Capacity remuneration mechanisms: Classification and experiences

Abstract

Capacity remuneration mechanisms have been imposed globally in order to ensure capacity adequacy and prevent a sharp increase in electricity prices in the long-term. The main causes of their introduction are to provide financial support for companies to generate electricity or reduce consumption in peak demand and ensure sufficient incentives for potential investors. The paper aims to review the capacity remuneration mechanisms introduced in various countries. The following mechanisms are discussed: capacity payment, strategic reserve, reliability options, capacity obligations, and capacity auctions. The paper indicates the main advantages of mechanisms and key challenges related to their introduction and operation as well. The paper contributes to the existing literature by extending and updating the knowledge on the capacity remuneration mechanisms in various energy markets. The results indicate that the most complex schemes are market mechanisms. Regardless of the nature of the traded good (call options, certificates, capacity obligation), the second market structure must be introduced and managed. Consequently, the obligations are imposed on (i) the regulatory body (regulator or transmission system operator), generation companies (or demand-side response), trading companies, and consumers. The other challenge of the implementation of various CRMs is related to the transparent treatment of all technologies. All CRMs should be technologically neutral, but ultimately, some units are more favorable due to their greater impact on the reliability of the power system.