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PJM capacity market and its effect on retail energy price

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Capacity is a key price component within the retail power price for any business in the PJM markets that cover most of Pennsylvania, Ohio, New Jersey, Maryland and Illinois. While wholesale energy prices have fallen over the last few years, capacity rates have been volatile and are a sizeable portion of consumer rates.

The latest results of auctions for PJM capacity have followed this trend. In late May 2013, PJM announced capacity prices fell sharply for the 2016/2017 planning year during its base auction. More recently on July 26th, an incremental auction for the 2014/2015 planning year also saw a reduction in costs. Before we can look into how the results of these auctions will affect your bottom line retail energy price, we must first examine what the capacity market is and how it operates.

A capacity market is used to ensure that the supply of electric generation increases in correlation with electric demand. It is critical for PJM to have adequate reserves available to meet demand during periods of peak demand or plant outages, but there is no guarantee that certain plants will run at all making it difficult to economically justify the addition of new capacity to the grid. The capacity market provides a tradable value on the availability of generation, creates financial incentives for construction of new supply and ensures adequate resource reserves. In PJM, five auctions are held to set prices for a given delivery year that runs from June through the following May. The purpose of the base and incremental auctions is to address changes in the market dynamics such as increases/decreases in reliability requirements. At a high level, the capacity prices do not fluctuate greatly from their initial auction.

On May 24th PJM reported that the base auction for the 2016/2017 planning year resulted in a reduction in capacity prices of approximately 56% compared to the previous planning year. This was due to competition from new gas-fired generation, weak demand growth and increased imports from the western region of PJM.

The major outcome of the latest incremental auction for the 2014/2015 planning year was a reduction of total capacity commitment by 1,567 MW which means there will be a decrease in customers’ obligation requirement by PJM. Although there was a slight price increase during the auction, overall customers’ capacity costs will decrease for this planning year.

Prior to the 2012/2013 planning year, capacity prices were fairly constant across PJM; however, transmission constraints caused prices to diverge between Eastern and Western utilities in PJM for the 2012/2013 and 2013/2014 planning years. Starting in 2014/2015, the prices across PJM come back together with a slight premium to the Eastern utilities. There are certain exceptions, such as parts of FirstEnergy where rates are especially high due to severe coal retirements in that region.

Remember that the cost of capacity applicable to each customer is based on both the capacity rate and the customer’s “capacity tag” depending on your usage behavior during periods of peak usage. There are things that you as a customer can do to actively manage your price. Be on the lookout for another blog post with those tips.

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