 6 compares the impacts of the French CM with the impacts of other policy interventions;
Section 7 concludes on the key findings of our comparative analysis.
Appendix A presents FTI-CL Energy dispatch model;
Appendix B describes FTI-CL Energy capacity market model; and
Appendix C presents the key modelling assumptions in France and in neighbouring countries.
18
2. Theory: Impact of policy interventions on

electricity markets
This section reviews the general mechanism of price formation in power markets and then
qualitatively analyses how policy interventions may affect power markets in the short and long term.
Lastly, it investigates the potential impacts of different forms of capacity mechanisms (CMs) on
power markets.
2.1 PRICE FORMATION ON POWER MARKETS

In electrical systems, generation and consumption need to be equal at all times,12 and the
possibilities to store electricity are limited and generally costly. Consequently, sales of electricity are
usually cleared in short-term markets on an hourly basis, or even sometimes on 15-minute basis.
Different prices may thus emerge at least every hour, taking into account the variation of demand
and the underlying generation sources activated to satisfy this demand.
Furthermore, the main market timeframe has historically been the day-ahead market: an auction is
typically organised every day for the 24 hours of the next day, taking into account interconnection
capacity between bidding zones through the market coupling. 13 Pay-as-cleared is used in dayahead markets in Europe, i.e. the marginal price is applied to all accepted offers within an hour.
In competitive markets, generators are expected to bid their variable costs (short-run marginal
cost or SRMC) or their opportunity costs. If not, they risk being outbid by a competitor. The
clearing price of the wholesale electricity market equals the bid of the most expensive generator
that needs to be activated to meet load.
In such case, generators with lower SRMC earn infra-marginal rent, which is the difference
between their variable cost and the market price and contributes to the remuneration of the initial
investment and fixed costs. However, if all market players bid at their SRMC, the last-called (peak)
12
Taking into account losses when transmitting electricity from generation units to load centres
13
Market coupling is already implemented across most borders in the EU. As far as France is concerned,
only the Swiss border is not yet coupled.
19
generator or demand-side response operator does not earn anything additional to contribute to
financing investment and fixed costs.
However, a number of specificities of the electricity market would ensure additional revenues to
generators including peaking units. These additional revenues stem in particular from: (i) the
scarcity rent; and (ii) a possible mark-up on SRMC.14
Scarcity rent
Because of the specific features of electricity (e.g. lack of commercial storage possibilities with the
exception of hydropower, low elasticity of demand in the short term, etc.), occasional capacity
shortages and price spikes are normal in well-functioning wholesale power markets.
In the long run, an optimal generation mix will likely fail to guarantee security of supply in all
circumstances. During the rare scarcity events when demand for electricity and operating reserve
requirements exceeds available generation capacity some consumers will have to be curtailed and
the clearing price will hit the price cap of the market and give infra-marginal rent, or scarcity
rent, to all generators (and DSR operators). In theory, the level of the price cap should be set at
the level of the value of lost load (VOLL)15 in order to provide adequate remuneration of
generators fixed costs. But in practice price caps in most electricity markets are set significantly
below VOLL.16
As an illustrative example, Figure 2-1 below depicts the wholesale electricity market clearing price in
both regular and scarcity conditions. On the left, demand is lower than available generation
capacity: the price is set at the marginal cost of the most expensive activated generator. On the
right, a scarcity event is depicted. With a price set at the price cap of the market, generators earn a
scarcity rent equal to the grey area.
14
For a thorough theoretical review of electricity markets, see for instance Joskow, P.L. and R.
Schmalensee. (1983). Markets for Power: An Analysis of Electric Utility Deregulation, Cambridge. MIT
Press.
15
The VOLL varies depending on the type of consumers and is typically around 20,000-30,000 /MWh.
16
For a description of the various market imperfections that undermine power markets ability to
remunerate adequately generators fixed costs, see for instance Fabien Roques (2008), Market
design for generation adequacy: Healing causes rather than symptoms, Utilities Policy, Elsevier, vol.
16(3), pages 171-183.
20
Figure 2-1: Wholesale electricity market clearing price in regular and scarcity conditions (with inelastic demand)
Mark-up
The electricity market generally remains an oligopolistic market, and entry is limited in the short
term by the magnitude of the necessary investment and its lead time. As such, the electricity market
differs from a purely theoretical and perfectly competitive market model with free entry.
As a consequence, when the equilibrium between supply and demand tightens, the competitive
pressure diminishes and price-making firms or plants can influence the market price by raising the
price at which they are willing to sell their marginal output. By taking such actions, these plants may
risk selling less, but this risk is limited by the fact that few or no other plants would be able to
deliver the corresponding output. On the other hand, such bids would raise the price they would get
for all output that they do sell. This leads to a premium over the SRMC which is usually referred as a
mark-up.
As an illustrative example, Figure 2-2 depicts the wholesale electricity market clearing price in
energy markets with and without a mark-up. On the left, bids are strictly based on the SRMC. The
clearing price is equal to the (short-run) marginal cost of the most expensive activated generator.
On the right, the marginal generator applies a mark-up, which allows him but also other
generators to recover some (more) fixed cost, as highlighted by the area labelled Rent.
The extent to which generators may exercise market power depends on the structure of the market
and the resulting competitive pressure. As an example, market power exercise is more likely to occur
if there are fewer generators or when generation margins are tighter.
21
Moreover, a mark-up may not be considered as an abuse of market power if it remains limited and
proportionate, as it is necessary for peaking units to receiver their investment costs. The mark-up
over SRMC is usually closely monitored by regulators, especially as far as an incumbent or dominant
player is concerned.17 One of the key issues is for regulators to distinguish between legitimate
use of market power to recover investment costs, and price manipulation.
Figure 2-2: Wholesale electricity market clearing price with and without mark-up on SRMC
2.2 POLICY AND REGULATORY INTERVENTIONS

Policy and regulatory interventions may affect electricity markets in different ways, depending on
their aim and how they are designed:
In the short term, policy interventions may affect dispatch and prices; and
In the longer term, policy interventions may impact the available capacity, and therefore prices.
Short-term impact
In the short run, policy interventions could change plant dispatch and power prices either by
modifying bidding behaviour or by directly influencing the merit order. This could be illustrated by
the following examples:
17
E.g. See Rapports de la CRE sur le fonctionnement des marchs de gros de llectricit, du CO 2 et du
gaz naturel. http://www.cre.fr/marches/marche-de-gros/rapports-de-surveillance
22
Introduction of a new tax. A carbon tax, for instance, would increase the cost of generation
based on fossil fuels. On the one hand, it tends to increase prices, since the variable cost of
electricity produced by these resources increases, internalising the cost of CO 2. On the other hand,
it modifies the merit order as the units that emit more CO2 would become less competitive than
units that emit less CO2.
Out-of-market technology support. Renewable energy sources (RES) support schemes may
cause distortions in price formation. For instance, some EU power markets have experienced
negative prices in recent years. This was in part due to the fact that renewable units were paid at a
fixed price, regardless of the market conditions, so in practice they bid at any price. Consequently,
some generation units with start-up costs and up-and-down constraints, for instance had to
pay to remain online. This leads to negative prices, while it would be economically more efficient
to reduce output of supported RES units.
Activation of strategic reserves. Rules for activating strategic reserves may directly have an
impact on the short-term markets. An example is if the strategic reserve is sold in the market at a
high price, but which is lower than the price cap: it acts as a lower price cap and reduces
incentives for market participants to balance their portfolio.
Long-term impact
Policy interventions may also have an impact in the long run. Indeed,
Consequences of short-term impacts on power prices. The short-term impacts illustrated
previously are passed on to the longer term by increasing the profitability of some investments
to the detriment of others, and they therefore modify investment strategies. For example, the
carbon tax mentioned above reduces resorting to CO2-emitting technologies in the short term
and consequently, their profitability, such that new investments favour cleaner technologies.
Decision on closure of plants. Other policy interventions directly modify the available capacity in
the short term by forcing or preventing closure of power plants, or putting plants in an out-ofmarket reserve. This could be the case, for instance, when a government decides to force the
shutdown of nuclear plants or old fuel plants that emit high levels of pollutants. Such
interventions tend to increase prices as the market has to resort to more expensive plants to
satisfy demand, with these plants no longer being in the merit order.
Support for specific generation technologies. Such intervention may directly modify the
available capacity by pushing in and out some specific technologies. As an example, renewable
support schemes guarantee the profitability of RES investments in order to stimulate their
development. On the other hand, the development of RES may tend to crowd out other
investment.
23
2.3 REVIEW OF THE DIFFERENT TYPES OF CM AND THEIR INTERFACE WITH ELECTRICITY MARKET
2.3.1 Issues with energy-only markets and rationale for a CM
In theoretical energy-only markets (EOM), there is no specific mechanism to put a value on
generating capacity when the system becomes tight. This is based on the assumption that electricity
prices will rise if market players anticipate a shortage of capacity, inducing new investments.
The economic rationale of such an approach is theoretically grounded in the Peak Load Pricing
Theory,18 suggesting that marginal pricing can ensure the fixed cost recovery of investment based
on the scarcity rents that all power producers earn when the system is tight. The assumptions
underlying the current market design based on energy-only markets are: (i) that power prices could
climb to the VOLL at times of scarcity (i.e. the price that makes consumers indifferent between
consuming and not consuming); and (ii) that this would naturally lead market players to benefit
from periods of high prices to remunerate their fixed costs. Thus, prices would give adequate signals
for investment, leading to the level of security of supply which would be desired by consumers.
However, there are growing concerns on the applicability of this theory in practice. Many power
markets in Europe and elsewhere (e.g. in the U.S.) have implemented complementary measures to
address these concerns. Evidence suggests that electricity markets are usually far from perfect and
that there are high regulatory risks. In particular, power prices are not allowed in practice to reach
the VOLL, leading to a chronic shortage of revenue for plant operators the so-called missing
money issue as referred to in the academic literature. 19 Various reasons have been invocated, such
as:
It is difficult to capture the actual VOLL. In the absence of active demand-side participation
especially for load that is not metered in real time market participants have limited ways or
incentives to express their value for power at different times;
Price spikes are generally politically unacceptable. This is particularly true insofar as price spikes
are not only influenced by fundamentals, but could also be due to IT/process issues, lack of
18
See for instance Boiteux M., La Tarification des demandes en pointe : application de la thorie de la
vente au cot marginal., revue Gnrale de lElectricit 58 (August): 321-40, 1949.
19
See for instance Finon D. et V. Pignon, 2008, Electricity and LongTerm Capacity Adequacy, The
Quest for Regulatory Mechanism Compatible with Electricity Market, Utilities Policy.
24
transparency, or exercise of market power,20 which could lead to thorny situations if the price cap
is set too high.21
Therefore, revenues from scarcity rent and mark-up may not be sufficient to recover fixed costs,
leading to inadequate investment and retirement incentives. Ultimately, this may put security of
supply at risk, which leads some States to intervene and implement so-called CMs. Five main
arguments are commonly made:
Price caps and other barriers to scarcity pricing. A range of issues including price caps set
below the VOLL (e.g. due to political constraints) but also sometimes other operational practices
in the procurement and activation of reserves often undermine the ability of power prices to fully
reflect scarcity value and rise up to the VOLL at times of system stress. As a result, there is
missing money for all existing resources, which implies too low a level of investment in
capacity.22
Boom-bust investment cycles. Investments, especially in peak capacity, are risky, since even
small changes in the number of scarcity events can have a dramatic impact on the capacity
owners revenues. Further, these issues, combined with the long lead times for the construction
of generation capacity, may result in a boom-bust investment pattern, as investors might wait
before investing until the frequency of scarcity events provides unambiguous evidence that the
additional capacity will be profitable.
Investment coordination risk. In a theoretically pure market design, decisions to build new
capacity are made independently. This induces strategic uncertainty that may lead to underinvestment; because ones investment in new capacity tends to be more profitable if others
invest less, there are incentives not to inform or to misinform competitors about ones own
intentions.
Risk aversion. Even if prices are able to reach the VOLL and the revenues during these periods
allow power plants and demand-side response (DSR) capacities to cover their fixed costs, such
occurrences would be so rare and unpredictable that either the risk premium required to invest in
20
See, for example, price spikes in Belgium on 28 March 2011, due to a time change bug, or in France
on 19 October 2009, due to inefficient procedures and transparency issues.
21
http://www.creg.info/pdf/Etudes/F1099EN.pdf;
http://www.cre.fr/documents/deliberations/communication/pic-de-prix-de-l-electricite-du-19octobre-2009
22
See for instance Roques, F. (2008), Market Design for Generation Adequacy: Healing Causes rather
than Symptoms, Utilities Policy, 2008, vol. 16, issue 3, pages 171-183
25
the last MWs would be significant. This is frequently argued to hamper the financing of
peaking units.
Supply-side externalities. There are externalities on the supply-side. During a blackout or in case
of controlled load shedding, some consumers are forced not to consume and therefore buy less
energy, so generators earn lower revenues. However, the incentive to provide the reserves needed
to avoid blackouts may be too low compared to the incentive in an efficient market system,
because all suppliers profit equally from the positive market price resulting from an avoided
blackout.23
2.3.2
The different types of CMs
The goal of this section is not to analyse the pros and cons of different CMs for achieving the
objective they pursue, but to understand how they may have an impact on energy markets and
which of their features are key in this respect. Figure 2-3 presents different forms of CMs.
To simplify and limit potential combinations, we will focus our analysis on three different forms:
Capacity payment. Capacity payments are administratively set payments per MW capacity, paid
to all generators or to a selection of plants with some specific characteristics (e.g. flexible plants),
generally regardless of whether they are dispatched to run. Capacity payments are intended to
provide generators with additional revenues equivalent to their missing money.
Capacity markets (encompassing decentralised capacity obligations, capacity auctions and
reliability options market). A capacity market approach is based on a volume requirement: a
central body sets the amount of capacity to be auctioned or defines the parameters of the
obligation that each supplier should comply with. Capacity providers generators or DSR
operators compete to provide capacity to the auction mechanism or to obligated suppliers, and
they receive capacity revenues, which add up to their revenues from selling power in the
wholesale energy market. As a counterparty, capacity providers commit to be available during
certain periods, to place bids on energy markets, or to produce energy in case of scarcity.
Strategic reserve. In this approach, part of the installed generation or DSR capacity is contracted
and withdrawn from the market to be used only in scarcity situation, i.e. as reserve of last resort.
23
Cramton P. and Ockenfels A. (2011), Economics and design of capacity markets for the power
sector, available at: ftp://www.cramton.umd.edu/papers2010-2014/cramton-ockenfels-economicsand-design-of-capacity-markets.pdf based on Joskow, P.L. and J. Tirole (2007), Reliability and
Competitive Electricity Markets., Rand Journal of Economics, 38(1), 68-84.
26
Contracted plants or capacity receive a fixed payment but cannot sell energy in the market. On
the other hand, other plants in the market do not get any capacity revenue. If the plants in the
reserve would have been shut down otherwise (perfect reserve), plants in the market do not
benefit from higher revenues, but their energy revenues may increase if some of the plants put in
the reserve would not have been shut down otherwise.
Figure 2-3: Taxonomy of CMs

2.3.3
Analysis of potential impacts of CMs on the energy market
Table 2-1 presents the short and long-term impacts of CMs, as well as the key features of the design
that are likely to induce impacts. This brief assessment shows that CMs can be designed such that
they do not impact the short-term price formation. However, the devil is in the details, and
several features may induce short-term impacts:
In particular, when designing strategic reserves, activation rules must be looked at very carefully,
as they will likely have an impact on intraday and balancing markets, and a too low activation
price may cause distortions even on the day-ahead market both prices and cross-border flows.
Similarly, a too low strike price for reliability options may also act as an implicit price cap in the
day-ahead market.
With regard to capacity markets, if participants are obliged to deliver electricity during certain
periods, this may force them to underbid to sell their output. It may therefore impact prices,
although this might be limited to rare periods, with limited impact, if the periods are well-defined.
Hence, availability-based capacity products may be preferable as they avoid any short-term
impact on price formation.
27
Capacity payments and capacity markets are likely to have a long-run effect on the available
capacity as they intrinsically aim at incentivising new investment to guarantee security of supply
through the market.
Capacity markets generally present an important advantage with regard to investment incentives:
as the approach is volume-based, they drive investment only when necessary and, as a marketbased mechanism, prices can adjust to the balance between demand and supply of capacity,
which limits risks of over- or under-investment, compared to capacity payments.
Conversely, strategic reserves provide an out-of-market response to security of supply issues,
recognising that the level of security of supply achieved through an EOM is not sufficient.
Therefore, if strategic reserves are well-designed, they have limited impact on the available
capacity active in the market. In practice, though, the procurement rules and the volume setting
for the reserve are not easy to define, which may deviate from a theoretical EOM. Furthermore,
rules to deal with mothballing decisions while avoiding windfall effects and freeriding behaviours
necessarily create frictions in the functioning of the market and on the entry and exit of plants.
A number of key design parameters are likely to have significant consequences if they favour
some technologies (e.g. by preventing DSR participation) or if they are badly calibrated, as they
may generate overinvestment and dampen prices in the long term (or, less probably,
underinvestment).
Table 2-1: Potential impacts of CMs
Key features
Level of capacity payment: may
Capacity
payment
Likely to stimulate
bidding behaviour of
additional investments
if too high or too low
capacity providers as long
(compared to EOM)
Eligibility: a restriction to new
as based on availability
entrants may crowd existing
Risk of impacts on bids,
plants out
Consequently likely to
impact prices and cross-
prices and cross-border
border exchanges without
exchanges if payments
inducing distortions a priori
to capacity installed, availability or
proportional to generation
actual output
(in /MWh)
Level of capacity requirement:
Unlikely to modify
Likely to stimulate
risk of being too conservative,
additional investments
leading to overinvestment
market participants if based
(compared to EOM)
Capacity Eligibility: a restriction to some

technologies may create
distortions
Conditions: the design of the
obligation (availability vs. delivery)
28
Unlikely to modify
Long-term impacts
lead to over- or under-investment
Conditions: payment applicable
market
Short-term impacts
on availability
Risk of impacts on prices
Allow coordination of
investments by setting the
and cross-border
forward capacity target or
exchanges when it forces
the forward capacity
energy delivery or in case
obligation and providing

Key features
Short-term impacts
may have different consequences,
of reliability options, if the
transparency on capacity
especially delivery may induce
strike price is too low, but
adequacy
distortions by modifying bidding
limited to rare occurrences
strategies
Long-term impacts
Consequently likely to
impact prices and cross-
Design specificities: auction
border exchanges without
design, long-term contracts,
inducing distortions of the
periods of obligation, strike price
merit order a priori
setting (for reliability options) may

favour some parties compared to
others and impact prices
Activation rules and trigger
reserve should not have
if the trigger price is too low
market participants, as
impact on the available
capacity providers are
capacity active in the
withdrawn from the market
market: it affects only
volume is too high, it may drive

capacity out of the market, with
Risk of impacts on prices
unprofitable plants
an upward impact on prices and
and cross-border
necessary for security of
higher investment incentives
exchanges when it is
supply that would have
activated or if too high
closed otherwise
Eligibility (technology):
reserve
A perfectly designed
price: may affect prices especially

Volume requirement: if the
Strategic
Unlikely to modify
May affect long-term
restrictions may prevent or force
reserve requirement
some technologies in the reserve,
incentivises profitable
investment (a) through
and consequently impact the
plants to enter the reserve,
short-term distortions, if
available capacity
creating artificial scarcity in
any, and (b) depending on
the market
participation conditions
Participation conditions:
participation in the reserve may
Technical constraints
prevent plants from going back to
usually imply day-ahead
the market once in the reserve,
activation, which affects
which can modify mothball
intraday and balancing
decisions compared to EOM
markets
and reserve volume

determination
29
3. Description of the French CM and its potential

impacts on European electricity markets
3.1 RATIONALE FOR THE INTRODUCTION OF A CM IN FRANCE
As other European countries, France is facing major challenges to successfully manage its energy
transition. The aim is to achieve a more sustainable energy mix, using more efficient and
environmentally friendly modes of production, transmission, distribution, and consumption;
integrating much more renewable energy sources; consuming less and better; and optimising power
systems.
As it stands, France has a rather cost-competitive and low-carbon power industry, mainly because of
energy choices made in the 1970s and 1980s. The use of its hydroelectric potential and the
development of nuclear power enhanced energy independence and affordability and reduced its
carbon footprint. It also promoted the use of electric heating to reduce dependence on fossil fuel
and take advantage of the large generation fleet.
But these choices have also given rise to a particularly intense peak demand phenomenon.
Moreover, until very recently, although growth in average electricity consumption has slowed down,
peak power demand has continued to trend sharply higher. A few figures illustrate this
phenomenon:
Maximum peak demand reached 102.1 GW during the winter 2011-2012, while the maximum
during the winter 2001-2002 was only 79.6 GW. In ten years, it has thus risen by 30 percent.
France comprises almost half of the temperature-sensitive power demand in Europe; if
temperature decreases by 1C, consumption increases by 2,400 MW during winter peak hours.
30
Figure 3-1: Maximum peak demand in different weather condition scenarios (winter 2016-2017)
Source: RTE (2015), Bilan prvisionnel, http://www.rte-france.com/sites/default/files/bp2015.pdf
Such sharp and high peak demands, depending on very volatile weather conditions, cause concerns
over the security of electricity supplies in France, while investments needed to address these peaks
and to meet the French security of supply standard would likely be hardly profitable and highly
risky.
RTE resource adequacy forecast reports indeed showed risks of scarcity situations.24 In 2009 and
2010, when the law introducing the capacity obligation was discussed and passed, it was anticipated
that the security of supply standard would not be met from 2013 and, more significantly, from
2015. The economic crisis and the slow recovery of the French economy, as well as the anticipation
of capacity revenue from the CM, may have postponed the problem, but the specificity of the
French situation remains.
24
See RTE resource adequacy forecast reports from 2009 to 2015:

http://www.rte-france.com/fr/article/bilan-previsionnel.
31
3.2 THE LEGAL AND REGULATORY FRAMEWORK

Concerns about the functioning of electricity markets have been raised in France. There were serious
doubts about the ability of the electricity market: (i) to generate the right economic signals; and
thus, (ii) to guarantee a level of security of supply in accordance with the reliability criteria fixed by
the French authorities.
In response to these concerns, the French law n 2010-1488 of 7 December 2010, reforming the
organisation of the electricity market (NOME Act) provides for the creation of a capacity
obligation scheme.25 It specifies that each supplier should contribute in accordance with the
demand characteristics of its customers, in terms of power and energy, to the security of electricity
supply in continental France.26 The Law 2013-415 of 15 April 2013 (Brottes Act) extends the
capacity obligation to transmission and distribution system operators (to cover for network losses)
and to consumers, who would not purchase all the electricity they consume from a supplier.
However, for simplicity, we will generally refer to obliged parties as suppliers, with the
understanding that it includes all relevant entities.
The Decree 2012-1405 of 14 December 2012 27 defines the general organisational framework for the
new scheme, while the Ministerial Order of 22 January 2015 establishes the precise rules that would
govern the CM and ensure its operational implementation.28
3.3 DESCRIPTION OF THE FRENCH CM PRINCIPLES AND ITS SPECIFICITIES

The Decree 2012-1405 of 14 December 2012 proposed to define a CM, monitored by the French
Energy Regulation Commission (CRE), through which providers of capacity certificates can trade
25
It is worth noticing that the introduction of a capacity mechanism in France is in line with Law 2013415 of 15 April 2013 (Brottes Act) which ask for making the load curve more flexible.
26
Loi NOME n 2010-1488 du 7 dcembre 2010 :

http://www.legifrance.gouv.fr/affichTexte.do?cidTexte=JORFTEXT000023174854&dateTexte=&catego
rieLien=id
27
Dcret n 2012-1405 du 14 dcembre 2012 relatif la contribution des fournisseurs la scurit

d'approvisionnement en lectricit et portant cration d'un mcanisme d'obligation de capacit dans
le secteur de l'lectricit : http://www.legifrance.gouv.fr/eli/decret/2012/12/14/DEVR1206335D/jo
28
Arrt du 22 janvier 2015 dfinissant les rgles du mcanisme de capacit :

http://www.legifrance.gouv.fr/eli/arrete/2015/1/22/DEVR1418335A/jo
32
them with obligated parties to enable the latter to meet a legal obligation.29 Fundamental choices
have driven the architecture of the CM, namely:
Market-based mechanism without any public funding;
Equal treatment of new and existing plants;
Technology neutral mechanism (generation, storage, demand response, etc.);
No interference on the functioning of the Internal Energy Market (e.g. no change in market
coupling, no export restriction); and
Forward-looking mechanism.
This mechanism (with these characteristics) is intended to reward operators for the contributions
their capacities make to the power system by being available during periods of tight supply.
The core elements of the CM include:
Obligations Obligations will be assigned to suppliers based on the actual consumption of their
customers (including transmission and distribution system operators, for their losses) during peak
periods. To meet its obligation, a supplier will have to secure capacity certificates, either by
certifying the capacities it operates (generation or demand-side capacities) or by purchasing
certificates from other market participants.30
Certifications Operators of production and demand-response capacities commit to a certain
level of availability (certified capacity level) and are issued the corresponding amount of capacity
certificates. At the end of the delivery year, RTE calculates, for each operator, the difference
between the sums of certified capacity levels, reflecting the self-assessment based commitments
of capacity operators, and of effective capacity levels, based on checks. The operator is financially
liable for the amount of the settlement imbalance thus calculated. 31
Market operations that include the design of the continuous capacity trading, beginning four
years ahead of delivery, as well as two imbalance settlement processes.
29
Additionally, the capacity mechanism should apply to all capacity; and not interfering on the
functioning of the internal energy market (e.g. no change in market coupling, no export restriction).
30
In practice, capacity portfolio managers balance obligations and certificates of suppliers or certified
and effective capacity levels of capacity providers and are financially liable for them, similarly to
balancing responsible parties in the energy market.
31
Same as above.
33
Figure 3-2: French CM design

Source: RTE (2014), French Capacity Market,
http://www.rte-france.com/sites/default/files/2014_04_09_french_capacity_market.pdf
Functioning of the French CM

The French CM is a multi-year scheme that starts four years before the delivery year and ends two
years after the delivery year. The general timeline of the mechanism, depicted in Figure 3-3, goes as
follows:
Four years before the delivery year, the CM begins when the obligation and certification
parameters are published. Capacity operators start certifying their capacities, in exchange for
which they will receive capacity certificates. Capacities that can be developed very quickly, such as
demand response capacities, can be certified up until the start of the delivery period.
Within the four years before delivery year, once the first capacity certificates have been issued,
suppliers start covering their obligations, based on their own forecasts and risk hedging
strategies, by: (i) acquiring capacity certificates from operators; or (ii) securing capacity certificates
from their own capacities. Capacity certificates can be traded until the transfer deadline (two years
after the end of the delivery period). Note that each supplier is informed of its obligation before
this deadline.
During the delivery year, data relating to the operation of capacities is gathered and verified,
particularly information about actual availability during the peak period associated with
34
certification. Capacity providers commit to being available during this period, but they are not
required to be generating.
At the end of the delivery period, imbalance settlement takes place. On one hand, for each
operator, an aggregate effective capacity level is compared to the sum of certified capacity levels.
If an imbalance is found, the capacity portfolio manager must pay an imbalance settlement
corresponding to that difference. The difference between a suppliers obligation and the amount
of certificates held is calculated, and the supplier is notified of any imbalance.
Figure 3-3: General organisation of the CM (timeline)

Source: RTE, French Capacity Market, 2014
To conclude, the CM has already started for the first delivery years with the opening of the
certification period on 1 April 2015. This period has closed on 1 December 2015 for the delivery
years 2017, 2018 and 2019 for existing generation capacities.
3.4 IDENTIFICATION OF THE POTENTIAL IMPACTS OF THE FRENCH CM ON THE ENERGY MARKET
Short-term impact
The French CM does not present specific rules likely to have an impact on the dispatch in the short
term:
35
It is based on availability so it does not force generators (or DSR operators) either to produce
below their SRMC or to modify their bids; and
It does not withdraw capacity from the market.
It is coupled with ongoing reforms to improve the functioning of the energy and ancillary service
markets. For examples, DSR participation and aggregation are being extended gradually to all
markets, including capacity, reserves and wholesale markets, while smart meters are being rolled out
in order to facilitate the development of DSR and consumer engagement. As a result, the Smart
Energy Demand Coalition (SEDC) considers France as one of the most advanced markets for DSR
aggregation.32 Retail markets and other services are heading for a market-based model, such that
regulated tariffs have been phased out since the end of 2015 for large commercial and industrial
consumers and that ancillary services and reserve markets have been improved to be more flexible.
Moreover, the management of interconnection is being continuously improved. Market coupling is
implemented on all borders, except Switzerland, and liquidity and integration in intraday markets
has increased significantly over the past few years.
Long-term impact
The French CM aims at meeting a security of supply standard set by the Ministry. Thus, it will likely
foster DSR development, avoid excessive mothballs or retirements, and secure timely investment if
necessary in order to meet this criterion. As such, it may impact the long-term available capacity.
However, it is calibrated based on the predefined security criteria (three hours of loss of load
expectation, or LOLE), and overinvestment is avoided insofar as the contribution of neighbouring
countries, through interconnections, is taken into account. It is worth noting that the level of crossborder contribution taken into account is fairly high: 7 GW out of the 9 GW of available import
capacity. This could be compared to the CM in the UK, for which the contribution was set to zero
(out of 4 GW of available import capacity) for the first CM auction.
DSR can participate in the CM on an equal footing, both explicitly to supply capacity or implicitly by
reducing capacity obligations. As such, the CM is rather favourable to DSR and it is expected to
stimulate DSR development.
32
SEDC (2015), Mapping Demand Response in Europe Today, http://www.smartenergydemand.eu/wpcontent/uploads/2015/10/Mapping-Demand-Response-in-Europe-Today-2015.pdf
36
4. Quantifying the impacts of the French CM

4.1 INTRODUCTION
The objective of this section is to quantify the impacts of the French CM on the energy markets and
more generally on the European power system.
To do so, we describe our modelling approach and assumptions, as well as our evaluation criteria.
Then, we present the results of our simulations and the impact of the CM in France and in
neighbouring states, which we assess according the predefined evaluation criteria. We use the same
methodology to assess the impacts of other European policy interventions in Section 5.
4.2 DESCRIPTION OF THE MODELLING APPROACH

4.2.1
Model description
To assess the impact of the French CM, we have modelled the European power system using our
FTI-CL Energy proprietary dispatch model coupled with a capacity market model, which we have
developed internally. The model accounts for each unit connected to the transmission grid,
decentralised generation, renewable output and its variability, specificities of hydro power and
interconnectors, as well as for demand fluctuations.
The geographic scope of the model is shown below in Figure 4-1. It covers most western European
countries, including the UK, Ireland, France, Belgium, the Netherlands, Luxembourg, Germany,
Austria, Italy, Switzerland, Denmark, Norway, Sweden, Finland, Spain and Portugal. The model also
takes into account interconnections with other countries, beyond this geographic scope, which are
modelled at an aggregated level. It is therefore able to capture the effect of the interconnections
between the French market and neighbouring countries.
37
Figure 4-1: Geographic scope of FTI-CL Energys European power market model
We use a realistic model of the French and neighbouring markets calibrated to reproduce historical
market prices. Our dispatch model is based on well-established optimisation platform Plexos and
provides an hourly optimal dispatch taking into account operational constraints. Our dispatch model
is described in detail in Appendix A, which also demonstrates the robustness of the model through a
back-casting exercise.
The capacity market (CM) model minimises the system cost while ensuring the reliability criteria. The
CM model simulates supply and demand curves and produces capacity prices defined as the
minimum capacity price necessary to meet the capacity requirement set to reach the regulated
reliability standard. The capacity market model is presented in details in Appendix B.
For each year, we optimise market participants operational, investment and retirement decisions
based on their expected costs and revenues. Both models are interlinked through an iterative
optimisation process descripted in Section 4.2.3. We assume perfect competition and no asymmetry
of information for market participants, but we include some degree of risk aversion. The model
endogenises economic decisions of market participants by ensuring plants do breakeven (based
on their avoidable costs) either only with energy and ancillary services revenues as in the EOM or
with energy and ancillary services revenues plus capacity revenue as in the CM.
38
4.2.2
French power sector scenario and main background assumptions
The core assumptions regarding the 2030 market fundamentals in France are based on RTEs
Diversification scenario presented in the Bilan Previsionnel 2014, updated by the Bilan
Previsionnel 2015 for the medium term. These assumptions include the following items:
Demand: Demand projections are based on RTE data and forecast.
o
Annual demand: In 2030, the Diversification scenario assumes an annual demand of

501TWh in average weather conditions. This is equivalent to a 5 percent increase compared
to 2014 consumption.
Peak demand: The peak demand at 10 percent risk (one in ten years peak) increases by 5
GW to reach 105 GW in 2030.
Hourly demand: Hourly power curves are based on RTE stochastic analysis. RTE realises
1,000 samples to test the short-term French power system reliability. For the purpose of the
analysis, RTE provided eleven samples representing the distribution of peak demand as
shown in Figure 4-2. These samples were selected and weighted in order to capture the
whole range of potential situations while grasping occurrences of extreme peaks, where the
likelihood of price spikes and load shedding materialises the most.
115
110
105
GW
100
95
90
85
80
75
70
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Figure 4-2: Peak demand duration curve and sample selection

Source: RTE and FTI-CL Energy, 2016
Commodity: Commodity prices are derived from the World Energy Outlook 2014 (WEO14)
published by the IEA. Prices are interpolated from October 2015 forwards to WEO14 long-term
projections.
39
Interconnection: In line with RTE Diversification scenario, the winter import interconnection
capacity increases to 20 GW by 2030. This has to be compared to the 9 GW of import capacity
that was available during winter of 2014/2015.
Capacity: Capacity assumptions for nuclear, renewables and coal plants are derived from RTEs
Diversification scenario, whilst combined-cycle gas turbines (CCGTs), open-cycle gas turbines
(OCGTs) and DSR capacities are optimised based on economic decisions of rational players:
o
Nuclear: French nuclear capacity decreases to 47.7 GW by 2030. This is equivalent to an

average 1.5 GW nuclear capacity decrease per year over a ten-year period. Nuclear capacity
is assumed to decrease linearly (constraint by unit size) without respecting the normal tenyear license schedule. The exact timing of nuclear decommissioning has a major impact on
new build requirement per year and therefore on the results of the study. We therefore
provide a sensitivity analysis which is described in the textbox below and which results are
presented later on in Section 4.4.3.
40
Sensitivity analysis to the timing of nuclear decommissioning

The exact timing of nuclear decommissioning has a major impact on new build requirement per
year and therefore on the results of the study.
The annual shut down nuclear capacity will trigger the need of new investments including new
CCGTs, OCGTs, DSR and efficiency measures. The average 1.5 GW of annual nuclear decrease
will be compensated by a combination of the above resources.
While the starting point in 2020 and the ending point in 2030 are known and set by RTE
Diversification long term scenario, there is no agreed phase-down timing to achieve the 2030
target yet.
To account for this uncertainty, we model two sensitivities around the reference linear decrease
(constraint by the unit size).
A convex sensitivity: It assumes a quicker phase-down in the early years and a slower
phase-down in the later years. New capacity requirement is therefore brought forward.
A concave sensitivity: It assumes a slower phase-down in the early years and a quicker
phase-down in the later years. New capacity requirement is therefore further postponed.
70
Nuclear capacity (GW)
65
60
55
50
45
40
2020
2022
Linear phase-down
2024
2026
Convexe phase-down
2028
2030
Concave phase-down
Figure 4-3: Nuclear decommissioning paths

41
Renewable: Renewable capacities are described in Table 4-1:

Table 4-1: Renewable capacity in 2030
Renewable technology
Installed capacity 2030
Onshore wind
24.4 GW
Offshore wind
5.5 GW
Solar
16.4 GW
Thermal renewable
1.6 GW
Marine
1.5 GW
Source: RTE, Bilan prvisionnel 2014
Coal plants: Coal capacity decreases to 1.7 GW by 2030.
Other resources: Combined-cycle gas turbines (CCGTs), open-cycle gas turbines (OCGTs)
and DSR capacities are optimised based on economic decisions of rational players, in the
different market design scenarios. The optimisation process is presented in the section
below.
Further explanations on the background assumptions used in the power market model are
presented in Appendix C.
4.2.3
Modelling approach to assess the available capacity in two market design scenarios
Both market designs are modelled and the impact on the available capacity optimised using the FTICL Energy European power market model. In each design, we optimise the available capacity based
on economic decisions of rational agents with perfect information. Plant operators choose to stay in
the market, exit, or mothball plants based on the most favourable Net Present Value (NPV) when
taking into account the expected profits in the energy and capacity markets. In addition, investment
decision in new CCGTs, OCGTs and DSR are also based on the most favourable NPV based on
expected costs and revenues, given that the other types of capacity additions (renewables, nuclear)
are assumed to be in line with RTEs Diversification scenario. To do so, we consider the eleven
demand samples provided by RTE and we take into account the current price cap set at
3,000/MWh.33
33
42
We also run a sensitivity analysis to test the impact of the removal of the price cap.
To determine the capacity mix at the equilibrium, we perform iterations to converge toward a
capacity mix in which the generators and DSR operators have positive NPV, based on the avoidable
costs and the market revenues, and where no additional investment would have a positive NPV. In
other words, the capacity mix is equilibrated so that (i) no existing plant has a negative NPV only
considering its fixed O&M costs (ii) no new build plant has a negative NPV considering also
investment costs and (iii) if an additional capacity was built, its NPV would be negative.
The two market design scenarios produce different optimal capacity mixes because they provide
different revenue streams to market participants:
Energy-only market. Available capacity is driven by economic decisions of rational players, based
on their expected revenues from the energy market. It takes into account the current price cap in
the day-ahead market and the revenues in other market segments (balancing and reserve
markets). The EOM does not a priori guarantee that the reliability standard set by the government
is met. Figure 4-4 summarises the optimisation process, which is performed in our model.
Figure 4-4: Energy-only market design optimisation process

Capacity market. Other market conditions being equal compared to EOM, in the CM, market
participants have to meet the capacity obligation defined to respect the reliability standard set by
the government. Therefore the available capacity is optimised taking into account the potential
revenues in the CM in addition to other revenue streams that also exist in the EOM. The
corresponding optimisation process operated by our model is presented on Figure 4-5.
43
Figure 4-5: Capacity market design optimisation process

4.2.4
Impact of the market design on risk aversion and cost of capital
Our modelling shows that market participants revenues are much more volatile in the case of an
EOM than if a CM is implemented. More specifically, in the EOM, the recovery of fixed costs relies on
the occurrence of price spikes, which only happen in the most extreme weather condition scenarios.
In other words, fixed cost recovery is concentrated in years with cold waves, which are expected
every ten to 30 years. Relying on such uncertain revenues is perceived as risky by investors, leading
investors to require a higher return to invest in such assets.
In comparison, the CM provides a more stable stream of revenues thanks to the capacity revenues,
while reducing the proportion of revenues depending on rare energy price spikes.
To account for the impact on the cost of capital of the higher risk faced by market participants in
the energy-only market scenario, a risk premium has been computed following the approach
presented by Arrow (1971).34 An investment is valued according to the formula:
Investment value=Expected revenue- *risk premium

Where is the risk aversion coefficient and the risk premium is calculated as the variation of the left
tail (low revenue part) of the revenue distribution.
34
44
Arrow. Essays in the theory of Risk bearing, North-Holland Amsterdam, 1971.
As suggested by Holt and Laury (2002)35 in the American Economic review, an estimated risk
aversion coefficient of 2.5 can be assumed to correspond to an average risk averse market
participant. This value is consistent with the one used in other studies focussing on European
electricity markets.36
Considering the distribution of energy revenues obtained from the different samples modelled in
our study (shown in Figure 4-6), we have estimated the risk premium and integrated it into the cost
of capital: investments would only be realised in the EOM if the expected rate of return is higher
than the cost of capital taking into account the risk premium.
Based on our simulations, CCGT investors face a cost of capital increased by about one percentage
point in the EOM compared to the CM, while peak unit investors face a cost of capital increased by
about three percentage points.
Energy revenue (/kW)
500%
450%
400%
350%
300%
250%
200%
150%
100%
50%
0%
Energy revenue - CCGT
Energy - revenue - OCGT
Figure 4-6: Energy revenue distribution across the modelled samples

In order to evaluate the impact of this assumption of risk aversion on the robustness of our
modelling results, a sensitivity analysis is presented later on in Section 4.4.3.
35
Holt and Laury. Risk aversion and incentives effects, American economic review, 2002.
36
UFE (2015).
45
4.3 ASSESSMENT CRITERIA

To assess the impacts of the implementation of the French CM, the following set of criteria are
compared in both market design scenarios:
Security of supply criteria: to assess the impact of the CM on security of supply, LOLE has been
computed in the CM and EOM scenarios. The reliability standard defined by the French public
authorities is three hours of LOLE.
Available capacity criteria: to assess the impact of the CM on the available capacity, the installed
capacity resulting from the different market scenarios and regulations have been compared.
Economic efficiency criteria: to assess the impact of the CM in terms of economic efficiency, the
total consumer cost and the social surplus have been computed in the CM and the EOM
scenarios.
Energy market impact criteria: to assess the impact of the CM on the functioning of the energy
market, energy prices have been compared and the total imports/exports have been computed in
the CM and the EOM scenarios.
CO2 emissions criteria: to assess the impact of the CM on CO2 emissions, the total CO2 emissions
in France and in its neighbouring countries have been computed in the different scenarios.
For each criterion, we discuss the impact of the CM in the short, medium, and long term. The shortterm only concerns the immediate effects on dispatch and bidding decisions, while the long term
refers to the time horizon beyond five to seven years, typically from 2023 onwards.
4.4 COMPARISON OF AN EOM AND THE FRENCH CM DESIGN SCENARIOS

4.4.1
Impact on security of supply
CMs aim at protecting consumers against the risk of power supply shortages. A reliability standard
of three hours of LOLE per year has been set by the French government. An appropriate CM design
should provide incentives to capacity providers to be available in the market in order to meet the
three hours reliability standard.
Capacity providers may sell capacity certificates, and this generates capacity remuneration which can
provide additional incentives to remain online or to drive investments in new generation or DSR
facilities in order to meet peak demand and to compensate for the expected decrease in nuclear
capacity. In contrast, in the EOM scenario, there is no guarantee that generators or DSR operators
have sufficient revenues to maintain adequate available capacity to meet the reliability standard.
46
This intuition is confirmed by our modelling. We have assessed the LOLE taking into account the
probability of occurrence of the different climatic year samples that we modelled. As shown in
Figure 4-7, the evolutions of the LOLE in the CM scenario and in the EOM scenario diverge
significantly, especially in the long-run. In an EOM, the LOLE is well above the reliability criteria of
three hours per year.
20
18
16
LOLE (hrs)
14
12
10
8
6
4
2
0
CM - LOLE
EOM - LOLE
Figure 4-7: LOLE in the CM scenario and in the EOM scenario

In the EOM scenario, in the medium term (2017-2021), more generation capacity is mothballed or
shut down than is assumed in RTEs adequacy assessment. The LOLE gradually increases in the
medium term in the EOM scenario, as more plants are mothballed or shut down and DSR is not
developing due to the absence of sufficient remuneration.
In the longer term (2022-2040), mothballed plants come back in the market, but there is a lack of
strong enough economic signal to trigger timely new investments. As a result, the development of
DSR and new investments in CCGTs are postponed, while no OCGT is built.
Consequently, in the absence of CM, security of supply in the medium to long term deteriorates
substantially in France. Already from 2017, the LOLE exceeds the three-hour reliability standard. It
reaches around ten hours on average per year from 2024 onwards, as significant capacity is
47
withdrawn from the market due to the nuclear phase-down.37 In addition, we observe that the risk
of LOLE expands to neighbouring countries in the absence of CM.
Conversely, in the CM scenario, the annual LOLE remains around three hours reliability standard
for security of supply, meaning that the CM can effectively incentivise market participants to be
available or to keep plants running and to make timely investments in capacity expansions.38
We can thus conclude that security of supply in France substantially deteriorates if a CM is not
introduced. As early as 2017 and for all subsequent years, the reliability standard set by the
French public authorities is not met in the EOM due to the closures of unprofitable plants. This
results in higher risk of curtailments for consumers. In contrast, the CM allows the reliability
standard to be met in all years.
Other studies (Petitet (2016), Hary (2016)) also showed that the implementation of a CM allows to
meet the reliability standard and that security of supply would reduce in an EOM with a price cap at
3,000/MWh.39
In order to test the impact of a potential removal of the price cap, we have run a sensitivity analysis
which is presented in a text box in Section 4.4.3. It shows that the reliability standard is met, but the
social welfare decreases significantly. Moreover, as the risk borne by the last MWs is very high
they would recover investment costs only in very extreme scenario we may wonder whether any
investors would actually invest in these last MWs.
37
This corresponds approximately to the cost of incremental DSR capacity (30,000/MW/year) given a
price cap of 3,000/MWh. Once LOLE reaches ten hours,, DSR can expect at least ten hours of prices
at 3,000/MWh on average and therefore make investment in new DSR capacity profitable.
38
Slight variations around the 3 hours can be observed. This is due to the lumpiness of investment,
which cannot adapt to small variations of demand.
39
Petitet M., June 2016. Effects of risk aversion on investment decisions in electricity generation: What
consequences for market design?, conference paper for the 13th International Conference on the
European Energy Market (EEM).
Hary N., Rious V., Saguan M., April 2016. The electricity generation adequacy problem: Assessing
dynamic effects of capacity remuneration mechanisms, Energy Policy 91.
48
4.4.2
Impacts on available capacity
The CM is designed to reinforce energy market signals so that sufficient capacity is available to meet
demand in the long term and to satisfy the reliability standard. As a result, it has an impact on the
available capacity.
Figure 4-8 and Figure 4-9 present the evolution in terms of installed capacity for CCGT and peaking
power plants and DSR in France between 2017 and 2040 under the CM scenario. Our model shows
that, even in the CM scenario, revenues are not sufficient to maintain all existing plants in operation,
especially as all these plants are not necessary to meet the reliability standard. As a result, the most
expensive plants remaining steam oil plants40 and some dispatchable combined heat plants (CHP)
are closed before 2017 and several CCGTs are mothballed.
25
Insatlled capacity (GW)
20
15
10
5
0
-5
Current Installed capacity

New investment
Mothball
Available capacity
Return from mothball
Figure 4-8: Evolution of CCGT capacity in the CM scenario

40
These steam oil plants were expected to be maintained in RTE 2015 bilan prvisionnel, but our
economic analysis shows that these plants cover their fixed O&M costs neither in the EOM scenario,
nor in the CM scenario. Obviously, this analysis may vary depending on cost assumptions, and these
plants could replace some DSR capacity if they have lower fixed O&M costs than in our assumptions.
49
10
8
Insatlled capacity (GW)
6
4
2
0
-2
-4
-6
OIL TURBINE
DSR
STEAM OIL - BP 2015

Missing the CM
OCGT
Available capacity
Figure 4-9: Evolution of peaking capacity in the CM scenario

Note: the graph shows that steam oil plants in light blue are not maintained, even in the CM scenario and are therefore
compensated by the capacity missing the CM in orange.
The gradual reduction in nuclear generation capacity driven by political decisions makes mothballed
CCGTs return to the market in 2021, and makes investment in new build generation capacity
necessary from 2024. The installed CCGT capacity reaches 13.6 GW by 2030. No OCGT plant is built
in the short and medium term because of insufficient profitability: in the CM scenario, the first new
OCGT is built in 2026, when DSR potential is already well-exploited.
Figure 4-10 shows the amount of additional capacity made available by the CM as compared to
EOM.
In the medium term, based on our cost assumptions, the introduction of the CM is mostly
favourable for the development of DSR, as it fosters the emergence of aggregators and the
development of more DSR capacity than in the EOM. Indeed, in the EOM scenario, DSR capacity
continues to decrease,41 as the energy market does not offer sufficient remuneration to maintain the
41
This is due to the gradual phasing-out of critical peak pricing regulated tariffs, which are no longer
offered for categories of consumers, while no equivalent offers are proposed by alternative suppliers
due to the lack of incentives through the energy market.
50
existing DSR capacity and to attract DSR investment. The CM avoids a decline in DSR capacity in the
medium term and even accelerates its development. DSR thus covers most of the need for capacity
to meet the reliability standard in the CM, compared to EOM: DSR covers 100 percent of the
incremental capacity need until 2023. Most importantly, the CM develops the most cost effective
technologies. With our assumption, DSR appears more cost-effective but capacity needs could be
filled by other technologies, such as mothballed CCGTs or closed peaking units, depending on cost
assumptions.
In the long term, the CM triggers new investment in cost-effective capacities. As most of the
additional need for capacity can be covered by DSR in the medium term, it is only in 2024 that new
investment in generation will be triggered by the CM. The first new CCGTs are built in 2024 to
compensate for the reduction in nuclear capacity. From 2026 onwards, some OCGT plants are
needed in order to meet peak demand as the DSR potential gradually reaches its economic limits.
In conclusion, as the French CM aims at guaranteeing the adequacy between supply and
demand, it has an impact on the available capacity. The CM helps to select the most
competitive technologies for all timeframes.
10
Available capacity (GW)
9
8
7
6
5
4
3
2
1
0
CCGT
OCGT
OIL
DSR
Figure 4-10: Change in the available capacity (difference between the CM and EOM counterfactual scenario)
Figure 4-11 illustrates the capacity prices needed over time in order to obtain this additional
capacity in the CM scenario and meet the reliability standard. At the beginning of the study period,
only a low capacity price is expected. An excess in capacity pushes power plants out and only
limited capacity remuneration is necessary to maintain DSR capacity or develop the cheapest DSR
resource.
51
The situation starts to change from 2022 when new and more expensive DSR is necessary and
higher prices are necessary to trigger its development. From 2024, new CCGT and OCGT capacity is
required in order to compensate for the gradual shutdown of nuclear power stations. These plants
would likely bid at around 25-30/kW for investment decisions to be made. Thus the capacity price
increases from about 5/kW to over 20/kW, and then continues to rise to around 30/kW.
80
Clearing Price (/kW)
70
60
50
40
30
20
10
0
Clearing price Range
Figure 4-11: Evolution of capacity prices

4.4.3
Economic efficiency
The CM aims to ensure that the reliability standard is met at least-cost for end consumers. We have
estimated the impact of the CM compared to the EOM both: (i) in terms of costs for consumers; and
(ii) in terms of social welfare.
Consumer cost
Figure 4-12 presents the impact of the CM on consumer costs compared to the EOM. On the one
hand, the CM benefits consumers through a lower cost of energy and a lower risk of loss of load. On
the other hand, the cost of capacity remuneration for generators and DSR operators is passed on to
consumers.
52
Customer cost ( billion)
2
1
0
-1
-2
-3
-4
-5
Energy cost
Ancillary service
Capacity Cost
Cost of Unserved Energy
Total (m)
Figure 4-12: Impact of the CM on customer costs (difference between the CM and EOM counterfactual scenario)
Based on the analysis of Figure 4-12 we can identify three distinct periods:
2017-2021: The CM contributes to limiting costs for consumers. The CM, by improving security of
supply, avoids price spikes when the supply is scarce and limits the risk of load shedding. On the
other hand, consumers have to bear the cost for capacity, but the capacity price resulting from an
implementation of a CM remains low given that no major investments have to be made. This
leads to a net benefit for consumers with respect to the EOM scenario, evaluated to 260M/year
on average over this period.
2022-2024: The CM slightly increases costs for consumers as some investments critical to
maintain security of supply are anticipated compared to the EOM scenario. As the full potential of
affordable DSR capacity is already deployed, the incremental capacity needed to maintain security
of supply at the reliability standard is more expensive. The additional cost is not fully
compensated by the gain in terms of reduced price spikes and load shedding risk. This is because
in the EOM, given the ex-ante situation of excess capacity, the LOLE is contained between four
and six hours. As a result, the CM induces a net cost for consumers during this short period. It is
worth mentioning that, as capacity and energy prices are higher, the ARENH mechanism may be
competitive again assuming that the 42/MWh price for ARENH remains which would allow
some transfers between baseload producers (EDF) and consumers, thus limiting the net costs for
consumers during this period.
After 2025: In the EOM scenario, the LOLE reaches ten hours, inducing more frequent price spikes
and occurrences of load shedding. The CM reduces significantly consumer costs as the decrease
in energy prices and in curtailed energy largely compensates for the capacity costs. In addition,
53
financing costs for new investments are lower with a CM, since it helps secure revenues, which
leads to a lower cost of capital. This is especially true for peaking plants that run for only a limited
period of time during infrequent cold waves.
The value of the reduction in curtailed energy represents 450M/year on average for the period of
2017 to 2040. UFE thus estimates the reduction in loss of load costs thanks to the French CM of
510M in 2030, while our simulations show a reduction of 530M in loss of load costs in 2030. 42
On average over 2017-2030, the French CM reduces costs for French consumers by 400M/year
as the reductions in investment risk and energy and curtailment costs outweigh the additional
capacity costs.
It is intuitive that the CM is temporarily more expensive than the EOM in the transitory mediumterm period, because it brings forward the need of new investments to maintain the security of
supply at three hours: costs at anticipated, but the benefits are spread over a longer period.
However in the long term, the CM brings benefit to consumers significantly by reducing the costs of
both financing new investments and unserved energy.
In the box below, we summarise the results of a sensitivity analysis that we have carried out in order
to assess the impact of the price cap. The suppression of the price cap is equivalent to a price cap at
the VOLL, which we assume to be of 26,000/MWh, i.e. the value at which consumers, which are not
already participating in the market via DSR capacity, would not buy but would reduce the
consumption instead. It should lead to an adequate level of security of supply, assuming consumers
are able to reflect their VOLL in the market, but it leads to a significant increase in cost (300M of
social welfare loss), as the investments to meet peak demand in rare situations are very risky and
would require an important risk premium. In practice, we may even wonder whether these
42
These findings are consistent with the analysis performed by UFE (2015). According to UFE (2015), in
the 2030 time horizon, implementing a CM in France while maintaining the current price cap at
3,000/MWh will effectively reduce the loss of volume from 46 GWh to 11 GWh. There is a difference
in the assumption on the value of loss of load between our study and the UFE (2015). In the latter,
The loss of load is modeled by adding a virtual plant running at a very high variable cost of
15k/MWh, which allows for higher fluctuations in RES and thermal-sensitive demand, resulting in
more occurrences of load shedding. For example, distributed load shedding with an additional energy
reserve has a capacity of 7,000 MW in France and 2,500 MW in Germany, while emergency load
shedding as the last resort to avoid a loss of load has a capacity of 4,000 MW in France and 5,000
MW in Germany.
54
investments would take place anyhow due to the high associated risk. Petitet (2016) reaches
comparable results. In her simulations with comparable risk aversion (with between 2 and 3), the
reliability standard is met with a price cap at 20,000/MWh although it is slightly higher than with
a CM but at a higher cost than with a CM.
55
Sensitivity analysis to the level of the price cap

Removing the price cap of 3,000/MWh in the energy-only market would enable power plant
operators to earn higher revenues during tight periods. This increase in revenues should attract
more investment and thus decrease the frequency of scarcity situations.
Modelling an energy-only market design with a price cap set at the VOLL value (26,000/MWh)
brings the LOLE back below the security standard set by the French government.
However, given the increased volatility of revenues for power plant operators as shown in the
chart below, the risk premiums induced by such a design increase substantially; CCGT investors
face a cost of capital increased by three points, while peak unit investors face a cost of capital
increased by five points.
Figure 4-13: Energy revenue distribution across the modelled samples in an EOM with a price cap at 26,000/MWh
In 2030, such a design would decrease the social surplus by 300M, driven by an increase of
energy cost (3,500M), an increase of energy revenues for plant operators (3,700M), an increase
of capital cost (450M) and a decrease of unserved energy (50M).
In practice, it is also worth noting that it is likely that, due to the risk aversion and the very low
probability that the last MWs would cover their fixed costs (the Sample 0 is associated with a
probability of 3/100, i.e. that such conditions are likely to occur one winter every 30 years),
investors would not invest in such last MWs.
56
Our modelling assumes, based on RTE diversification scenario, that 25 percent of the existing
nuclear capacity closes by 2030. The pace of nuclear plants closure is a key driver of investment
needs and thus affects the results of the analysis. In the text box below, we present the results of a
sensitivity analysis that we have run in order to assess the impact of the timing of nuclear partial
decommissioning. It shows that the faster the decommissioning pace is, the higher the benefits of
the CM are.
Sensitivity analysis to the timing of nuclear decommissioning

Assuming a quicker phase-down in the early years and a slower phase-down in the later years
(illustrated by the convex phase-down curve), the CM will bring forward the need for new energy
solutions to ensure security of supply. The CM design would then provide additional value to the
customer as it would allow customers to avoid facing higher loss of load while phasing down
nuclear. CM customer cost savings could increase up to 15 percent compared to the results
presented previously in Section 5 Consumer cost.
Assuming a slower phase-down in the early years and a quicker phase-down in the later years
(illustrated by the concave phase-down curve) will postpone the need of new energy solutions to
ensure the security of supply. According to the CM design, additional costs will be slightly
increased in the early years, while benefits will be maintained but postponed. Overall the benefit
of the CM introduction will be slightly lower. CM customer cost savings could decrease by up to
15 percent compared to the results presented previously in Section 4 Consumer cost.
While the timing of the results presented both in terms of installed capacity and energy costs are
subject to the nuclear progressive phase-down, the key messages remain.
Social welfare
Figure 4-14 shows the effect of the CM on social welfare with respect to the EOM, which we then
split between the consumer surplus, the TSO surplus (congestion rent) and the capacity provider
surplus.
57
2.5
Social surplus ( billion)
2.0
1.5
1.0
0.5
0.0
-0.5
-1.0
-1.5
-2.0
Capacity provider surplus
Consumer surplus
TSO surplus
Total
Figure 4-14: Impact of the CM on social welfare (difference between the CM and EOM counterfactual scenario)
The impact of the CM in terms of social welfare is strictly positive throughout the whole study
period, because it lowers costs for consumers and enhances profit margins for generators. More
precisely, consumer surplus takes a larger share of the total surplus gains, but generators and
demand response providers also benefit by more than 100M/year on average over the outlook
from increased capacity and energy revenues and decreased market risks.
On average, the CM improves social welfare, compared to the EOM scenario, by a net gain of
more than 500M per year. As a comparison, UFE (2015) evaluates the reduction total costs thanks
to the CM to 370M.43 Petitet (2016) also shows that the implementation of a CM leads to a higher
social welfare compared to an EOM, especially (i) if there is a price cap as today at 3,000/MWh and
(ii) in the presence of risk aversion ( between 2 and 3).
43
Contrary to UFE (2015), we believe that investors should not be considered when calculating the
increment in social welfare. Specifically, investors would require a premium reflecting the risk of
default of the company or, to a certain extent, the uncertainty surrounding the project. Assuming an
efficient market, the premium is set at a level that exactly covers hedging costs, and thus, makes
investors indifferent between lending and not lending. Therefore, whether in the EOM or in the CM
scenarios, investors utility should not be impacted as long as we assume a liquid and competitive
financial market. This remark has an important implication for our calculation of social welfare.
Indeed, it implies that we have to take into account the additional costs induced by the higher costs
of financing without the CM when computing the increment in producer surplus.
58
Part of the reduction in total costs is linked to the financing costs. Financing costs for new
investments are lower with a CM since the CM helps generators to secure a part of the revenues as
it reduces the volatility of their revenues and their reliance on extreme meteorological events and
scenarios. Hence, it results in a lower cost of capital. This is especially true for peaking plants, which
only run for a limited period of time during infrequent cold waves.
This reduction in financing costs allows generators to make new investments with a lower hurdle
rate, while improving security of supply for consumers. This is ultimately reflected in the consumer
bills: consumers benefit from a higher security of supply, while their bills i.e. the consumer costs
minus the loss of load cost display comparable numbers.
In the text box below, we show the results of a sensitivity analysis to assess the impact of different
degrees of risk aversion of investors in our results. The CM benefits increase in the case where risk
aversion is higher and conversely reduce in the case where risk aversion is lower. However, the
degree of risk aversion does not fundamentally change the general conclusions and key messages
of our analysis.
59
Sensitivity analysis to the degree of risk aversion of investors

The greater volatility of revenues of market participants in an EOM compared to the CM has an
impact on the cost of capital and investment hurdle rates, which in turns affects both the
security of supply and on customer costs and social welfare.
Assuming a higher risk aversion would lead to a higher risk premium, which would further
increase the customer cost savings delivered by the CM. In 2030, an increase of one point in
cost of capital would be equivalent to an increase of c80M to social welfare. It combines an
increase of generator revenues (+10M), an increase of the energy cost (+12M), an increase of
the capital cost (+55M) and an increase of unserved energy (+3M).
Conversely, assuming a lower risk aversion premium would decrease the customer cost savings
delivered by the CM as lower revenues would be required from the energy market to make an
investment breakeven. In 2030, a decrease of one point in cost of capital would be equivalent to
a decrease by c160M. It combines a decrease in generator revenues (-40M), a decrease of
energy cost (-66M), a decrease of capital cost (-56M), and a decrease of unserved energy (3M).
While the absolute value of the results presented both in terms of installed capacity and energy
costs are subject to the risk aversion premium assessment, the key messages remain.
This is confirmed by Petitet (2016), which shows that social welfare decreases substantially as
risk aversion increases in the EOM scenarios she studied, while risk aversion has limited impact
on social welfare in the CM scenarios.
4.4.4
Impact on energy markets
Effect on average power prices

The French CM is effectively designed not to alter market participants bidding strategy and
dispatch decisions in the short term. French capacity providers bid in the energy market on the basis
of their short-run marginal cost (SRMC) in the same way as they do in the EOM. Indeed, one of the
main features of the French CM design is that capacity certification is based on the availability of the
capacity. The existence of a CM incentivises generators and demand-side response operators to
maximise their availability during winter, but it forces them neither to generate nor to modify their
bids in the energy market. Moreover, the French CM runs in parallel to the wholesale electricity
market and it does not withdraw any available capacity from this market. As a consequence, the
60
French CM does not present short-term market impacts, in the sense that it does not modify the
behaviour of players in the energy market and the short-term merit order outcome.
On the other hand, in the CM, more capacity is necessarily available to meet the reliability standard.
As a result, Figure 4-15 shows that the wholesale electricity price in 2020 in France in the CM
scenario is slightly lower than in an EOM. This is mainly due to the fact that the additional capacity
required to ensure adequacy at the reliability standard reduces the occurrences of scarcity periods,
and therefore of price spikes. Meanwhile, in 2020, the implementation of the French CM has little
influence on power prices in the neighbouring countries.
In the 2030 horizon, as new capacities are built to secure electricity supply in line with the CM policy
objective, the variation in the available capacity reduces power prices by 5.2 percent. Moreover, this
price reduction effect is extended to the neighbouring countries, and its extent is 1.6 percent in
Germany and 2.2 percent in Great Britain.
Average power price (/MWh)
80
-3.4
70
-1.1
-1.5
-0.4
60
50
-0.8
40
30
20
10
0
FR
DE
GB
FR
2020
DE
GB
2030
CM
EOM
Figure 4-15: Average power prices in France and its neighbouring countries in the EOM and CM scenarios
Note: the number above each bar indicate the difference in average power price in /MWh between CM and EOM.
The CM does not modify the behaviour and strategies of market players in the energy market
and the short-term merit order. On the other hand, its impact on the available capacity to meet
the reliability standard limits the occurrences of price spikes and reduces energy prices on
average.
61
Effect on price duration curve

The impact of the CM on electricity spot prices can be illustrated by comparing price duration curves
under the CM and EOM scenarios. In Figure 4-16, it is barely noticeable that the wholesale electricity
price in the 2030 scenario in France in the CM scenario is lower than that in an EOM. The price
difference between the two scenarios is more visible during peak hours, as additional available
capacity limits the occurrences of price spikes, but this effect is concentrated on few hours: overall
the CM only impacts hourly power price by more than 5/MWh for less than 10 percent of the time.
Figure 4-16: Comparison of load duration curve between CM and EOM scenarios in 2030
Effect on imports and exports

As the implementation of a CM causes a change in the available capacity and in electricity prices, it
has an impact on cross-border exchanges. Figure 4-17 shows that, with the introduction of the CM,
France remains a net power exporter.
As more efficient generation and DSR assets are built, the CM slightly increases exports at mid-load
periods and reduces imports at peak times. The impact on cross-border exchanges is however
limited in the medium term. It becomes more substantial when additional CCGT capacity is built
thanks to the CM.
62
12
30%
20%
10%
0%
-4
-10%
Difference of net exports CM - EOM (%)
Different of net exports CM - EOM (TWh)
-20%
-8
2017
2020
2025
Net export difference (left)
2030
2035
2040
Net export difference % (right)
Figure 4-17: Impact of CM on the French net export balance

Effect on congestion rents

Figure 4-18 shows that the congestion rent is larger with the EOM market, despite the slight
increase in export resulted from the CM. This is mainly due to the fact that, in the EOM case,
capacity shortage and resulting price spikes occur more frequently in France and during these
periods, the price differential between France and neighbouring countries becomes very high and
brings additional revenues to interconnection owners.
63
0%
-20
-2%
-40
-4%
-60
-6%
-80
-8%
-100
-10%
-120
-140
Difference of congestion rents

CM - EOM (%)
Difference of congestion rents CM - EOM

(million )
-12%
2017
2020
Congestion rent difference (left)
2030
Congestion rent difference % (right)
Figure 4-18: Impact of the CM on congestion rents

4.4.5
CO2 emissions
According to Figure 4-19, with a CM thermal generation and associated CO2 emissions slightly
increase in France in 2030. In parallel, equivalent quantities of generation and consequently of CO2
emissions are avoided in the neighbouring countries, such that the total amount of CO 2 emissions
in the CM scenario in both France and its neighbouring countries is slightly lower compared to that
in the EOM scenario.
30%
25%
20%
15%
10%
5%
0%
-5%
-1
-10%
-2
Diffference of CO2 emissions

CM - EOM (%)
Diffference of CO2 emissions

CM - EOM (million tonnes)
-15%
FR
BE
DE
Absolute difference CM - EOM (left)
ES
GB
IT
CH
Relative difference CM - EOM (right)
Figure 4-19: Impact of CM on CO2 emissions in France and in Europe in 2030

64
5. Comparison of the impact of the French CM

with other public policies implemented in
Europe
5.1 INTRODUCTION
The previous section showed that the French CM achieves its objective of maintaining security of
supply in France in line with the reliability criteria, while reducing the costs for consumers and
enhancing social welfare. Such benefits require the capacity mix to adapt, which results in higher
exports and fewer price spikes (and less load shedding). In this section, we compare these impacts
with those of other policy interventions in neighbouring countries, in order to put them into
perspective and assess their relative magnitude. The objective of this section is to contribute to the
European policy debate by providing quantitative estimates of the impacts of different policy
interventions in electricity markets, but not to evaluate these policies with regard to their objectives.
As part of their national energy policy objectives and responsibilities, Member States put in place
policies which can lead to changes in the volume of available capacity. These policy interventions
usually aim to achieve national policy objectives such as guaranteeing security of supply or
supporting specific technologies. CMs are one of these many public policy interventions which can
be implemented by the Member States in the energy sector.
The EC wants to avoid policy interventions introducing distortions which could affect the internal
electricity market. The qualification of these policies impact as a distortion is questionable, as
these policy interventions are meant to have consequences. For instance, policies aiming to ensure
security of supply at a specific reliability criterion should lead to greater available capacity. Similarly,
policies aiming to meet environmental objectives should provide a higher share of renewable
energy or low carbon generation capacity. In both cases, it is logical that the changes of the
available capacity resulting from the policy interventions have influences on the market.
However, it seems important that policy interventions impact on the internal electricity market are
proportionate, i.e. limited to the minimum necessary to achieve their objective. This sections aims
to provide a comparative quantitative analysis of the CM impact with four other policy interventions:
The German Strategic Reserve is composed of a capacity reserve which targets security of supply
and a climate reserve which aims to reduce CO2 emissions (up to 2.7 GW of lignite power to be
65
retired from the energy market) while contributing to security of supply. In the counterfactual
case, we assume that lignite plants are not retired before reaching the average age of 45 years.
Policy support to renewable generation in Germany: the Renewable Energy Act (EEG) came into
force in 2012 to support a stronger growth of renewable energy sources (RES). In the
counterfactual case, a lower RES development scenario is considered, based on the expected
development of RES prior to the EEG.
The nuclear phase-out in Germany: all 17 German nuclear power plants are to be shut down by
2022. In the counterfactual case, an energy mix without the nuclear phase-out is modelled.
The carbon price floor (CPF) in the UK: a carbon tax (the Carbon Price Support or CPS) topping
up the ETS carbon price was introduced in 2014 and it increased up to 18 /tonne between 2016
and 2020. In the counterfactual case, only the EU-ETS price is charged to power plants operators.
It is worth noticing that the objectives pursued by these schemes vary and differ from the French
CM. However, security of supply or decarbonisation are key policy objectives in the European energy
strategy. Also the determination of the energy mix remains a national prerogative in Europe, as per
the article 194 of the Lisbon treaty. Whilst the comparison of the effects of these policies should be
interpreted with care, it provides useful background to evaluate the impact of the CM. Our
modelling shows that the CM has a comparable or smaller impact on the electricity market than
these policy interventions introduced in different countries.
5.2 PRESENTATION OF THE SCENARIOS FOR THE FOUR POLICY SCHEMES

5.2.1
The German strategic and climate reserve
Presentation of the mechanism

At the heart of the design of the future German power market proposed in the White Paper44
published in July 2015, the Federal Ministry for Economic Affairs and Energy has decided to
transform the power market into an electricity market 2.0, with a capacity mechanism in the
form of a strategic reserve.
The future power market will be backed up by capacity reserve, which is planned to amount to 5%
of peak demand, i.e. around 4.3 GW. The power plants that constitute this reserve do not participate
44
An electricity market for the Energy transition,

https://www.bmwi-energiewende.de/EWD/Redaktion/EN/Newsletter/2015/07/Meldung/whitepaper.html.
66
in the electricity market. Due to poor profitability in the energy market, it is expected that a part of
these plants would be closed otherwise. The strategic reserve will be made of two categories.
Climate reserve: announced as a means to achieve the governments emission reduction
targets, up to 2.7 GW of the strategic reserve will come specifically from lignite power plants,
which would otherwise have been kept in the market and would have generated more and
emitted CO2.
Capacity reserve: the rest of the strategic reserve will be secured through an auction mechanism
to select the least cost offers.
The legislation to implement the climate reserve was due for spring 2016, and the capacity reserve is
scheduled to be implemented from 2018 onwards. A first lignite plant will be placed in the climate
reserve in 2016, and the lignite capacity in the reserve will reach 2.7 GW in 2019.
GW
0
2016
2017
2018
Climate reserve (lignite)
2019
2020
2021
2022
Capacity reserve (technology neutral)
Figure 5-1: Germanys planned capacity and climate reserve

Source: Platts and FTI-CL Energy, 2016
Meanwhile, climate policies concerning coal and lignite plants in Germany and their specific
consequences continue to be the subject of debates. Several studies conducted by Frontier
Economics (2015)45 recently compare three different options: the strategic reserve, a carbon levy,
and promoting CHP. They consider that the strategic reserve and promotion of CHP can be less
turbulent to the coal industry. In addition, the implementation of a carbon levy on old coal-fired
45
Frontier economics has elaborated three reports to assess the proposals of a carbon levy, a climate
reserve and promotion of CHP generation.
67
power stations is currently under discussion of the German Ministry of Economics and Energy
(BMWi). In order to achieve the national target of a CO2 reduction of 22 million tonnes by 2020,
these studies reveal that all three proposals lead to a higher cost of emission abatement compared
with simply buying and withholding emission certificates under the EU Emissions Trading Scheme,
and that the carbon levy results in a higher cost for consumers. Therefore, uncertainty in the German
climate policy had not been resolved at the moment when our study was finalised.
Modelling approach
The German Strategic Reserve is a CM that addresses security of supply issues, even though a
component of the reserve, the climate reserve, also aims at reducing CO2 emissions. The amount of
capacity that is moved out of the wholesale market is about 4.3 GW per year, representing 5 percent
of the level of peak demand in Germany.
In a perfect strategic reserve, the energy market should theoretically function equivalently to an
energy-only market, as it is expected that the plants that are integrated in the reserve would have
been closed otherwise and that the use of the reserve should not interfere with the energy market.
According to the high level description of the German capacity reserve46, these main criteria seem to
be respected and the reserve is supposed to be used only in situation when the day-ahead market
will not clear. However, in practice, at least three issues may alter the functioning of the market:
Impact on intraday markets: the activation of the reserve may not affect the day-ahead market
because activation decisions are taken after the closure of the day-ahead market. However, once
a part of the capacity in the strategic reserve is called into operation, this amount of generation
will surely interfere with intraday trading and balancing. As a result, distortions may be created at
the intraday and balancing stage. Acknowledging the limit of our model, we do not take into
account the interactions between intraday and day-ahead markets.
Volume to be procured: it is assumed that the volume to be procured is optimally chosen,
meaning that: (a) only plants that are necessary to ensure security of supply are contracted and
(b) an appropriate reserve capacity is procured, so that plants contracted in the reserve would not
have remained in the market otherwise. If this assumption does not hold, the impact on the dayahead market of the strategic reserve will not be negligible. In this case, we expect prices and
volumes to be different from what we have modelled, and different from the theoretical EOM.
46
An electricity market for the Energy transition,

https://www.bmwi-energiewende.de/EWD/Redaktion/EN/Newsletter/2015/07/Meldung/whitepaper.html
68
Climate reserve: the climate reserve forces lignite plants to be placed in the reserve, although
they might be profitable or at least more profitable than some other plants. From an economic
point of view, putting less profitable plants into the reserve instead of lignite would be less costly.
As a consequence, the climate reserve has a direct effect on the available capacity and merit
order, as well as on total costs, compared to an actual EOM, because these lignite plants would
have been kept in operation, but other, less economic, plants would probably have closed instead.
While modelling the impact on the energy market, we have taken this aspect into account.
Our modelling approach distinguishes between the two categories of the strategic reserve: the
capacity reserve and the climate reserve. With respect to the capacity reserve, we consider a
theoretical perfect market design based on the available information on the design of the
strategic reserve, which assumes:
The volumes contracted within the reserve should not exceed what is necessary and should not
incentivise plants which are already covering their avoidable costs in the energy market to enter
this reserve. Consequently, leaving aside the climate reserves impact, the available capacity in
the market is similar to that of an EOM in the case of a perfectly designed strategic reserve.
The activation should not impact the wholesale prices and dispatch; the reserve is activated only if
the day-ahead market does not clear and induces load curtailment without the activation of the
reserve.
Such theoretical perfect market design for the capacity reserve should produce no impact on the
dispatch and the available capacity as compared to the EOM.
However, in practice, the activation of the strategic reserve necessarily affects intraday and
balancing markets prices and flows, but these are not modelled in our simulations. As intraday
markets develop and become more central in the market, these impacts may become substantial.
With respect to the climate aspect of the reserve, we consider a theoretical climate reserve
which assumes:
The lignite plants forced into the reserve would have been economical to run in the market up to
the end of their technical lifetime. The dispatch and prices are therefore impacted by the climate
reserve;
The activation of the lignite plants in the reserve has no impact on the wholesale prices and
dispatch.
69
Such theoretical reserve should therefore have an impact on the wholesale prices and dispatch
limited to the base-load nature of the plants forced into the reserve. Affordable base-load power
would be replaced by more expensive base-load power.
However, in practice, given the ramp-up constraints of the lignite plants, the activation of the
climate reserve would have additional impacts on the wholesale market during the activation period.
But these are not modelled in our simulations.
The impact of the German strategic reserve including the climate reserve on European power
markets has been modelled by comparing two scenarios:
In the reference case, the climate reserve is assumed to be implemented as announced in the
latest energy bill draft. 2.7 GW of lignite plants are progressively taken out of the power market
and maintained as operational from 2016 to 2023, then closed. It is then projected that similar
efforts will be made in the future to reduce the lignite generation throughout the entire
modelling horizon.
In the counterfactual scenario, existing lignite plants are assumed to retire upon achieving their
average lifetime of 45 years in an energy market without the climate reserve.
As the capacity necessary to secure supply is taken out of the market and placed in the reserve,
more price spikes occur compared to a situation as in the French CM scenario where this
capacity would be in the market. But if we compare the frequency of price spikes to an EOM, then it
is comparable. This allows other generators in the market to cover their fixed costs. As these plants
can be activated in case the day-ahead market does not clear, they serve as a secured resort for
security of supply. However, withdrawing lignite plants, which have lower variable costs than CCGTs
or OCGTs based on our scenarios of fuel and CO2 prices, will result in a higher power price on
average.
5.2.2
Policy support to renewable generation in Germany

In 2000, the first Renewable Energy Act (EEG) came in force in Germany. The purpose of the law was
to facilitate the sustainable development of energy supply, particularly for the sake of protecting
the climate and the environment, to reduce the costs of energy supply to the national economy
(also by incorporating external long-term effects), to conserve fossil fuels and to further promote
70
the development of technologies for the generation of electricity from renewable energy
sources.47
The act introduces financial support to renewable plants for a period of 20 years following the year
that the plant comes into operation.
The act has since then been revised several times. In 2011, the German government decided to give
a new spur in RES development, through the Energiewende (energy turnaround) concept. This
led to the 2012 revision of the EEG, which also intended to further encourage direct marketing. The
2012 EEG provided that producers of renewable power also had the option to market the electricity
themselves, without receiving the fixed feed-in tariffs paid under the EEG. Instead they could claim a
market premium in addition to the revenue obtained by the sale of the electricity. Furthermore, in
the 2014 Revision, the EEG sets targets of up to 45 percent of total generation to come from
renewables by 2025 and to 60 percent by 2035. Total new renewable build is subject to annual
capacity limits by technology.
As a result, government support for renewables prompted a strong growth of wind, solar and
biomass. In 2015, Germany had an installed capacity of 40 GW of wind, 41 GW of solar PV and 8 GW
of biomass. Between 2011 and 2015, Germany built around 12 GW of onshore wind and 16 GW of
solar PV, and the expected trend continues to add around 2 GW of wind and 1.5 GW of PV per year.
47
Federal and Ministry for Economic Affairs and Energy (BMWi):

http://www.bmwi.de/English/Redaktion/Pdf/renewable-energy-sources-act-eeg2014,property=pdf,bereich=bmwi2012,sprache=en,rwb=true.pdf.
71
45
40
Installed Capacity (GW)
35
30
25
20
15
10
5
0
2005
2006
2007
2008
2009
DE Wind Onshore
2010
2011
DE Wind Offshore
2012
2013
2014
2015
DE Solar
Figure 5-2: Installed capacity over 2005-2015

Source: ENTSO-E and FTI-CL Energy, 2016
Modelling approach
The policy support to renewable generation in Germany impact on European power market has
been modelled by comparing two scenarios:
In the reference case, the policy support led to a high level of renewable development between
2011 and 2015. The development of new renewable capacity is then projected to fall between
ENTSO-E and BNetzA (the German energy regulator) projections.
In the counterfactual scenario we assume a lower policy support to renewable generation and
that such a lower support would have led to a growth of renewable capacity as in the conservative
scenario of ENTSO-E System Outlook and Adequacy Forecast 2011-2025. This is assumed to
represent the projection of the renewable capacity expansion path before the support to
renewable increased in 2011.
Figure 5-3 below shows the renewable development in both scenarios.
72
70
Installed Capacity (GW)
60
50
40
30
20
10
0
Onshore Wind - Low RES scenario
Solar - Low RES scenario
Onshore Wind - Ref RES scenario - FTI
Solar - Ref RES scenario - FTI
Figure 5-3: Renewable capacity development with and without renewable support
The policy support to renewable impacts on power markets is then derived from the assessment of
the precedent set of criteria in both scenarios.
5.2.3
Nuclear phase-out in Germany

The German government formed in 1998 had the phasing-out of nuclear energy as one of the main
features of its policy. In 2009, the newly elected government cancelled the phase-out, but in 2011,
after the Fukushima accident, it was reintroduced with eight reactors shut down immediately.
Until March 2011, Germany was producing around a quarter of its electricity from nuclear energy
using 17 reactors. By August 2015, nine reactors with a total net capacity of more than 9600MWe,
i.e. 47 percent of the total nuclear capacity in Germany, had been shut down.
Table 5-1 below compares the nuclear phase-out schedules existing at different times with
actually realised phase-out.
73
Table 5-1: Historical nuclear shut down schedule in Germany
Net
Plant
Type
capacity
Start date
(MWe)
Planned
Planned
shut down
shut down
as of 2001
as of 2010
Actual
shut down
Biblis A
PWR
1167
Feb-75
2008
2016
2011
Neckarwestheim
PWR
785
Dec-76
2009
2017
2011
1
3
Brunsbttel
BWR
771
Feb-77
2009
2018
2011
Biblis B
PWR
1240
Jan-77
2011
2018
2011
Isar 1
BWR
878
Mar-79
2011
2019
2011
Unterweser
PWR
1345
Sep-79
2012
2020
2011
Phillipsburg 1
BWR
890
Mar-80
2012
2026
2011
Krmmel
BWR
1260
Mar-84
2016
2030
2011
Grafenrheinfeld
PWR
1275
Jun-82
2014
2028
06/2015
Source: http://www.world-nuclear.org/info/Country-Profiles/Countries-G-N/Germany/
According to the 13th amendment to the Nuclear Energy Act ("Nuclear Energy Act") enacted by the
German government in June 2011, all 17 German nuclear power plants should be shut down by
2022.48
Figure 5-4 compares the evolution of German nuclear capacity according to the two Nuclear Energy
Acts, enacted in September 2010 and June 2011.
48
The text of the Nuclear Energy Act (in German) is available at

http://dip21.bundestag.de/dip21/btd/17/060/1706070.pdf (accessed on 16/12/2015).
74
Figure 5-4: Evolution of nuclear capacity in Germany under Nuclear Energy Acts of 2010 and 2011
Source: Nuclear Energy Act 2011 (in German) is available at http://dip21.bundestag.de/dip21/btd/17/060/1706070.pdf and
http://www.world-nuclear.org/info/Country-Profiles/Countries-G-N/Germany/ (accessed on 16/12/2015).
Modelling approach
The nuclear phase-out impact on European power market has been modelled by comparing two
scenarios:
In the reference case, the nuclear phase-out is acted upon in 2011, with nuclear decommissioning
dates set according to the official plan. Nuclear capacity quickly decreases to reach zero in 2023.
In the counterfactual scenario an energy market without nuclear phase-out, it is assumed that
nuclear decommissioning dates are set according to the national plan in place before the
announcement. German nuclear capacity progressively decreases to reach zero in 2036. This
would have an impact on the available thermal capacity.
The nuclear phase-out impacts on power markets are then derived from the assessment of the
precedent set of criteria in both scenarios.
5.2.4
Carbon price floor in the UK

The CPF mechanism was introduced in the UK on 1 April 2013. It is designed to provide an incentive
to use and invest in low carbon power generation by providing certainty to the carbon price in the
UK electricity generation sector. The CPF affects the price of carbon in the UK electricity generation
market by taxing the fossil fuels that are used to generate electricity. In particular, the mechanism
75
implies that businesses using fossil fuels to generate electricity are required to pay Carbon Price
Support (CPS) rates on those fuels.
The CPS tops up the EU Emissions Trading System (EU ETS) carbon price to a target level for the
electricity generation sector. Precisely, the CPF level is calculated as a sum of CPS and EU ETS carbon
price. The CPF is, as indicated, a floor; the carbon price in the UK would be set at the CPF, unless the
EU ETS price would rise higher than the CPF. The CPF trajectory as of 2011 was announced to begin
at around 15.70/tCO2 in 2013 and follow a straight line to 30/tCO2 in 2020, rising to 70/tCO2 in
2030 (in real 2009 prices). 49
However, EU ETS carbon prices in 2013-2014 were substantially lower than was expected when the
CPF was introduced. If kept in place, the planned CPF trajectory would cause a large and increasing
gap between the carbon price faced by UK energy users and those faced abroad. This would result
in UK firms facing significantly higher energy prices than those of competitors abroad, which raises
energy bills for households and dampens competitiveness of industries.50
This led to a reform of the Carbon Price Support in March 2014 which increased the carbon tax
almost twice from 9.54 to 18.08/tonne from 1 April 201551 but capped it at 18/tonne from 2016
until March 2020.52 The carbon tax would fall below 18 only if EU ETS price rises substantially. As
the chart below illustrates, this has effectively reduced the carbon price trajectory.
49
Planning our electric future: a White Paper for secure, affordable and lowcarbon electricity (July
2011) by the UK Department of Energy and Climate Change.
76
50
https://www.gov.uk/government/publications/carbon-price-floor-reform
51
Carbon price instruments for the Power Sector by Sandbag, March 2015.
52
Figure 5-5: CPF implementation in the UK

Source: DECC, All prices are in real Euro 2015
Modelling approach
Figure 5-6 below shows the two CO2 UK assessments used in the scenario. The CPF impact on
European power market has been modelled by comparing two scenarios:
In the reference case, the CPF is assumed based on the CPS reform of 2014 setting the CPS at
18/tCO2 throughout the modelling horizon, i.e. the UK CO2 price will be higher than the EU ETS
price by 18/tCO2 (in orange in the graph).
In the counterfactual modelling scenario of an energy market without CPF, it is assumed that the
CPF is not implemented. UK power plant operators emissions are charged at the EU-ETS price as
other European market participants (in blue in the graph).
77
120
100
/t CO2
80
60
40
20
0
2015
2020
2025
2030
2035
2040
2045
2050
EU-ETS price
FTI reference scenario - Current CPF price with a constant gap above the EU-ETS price
Initially planned CPF price by the government
Figure 5-6: EU ETS and CPF assessment
The CPF impacts on power markets are then derived from the assessment of the precedent set of
criteria in both scenarios.
5.3 ASSESSMENT OF THE IMPACTS OF THE FOUR INTERVENTIONS

5.3.1
Security of supply
Many of the considered mechanisms do not directly target security of supply (e.g. RES support,
nuclear phase-out, CPF). However, they might be coupled with other mechanisms that ensure
security of supply, such as the strategic reserve in Germany or the CM in Great Britain.
Furthermore, in the long term, the electricity generation mix tends to rebalance, so that the security
of supply is not affected: it converges either to a level achieved by an EOM or to the targeted level
by a market with a CM in place. In the medium term, only the nuclear phase-out might have had an
impact on margins, but the relative oversupply capacity and the resort to interconnections has kept
lights on despite sharply reduced margins. The main issue was actually linked to network
constraints, making it difficult to transmit energy from North Germany to South Germany at times of
high demand in the South.
However, the German strategic reserve targets security of supply and, as such, has a direct impact
on its level. Therefore, we have estimated the level of security of supply in Germany, represented by
the LOLE, before and after the activation of the strategic reserve. The size of German strategic
reserve will likely be based on the anticipated average annual peak load; 5 percent of it, i.e. around
78
4.3 GW, will be retained as a capacity reserve. 53 Figure 5-7 compares the LOLE in Germany with and
without the strategic reserve for the period of 2016-2040.
20
18
16
LOLE (hrs)
14
12
10
8
6
4
2
0
German - LOLE
German LOLE - with Strategic (climate) reserve
Figure 5-7: LOLE in Germany in the EOM scenario and with the German strategic reserve set at 5 percent of the peak demand
Our modelling demonstrates that, in the EOM scenario, without any form of CM, the LOLE in
Germany rises up to ten hours per year. Nonetheless, the implementation of the strategic reserve
largely covers for this risk as the LOLE falls down to zero to one hour per year. The strategic reserve
therefore actually induces a security of supply level higher than the reliability standards observed in
some other European countries.
5.3.2
Impacts on available capacity
Figure 5-8 compares the impact on the available capacity between the CM in France and other
modelled policy interventions in 2020 and in 2030.
With the French CM, France has mainly more DSR and builds some additional OCGTs and CCGTs
(based on our costs assumptions). In total, the additional capacity brought by the CM is below 5
GW, amongst which 50 percent to 100 percent is DSR.
53
German Federal Ministry for Economic Affairs and Energy, White Paper on an electricity market for
Germanys energy transition, July 2015: http://www.bmwi.de/English/Redaktion/Pdf/weissbuchenglisch,property=pdf,bereich=bmwi2012,sprache=en,rwb=true.pdf
79
In contrast, other policies induce profound changes in the generation available capacity. The
German RES support brings in an additional capacity of 43 GW in 2020, and 70 GW in 2030, while
the nuclear phase-out policy results in a decrease of 6 GW and an increase of 1.7 GW in total
available capacity in the medium and long term. The German nuclear phase-out results in extending
the life of coal and lignite plants and more CCGTs being built, totalling more than 10 GW of
additional thermal capacity.
In Great Britain, the introduction of the CPF increases the generation costs for thermal plants. In the
medium term, our model shows that it affects the merit order and dispatch in the energy market.
However in the long term, the impact on the available capacity is limited given the following
reasons:
The gap between CPF and EU ETS is not high enough to stimulate substantial CO 2-free
investment, and investment in renewable, CCS, or new-build nuclear technologies will still be
mainly driven by support schemes.
The GB CM remains as the main driver for the long-term development of domestic generation
capacity, together with technology-specific support policies. The GBCM restraints new investment
in generation to be located outside Great Britain, as it is designed to guarantee sufficient
domestic supply considering interconnectors contribution. Hence, foreign generation capacity is
not allowed to participate directly in GB CM. Consequently, investment on domestic generation
cannot be substituted by foreign investment.
By widening the gap between Great Britain and its neighbours power price, the CPF encourages
new interconnectors to be built. Several projects might not have been realised otherwise.
The 1-5 GW impact on the available capacity of the French CM as compared to the EOM in the long
run is much smaller than the impacts of most of other considered policy interventions. It is much
smaller than the impact on the available capacity of the German nuclear phase out or renewable
support and it is comparable to the strategic reserve in Germany that adds 4.3 GW to the EOM
available capacity.
80
80
40
20
0
-20
CCGT
OCGT
WIND
Nuclear phase-out
2020
High RES
CM
Nuclear phase-out
High RES
CM
Installed capacity difference (GW)
60
2030
SOLAR
NUCLEAR
COAL
CHP
SR
DSR
Total
Figure 5-8: Impact of the CM and other policy interventions on the available capacity
In conclusion, the impact of the different policy interventions is difficult to compare as they
aim at different objectives. However, the modifications of the available capacity induced by
some of the other policy interventions modelled such as the German nuclear phase-out or
renewable support are much more significant than the changes driven by the French CM.
Below we analyse each of the interventions in more detail.
German climate reserve
Figure 5-9 shows the variations in installed capacity of the CCGT and coal/lignite plants in 2020 and
in 2030, respectively. In the medium term, lignite generation is withdrawn from the market because
of the climate reserve. In the longer term, the in-market coal/lignite capacity will be lower resulting
from the climate reserve, allowing for more CCGTs to be developed. By putting lignite plants in the
strategic climate reserve, Germany will avoid some other thermal plants being mothballed or
shut down. In the 2030 time horizon, climate reserve maintains some thermal capacity and reduces
that of coal/lignite generation relative to the counterfactual scenario in which climate reserve does
not exist.
81
45
40
35
30
25
20
-1
15
-2
10
-3
5
0
Difference climate reserve - no climate

reserve(GW)
Installed capacity (GW)
-4
CCGT
COAL
CCGT
2020
Climate reserve (left)
COAL
2030
No climate reserve (left)
Difference (right)
Figure 5-9: Impact on the available capacity active in the market of the German climate reserve
Note: Capacities outside of the market, in the strategic reserve, are excluded.
German renewable support

Due to fast development of RES in Germany, electricity prices have been largely dampened in recent
years. This has led to a crowd-out of conventional technologies and deterrence to new investment.
Thus, a considerable number of mothballs and retirements have been observed. According to Figure
5-10, with a larger share of wind and solar infeed, a smaller share of CCGT generation is needed in
the long term.
82
50
70
60
25
50
40
30
20
-25
10
0
Difference High RES - Low RES (GW)
80
-50
CCGT
WIND
SOLAR
CCGT
2015
WIND
SOLAR
2020
High RES (left)
Low RES (left)
CCGT
WIND
SOLAR
2030
Difference (right)
Figure 5-10: Impact on the available capacity of the German RES support
German nuclear phase-out

In Figure 5-11, the German nuclear phase-out influences the available capacity substantially. We see
that with the gradual phase-out of nuclear power, CCGTs capacity will be increased by 10 GW by
2030 compared to the counterfactual scenario. The importance of the German nuclear phase-out
plan has been reiterated by many studies. For instance, Grave et al. (2012)54 emphasise the need for
massive construction of gas-fired power plants in case of a nuclear phase-out, in which natural gas
capacity will need to increase by more than 30 GW by 2030, representing 20 percent in generation
mix. Another study published by Prognos (2011)55 indicated that gas capacity will evolve from 21.3
GW to 49 GW between 2015 and 2030. Compared with these numbers, we offer a more conservative
result as flexible measures such as the CM and strategic reserve are accounted for in the reference
scenario.
54
Grave, K., Paulus, M., & Lindenberger, D. (2012). A method for estimating security of electricity supply
from intermittent sources: scenarios for Germany until 2030. Energy Policy, 46, 193-202.
55
Prognos, 2011. Energieszenarien 2011.

http://www.prognos.com/fileadmin/pdf/publikationsdatenbank/11_08_12_Energieszenarien_2011.pdf
83
25
15
20
10
15
10
-5
Difference Phase-out - No phase-out (GW)
-10
CCGT
NUCLEAR
2015
Nuclear phase-out (left)
CCGT
NUCLEAR
CCGT
2020
No nuclear phase-out (left)
NUCLEAR
2030
Difference (right)
Figure 5-11: Impact on the available capacity of the German nuclear phase-out plan
5.3.3
Impact on energy markets
Effect on average power prices

As the French CM reduces the occurrence of scarcity periods, there are fewer price spikes. This
mechanism reduces the average wholesale price (by 5 percent in the long term). However, this
impact is concentrated on a limited number of hours.
The different schemes that we have analysed have different impact on power prices and dispatch.
The short-term impact of the strategic reserve in Germany remains unknown insofar as the
activation rules are not yet decided. We have assumed that the activation of the strategic reserve
will be triggered only in case of curtailment in the day-ahead spot market. In such a case, this
activation will not modify the day-ahead prices compared to a theoretical EOM situation (leaving
aside the question of the climate aspect of the reserve), even if the activation of strategic reserve
avoids loss of load. It would though probably have an impact on intraday prices and exchanges,
which we have not modelled in this study. Also, should the activation rules be different, the impact
on power prices might be different and distortions in wholesale power prices may appear due to a
forced change of the merit order.
For instance, the CPF directly changes the offered price of power plants by adding a tax component
to the variable costs, whereas other mechanisms, including the French CM, do not affect offered
prices, but have an impact on prices in the long term through their impact on the available capacity.
We present simulations of price impacts in the following paragraphs.
84
Similarly to our analysis for the French CM, we have computed the dispatch and prices with and
without the different policy interventions. The comparison of the impacts on power prices of all
policy interventions is presented in Figure 5-12. This analysis shows that the CPF has the largest
10
8
6
4
2
0
-2
-4
-6
CM
High RES
CPF
2030
2020
Average power price difference in the
domestic market (/MWh)

domestic market (/MWh)
impact in the medium term, whereas in the long term it is the nuclear phase-out.

Nuclear phase-out
10
8
6
4
2
0
-2
-4
-6
CM
High RES
CPF

Nuclear phase-out
Figure 5-12: Impacts on domestic power prices of different policy interventions

Figure 5-13 shows the impacts of the foreign policy interventions on the French power prices.
Except for the climate reserve, the other three interventions, namely the RES support, nuclear phaseout, and the CPF, have a significant impact on the French power prices. In particular, the nuclear
phase-out has a larger impact in the long run, bringing a price increase of 2.9/MWh, whereas the
RES support and the CPF affect the French power price in the medium run, driving the price variance
by 1.3/MWh.
85
2020

French market (/MWh)

French market (/MWh)
3
2
1
0
-1
2030
2
1
0
-1
-2
-2
Nuclear phase-out
High RES
CPF

Nuclear phase-out
High RES
CPF
Figure 5-13: Impacts on the French power price of different policy interventions
More precisely, the different mechanisms analysed have the following impact on prices in the
medium and longer term:
Strategic reserve in Germany. In the case of the German climate reserve, it has a comparatively
lower impact on prices as security of supply is complemented by out-of-market actions; by
construction, prices in a theoretical EOM or in a market with perfect strategic reserve are
similar. The climate aspect of the German strategic reserve increases German prices by
1.7/MWh on average. Moreover, if the plants in the strategic reserve were activated in the merit
order of the energy market, the power price would then be 4.3/MWh lower than in the EOM, i.e.
the impact of the reserve would be similar than of the CM, as shown in the text box below.
86
Impact of not valuing plants in reserve in the market

Our modelling approach compares the market outcomes with the intervention to the market
outcomes without the intervention. When it comes to security of supply, one major difference
is that, without the strategic reserve, security of supply standard would not be achieved. It
therefore assumes that the reference scenario would not guarantee security of supply.
Alternatively, we could consider that the reference scenario would be a market delivering
sufficient capacity to meet the security of supply standard. Thus, to simulate that, and as
Germany does not have explicit security of supply standard to our knowledge, we have
assumed that plants contracted in the reserve would have participated in the market. Hence,
the market satisfies the security of supply objectives.
Not dispatching the plants of the strategic reserve within the merit order of the market leads to
a loss in social welfare and in consumer costs, as more expensive plants than those in the
reserve are sometimes activated. Alternatively, if we assume that the capacity mix dispatched
through the market should deliver the level of security of supply required, then the plants of
the strategic reserve would be dispatched more frequently and would reduce prices, to the
benefit of the consumers. In that case, the power price would then be 4.3/MWh lower than
in the EOM or with a strategic reserve only activated outside the market. This impact is
similar to the CM effect.
High RES scenario in Germany. Massive deployment of RES in Germany in the past few years has
dampened electricity prices considerably in Germany. For example, this price depression is as
significant as 4.3/MWh in 2020 and 1.0/MWh in 2030. Moreover, it also has noticeable
influence on the power prices in the German neighbours. In 2020, the rapid growth of RES in
Germany results in a price reduction of 1.4/MWh in France. In the long term, this number
diminishes to 0.6/MWh in 2030. This limited impact of the high RES scenario on power prices in
the long run can be explained by several reasons. First, the low/high RES scenarios have a
common starting point in 2012, when a large share of RES was already deployed. Second, the new
capacity mix with the low RES requires a more frequent use of CCGT without changing other
marginal technologies in the merit order curve. Additionally, the RES development can drive the
power price both upwards and downwards. For example in our simulation for 2030 for 83 percent
of time, the high RES scenario reduces the German power price by 8.7/MWh on average in line
with the merit order effect. However, for the rest 17 percent of time (1,489 hours), the high RES
scenario leads to a higher the German price, which is 35.9/MWh higher than that in produced by
87
the low RES scenario. Indeed, the penetration of RES crowds out mid-merit plants, resulting in
more frequent recourse to peaking plants and in more frequent price spikes. The two forces,
driving prices downwards and upwards, even out the average effect of the high RES.
Evaluation of the impact of renewables based on an econometric approach

The effect on the German wholesale power price of the RES is separately studied by our team
using an econometric approach. In this model, we found that a 1 GW increase in PV
generation would decrease, on average, the German power price by 1.12/MWh and a 1 GW
increase in wind generation by 0.63/MWh.
Analogously to the CPF, the price reduction in Germany has also an influence on the price
levels in other European countries. For instance in France, we found that one additional GW of
PV generation in Germany would reduce the French power price by 0.67/MWh and a same
unit of wind generation reduces the French power price by 0.46/MWh.
Nuclear phase-out in Germany. Our dispatch model confirms that the nuclear phase-out drives
power prices up significantly. More precisely without the phase-out plan of nuclear power,
wholesale prices are 3.8/MWh lower in 2020 in Germany. Consequently, prices in France are from
2 to 2.9/MWh higher than the counterfactual level between 2020 and 2030.
CPF. The CPF has a direct effect on electricity prices, as it adds a tax component to variable costs;
hence, GB prices rise by 8.9/MWh in 2020 and by 4.9/MWh in 2030. Moreover, this domestic
price increase is spread over to prices in neighbouring countries through cross-border power
trades. For instance, under the influence of the GB CPF, the French power price increases by
0.9/MWh in 2020, but in the long term, the effect of CPF outside Great Britain is rather limited, at
0.4/MWh.
If the impact of CM is higher than that of the climate reserve using the EOM as a reference, the CPF
in the UK or the nuclear phase-out in Germany has a much more significant impact on average, and
they impact the price formation much more frequently. Thus, the CPF increases GB prices by 7 to 16
percent; the nuclear phase-out increases German prices by 10 to 12 percent. With regard to the RES
support, the impact on prices is very substantial in the short to medium term, but as the generation
mix rebalances itself in the longer run, the impact reduces around 2030. Comparatively, the impact
of the French CM appears limited or comparable:
88
Medium term. In 2020, mechanisms implemented in the UK or in Germany, especially RES

support, nuclear phase-out and CPF, have a larger impact on French prices that the CM. A fortiori,
the impact of the CM on French power prices is significantly less important than the impact of
these mechanisms in their country of origin: the impact in absolute value of the CPF on GB prices
is 8.7/MWh higher than the impact of the CM on the French prices; the absolute impact of RES
support or nuclear phase-out on German prices is 3.5/MWh higher than the impact of the CM on
French prices.
Longer term. In 2030, the CM has an impact on the French available capacity and avoids
numerous periods of load curtailment and consequent price spikes. Its impact on power prices
then becomes more significant, while remaining below the impact of other schemes; the impact
of the CPF on GB prices is, in absolute terms, still 4.5/MWh higher than the impact of the CM on
French prices, and the impact of nuclear phase-out on German prices is 5.4/MWh higher than
the impact of the CM on French prices.
Effect on price duration

The extent of price difference between the scenarios with and without the CM, showed in Figure
5-14, is relatively small. The CM results in a price difference larger than 5/MWh for 3 percent of
time in 2020 and 10 percent of time in 2030, while the proportion of hours with significant
price differences is much higher in the case of other policy interventions:
Strategic reserve. Comparably, the German climate reserve seems to have a slight impact in the
medium and long run, since the electricity price in Germany rises more than 5/MWh for only 4
percent and 3 percent of time in 2020 and 2030 respectively. This effect hardly spreads out to
France and to Great Britain (0 to 2 percent).
RES support. It affects the German power price the most, leading to a noticeable price difference
in 17 percent, 26 percent and 54 percent of hours in 2015, 2020 and 2030, respectively.
Nuclear phase-out. Additionally, a notable price difference in the case of the nuclear phase-out
suggests a constantly significant impact in Germany from the medium term to the long term and
that its long-term impacts are more diffused in the French market than in the GB market.
CPF. In 2020, the UK CPF policy results in a price difference beyond 5/MWh in 73 percent of the
year 2020 and 42 percent of the year 2030, meaning that the CPF policy influences the GB power
price significantly in the medium and long run. The resulting price difference in France decreases
from 9 to 7 percent, while that in Germany increases from 4 to 6 percent.
89
After all, the impact of the French CM on the wholesale electricity market is much smaller compared
to other policies that directly intervene in energy markets.
80%
80%
2020
% of time - price difference exceeds
5/MWh

5/MWh
70%
60%
50%
40%
30%
20%
10%
2030
70%
60%
50%
40%
30%
20%
10%
0%
0%
FR
CM
High RES
CPF
DE
FR
GB

Nuclear phase-out
CM
High RES
CPF
DE
GB

Nuclear phase-out
Figure 5-14: Percentage of time when the price difference exceeds 5/MWh as a result of different policy interventions
Figure 5-15 presents the percentage of time per year when the wholesale price difference between a
reference case and a counterfactual case exceeds 1/MWh. It describes a similar picture. The impact
of the French CM on power prices is relatively small, rising from 19 percent to 37 percent over time,
whereas other policy interventions have a larger influence and some of them can reach as high as 90
percent.
Hence compared to the other policy interventions, the impact of the French CM on power prices is
minor. The CM does have a long-run effect on the power price. However, this is the consequence of
a modification of available capacity, and this effect is much smaller relative to those of the other
policy interventions.
90
2020
2030
100%
90%
90%
1/MWh

1/MWh
100%
80%
70%
60%
50%
40%
30%
20%
10%
0%
FR
CM
High RES
CPF
DE
GB

Nuclear phase-out
80%
70%
60%
50%
40%
30%
20%
10%
0%
FR
CM
High RES
CPF
DE
GB

Nuclear phase-out
Figure 5-15: Percentage of time when the price difference exceeds 1/MWh as a result of different policy interventions
In conclusion, policy interventions may drive electricity prices upwards or downwards, but the
impact of the CM in absolute terms on power prices is not greater than the other policies
modelled.
Effect on imports and exports
In addition to their impact on prices, public interventions result in different cross-border flows,
compared to a scenario without their introduction. Figure 5-16 shows their aggregated impact over
the year.
91
Figure 5-16: Impact on cross-border flows of different policy interventions

Note: The left axis indicates the scale in volume; the right axis indicates the scale in percentage (orange dots).
The CM modifies cross-border flows by 1 TWh in 2020 and by 11 TWh in 2030). This order of
magnitude is similar to the impact of the climate aspect of the strategic reserve in Germany,
which changes flows by 5 to 7 TWh per year. In Germany, the RES support, diminishing the German
electricity price, has a major impact on cross-border flows; that is, net exports from Germany will
increase to 24 TWh in 2020 and continue to increase to almost 50 TWh in 2030. However, this
tendency is countered by the need for imports caused by its RES supports and nuclear phase-out
plan. For instance, in comparison with the counterfactual scenario, the phase-out leads to an
increase of 17 TWh in net imports in 2020, and this amount is doubled in 2030. Similarly, the
implementation of the CPF in the UK induces a rise in cross-border imports by 9 TWh in 2020 and by
14 TWh in 2030, since it scales up the power price.
As a result, we can conclude that the other European policy interventions have mostly a larger effect
on cross-border flows, and in comparison with them, the effect of the French CM on cross-border
trades can be regarded as the least significant.
In conclusion, because the available capacity is modified to maintain security of supply, the CM
has an impact on cross-border flows, but it is more limited than the impact of some of the
other policy interventions
92
Effect on congestion rents

Compared to other policy interventions, as shown in Figure 5-17, the impact of the CM on
congestion rents is relatively small. The German RES support increases, in the long run, congestion
rent by 565M in 2030, in contrast to a moderate impact in the medium run. Due to its considerable
impact on export flows, the German nuclear phase-out plan affects its domestic congestion rent
significantly, especially in the long term, totalling at 926M in 2030. The change brought by the CPF
policy, corresponding to the amount of export flows, amounts to 167M. In contrast, the CM only
slightly affects the congestion rent in France, by bringing a small increase of 3M in the medium
100%
500
50%
0%
2020
CPF
Nuclear phase-out
RES support
CM
CPF
-100%
Nuclear phase-out
-1000
RES support
-50%
-500
Congestion rent difference (%)
1000
CM
Congestion rent difference (million )
term, and a fall of 43M and 126M in the long term.
2030
Figure 5-17: Impact on congestion rents of different policy interventions

Note: The left axis indicates the scale in volume; the right axis indicates the scale in percentage (orange dots).
5.3.4
Economic efficiency
As the four schemes we have analysed target different objectives, the impact in terms of consumer
costs is difficult to compare and it does not make sense to compare their impact on costs and
economic efficiency.
However, regarding the strategic reserve, as it addresses security of supply like the French CM, costs
could be interesting to compare. However, it also addressed decarbonisation through the climate
93
reserve, so we have tried to disentangle the two cost aspects by assessing the incremental cost of
the climate reserve, compared to a technology neutral strategic reserve.
When the strategic reserve and climate reserve are fully operational, the introduction of the
strategic reserve has an impact on the customer cost through three levies:
Energy cost increase: A theoretical strategic reserve should not change the energy cost in the
market, as it is designed not to have any impact compared to the EOM, but we have to add
activation costs of the reserve. In addition, because of the climate reserve, as base load plants
(lignite plants) are removed from the wholesale power market, the energy cost necessary to meet
demand increases, increasing the power price for customers;
Strategic reserve contracting cost increase: To maintain capacity in the strategic reserve,
consumers have to cover the fixed O&M costs of the plants in the reserve. In addition, lignite
plants, which would have been maintained in the market, have an opportunity cost of not
generating in the market, so the introduction of the climate reserve increases the strategic reserve
cost as lignite plants are contracted in the reserve at a higher cost than the plants which would
have been contracted in a theoretical strategic reserve where lignite plants are not forced into the
reserve.
Reduced cost of loss of load: the strategic reserve aims to secure supplies and, as such, may
reduce the energy that needs to be curtailed in scarcity situations.
Figure 5-18 shows the increased customer cost spread out on the strategic reserve cost and the
energy cost. The strategic cost delta increases over time as the lignite opportunity cost increases
overtime. In our modelling and based on public information, the German strategic reserve could
induce around 800M per year of additional costs for consumers. Consumers do not benefit
from lower energy prices insofar as capacity in the reserve is not valued in the market.
Consumers do not benefit from lower energy prices insofar as capacity in the reserve is not valued
in the market.
The contracting costs of a theoretical strategic reserve are estimated at 130M.
The reduction of the security of supply risk is limited in 2020 and is valued at around 260M in
2030.
The climate aspect of the reserve increases energy cost and contracting costs for consumers
by around 650-870M per year. Indeed, lignite plants are replaced by gas plants in the merit
order, which increases wholesale prices on average. In addition, their contracting costs are higher
94
than those of the plants which would have been contracted in a technology neutral strategic
Costs of the strategic and climate reserves (m/year)
reserve (without forcing lignite plants in).
1200
1000
800
600
400
200
0
-200
-400
Capacity reserve Climate reserve Strategic reserve Capacity reserve Climate reserve Strategic reserve
2020
Contracting cost
Activation cost
Additional Ramping cost
2030
Cost of unserved energy impact
Energy cost
Total costs
Figure 5-18: Breakdown of the impact of the German strategic reserve on customer costs
Therefore, most of the net cost for consumers is due to the climate aspect of the strategic
reserve. Without this distortion in the constitution of the reserve, the strategic reserve would still
induce a net cost in the first years of implementation but, over the period 2018-2030, it would be a
zero-sum gain for end consumers. This is to be compared with the net gain generated by the French
CM, estimated at around 400M/year.
5.3.5
CO2 emissions
As previously stated in the report, the French CM slightly increases domestic CO2 emissions, but
decreases CO2 emissions in other European countries, such that the total amount at the European
level diminishes. Keeping this result in mind, it is important to identify the aggregate effect on CO2
emissions of the other policy interventions.
It is also worth realising that the different schemes we are considering for the comparison aim at
different objectives. In particular, three of them directly target the reduction of CO 2 emissions
95
namely the climate part of the strategic reserve, the RES support, and the CPF while the French
CM addresses security of supply issues. We therefore expect that the impact in terms of reduction of
CO2 emissions will be more positive for these mechanisms.
As shown in Figure 5-19 in Germany, the domestic emission level drops by 5 Mt in 2020 and by 26
Mt thanks to the climate reserve policy that puts lignite plants in the strategic reserve. Furthermore,
this policy has no impact in Great Britain, in contrast to a 1.1 Mt increase in France. Besides that, its
8%
6%
4%
2
2%
0%
-2%
-2
-4%
-4
-6%
-6
-8%
FR
BE
DE
ES
GB
Difference Climate reserve - No climate reserve (%)
Difference Climate reserve - No climate reserve

(million tonnes)
impact on Belgium, Spain and Italy remains neutral.
IT
Difference Climate reserve - No climate reserve (left)

Difference % Climate reserve - No climate reserve (right)
Figure 5-19: Impact of the German climate reserve on CO2 emissions in 2020
Supporting RES can clearly allow CO2 emissions to drop in Germany. More precisely, Figure 5-20
shows that up to 7 Mt CO2 emissions are avoided in Germany in 2020. In 2030, this number rises to
14 Mt if the government continues to support the development of wind and solar generation. In
other European countries, the effect on emissions of the German RES support is not significant.
96
1%
0%
-2
-1%
-4
-2%
-6
-3%
-8
Difference High RES - Low RES (%)
Difference High RES - Low RES

(million tonnes)
-4%
FR
BE
DE
Difference High RES - Low RES (left)
ES
GB
IT
Difference % High RES - Low RES (right)
Figure 5-20: Impact of the German RES support on CO2 emissions in 2020
On the other hand, Figure 5-21 reveals a significant 23 Mt increase of CO2 emissions in Germany
25
15%
20
12%
15
9%
10
6%
3%
0%
-5
-3%
FR
BE
DE
ES
GB
IT
Difference Nuclear phase-out - No nuclear phase-out

(%)
Difference Nuclear phase-out - No nuclear phase-out

(million tonnes)
after the implementation of the phase-out, and a slight increase in France, Belgium, Spain and Italy.
Difference Nuclear Phase-out - No nuclear phase-out (left)

Difference % Nuclear Phase-out - No nuclear phase-out (right)
Figure 5-21: Impact of the German nuclear phase-out on CO2 emissions in 2020
97
Comparatively, the nuclear phase-out in Germany has a strongly negative impact on CO2 emissions
while other schemes, whose objective is to reduce emissions, have positive impacts on CO 2
emissions.
According to Figure 5-22, the CPF reduces CO2 emissions in Great Britain substantially; up to 12 Mt
of emissions are avoided in 2020 in Great Britain, but this decrease is partially recouped by a small
increase in CO2 emissions in other European countries. For example, this number in France will be
1.3 Mt in 2020.
20%
10
10%
5
0%
-5
Difference CPF - No CPF (%)
Difference CPF - No CPF (million tonnes)
15
-10%
-10
-15
-20%
FR
BE
DE
Difference CPF - No CPF (left)
ES
GB
IT
Difference % CPF - No CPF (right)
Figure 5-22: Impact of the UK CPF on CO2 emissions in 2020

It is also worth noticing that the French CM does not have a negative impact on neighbouring
countries emissions and cannot be blamed of exporting emissions. Conversely, the CPF leads to an
increase of CO2 emissions in neighbouring countries of around 4400 tonnes. The nuclear phase-out
plan will increase CO2 emissions in other countries by 3800 tonnes.
To conclude, the CM has a negligible impact on CO2 emissions, whereas it does not aim to
address CO2 emissions but security of supply. As such, it does not contravene the EU objective of
reducing CO2 emissions, and it addresses another EU objective that of security of supply.
98
6. Conclusions
6.1 IMPACTS OF THE FRENCH CM COMPARED TO AN EOM
To assess in details the impact of the French CM, we have modelled the European power system
using our dispatch model coupled with or without a CM. This has allowed the simulation of energy
prices, dispatch and flows in France and in Europe, on an hourly basis, as well as investment,
mothball and closure decisions, with and without the introduction of the CM in France.
We have analysed the impact of the CM, by contrast to an EOM with a price cap at 3,000/MWh,
with regard to several criteria:
Security of supply. The introduction of the CM guarantees that the security of supply standard is
met. Conversely, in the EOM, the LOLE exceeds the three hour policy standard and reaches nine
hours on average per year. It reaches ten hours on average per year from 2024 onwards.
Economic efficiency. The CM is economically efficient at addressing security of supply issues, as it
increases social welfare by more than 500M/year over the period 2017-2040. These gains are
partly enabled by a reduction of financing costs for capacity providers, especially peak capacity
providers, who may secure part of their revenues in the CM. Moreover, contrary to usual
thoughts, end consumers are the main beneficiaries of the economic surplus induced by the CM,
as the CM reduces consumer costs by 400M per year between 2017 and 2030, thanks to the
reduction of loss of load expectation and reduction of investment financing costs.
Impact on the available capacity. In order to maintain security of supply at the desired reliability
standard, the CM helps bringing in additional capacity compared to the EOM. In the medium
term, based on our cost assumptions, it fosters the development of demand-side response. It is
only from 2024 that the CM allows more generation capacity (CCGTs and then OCGTs) in the
market. In the longer term, around additional 5 GW are built, and at least half of it is DSR.
Impact on the energy market. The French CM does not impact bidding and dispatch strategies,
as it is based on availability, such that there is no short-term impact of the CM on energy market
and the only potential impact results from additional capacity in the future. In the medium term,
the impact on prices is limited as additional DSR is called upon only in extreme situations. In the
long term, additional capacity reduces the long-term price by around 5 percent, and this is
concentrated on peak hours, where the system is tight. As a consequence, the net export balance
increases by up to 10 TWh.
99
Impact on CO2 emissions. The CM slightly increases CO2 emissions in France, because of higher
domestic generation. However, this increase is more than entirely compensated by a decrease in
neighbouring countries.
6.2 COMPARISON OF THE IMPACTS OF THE FRENCH CM COMPARED TO OTHER POLICY

INTERVENTIONS
Following the same methodological approach, we have assessed the impact of other policy
interventions in Europe, namely:
The new Strategic Reserve planned in Germany, including the forced inclusion of lignite plants in
the reserve (so-called Climate Reserve);
The RES support policy in Germany;
The Nuclear Phase-Out in Germany; and
The Carbon Price Floor in the UK.
Particularly in the modelling of the strategic reserve, we have distinguished the capacity reserve and
the climate reserve while assuming a perfect or theoretically optimal market design, in which
activation of the reserve will not modify dispatch or available capacity benchmarked with an EOM
scenario: only plants about to be mothballed or closed participate.
The comparison with other mechanisms aims to put things into perspective, in order to assess
whether the impact of the CM is significant or not compared to other public interventions. These
other mechanisms often have different objectives: decarbonisation, development of RES, or national
decision on the generation mix. Any comparison of the effects should therefore be interpreted with
care, but they give an interesting comparison to grasp what could be deemed proportionate or not.
We have analysed the impact of these interventions and compared them to the CMs impact, with
regard to the same criteria:
Security of supply. Only the German strategic reserve aims at security of supply. Without the
strategic reserve, security of supply deteriorates from 2023, to reach around ten hours of LOLE.
The strategic reserve brings this value down to below one hour due to a political choice regarding
the volume of reserve, which is a very high security of supply standards compared to what we
usually observe in Europe. Regarding other mechanisms, the market tends to rebalance, such that
the actual impact in terms of security of supply is limited.
Economic efficiency. For the same purpose, the impact of the strategic reserve in terms of
consumer costs is completely different. Indeed, the strategic reserve increases consumer costs by
100
around 800M, while the CM is beneficial for consumers in terms of costs. This increase in costs is
mainly due to the climate aspect of the reserve: without this distortion in the constitution of the
reserve, the strategic reserve still induces a net cost in the first years of implementation but, over
the period 2018-2030, it is a zero-sum gain for end consumers. The impact is though less positive
than the CM.
Impact on the available capacity. Policy interventions generally have a much stronger impact on
the available capacity than the CM. RES support in Germany can lead to change in the installed
capacity of more than 70 GW, while the CM impact is lower than 4 GW in the medium term and
limited to 5 GW on average in the long term. The impact of the strategic reserve, taking into
capacity put in reserve, is comparable, to 4.3 GW.
Impact on the energy market. Public interventions may drive electricity prices upwards (e.g. the
UK CPF or the nuclear phase-out) or downwards (RES support), but the impact of the CM in
absolute terms on power prices is not greater than the other policies modelled. For instance,
while the CM does not modify French power by more than 4/MWh on average, the CPF can
increase GB prices by more than 10/MWh and the nuclear phase-out by up to 8/MWh.
Furthermore, the impact of the CM on prices is limited to limited periods (mostly peak hours). As
a consequence, the impact on cross-border trade is reduced compared to other interventions,
especially RES support.
Impact on CO2 emissions. The CM has a neutral impact on CO2 emissions. Conversely, policies
that target decarbonisation and RES development have a downward impact on CO 2 emissions.56
In contrast, some other policy interventions have strong and negative consequences in terms of
CO2 emissions, especially the nuclear phase-out, which has significantly increased CO2 emissions,
and which effect will last for a while.
56
Although we have not assessed the downward impact of RES development on CO2 prices, which may
limit the reduction of CO2 emissions.
101
7. Appendix A - Description of dispatch model

The European Power Market Model developed by FTI-CL Energy, is implemented in the commercial
modelling platform Plexos Integrated Energy Model. This modelling platform is most commonly
used in the European electricity industry by utilities, regulators and transmission system operators.
Plexos allows finding solutions quickly using advanced optimisation procedures taking into
account of a large number of variables and complex constraints of transmission network and power
plants. It also provides a flexible and user-friendly interface allowing testing multiple scenarios, to
perform stochastic sampling and optimisation, and to present the results in a graphical form.
EUROPEAN POWER PLANTS DATABASE

FTI-CL Energy has developed a database of European power plants. It contains technical specificities
of all thermal European plants and is used as the basis of the dispatch model.
The database is regularly updated to include the latest announcements from plant operators,
utilities and regulators.
It is completed by a range of scenarios on decommissioning dates for existing plants,
commissioning dates for current and future projects, and projection on renewable developments.
EUROPEAN POWER MARKET ASSUMPTIONS

FTI-CL Energy European Power Market model runs on a set of key inputs developed in-house. For
the forward price assessment, a consistent set of assumptions based on public data as well as on
FTI-CL Energys European expertise has been used. The power dispatch model uses:
Demand projections. FTI-CL Energys long-term power demand projections in European
countries are derived from a combination of GDP growth, policy effectiveness, and the expected
technological change. In the reference case, uptake of energy efficiency measures drives
electricity demand lower, but electrification of the transport and heat sectors (together with GDP
growth) offset this reduction.
Supply projections. These are based on climate and energy policies and technology development
cost. In particular, future capacity mix scenarios in European countries are based on the existing
thermal plants retirement or mothballing based on released publication, energy policies or
economic modelling (including LCPD and IED decisions), existing Low Carbon technologies
retirement or life extension based on current and future energy policies, new thermal plant
102
capacity scenarios based on economic modelling and new Low Carbon technologies scenarios
based on future energy policies.
Transmission projections. Based on the ENTSO-E data and FTI-CL Energys expertise in the
European power market, a transmission database referencing historic NTCs and future
interconnection projects has been created.
Commodity price projections. Commodity prices are one of the main determinant of the shortrun marginal cost (SRMC) of most power generators, and thus a primary driver of wholesale
power prices. We have developed internal scenarios based on publicly and privately released data
from IEAs World Energy Outlook and EIAs Annual Energy outlook projections. Commodity
price projections are regularly reviewed to account for latest changes in energy regulation.
Each scenario is internally consistent and represents a plausible combination of assumptions on the
considered variables.
GEOGRAPHIC SCOPE OF THE MODEL

In conjunction with these proprietary datasets, FTI-CL Energy has developed a European power
dispatch model. This model covers the markets of the UK, Ireland, France, Belgium, the Netherlands,
Germany, Switzerland, Austria, Denmark, Norway, Sweden, Finland, Italy, Spain and Portugal.
Countries beyond this geographic scope are modelled at an aggregated level. The geographic scope
of the model is shown in Figure 7-1 below.
Figure 7-1: FTI-CL Energys European Power Market model

103
PRICE CALCULATION
This model uses a detailed bottom-up methodology: the supply from flexible thermal power plants
is modelled individually to meet the demand net of the supply of must-run renewable generators.
The dispatch is determined to minimise the costs of generation in the northwest Europe while
satisfying the unit commitment constraints of generators as well as the flow constraints over the
European transmission network. The model uses the zonal transmission network representation that
matches with the price zones currently implemented in Europe and the commercial transmission
boundaries.
The model calculates the price in each price zone as the marginal value of energy delivered in that
zone based on the simulated bids of flexible generators. In reality, these bids closely follow the
estimated short-run variable cost of power generation. Therefore, the estimated clearing prices
correspond to the marginal cost of electricity. Such estimation of electricity prices based on the
marginal cost is reasonable when the capacity margin above the demand is high and there is high
competition between generators to serve the demand.
However, when demand in an area reaches the levels close to the generating and import capacity,
generators have less competitive pressure to bid at the SRMC-level. In such cases, the clearing price
is set above the marginal cost of the most expensive running unit. Such prices allow the marginal
units to cover the variable cost of production and further contribute to covering their fixed costs.
A dedicated model to reflect this bidding behaviour, referred as to the "Fixed-cost recovery
mechanism" or FCRM has been developed. This model calculates the mark-ups of the generators
bids over the marginal cost depending on the capacity margin.
BACK-CASTING CALIBRATION
The model has been calibrated with respect to the historical price profiles observed in a number of
European countries. For example, Figure 7-2 below shows the results of the back-casting57
calibration of the prices calculated by the model against the realised prices in 2012 in France; Figure
7-3 below shows the results of the back-casting calibration of the prices calculated by the model
57
Back-casting is a process by which we use our model to forecast prices over a historic period and
then compare to the actual prices observed over the same historic period. The closer the modelled
results to the actual results the greater comfort we can draw that our model will produce reliable
forecasts over the future.
104
against the realised prices in 2012 in Great Britain; Figure 7-4 below shows the results of the backcasting calibration of the prices calculated by the model against the realised prices in 2012 in
Germany; and, Figure 7-5 below shows the results of the back-casting calibration of the prices
calculated by the model against the realised prices in 2012 in Belgium.
The high precision of the hourly price profiles is achieved through a realistic representation of the
dynamic constraints of thermal plants and an accurate calculation of the demand net of the mustrun production from renewable and distributed generation.
120
/MWh
100
80
60
40
20
1
17
33
49
65
81
97
113
129
145
161
177
193
209
225
241
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273
289
305
321
337
353
369
385
401
417
433
449
465
481
497
513
529
545
561
577
593
609
625
641
657
673
689
705
0
Hours
Modelled
Actual
Figure 7-2: Back-casting calibration French hourly prices, November 2012
200
180
160
140
120
100
80
60
40
20
0
1
19
37
55
73
91
109
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433
451
469
487
505
523
541
559
577
595
613
631
649
667
685
703
721
739
/MWh
Source: FTI-CL Energys European hourly dispatch model calibration, 2016
Hours
Modelled
Actual
Figure 7-3: Back-casting calibration GB hourly prices, October 2012

105
120
/MWh
100
80
60
40
20
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120
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562
579
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613
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647
664
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698
715
732
Hours
Modelled
Actual
Figure 7-4: Back-casting calibration German hourly prices, October 2012

120
100
/MWh
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60
40
20
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18
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120
137
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171
188
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Hours
Modelled
Actual
Figure 7-5: Back-casting calibration Belgian hourly prices, October 2012

POWER DISPATCH MODEL CREDENTIALS

The FTI-CL Energy dispatch power model has been initiated internally by our experts to provide a
robust and reliable source of market intelligence. Recognising that the best source of market
insights stems from stakeholders, it has been developed collaboratively using our experts insights
and stakeholders contributions.
Recently, the model has been fine-turned on two principal components:
FTI-CL Energy team closely worked with utilities in the Nordic countries to further improve their
hydro modelling in order to understand the impact of increased flexibility sources on the power
systems.
106
FTI-CL
Energy
team
closely
worked
with
Transmission
System
Operators
(TSOs)
and
interconnectors developers to further improve their wind modelling in order to model the
impact of increased variability on the power systems and cross-border flows.
Having been used extensively with clients, the European dispatch model is now widely recognised as
a robust and reliable source of power market intelligence.
RENEWABLE POWER GENERATION MODELLING

Given the impact of renewable variability on future power systems, we have developed specific
methodologies to represent and forecast wind and solar production and model hydro flexible
generation. The model also includes pumped storage modelling and has the flexibility to model on
site storage. The renewable power forecast methodologies are completed by an in-depth
understanding of the economic impact of renewable production on power prices.
Wind Power production
Following extensive analysis on the impact of wind variability on future power systems, for multiple
clients such as TSOs, interconnection operators, and European utilities, a specific wind model the
FTI-CL Energy Hybrid wind model has been developed. It combines:
Wind manufacturers theoretical power curve applied on historic re-calibrated wind speed data
collected from weather stations across Europe; and
Historic wind power production.
This combined methodology strengthens the wind modelling capability as it goes beyond wind
turbine manufacturers data and uses historic technical performances at the heart of the wind
speed to power converter algorithm.
Solar Power production
As solar technical performances are continually improved, solar production has been modelled in
detail to include future technical improvements and technologies. Besides using historic solar
production, a dedicated methodology to model the impact of future technical improvements, such
as capturing diffuse solar irradiation, has been developed.
As per wind modelling, we collect irradiation data from weather stations scattered around Europe
and convert the irradiation values into power values by using a statistical analysis on the relationship
between average solar irradiation and national solar production. This relationship captures the
inverter efficiency and diffusion coefficient.
107
Wind and solar bids in wholesale market

To capture the fatal characteristic of renewable generation, the wind and solar production as a
must-run generation have been modelled. Existing and under construction sites are allowed to bid
negatively up to their renewable incentives level, creating occasionally negative prices.
Following work on the negative price impact and regulation, we have adapted our model to include
a number of wind and solar site vintages in order to accurately model the level down to which
renewable plants will bid before being curtailed. This acknowledges that overtime renewable
generation will be merchant-only and wont have external incentives to create negative prices.
Nordic and Alps hydro modelling
The model specifically focuses on an explicit modelling of the production flexibility provided by the
Nordic and the Alps hydro reservoirs. Hydro production is one of the main determinants of the
electricity prices in the Nordic region and one of the main sources of flexibility in the Alps. The
hydro model is designed to dynamically replicate the seasonal optimisation performed by those
producers. The modelling is based on two elements:
Hydro constraints, such as reservoir maximum levels and weekly natural inflows have been
calibrated following extensive research on historic and future hydro data; and
Given the calibrated constraints, our dispatch model includes a state-of-the-art algorithm
designed to calculate the water value, i.e. the value of water held in storage. It then uses the
water value of the hydro plants in the short-run optimisation.
This detailed approach further improves the dispatch model robustness, providing additional
flexibility to the European power system.
Pumped storage
Pumped storage facilities are the actual main source of storage on the European power systems.
Our model includes a specific add-on to correctly account for this source of flexibility. It optimises
its pumping and dispatch schedule on a weekly basis.
On-site storage
Our model provides flexibility to model on site storage impact on power system. These additional
features could be analysed in further sensitivities.
GARCH METHODOLOGY
In addition to the standard wind and solar forecast methodology used in the power dispatch model,
the historic impact of renewable production on Belgian wholesale power prices over the period
108
2008-2014 has been assessed by using an econometric approach developed by FTI-CL Energy
experts
based
on
the
Generalized
Autoregressive
Conditional
Heteroskedastic
(GARCH)
methodology.
The GARCH model is an econometric technique that is well suited to capture the fluctuation and
clustering of volatility. This is particularly useful when analysing price volatility, for example as
Roques and Phan did in studying the impact of growth in renewables on power price volatility, 58 a
study very relevant to Belgiums case. The GARCH model solves a number of econometric issues
when modelling price, such as high price volatility due to the non-storable nature of electricity, and
daily and seasonal fluctuations. A conditional heteroscedasticity model such as GARCH is an
appropriate solution to handle this sort of volatility. The GARCH model is also particularly relevant
for the study of the effect of renewables because it estimates both the mean and variance of the
dependent variable.
The theoretical framework of the GARCH model was introduced by Bollerslev in 198659 as an
extension of the Autoregressive Conditional Heteroskedastic (ARCH) model with a more flexible lag
structure. Since then, it is commonly used to analyse variations of the commodity market. Knittel
and Roberts (2005) were among the first to use GARCH model in the field of energy economics by
modelling electricity prices.60 Others who have also used GARCH to model electricity prices include
Petrella and Sapio (2009).
The GARCH model estimates the dependent variable, in this case price, using two simultaneous
equations, one that estimates todays price using all the previous time periods price, and another
that estimates the conditional variance using all the previous time periods conditional variance
plus all the previous time periods error terms squared.
The GARCH model is used to estimate the impact of intermittent renewables in Germany on French
and German prices. The econometric analysis shows that both wind and solar generation in
Germany have a negative effect on French prices. Increasing solar and wind generation by 1 GW
58
Phan, Sebastien and Roques, Fabien (2015) Is the Depressive Effect of Renewables on Power Prices
Contagious? A Cross Border Econometric Analysis
59
Bollerslev, Tim (1986). Generalized Autoregressive Conditional Heteroskedasticity, Journal of

Econometrics 31 p. 307-327.
60
Knittel, C. R., & Roberts, M. R. (2005). An empirical examination of restructured electricity prices.
Energy Economics, 27(5), 791-817.
109
decreases the average French price by 0.67 and 0.45, respectively. Wind and solar generation in
Germany also decreases prices in Germany and interconnections contribute to the convergence of
French and German prices.
In terms of volatility, on average, renewables increased price volatility in both countries. Crossborder exchanges, through more interconnections, decrease price volatility in both countries,
although
110
the
reduction
of
volatility
is
more
pronounced
in
France
than
Germany.
8. Appendix B - Description of capacity market

model
The capacity market model is integrated with the energy market model over the entire
planning horizon.
PERFECT COMPETITION CAPACITY MODEL
The model assumes perfect competition and perfect information between market participants. It
minimises the system cost while ensuring the reliability criteria. Capacity certificate trades are
modelled through an annual trade which computes the annual capacity price as the intersection of
the supply curve and the demand curve.
INTER-TEMPORAL CAPACITY MODEL

The model simulates the recurrent annual capacity certificate trades over several years:
Decision to retire, invest or mothball units depends on the expectation of the future income over
the next years.
These decisions are made based on a multi-period strategy taking into account the inter-temporal
constraints
The model has been set up to run over a number of future periods 2017 to 2040.
INTERACTION WITH POWER MARKET MODEL

Capacity market offers are based on the missing money and depend on the revenues expected
in the energy and ancillary services markets. Plant energy market revenues are fed to the capacity
market model from the Energy market model developed in Plexos.
111
Figure 8-1: Interaction between the capacity and energy markets

CAPACITY MARKET BIDS

A competitive bid in a capacity market should reflect the plants missing money the part of
the avoidable fixed cost not covered by the expected energy and A/S revenues.
A capacity bid of existing and new units is based on the avoidable cost of being capacity resources
that are not covered by the expected net revenues in the energy and ancillary services markets.
Existing units
The avoidable cost of being a capacity resource is represented by:
Fixed annual operating and maintenance expenses; and
Debt depreciation (equity cost is assumed to be sunk cost).
112
Figure 8-2: Existing units

New units
The avoidable cost of being a capacity resource is represented by:
Fixed annual operating and maintenance expenses;
Investment costs (annualised); and
Financing costs.
Figure 8-3: New units

113
Remaining debt may represent a significant part of the avoidable cost of the existing plants.
Investments in power plants are financed through equity and debt. For the existing plant, the equity
part of the investment often represents a sunk cost. Remaining debt is often recoverable in case a
plant is sold and thus represents avoidable cost of being a capacity resource.
Therefore, remaining debt can represent a part of the capacity bid of existing plants. Its share in the
bid depends on a number of factors:
Debt-to-equity ratio; and
Debt depreciation schedule and the amount of the remaining debt in a given year. The weight of
the debt is higher in newer plants.
114
9. Appendix C - Description of key scenario

modelling assumptions
MACROECONOMIC CONTEXT
To construct the forecast scenarios of evolution of electricity demand, the main determinants
analysed are GDP, energy efficiency, demography and the relative price of electricity over other
energies. The projection data are sourced from BP 2015.
Economic growth
The economic growth remains an important determinant of electricity demand, especially of
industrial and services demand. Thus, changes in the level of electricity consumption largely reflect
cyclical business developments.
To a lesser extent, the macroeconomic context can be influent on purchases of household
appliances or insulation work, even induce behavioural effects on consumption. The situation being
the bearer of uncertainties, it is necessary to retain a range of possible evolution of GDP sufficiently
broad and based on recent analysis, to better fit the effects of the current economic context.
The European economic activity is expected to benefit from the end of few barriers in the shortterm, with a fall in the oil market, another monetary easing, low interest rates and an important
depreciation of the euro since the summer 2014. The consumption recovery in Germany, due to
rising incomes, should also be a strong trend for a return of GDP growth in Europe.
France has benefited relatively less from this context than countries like Germany, Spain or the UK.
However, the recovery in temporary employment in the last quarter 2014 is a strong indicator of
better growth levels than in previous years (2012, 2013 and 2014). Growth assumptions retained for
French GDP in 2015 and 2016 are based on a recent forecast panel from recognised external
sources. In a prudential approach, given the variability of the previous forecasts, the low trajectory
was slightly undervalued. Beyond two years, the assumptions are based on a recent report from
INSEE, which traces three French growth scenarios for the period 2015-2025, with average trend
levels ranging from 1.2 percent to 1.9 percent and a median value of 1.5 percent.
115
Demographic change
Demographic change is a decisive factor of residential and tertiary consumptions and economic
growth. To define the possible evolutions of population, the assumptions are based on the latest
INSEE projections, with a resetting of the starting point in 2014. These assumptions involve in all
cases a growth of the population between 2014 and 2020 in France.
The number of households has a direct effect on the number of main residences, so on the
residential consumption. The number of persons per household tends to decrease in 2020, making
growth in the number of households more dynamic than the one of population. The power
consumption of tertiary sector depends on the evolution of the workforce. The assumptions are
based on the latest projections available from INSEE.
Energy efficiency
Improving the energy efficiency of equipment and buildings should be continued as a result of
energy policies and dissemination of innovations. In order to achieve the EU targets to reduce by 20
percent in 2020 energy consumptions and emissions of greenhouse gases, it is provided that the
European directives on eco-design and energy labelling are generalised to all energy-related
products sold in the European market.
According to RTE estimations, the energy efficiency on all the sectors and practices could help to
save between 5 percent and 7 percent of 2014 consumption in 2020. The main driver of this energy
efficiency is that of standard norms and regulations imposed to new buildings and equipment.
DEMAND
In previous years, power demand in Europe was affected by the difficult economic context: it
decreased by almost 1 percent per year on average since 2007. This decrease is a continuation of a
slowdown of the growth in demand for many years, induced by an economic growth less intense
and structurally less energy-intense than in previous decades, as well as an improvement of energy
efficiency.
Overall, the projections of total electricity demand show growth rates very moderate until 2020, in
the continuity of the historical inflection observed (average annual growth rate of about 1 percent in
the 2000s).
This power consumption is temperature sensitive. In winter, because of the electrical heating,
consumption is greater when temperatures are rigorous. In summer, the consumption may increase
with warm temperatures, mainly through the use of air conditioning.
116
The power consumption levels are very different in different countries, but the temperature
sensitivity phenomenon is still visible: for cold temperatures, consumption increases as the
temperature decreases. France is by far the country where this phenomenon is most observed. In
first approximation, sensitivity to temperature in France is 2.5 times higher than that of Great Britain,
4.5 times higher than that of Germany, and 5 times higher than that of Italy and Spain.
In the southern countries (Italy and Spain), the use of air conditioning during periods of high
temperatures is also visible.
Figure 9-1: Electricity consumption against temperature in European countries

Source: BP, 2015
SUPPLY
FTI-CL Energy assumptions
FTI-CL Energys assumptions are based on ENTSO-E previsions. For the medium term, ENTSO-E
scenario B (Best Estimate) is used. For the long term (2030), the reference is an average between
ENTSO-E v1 and ENTSO-E v3.
117
Renewables
Hydropower generation, which is the oldest renewable source of electricity, retains an essential part
in the energy mix of several West European countries. France (25 GW), Italy (22 GW) and Spain (19
GW) have the most important plants.
Hydroelectric capacities are not growing today, except in Switzerland and Austria. These two
countries are those in which the consumption part from hydropower is the most important (more
than 50 percent percent).
Since the 2000s, wind energy and solar have developed strongly due to environmental policies in
most European countries. The climate and energy package (2008) and the European directive
associated set renewable growth targets. At the European level, these policies have led to a massive
development of the different sectors. The observed dynamics vary depending on the countries.
In 2015, Germany has the largest capacity installed in Western Europe for wind (39 GW) and solar
(38 GW). The UK has experienced the largest European increase of solar, with 2.2 GW in 2014 and
also has the largest offshore plant. These two countries still have significant ambitions in the
medium term.
Southern Europe also benefited from the strong potential development of solar and wind sectors. In
Spain, the energy produced by wind represents 22 percent of electricity mix. In Italy, the energy
produced by the photovoltaic sector represents 10 percent of the mix. However, after several years
of strong development, these sectors are now growing more slowly.
Belgium retains a moderate dynamic of wind and solar and there are several offshore wind projects.
The forward assumptions include the achievement of the majority of these projects by 2020.
118
Installed capacity by 2015 (GW)
50
40
30
20
10
0
FR
GB
DE
ES
IT
ES
IT
HYDRO
Figure 9-2: Installed capacity of hydropower by 2015
50
40
30
20
10
0
FR
GB
DE
WIND ONSHORE
Figure 9-3: Installed capacity of wind power by 2015

119
50
40
30
20
10
0
FR
GB
DE
ES
IT
SOLAR
Figure 9-4: Installed capacity of solar power by 2015
Nuclear
There is a great diversity of nuclear situations in Europe. While some countries such as France have
opted for an electricity generation mainly based on nuclear, other countries such as Italy, Portugal,
or Austria have no reactor in service.
With 63.1 GW of installed capacity, France has more than 50 percent of the nuclear power in all
ENTSO-E countries. The other two main countries are Germany (12.1 GW) and the UK (9.4 GW). The
nuclear plant in Belgium is more modest (6 GW) but electricity accounted for over 40 percent of the
mix in 2014.
Some countries such as Germany or Belgium have decided to implement the decommissioning of
nuclear power, in 2022 for Germany and in 2025 in Belgium. Spain and the Netherlands have not
announced a phase-out of nuclear power but no new plant project have been drawn. Switzerland
has decided not to renew nuclear plants beyond 50 years of operation; two plants should be closed
by 2020.
Conversely, the UK included nuclear in its future energy mix. Downgrades of two plants are planned
in 2015 and then four in 2019, while plans for new plants have been announced. The most advanced
project is that of two EPR provided for 2025.
120
70
60
50
40
30
20
10
0
FR
GB
DE
ES
IT
NUCLEAR
Figure 9-5: Installed capacity of nuclear power by 2015
Combined Cycle Gas Turbines (CCGT)

In early 2000s, low gas price assessment allowed imagining the strong economic competiveness of
CCGT. The first plants were installed in Europe in a context of opening the market to competition
and growth of electricity consumption. Drowned by the positive assessment, the growth of the
sector was very fast in many countries. Spain (25 GW installed in 2014), UK (28 GW) and Italy (37
GW) saw the connection of a large number of units in few years. The development has been more
constrained in France (5.7 GW). It is in Italy that the share of energy by CCGT was the largest in 2014
(35 percent).
After these years of growth, CCGT meets economic difficulties today because of competitiveness of
coal, development of renewables, and lifeless demand. The utilisation rates of CCGT are now low,
well below those of the early 2000s.
In Spain and Italy, the consumptions decline and the significant development of renewables
combined with the massive construction of CCGT led to situations of high overcapacity.
In Germany, despite having less weight in the energy mix, the sector is facing the same difficulties.
The closing of recent plants due to economic reasons (1.5 GW), despite being considered part of the
units with the best energy efficiency in Europe, was announced. Nevertheless, some plants are
actually built so the capacity reduction is limited.
121
In Belgium, CCGT plants are threatened with closure or mothball. The establishment of a strategic
reserve by the Belgian government in 2014 could maintain some of these plants. But after 2017, any
certainty about maintaining strategic reserve exists.
Among the countries studied, it is in the UK that the prospects seem the most optimistic. Some
CCGTs are now under construction. The probable closure of coal plants in the coming years leads to
using assumptions of CCGT growth in the medium-term horizon.
50
40
30
20
10
0
FR
GB
DE
ES
IT
CCGT
Figure 9-6: Installed capacity of CCGT by 2015
Coal
In Western Europe, coal plants are mainly installed in Germany (46 GW) and the UK (18 GW). It is
also in these two countries that electricity produced by coal represents the most important share of
the energy-mix, respectively 46 percent and 28 percent. Coal capacities are less important in Spain
(10 GW) and Italy (7 GW).
In the medium term, a large number of coal units should be decommissioned due to the age of the
plants and environmental constraints decided by the European Directive.
The UK has a lot of old units and should see the installed capacity declining by 30 percent in the
next five years. In Italy, social and environmental constraints impact the most polluting plants. Some
units have been adapted, while others are threatened by legal procedures. Furthermore, producers
have announced plans to reduce the number of units, because of overcapacity. In Belgium, only one
122
coal unit is currently open. Her next closure has been announced and no new project has been
ordered as of today.
In Germany and the Netherlands, the evolution of the sector differs from that of other countries.
Facilities will be decommissioned but new groups will be built to partially offset the closures
announced.
50
40
30
20
10
0
FR
GB
DE
ES
IT
COAL
Figure 9-7: Installed capacity of coal by 2015
123
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CONTACT
Fabien Roques
Charles Verhaeghe
Yves Le Thieis
Compass Lexecon
Compass Lexecon
Compass Lexecon
Senior Vice President
Vice President
Economist
froques@
cverhaeghe@
ylethieis@
compasslexecon.com
compasslexecon.com
compasslexecon.com
Published by FTI Consulting LLP


The French Capacity Mechanism

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30 JUNE 2016

Assessment of the impact

ASSESSMENT OF THE IMPACT OF THE FRENCH CAPACITY MECHANISM ON ELECTRICITY MARKETS

Drivers of the introduction of a capacity mechanism in France ................................................. 1

Interface between CMs and energy markets ..................................................................................... 1

Specific features of the French CM ........................................................................................................ 2

Objectives of this study ............................................................................................................................. 3

1.2 Modelling approach .......................................................................................................................................... 5

Issues with energy-only markets and rationale for a CM ............................................................ 24

The different types of CMs ..................................................................................................................... 26

Analysis of potential impacts of CMs on the energy market ..................................................... 27

Copyright FTI Consulting, Inc., 2016

ASSESSMENT OF THE IMPACT OF THE FRENCH CAPACITY MECHANISM ON ELECTRICITY MARKETS

Model description ...................................................................................................................................... 37

French power sector scenario and main background assumptions ........................................ 39

4.3 Assessment criteria .......................................................................................................................................... 46

Impact on security of supply ................................................................................................................. 46

Impacts on available capacity ................................................................................................................ 49

Economic efficiency ................................................................................................................................... 52

Impact on energy markets ...................................................................................................................... 60

The German strategic and climate reserve ....................................................................................... 66

Policy support to renewable generation in Germany ................................................................... 70

Nuclear phase-out in Germany ............................................................................................................. 73

Carbon price floor in the UK .................................................................................................................. 75

5.3 Assessment of the impacts of the four interventions ......................................................................... 78

Security of supply ...................................................................................................................................... 78

Impacts on available capacity ................................................................................................................ 79

Impact on energy markets ...................................................................................................................... 84

Economic efficiency ................................................................................................................................... 93

Copyright FTI Consulting, Inc., 2015

ASSESSMENT OF THE IMPACT OF THE FRENCH CAPACITY MECHANISM ON ELECTRICITY MARKETS

6.1 Impacts of the French CM compared to an EOM ................................................................................. 99

Copyright FTI Consulting, Inc., 2016

ASSESSMENT OF THE IMPACT OF THE FRENCH CAPACITY MECHANISM ON ELECTRICITY MARKETS

Energy efficiency .....................................................................................................................................................116

Copyright FTI Consulting, Inc., 2015

ASSESSMENT OF THE IMPACT OF THE FRENCH CAPACITY MECHANISM ON ELECTRICITY MARKETS

ASSESSMENT OF THE IMPACT OF THE FRENCH CAPACITY MECHANISM ON ELECTRICITY MARKETS

Copyright FTI Consulting, Inc., 2016

ASSESSMENT OF THE IMPACT OF THE FRENCH CAPACITY MECHANISM ON ELECTRICITY MARKETS

Copyright FTI Consulting, Inc., 2016

ASSESSMENT OF THE IMPACT OF THE FRENCH CAPACITY MECHANISM ON ELECTRICITY MARKETS

Copyright FTI Consulting, Inc., 2016

ASSESSMENT OF THE IMPACT OF THE FRENCH CAPACITY MECHANISM ON ELECTRICITY MARKETS

Abbreviations and technical units

Accs Rgul lElectricit Nuclaire Historique

German Ministry of Economics and Energy

Bundesnetzagentur, the German Energy Regulator

Boiling water reactor

Combined-cycle gas turbine

Carbon Capture and Storage

Combined heat plants

Carbon Price Floor

Carbon Price Support

French Energy Regulation Commission

Demand Side Response

German Renewable Energy Act

US Energy Information Administration

European Network of Transmission System Operators for Electricity

Emissions Trading Scheme

(Generalized) Autoregressive Conditional Heteroskedastic

International Energy Agency

Institut National de la Statistique et des Etudes Economiques

Loss of load expectation